Economic Commentary

Market volatility has surged following the announcement and rapid modifications of sweeping U.S. tariff policies that were rolled out in early April. Tariffs are complex, intersecting economics, politics, and global supply chains in ways that challenge intuition. This article seeks to outline the policy shifts, market reactions, economic forecasts, and the path forward. We will begin where it all started: Liberation Day.

Policy Shifts:

On April 2, citing trade deficits as a national emergency, the White House invoked the International Emergency Economic Powers Act (IEEPA) for major tariff changes. The initial plan included a 10% baseline tariff on most imports (effective April 5) and higher “reciprocal” tariffs (up to 50%+) on ~60 countries (effective April 9).

The situation escalated quickly. China retaliated, prompting the U.S. to repeatedly increase tariffs on Chinese goods, reaching an effective rate of 145% by April 10. China matched with 125% duties. As of this writing, there are talks that the rate may go as high as 245% on some Chinese goods.

Facing market turmoil, on April 9, the administration announced a 90-day “pause” on the higher reciprocal tariffs for most nations (excluding China), reverting them to the 10% baseline until July 9 to allow for negotiations. The EU mirrored this pause. Subsequently, certain electronics were provided exemption from reciprocal tariffs, though they remain subject to other levies such as the 20% IEEPA tariff on China and potential future sector-specific tariffs. The 25% tariffs on steel, aluminum, and autos also remain in effect.

This rapid sequence creates significant operational challenges for countries and companies alike. While the 90-day pause offers temporary relief and opens doors for negotiations (reportedly sought by ~70 countries), fundamental uncertainty remains, especially regarding the US-China trade relationship.

Additional tariff announcements are possible as well as the President has initiated investigations into the potential for industry-specific tariffs for pharmaceuticals and semiconductors, citing national security concerns.

Market Tremors:

Financial markets reacted intensely to the Liberation Day announcements. The S&P 500 plunged 10.5% post-announcement, then experienced a swift rally on April 9, the day the pause was announced. Tensions between the US and China have continued to weigh on returns. Volatility remains high across global asset classes.

Domestically, the impacts are beginning to come to light. The auto sector faces disruption, as do tech firms who are grappling with supply chain risks despite temporary electronics exemptions. Pharmaceutical and MedTech companies anticipate higher costs as a significant portion of their manufacturing is currently international. Retailers brace for higher prices, and the “De Minimis” loophole closure challenges online models. Reorienting supply chains is costly, time consuming, and difficult to enact – not to mention an inefficient use of capital.

Revising the Economic Outlook:

As a result of the tariff announcements, economists swiftly downgraded their growth forecasts. Inflation projections rose, potentially adding 1.0%-2.3% to consumer prices. US GDP growth forecasts for the year were cut by 0.5-0.9 percentage points, with long-run output reduced. Recession probabilities surged under the assumption that tariff rates would remain elevated. The IMF projected tariffs would weaken global growth and trigger inflation, though did not go so far as to predict a global recession.

While tariffs are often aimed at reducing trade deficits, many economists argue they are ineffective, as deficits fundamentally reflect national saving minus investment (S – I = CA). Persistent US deficits are linked to low national saving, partly due to government budget deficits funding consumption. Tariffs primarily raise prices and distort trade, not the underlying saving/investment balance.

This presents a potential stagflationary shock, which is an economic environment plagued by higher inflation and lower growth. Fed Chair Powell signaled caution, but bond markets priced in additional rate cuts, expecting growth concerns to supersede consideration of inflation.

Adding to uncertainty, President Trump intensified public criticism of Fed Chair Jerome Powell, lamenting slow rate cuts. Powell asserted the Fed’s independence, stating Chairs are removable only “for cause,” not policy disagreements. While the legal grounds are debated, investors are reacting to the potential for political uncertainty to impact monetary policy, the implication of which could be a weakening of the US Dollar’s dominant global role.

Bipartisan legislation is being drafted to require congressional approval for new tariffs. It faces a White House veto threat but there have been signs of growing congressional support. Business groups and the state of California are challenging the use of IEEPA in court, arguing that trade deficits do not meet the standard of a national emergency. These legal battles may take years to adjudicate but if nothing else they are a sign of growing concern among lawmakers and businesses.

The Path Forward:

The current market environment is one defined by “fatter tails” – a higher probability of extreme outcomes than typically assumed. This is reflected in the elevated volatility experienced throughout capital markets. Forward fundamentals suggest headwinds for US equities as analysts and corporate executives have revised down earnings expectations in light of the ongoing tariff battle. Bonds benefit from being a less-risky option for investors seeking to avoid equity volatility, however there is notable uncertainty about the path of inflation and credit quality should corporate earnings deteriorate.

Amidst heightened uncertainty, discipline is key for long-term investors. As avid readers of this newsletter know, adhering to a diversified portfolio aligned with long-term goals is crucial. While forecasts suggest headwinds like higher inflation and slower growth, and debates continue regarding tariff effectiveness, the ultimate outcome is uncertain. Investment discipline is paramount. Resisting emotional reactions and maintaining focus on long-term objectives with a diversified strategy is the most reliable approach. We will continue to closely monitor the situation and are grateful for the opportunity to serve on your behalf.