We know (and virtually all economists agree) that tariff increases are a supply shock that slows economic activity and increases prices. Does this mean that the U.S. will experience a near-term recession and inflation will move higher? The answer to this depends crucially on how higher tariffs rise and for how long.
Many economists have changed their forecasts to include a recession for this year, and that could still occur. But the tariff situation is changing daily and the impacts on the economy are also changing. Yesterday (April 9) for example, the Trump administration stated that the increase in tariffs will be suspended for 90 days (with the notable exclusion of China), as discussions with other nations occur. Will this result in agreements that lower tariff and non-tariff barriers all around? Who knows? Financial markets certainly reacted positively to the news of the tariff delay, with the DJIA up by more than 3,000 points (+8.0 percent) and the S&P 500 climbing by more than 470 points (+9.5 percent). Still, all we can do at this point is make conditional forecasts That is, projections that depend crucially on the assumptions with regard to what tariffs will ultimately look like and how the Fed and other nations will respond – and what the goals of the Trump administration ultimately are. Is the ultimate goal to lower trade barriers all around? To increase tariff revenues (in order to reduce the budget deficit or offset other tax cuts)? Something else?
If significant tariffs end up being imposed for a longer period (greater than six months), then it is quite likely that the result will be a recession for the U.S. (and the world). Does that mean stagflation (negative growth and higher inflation)? Only if the initial hike in prices from tariffs changes wage/price behavior (a wage/price spiral), tit-for-tat increases in tariffs push prices up on an ongoing basis, or the Fed eases monetary policy by enough to boost inflation. While the odds are high that these could occur, the magnitude is far from certain. At this point probably the best that we can say is that growth in 2025 will be less than projected at the start of the year and that inflation will be somewhat higher. But the odds that growth is negative for this year (a recession ) have certainly risen. And the odds that inflation moves higher this year rather than lower are higher as well – suggesting that the economy may be in for a bout of stagflation.
At this point, our best guess for growth is around 1.0 percent, with inflation moving a bit higher to 3.0-3.5 percent. But the range of reasonable results has increased significantly. We won’t have a better idea probably for several months – and what seems like the best guesses for both growth and inflation may change many times as the Trump administration makes new pivots.
David W. Berson, Ph.D., CBE
Chief US Economist
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