Risks to the US outlook economic escalated materially over the weekend. President Trumpâs executive orders threatening to increase tariff rates on imports from Canada (10% energy, 25% non-energy), China (10%), and Mexico (25%), are set to go into effect at 12:01 Tuesday morning. De minimis imports (under $800) would no longer be excluded from tariffs nor will duty drawbacks be available. Goods imports from those three countries totaled just under $1.4 trillion over the past twelve months, or 4.7% of GDP. The weighted average tariff increase for the three countries in question is just under 19%-points. Absent behavioral or other changes, the increased duties would represent a $260 billion annual tax increase on domestic purchasers. If that tax increase were entirely passed through to prices this would be a 0.8% increase in the level of the gross domestic purchases deflator. While behavioral or other changes might dampen these fiscal and price effects, those changes carry other costs. To name one, trade diversion to other trading partners entails real adjustment costs to supply chains. All three countries have discussed retaliatory measures, though details are still unclear at this point. Over the past twelve months US goods exports to those countries were $826 billion, or 2.8% of GDP.
Trump issued the three executive orders using the powers from the International Emergency Economic Powers Act (IEEPA), in conjunction with the National Emergencies Act (NEA). Unlike section 301 or other more familiar sections of the Trade Act, invoking IEEPA does not require investigations or reports. Instead, the primary motivating emergency is fentanyl smuggling, along with illegal migration. Conversely, this motivation also could provide an off-ramp to these dramatically higher tariffs; the executive order for Canada states that âUpon the Presidentâs determination of sufficient action to alleviate the [opioid] crisis, the tariffsâŚshall be removed.â However, Trumpâs posts on Truth Social also point to economic motivations, includingâagainâthe bilateral trade deficits between the US and the three countries. Remedying this grievance could prove more challenging. Finally, it should also be pointed out that thereâs a path we may take that is worse than the one weâre already on: the executive orders state that if the targeted countries retaliate, the president âmay increase or expand in scope the duties.â As noted earlier, all three countries are already preparing retaliatory measures.
Given the uncertainties around the implementation of these tariffs, we are holding off from making changes to our forecast. As we have noted on several occasions (most recently here) qualitatively tariffs should push up prices and depress growth. Even the president appeared to acknowledge this, writing this morning âWILL THERE BE SOME PAIN? YES, MAYBE (AND MAYBE NOT!).â The magnitude of these adverse growth and inflation effects will depend on whether and how long higher tariffs persist, which retaliatory and counter-retaliatory measures are put in place, the effectiveness of tariff collections, feedback effects from global and financial conditions, and other considerations. Even if tariffs are called off tomorrow, the increase in policy uncertainty will be hard to put back in the bottle. For the Fed, the weekendâs developments will likely reinforce their inclination to sit on the sidelines and to remain below the radar as much as possible.