Tariffs: Rules of Thump.
This is a follow up to my e-mail to to you on Trump's Tariffs last Friday (1/31) & the 2 reports Astern (1/08) & The McKInley Factor (1/26).Cantext;
The Mexico, Canada, China tariffs ("Tariffs 1/31") declared by President Trump so far are only the beginning. They will be spread about to include other geographical areas (Japan and Europe) & other policy areas (economic imbalances, foreign policy and imperial ambitions). Trade wars are inevitable. The US Sec of State visit to Panama yesterday also made kinetic action to interfere with the Panama canal more likely. So you ain't seen nothing yet!
The tariffs are a vastly accelerated means of deglobalisation, Globalisation was the most efficient (if inequitable) growth booster and inflation damper the world has known since 1945, Tariffs do the opposite, A higher cost lower productivity system replaces a more efficient one. The nature of Trump's tariffs means that this will happen more quickly as an exogenous shock rather than the creeping rot we have seen for 5 years
Trumps policies on trade and foreign affairs will also tear up the structure of alliance that were the cheapest most efficient means of keeping the global peace and projecting US power. The result will be diminished US power, more wars and a global arms race - including nuclear. Sadly the world will not trust the US again even if Trump were to go. It is the polarisation of US society (and many European ones) which is the flower bed of populism.
Rules of thump.
The 1/31 Tariffs are twice as large as all those enacted in Trump 1. They are equal to a tax of 1% of GDP or US$800 per person per year. Trump 1 tariffs were 0.4% of GDP imposed over 2 yrs. 1/31 tariffs are imposed immediately and are thus an exogenous show. The 1/31 tariffs affect 45.2% of US imports, with Mexico and Canada together being 27.5% of all US imports and China 17.7%. The 1/31 tariffs raise the average level of US tariffs by 5-7% to around 9% - the highest level since the late 1940's
Inflation and 1/31: According to my sums 1/31 will increase PCE inflation by 0.75% which will not be a one off shock because:
- Inflation expectations are already rising in a tight labour market.
- Retaliation will lead to trade wars.
- The costs of inputs to US producers will be severe, particularly for sectors like automobiles.
Tariff Input costs to US corporations works like this. Take automobiles!. China's steel & aluminium exports to the US will cost 10% more. US domestic producers of steel and aluminium will also increase prices as there is now less supply and less competition.. US auto producers have to pay this additional cost and pass it on to car buyers. Chinese auto producers don't. They just have to pay 10% on the small share of their output that goes to the USA. . So Chinese auto producers gain competitiveness globally. And US producers lose out in both the USA & globally.
The biggest inflation shock for end-products will be for natural gas (+8%- Canada) and computers, electronics (+6%- China). Next come Electric goods, apparel, metals and leather (cowboy boots?) with price hikes of 3.5% to 4.0%.
Growth and 1/31 Tariffs::
I assume:
- A "just pay basis" - i.e. not trying to account for substitution - you just pay the tariff on the imported product.
- The Chinese only off set 1/3rd of Tariff 1/31 with devaluation of the RMB against the USD,.
- Trade war escalation is omitted from my calculus for the moment.
I get:0.8 to 1.0% reduction in GDP immediately and long term damage to GDP growth of 0.3%.
As a result of lower growth, which hits tax revenues, and higher inflation of entitlements the US budget deficit grows to 8-9% of GDP after accounting for around USD 1.5bn tax revenues from tariffs. On another note, the over a decade tariffs can be expected to bring in less than 1/3rd of President Trump's mooted tax cuts,
I do not believe that Musk's DOGE will deliver a significant improvement on that. After all Mrs Thatcher saw public spending rise by a real 13% in her reign despite her ambitions to do the opposite, And 75% of US Federal spending is for entitlements. So I don't expect miracles.
What I do expect is:
- the end of US exceptionalism.
- a global arms race (a highly investable theme.
- A bear market in bot bonds and equities with loops to the real economy through falling asset prices, credit flows and confidence.
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