Bassanese Bites: Tariff mayhem – April 07 2025

Global markets last week

The so-called ‘great moderation’ of the pre-COVID era is dead and buried. The past few years have given investors many thrills and spills, beginning with the COVID collapse, the V-shaped recovery, the return of 1970s inflation and then a miraculous shift into a soft-landing, with easing inflation and low unemployment.

And just when we thought 2025 could be a continuation of the soft-landing/Goldilocks scenario, we’ve now been handed potentially the worst US economic policy decision of the post-WW2 era. The size and breadth of Trump’s tariff increases were gobsmacking, amounting to an increase in the average effective US tariff rate of around 20% (from 3% to 23%). And the method used to derive these tariffs has been widely derided – penalising countries irrespective of the actual trade barriers they impose on the United States.

The US warned countries not to retaliate. That seems a pipedream, especially as retaliation would increase the bargaining position of each country (assuming Trump even wants to negotiate) and would likely be politically popular. China almost immediately announced a 34% higher tariff on US imports. The European Union will also likely respond in coming days, with measures thought to target US service exports (which are more important in Europe) and the tech giants especially.

Where to from here? Sadly, it’s likely conditions will get worse before they get better. My base case is that the US will run very close to recession – or at least it will look like that for a while – unless either Trump or the Fed responds some time soon.

Why the gloom? For starters, the tariff increases represent a major tax increase on both US households and business, which will dent spending. There’s also likely to be a slowing in spending and hiring simply because of the massive shift in relative prices across global supply chains that needs to be worked through – and uncertainty of what further tariff changes could still lie ahead (will Trump negotiate or not?). US exporters also face retaliation in major markets across the globe. 

Given the short-run boost to inflation – which could be as high as 1-2% – the Fed will be late in providing any support unless activity indicators really start to drop quickly.

Of course, Trump could quickly pivot to tax cuts – pledging to use any or all of the revenue increases from higher tariffs. But Trump’s proposed household income tax cuts later this year really only amount to avoiding a tax increase that would have taken place anyway (extending a temporary tax cut). Corporate tax cuts would be a new stimulus, but must be set against the negative shock from Trump’s tariff lunacy. 

What’s more, any possible boost to US manufacturing due to reduced import competition would be, at best, years away – if at all. After all, many manufacturers will face import cost increases, US workers will still be very expensive compared to emerging markets, many imports simply can’t be replaced and few businesses would make long-term investment decisions if tariffs could easily be removed by the next US President in four years’ time.

In short, it’s hard to believe we’ve seen the bottom in equity markets – again, unless Trump relents soon. He may not relent – or if he does, he may likely need to see more blood in the water first. 

Global week ahead

While the US consumer price index is released this week, market attention is likely to be focused on any further fallout from Trump’s tariff increases. Markets are awaiting especially Europe’s response. And will Trump retaliate against China and Europe’s retaliation?