
Tariff Uncertainties, Pt 5: The Big One – Will It Cause A Recession?
The Trade War is on. Will there be a Recession?
Yes. Without a doubt. At some point, the business cycle will turn down. As night follows day.
But – I don't think that tariff policies will be the cause of it.Executive Summary
The causal pathways that could lead from potential tariff hikes to negative growth are not (yet) showing signs of activation.
There are four 'channels' that could transmit the tariff shock to the larger economy:
The case for alternative 1 seems insufficient. The direct monetary impact of a tariff tax appears to be simply too small to derail a $30+ trillion dollar economy with four years of strong upward momentum. As for alternative 2, recent history shows that supply chain stress does not necessarily cause a slowdown. The U.S. economic surge in growth that began in Q4 2020 happened despite high levels of supply chain pressure throughout 2021 and 2022.
Alternatives 3 and 4 are psychological in nature - which makes them harder to evaluate. Will the continuing uncertainty surrounding tariff policy lead to a crisis of confidence among businessmen and/or consumers? Will businesses stop investing? Will consumers cut spending, sucking demand out of the economy? Perhaps. It is the most credible risk scenario.
But psychology has yet to translate into concrete behavior. So far we have not seen the typical signs of a slowdown. If anything, growth signals have strengthened over the past two months. Most forecasts are now downplaying the possibility of a recession in the next 12 months.
Tariff Jitters
The apprehension over tariffs is real. All Spring, and now into the Summer, the Risk-On/Risk-Off cycles in the financial markets have run in sync with the Tariff-On/Tariff-Off trade policy pronouncements coming out of Washington. The prospect of a new American protectionism – the likes of which has not been seen for a century – has created large and multidimensional uncertainties. Will higher tariffs lead to inflation? Will they poison the Treasury Bond market, and exacerbate the deficit? Will they provoke a trade war with Europe and weaken the Atlantic alliance?
Time has quelled some of these worries. Inflation is declining. The bond markets have calmed down. The VIX is 20% below its long-term average. And Europe seems to be constructively engaged. At least for now.
Return to Normal
But as we pass the original July 9 deadline for the end of the 90-day 'pause' on new tariffs – now extended to August 1 – the biggest question of all is back on the table: Will higher tariffs cause a Recession?April was the Cruelest Month
At first, it seemed so.
'Liberation Day' (April 2) produced panic in the forecasting profession. The Wall Street Journal Street surveyed 64 prominent economists two weeks later. Their estimate of the probability of a recession jumped from 21% in January to 46% in mid-April.
Likelihood of a Recession in the Next 12 Months (April 2025)Even if the technical criteria for a recession might not be met, most forecasts projected a significant tariff-induced slowdown.
Torsten Sløk, chief economist for Apollo, was convinced:
Barron's 'Big Money' poll of top money managers found that 43% of respondents cited 'recession' or 'slowdown' as the biggest risk in the next 6 months, compared to just 11% for 'inflation.'
The Atlanta Federal Reserve's macroeconomic model GDPNow – a 'realtime' model of economic growth – immediately dropped its forecast for the 2nd quarter GDP growth rate from 2.5% to 1%. The consensus outlook according to leading economists surveyed by Blue Chip Economic Indicators called for growth of less than 1%, with many expecting an outright contraction of the economy – that is, a recession.
Recession Forecasts - Bluechip Forecasts vs Atlantic GDPNow model - April
All in all, the professional view in April was pessimistic. The effect of the proposed tariffs was seen as clearly negative.The Economists' Confusion
What was the logic of this pessimism?
Let us start at a high level. Viewed from the most general macroeconomic perspective, the effect of a tariff on domestic economic growth should be more or less neutral, leaning positive in principle.
In other words, a tariff does not make consumers' demand disappear. The business goes to domestic companies instead of foreign suppliers. Which should be stimulative.
But other effects point in the opposite direction.
This brings to mind a 'mango' parable, which goes like this:
An Indian labourer unloads mangoes at the Gaddiannaram fruit market in Kothapet, located in the ... More outskirts of Hyderabad, on April 18, 2009. Mangoes are indigenous to the Indian subcontinent, where India produces nearly half of the world's production of the fruit. AFP PHOTO / Noah SEELAM (Photo credit should read NOAH SEELAM/AFP via Getty Images)
Some studies, and some models, conclude that the negative supply shock on intermediate goods will outweigh the positive demand shock for final goods. Then there are 'frictions' and 'inefficiencies' –economists' classic caveat – that are also said to push the calculation back to a net negative.
However, not every input is a domestically unsourceable mango. Many producers may be able to shift to domestic sources for their inputs – in fact, this is exactly what a tariff encourages them to do. At least some import-substitution will take place, so the net-net again should be more business for domestic suppliers — i.e., expansionary.
There is also the larger context including fiscal and monetary policy responses. Tax reductions or interest rate reductions may offset or reverse any negative growth impact.
And finally there are factors that typically lie outside the economists' models or are captured only very imperfectly, such as business confidence or stock market psychology, or general consumer sentiment. In the immediate aftermath of Liberation Day, violent stock market gyrations drove the markets crazy. Sudden and deep daily declines created a sharp (though brief) reversal of the 'wealth effect' – the sense of financial well-being that comes from a stable and rising stock market boosting the nominal value of people's portfolios. Consumers are said to react to such reversals by cutting back on spending, while increasing saving – which would be contractionary. Following the tariff flurry, consumer spending did drop somewhat, though the rate of growth remained above the pre-pandemic average. Personal savings rate spiked from 3.5% at the end of 2024 to 4.9% in April 2025, before falling back in May. The spike in forecasters' negativity was undoubtedly driven by such factors to a significant extent. But markets have calmed down and in fact have surged ahead to new record highs (more on that below).
In short, as with many pressing questions related to tariff policy, there is no coherent and unbiased economic consensus. But let us try to summarize the framework for thinking about how tariffs could cause a recession, relying on general causal arguments rather than the esoteric paraphernalia of academic economic models.The Mechanics of a Tariff-Induced Recession
There are four pathways or 'channels' by which a tariff increase could lead to an economic slowdown or recession.
1. The 'Tariff Tax' Channel
This is the argument that a tariff forces people to pay more for what they buy, reducing their purchasing power, and thus subtracting demand from the economy. If I must have mangoes, and I have to pay more for my now heavily-tariffed mangoes, I will have less money to spend on other things – which means that the producers of those other things will see less of my business. They will experience reduced profits, leading them perhaps to cut back and lay people off. In the aggregate, lost demand means lower growth.
There are a number of problems with this logic.
Overall, it seems unlikely that a 'tax-like' reduction in purchasing power which is small (relative to the size of the economy) and which can be mitigated either by consumers themselves or by government policies would be enough by itself to drive a robust economy into full-blown recession.2. The 'Supply Chain Stress' Channel
According to this argument, tariffs disrupt global supply chains, causing distortions, dislocations, bottlenecks and shortages which will drive up inflation beyond the 'tariff-tax' effect and lead to 'inefficiencies' and 'lost output.'The Pandemic shock in 2020 created disruptions far more severe than anything that tariffs are likely to produce. The chart here tells the story. The left-scale shows the New York Fed's index of Global Supply Chain Pressure (GSCPI). The right-scale shows the changes in Real GDP.
Supply Chain Stress in the Pandemic
Observations:
In short, it does not appear that this factor alone will be sufficient to drive the economy into a recession.3. The Business Uncertainty Channel
John Maynard Keynes blamed the lack of business confidence – he called it a loss of 'animal spirits' – for the economic downturn of the 1930s. If today's drum roll of Tariff-On/Tariff-Off pronouncements – a 'stop-start trade war' as the Wall Street Journal called it – has undermined business confidence, it could have a negative impact on hiring and investment.
Initial reactions were apprehensive.It is not clear that apprehension translates yet into actions that would lead towards a recession or a slowdown.
Business Confidence and Capital Goods Investments
Following Liberation Day, surveys of executives certainly show pessimism. But note the highlighted nuances in the Conference Board's report.
That earlier recession never materialized. There may be a bias built into these survey responses.
And then,
A good example of Tariff-Off = Risk Off?
While there is uneasiness in the private sector, it has not evolved into a sustained 'crisis of confidence.' Business leaders may be evolving past the 'shock phase' and returning to a more balanced perspective.4. The Consumer Confidence Channel
Consumer sentiment has also declined. The Conference Board reported thatDeclining consumer sentiment could result in reduced spending and increased savings behavior — invoking the famous 'paradox of thrift' that would suck demand out of the system.Consumer sentiment is always volatile. Following a big drop in April, a rebound in May was the largest upswing in several years. Nevertheless, consumers tend to be pessimistic, with two-thirds to three quarters of those surveyed by the Conference Board predicting a recession every month over the past four years. The Michigan Consumer Sentiment Index shows that public psychology has not recovered from the Pandemic shock.
Consumer Psychology Altered By The Pandemic
Aside from sentiment, trends in actual consumer behavior — spending and saving – are inconclusive. Retail spending did decline in May, though not much (the rate of spending growth eased about half a percent, about equal with the January 2024. level). And the savings rate fell. (By comparison, when the Pandemic hit in 2020, consumers immediately cut spending by 14% in one month, and the savings rate jumped from 7% to 32%. That is what a true loss of consumer confidence looks like.)
In short, people today may be worried, may say they are worried, but they are not yet acting worried.Reality Sets In
In my opinion, the 'confidence' channels are the principal drivers of recessionary tendencies in the modern economy. Most of the tecniques of countercyclical policy have been figured out. Central banks now generally know when to stimulate and when to withdraw stimulus, even if they are sometimes tardy about it. What is not so easy to control is the psychological dimension. George Selgin has written a terrific new book (False Dawn: The New Deal and the Promise of Recovery) on the government's efforts to wrench the U.S. out of the Depression, which shines a light on the antagonism between the Roosevelt administration and the private sector as a major factor in explaining the slow and fitful recovery.
The parallels with our current situation are not far-fetched. Tariff threats and retractions have rattled the cage hard, spiking up uncertainty and volatility – two things that traders may love, but businessmen hate. If there is a tariff-related mechanism in the economy that could generate a recession, it is probably along the lines of 'continuous, often disconcerting experimentation' by the policy-makers, frightening consumers into pulling back from spending, and paralyzing business investment, rather than some incremental price penalty at the margin. But so far, despite intermittent sour moods, neither the business community nor the public have reined in their spending. Gross Private Domestic Investment grew by 5.8% in Q1 compared to the previous quarter – the most since Q4 2021.
Q 1 2025 Gain in Private Sector InvestmentMeanwhile, the tenor among forecasting professionals has turned positive. A late June WSJ headline read 'U.S. Economy Shrugs Off Trade War and Soldiers On: Employers and investors braced for economic meltdown. It hasn't happened.' The stock market recovered its April losses and began pounding out new record highs. The S&P 500 Index has gained 27% in the last 100 days, its most vigorous rally in five years.
Torsten Sløk modified his '90% recession probability' view to the upside, now projecting just a 0.8% reduction in GDP – not enough to trigger a recession.
The Atlanta Fed Forecast had also brightened considerably. The GDP estimate for Q2 spiked up about 4% in May and settled to about 2.5% by the end of June. The so-called Blue Chip consensus also moved back up to project a healthy 2% GDP growth rate.
Recession Forecasts - Bluechip Forecasts vs Atlantic GDPNow model - July
And right on time, economists have started to regain their confidence. The Wall Street Journal's July survey found that 2/3rds of those surveyed see no recession in the next 12 months.
The Wisdom of Crowds…
Two other data-sets point also to a normalization of the tariff threats. Immediately following Liberation Day, prediction markets like Kalshi and Polymarket reflected the general panic, and the betting consensus for a recession this year soared to 66%. Today, however, the odds of a recession are less than 20%.,
Polymarket Predictions of Recession Probabilties This Year
The other source for crowd wisdom is the financial market itself. Aside from the general rise in share prices (hitting an all-time high last week), earnings forecasts for the next 12 months have accelerated sharply since early May. This is clearly inconsistent with a recession scenario.
Earnings ForecastsA Tentative Conclusion?
Professional forecasters have been overly pessimistic for several years, consistently underestimating GDP growth. They are now catching up to events. Paradoxically, expert forecasts are looking like a lagging indicator – at best.
Meanwhile, the real agents in the economy are simply not behaving in a pre-recessionary way. Consumers as always remain pessimistic — but they keep on spending. Employers are worried, but they keep on hiring. The standard indicators are inconclusive, at best. It does not appear that the 3rd and 4th causal concepts described above — business confidence and consumer sentiment – are currently generating a recessionary trend. In any case, the asteroid-alert can be called off.
Further reading –
Hashtags

Try Our AI Features
Explore what Daily8 AI can do for you:
Comments
No comments yet...
Related Articles
Yahoo
7 minutes ago
- Yahoo
Academics warn Columbia University deal sets dangerous precedent
Columbia University's $200 million agreement with President Donald Trump's administration marks the end of a months-long showdown, but academics warn it is just the first round of a government "assault" on higher education. Academics from Columbia and beyond have expressed concerns that the deal -- which makes broad-ranging concessions and increases government oversight -- will become the blueprint for how Trump brings other universities to heel. The New York institution was the first to be targeted in Trump's war against elite universities, for what the US president claimed was its failure to tackle anti-Semitism on campus in the wake of pro-Palestinian protests. It was stripped of hundreds of millions of dollars of federal funding and lost its ability to apply for new research grants. Labs saw vital funding frozen, and dozens of researchers were laid off. But Columbia last week agreed to pay the government $200 million, and an additional $21 million to settle an investigation into anti-Semitism. According to Ted Mitchell, president of the American Council on Education, the lack of due process -- with the government slashing funding before carrying out a formal investigation -- left Columbia in an "untenable position." Columbia law professor David Pozen agreed, saying the "manner in which the deal was constructed has been unlawful and coercive from the start" and slamming the agreement as giving "legal form to an extortion scheme." - Federal oversight - The deal goes beyond addressing anti-Semitism and makes concessions on international student admissions, race and ethnicity considerations in admissions and single-sex spaces on campus, among other issues. Columbia also agreed to appoint an independent monitor to implement the deal, share ethnicity admissions data with the government and crack down on campus protests. Many of the provisions "represent significant incursions onto Columbia's autonomy," said Pozen. "What's happened at Columbia is part of a broader authoritarian attack on civil society," he said, pointing to similar pressures on law firms and media organizations to fall in line. According to the law professor, the deal "signals the emergence of a new regulatory regime in which the Trump administration will periodically and unpredictably shake down other schools and demand concessions from them." In the coming weeks, Pozen said he expected the "administration will put a lot of pressure on Harvard and other schools to follow suit." Harvard University has pushed back against the government, filing a lawsuit in a bid to reverse sweeping funding cuts. But Steven Levitsky, a professor of government at Harvard, said that "in terms of academic freedom and in terms of democracy, the (Columbia) precedent is devastating." - 'First round' - Education Secretary Linda McMahon said she hoped the Columbia deal would be a "template for other universities around the country." On Wednesday, McMahon announced a deal with Brown University to restore some federal funding and end ongoing investigations after the Ivy League school agreed to end race considerations in admissions and adopt a biological definition of gender. Brown President Christina Paxson admitted "there are other aspects of the agreement that were not part of previous federal reviews of Brown policies" but were "priorities of the federal administration." Harvard is reportedly considering forking out $500 million to settle, according to the New York Times. Others have made smaller concessions to appease the government, with Trump's alma mater the University of Pennsylvania banning transgender women from competing in women's sports, and the University of Virginia's head resigning after scrutiny over its diversity programs. Brendan Cantwell, a professor at Michigan State University who researches the history and governance of higher education, said government interference in universities "has not happened at scale like this, probably ever in American history." While some university staff see striking an agreement as the quickest way to reopen the federal funding spigot, Cantwell warned that concessions such as sharing ethnicity data from admissions could be "weaponized" and provide fodder for future probes. Levitsky agreed, saying: "Extortionists don't stop at the first concession. Extortionists come back for more." "There's a very high likelihood that this is just the first round," he said. Pozen noted that it will be harder for "major research universities to hold the line" compared to smaller colleges which are less reliant on federal funding. But Levitsky still urged Harvard to stand its ground and "fight back," including in the courts. "Fighting an authoritarian regime is costly, but that's what we have to do," he said. "This is an unprecedented assault, and universities need to work together." aks/wd
Yahoo
7 minutes ago
- Yahoo
'The Trade War Has Lost All Credibility:' Markets Shrug Off Trump's Tariff Blitz On Multiple Countries
As President Donald Trump unveiled a blitz of new tariffs across different countries on Thursday, the markets remained largely unfazed by the move. What Happened: On Thursday, in a post on X, The Kobeissi Letter highlighted the market's muted response to Trump's sweeping new moves on the trade and tariff front. The post notes that Trump 'randomly' increased tariffs on Canada, the largest trading partner of the United States, from 25% to 35%. Followed by a string of new tariffs on others, such as 'Vietnam, Switzerland, South Africa, Taiwan, Cambodia, Thailand, Malaysia, Indonesia, Turkey, and Venezuela.' Trending: 7,000+ investors have joined Timeplast's mission to eliminate microplastics—now it's your turn to Yet, the market response was underwhelming, with S&P 500 futures 'down a mere 10 points,' which the post attributes almost entirely to 'Amazon's weak earnings results.' It says that in April, when the 'Liberation Day' tariffs were first announced, such a move would have sent the S&P 500 lower by 3% or more. The post says 'the trade war has lost all credibility' in the market, and that it has lost the 'shock effect' that it had a couple of months ago. Why It Matters: This could be seen as a fallout of the 'TACO Trade' meme, or 'Trump Always Chickens Out,' where investors buy equities right after Trump makes a tariff threat, knowing fully well that he will eventually back out. Economist Peter Schiff recently called this 'a classic paradox,' since markets not reacting to Trump's tariffs, because they expect him to 'chicken out,' will eventually lead him to follow through on his threats. 'Investors assume Trump will cancel the August 1 tariffs before they kick in, so stocks aren't selling off,' he says, but since there isn't a dramatic market response to this, 'Trump won't chicken out again.' Read Next: $100k+ in investable assets? Match with a fiduciary advisor for free to learn how you can maximize your retirement and save on taxes – no cost, no obligation. Bezos' Favorite Real Estate Platform Launches A Way To Ride The Ongoing Private Credit Boom Photo courtesy: Shutterstock UNLOCKED: 5 NEW TRADES EVERY WEEK. Click now to get top trade ideas daily, plus unlimited access to cutting-edge tools and strategies to gain an edge in the markets. Get the latest stock analysis from Benzinga? This article 'The Trade War Has Lost All Credibility:' Markets Shrug Off Trump's Tariff Blitz On Multiple Countries originally appeared on
Yahoo
7 minutes ago
- Yahoo
FAA planning more helicopter route changes after fatal collision
By David Shepardson WASHINGTON (Reuters) -The Federal Aviation Administration said on Friday it is planning additional helicopter route changes near Ronald Reagan Washington National Airport after the January 29 mid-air collision of an American Airlines regional jet and an Army helicopter that killed 67 people. FAA official Nick Fuller said at a National Transportation Safety Board investigative hearing that an agency work group is planning changes on a key helicopter route near Reagan after imposing permanent restrictions on non-essential helicopter operations in March and further restricting where they could operate in June. NTSB officials at the hearing expressed concerns about a "disconnect" between front-line air traffic controllers and agency leaders and raised other questions about FAA actions before the fatal collision, including why earlier reports of close call incidents did not prompt safety improvements. Board members have also raised concerns about the failure of the FAA to turn over documents in a timely fashion during the investigation of the January collision. The NTSB received details on staffing levels at the time of the January 29 crash "after considerable confusion and a series of corrections and updates from the FAA," a board report said. The hearing has run more than 30 hours over three days and raised a series of troubling questions, including about the failure of the primary controller on duty to issue an alert to the American regional jet and the actions of an assistant controller who was supposed to assist the primary controller. "That did not occur and we're trying to understand why. And no one has been able to tell us what the individual was doing during that time," NTSB Chair Jennifer Homendy said. Homendy said earlier this week the FAA had ignored warnings about serious safety issues. "Every sign was there that there was a safety risk, and the tower was telling you," Homendy said. "You transferred people out instead of taking ownership over the fact that everybody in FAA in the tower was saying there was a problem ... Fix it. Do better." FAA officials at the hearing vowed to work more collaboratively and address concerns. Senator Tim Kaine on Friday also cited concerns raised by an FAA manager about the volume of flights at the airport before the collision and the decision by Congress last year to add five additional daily flights to Reagan. "Congress must act to reduce dangerous congestion by removing flights into and out of (Reagan National)," Kaine said.