It has been a week completely dominated by the build up to and fallout from President Trump’s long-awaited speech on “reciprocal tariffs”
Trump duly announced tough measures to “liberate” the US economy via a 10% levy to be applied on almost all US imports from 5 April. In addition, the President announced a wide range of “reciprocal” tariffs on goods from the “worst offenders” of the US’s trading partners, taking aim at a system he claimed had “ripped off” the US for decades. Reciprocal tariffs take effect on 9 April. As a result, tariffs on China will climb to over 54% after a 34% duty was imposed on top of the 20% levy put in place earlier this year. The EU will face a 20% tariff while Japan will face tariffs of 24% and India 26%. Mexico and Canada spared from the tariffs with goods complying with the USMCA trade agreement exempted. The UK will ‘only’ face the 10% global levy. The US Administration has declared a national emergency “due to national security and economic security concerns arising from the conditions reflected in large and persistent annual US goods trade deficits”.
The tariffs are set to have a significant impact on the global economy and will take US tariffs on imports above levels last seen in the 1930s around the Great Depression, a time when global trade volumes were a fraction of what we see today, and global supply chains were far less integrated. The effective tariff rate (a weighted average of the tariffs applied to all US goods imports, reflecting the various tariffs applied to different products and countries) is at the higher end of expectations and could well eclipse the level seen in the 1930s if tariffs are implemented at the levels set out on Wednesday. The consensus before this week was an effective tariff rate level of around 12-14% but 20-24% level now seems plausible as things stand, albeit with a lot of variables at play, and further sectoral tariffs yet to be announced as we have seen for the auto sector. Bear in mind the effective tariff rate was just 2.5% last year. Initial estimates suggest this could take 1-1.5 percentage points off US growth this year and raise inflation by 1-1.5 percentage points. This would not suggest a US recession, but would create a soft patch of US growth, along with higher inflation, a reduction in corporate earnings and a significant further dent to consumer and corporate confidence, which in itself could further negatively impact growth. In other countries, particularly in Asia, economies that have thrived through becoming manufacturing hubs for export to the US face significant difficulties. The downside risks to global growth are clear.
President Trump said the tariffs would raise money to pay for tax cuts and spark a resurgence in domestic manufacturing. Assuming trade continues as before, it is estimated estimate these tariff measures could raise as much as $600billion. That would be 2.2% of GDP, twice the size of the largest tax increase in modern US history. The Peterson Institute for International Economics estimated that these tariffs collectively are the “largest tax increase in at least a generation” and would cost the typical US household more than $1,200 a year.
While we now have more clarity on the intended policies of the Trump Administration arguably the events of the 2nd of April will not be a ‘clearing event’ in that market participants are all still having to deal with a huge level of uncertainty around these policies and their eventual impact. Tariffs are fundamentally stagflationary in that they slow economic growth and increase inflationary pressures. Companies and consumers are likely to remain in “wait and see” mode as they digest the news flow and contemplate how much of an impact these tariffs will have. Companies will also face the choice of either of absorbing the tariff costs with a corresponding negative impact on their earnings or trying to pass these on to end consumers. There is also a policy challenge for the Federal Reserve (Fed) given the likely negative impact on growth and upwards pressure on inflation. The Fed will be very keen that high inflation expectations which have already risen, do not become entrenched.
So, is a global trade war now inevitable? The omens right now do not look great, but this will not be a ‘global’ trade war, more like the US vs everyone else. The US is a relatively closed economy anyway, making up about 15% of final demand for imports globally – the US does not dominate trade as it does global finance or military spending. Other countries can carry on trading without the US – for example the EU, the 12 members of the Asian CPTPP, South Korea and other open economies make up 34% of global demand for imports. We’ve also seen unlikely alliances being touted – China, South Korea and Japan have been considering a “unified response” to the US tariffs. The US’s trading partners will need to choose their responses carefully given the US has made clear any retaliation will be met with further tariffs. But tariffs at these punitive levels cannot be ignored by countries such as Japan, China, South Korea as well as the European Union.
The reciprocal tariffs are based on a very crude calculation around the US trade deficit with each respective nation along with other factors such as perceived currency manipulation and sales tax rates. The executive order announcing the new tariffs said the President could “decrease or limit in scope” the duties if “any trading partner take significant steps to remedy non-reciprocal trade arrangements and align sufficiently with the United States on economic and national security matters”. The very simplistic calculation of the tariffs charged to the US and the reciprocal tariffs to be implemented leaves scope for clarification and negotiation for those able to access and influence the US administration, likely a fairly short list of countries. Some countries may choose a fiscal response via domestic stimulus to offset the impact and avoid further tariff escalation; while others will choose a more aggressive response. US Treasury Secretary Scott Bessent told Fox News “my advice to every country right now is, do not retaliate, sit back, take it in, let’s see how it goes. If you retaliate, there will be escalation. If you don’t retaliate, this is the high-water mark.” The road map for affected nations appears to be negotiate first and retaliate later but it is not clear if the US will be minded to water down the tariff levels announced. During the first Trump presidency tariffs appeared to be a means to move towards trade deals whereas this time round there appears to be a wider political doctrine at work with President Trump willing to accept a more difficult transition as the US encourages manufacturing to be brought home and to operate a more closed economy. If the US is truly withdrawing from global trade, then the consequences will be both significant and unpleasant. If we are to see negotiations, then they need to be swift in order to avoid an impact to economic growth.
There are still a huge amount of moving parts and unknowns, and ‘uncertainty’ is becoming an over-used word, but the reality is we remain in something of an information void, albeit we can now rule out the US taking a lenient view in terms of the tariff numbers. Markets has moved lower, but there still sees to be a prevailing view that these initial tariff levels still may not be the eventual landing point. In the absence of more definitive information, and the US government taking a policy stance based more on ideology than economic strategy, the unknowns will likely continue to weigh on risk appetite until a more definitive outcome on the size, scope and duration of these tariffs can be identified.
In the economic data this week the main focus has been on the PMI data, which showed US manufacturing moving lower, and in to ‘contraction’ territory. The subcomponents were supportive of the stagflation narrative, in that ‘new orders’ were at a 22-month low, while ‘prices paid’ were at the highest level since the summer of 2022. The survey also highlighted higher than usual inventories, suggesting that orders had been brought forward to avoid tariffs, something that has also been evident in US car sales. Higher inventories likely mean something of an economic hangover at some point as this is drawn down as uncertainty fades. The Eurozone PMI data for manufacturing was more encouraging, despite still being in ‘contraction’. The direction of travel in the surveys is always worth noting, and the PMI data for France, Germany and the eurozone as a whole showed a significant move higher. Maybe the positive headlines around significantly higher defence spending are starting to trickle into sentiment. The eurozone also reported inflation data lower than expected for March, at 2.2% with core inflation at 2.4%, the lowest for over three years. Eurozone unemployment came in at 6.1%, which is the lowest level in the history of the currency bloc. The US will report monthly employment data later today; so far the employment data has seen limited impact from the government layoffs and remains in decent shape with another reasonably solid figure expected today. Cracks in the US labour market would give a little more volume to the growing arguments the US is facing recession risks, but the evidence so far from the labour market gives little cause for concern. But the wider issues we now face around tariffs impacts corporate and consumer confidence cannot be ignored. The longer the uncertainty persists, the higher the probability that the soft patch in the US worsens into an economic slowdown.
Have a good weekend, note that there will not be an update next week as I will be on holiday, so the next update will be on Thursday 17 April, before the Easter weekend.
Source: Columbia Threadneedle Investments as at 04 April 2025
