Reaction to “Liberation Day”

President Trump declared April 2 “Liberation Day,” and from a breezy setting in the Rose Garden yesterday afternoon announced that his Administration would be imposing a global tariff of 10% on all imports as well as additional reciprocal tariffs applied to a sizeable number of other countries with whom the U.S. trades. To illustrate, Commerce Secretary Howard Lutnick shared with the President a sign listing various countries, what the U.S. Trade Representative has determined they charge the U.S. for the exporting into their country, and in turn, what the U.S. was going to charge them in response. The immediate takeaway was that U.S. tariffs on imports will be about half of each foreign country’s assessed rate.

It was not the announcement that shocked markets but the magnitude of the tariffs that exceeded expectations. Additionally, worries spiked as to what might follow in a retaliatory response by our major trade partners, as well as the probable, lengthy period of uncertainty as negotiations begin, tariffs are delayed, and/or exemptions are made. Early estimates handicapping the economic impact produce a likely reduction in growth by at least 0.5% - 1.0% and an aggregate price increase by a similar amount. Not that it would be welcome anytime, but the weaker pace of growth in the last few months amplifies concerns that any further drag from a trade war, or consumers curtailing spending, may induce a recession. In that outcome, earnings usually decline, and stock valuations get de-rated to reflect a lower profit picture. The stock market’s correction we have experienced of recent partially reflects that concern.

If prices increase and monetary officials choose not to consider that as a temporary condition, it means the Federal Reserve might be reluctant to cut interest rates. That could tighten economic conditions and impart a negative impulse on the economy. Meanwhile, the consumer is the backbone of the economy, and sentiment had already begun to slide. Should that translate into households retrenching to bolster their savings in anticipation of a prolonged period of uncertainty and insecurity about the labor market, it could further exaggerate the conditions that raise the odds of an economic contraction.

Perhaps the forthcoming budget reconciliation bill and tax reduction (extension of the 2017 Tax Cuts and Jobs Act and other tax reducing measures being taken up in concert is moving through Congress) may help shield consumers from higher prices due to tariffs and foreign retaliation. However, it will take a while to legislate, and more time will be needed to negotiate new trade deals with numerous countries. In the meantime, households and businesses will need to cope with higher tariff levels and their pass through to the economy. Stocks are under pressure and will continue to gyrate until enough data accumulates to detect the actual impact on the economy, job market, household spending, and global trade. Investors should stay focused on their long-term financial plans, adhere to their risk budgets, and not overreact. Ultimately, stocks will reestablish their advance as greater clarity about these many risk variables emerges in the weeks and months ahead. More to follow as developments warrant.