Even without a recession, Trump's tariffs will be painful

The Hill

09-05-2025

Most economic forecasters lowered their projections for U.S. economic growth this year and increased the odds of a recession in the wake of President Trump's 'Liberation Day' announcement on Apr. 2. This assessment appeared reasonable, considering the tariff hikes were much larger than expected, and both consumer and business confidence readings had plummeted.
Subsequently, Trump delayed implementation of reciprocal tariffs for 90 days, except in the case of China against whom tariffs were hiked to 145 percent.
The economic data released last week provided the first 'hard' evidence about how the economy was faring leading up to April 2 and soon after. They show the economy was on solid footing when the avalanche of tariffs was announced.
Some press reports interpreted the headline number for first quarter real GDP of minus 0.3 percent annualized as a sign of economic weakness. However, that mainly reflected how U.S. businesses anticipated tariff hikes by front-loading imports, an act that reduces net GDP. Imports surged by 41 percent at an annual rate and also showed up as increases in business inventories and equipment purchases.
The jobs report for April provided the initial reading of how the economy had been faring as of mid-April, and it was stronger than expected. Non-farm payrolls increased by 177,000 while the unemployment rate remained unchanged at 4.2 percent.
Amid all of this, the U.S. stock market recouped the losses it had sustained after Apr. 2.
The principal reason is that investors are hopeful that the economy will be bolstered as bilateral trade deals are announced before Jul. 9. There is also optimism about China entering trade talks with the U.S., although the caveat is that the U.S. must first cancel the tariffs that were imposed on it.
However, investors should keep two things in mind.
First, there are lags between the announcement of tariffs and when they are felt by businesses and households. Price hikes associated with tariffs are not pervasive thus far, and Goldman Sach's economists believe it could take two or three months before they are.
Meanwhile, supply shortages are expected to materialize this month as Bloomberg reports. That is when the pain from tariffs will first be felt by consumers.
Second, even if some trade agreements are announced, they are likely to be 'agreements in principle.' In a research report to clients, Andy Lapierre of Piper Sandler wrote that most if not all of the forthcoming 'deals' are likely to be communiques that outline key sticking points. His expectation is that few, if any of them, will roll back existing tariffs.
Trade agreements that require legislation are more complex, as numerous details must be worked out. They typically require about 18 months to complete on average according to the Peterson Institute for International Economics.
Even then, the universal 10 percent increase in tariffs will still apply. Duties on Chinese goods are also higher than the 60 percent rate that Donald Trump campaigned on, which many investors considered it to be the worst outcome prior to April 2.
For these reasons, I remain skeptical that valuations for U.S. equities can stay at their current elevated levels when the worst trade war since the 1930s is at hand. With the S&P 500 index down by about 5 percent this year, it is not pricing in an economic slowdown.
For example, Wall Street analysts' consensus earnings growth for the S&P 500 this year is only marginally lower than last year's 10.5 percent according to FactSet. Yet, because earnings are highly levered to the economy, they could decline markedly if there is a slowdown. Furthermore, a surge in defaults cannot be ruled out due to a buildup in bank and nonbank credit to some companies.
That said, a U.S. recession may not materialize this year considering how resilient the U.S. economy has been in recent years.
When the Covid-19 pandemic struck in early 2020, the economy rebounded after businesses reopened, and both fiscal and monetary policies provided added impetus. Thereafter, the economy defied forecasts calling for a recession when the Federal Reserve raised interest rates from zero to 5.5 percent during 2022 and 2023.
The main difference this time is that economic policies will not be as accommodative as during the 2008 Financial Crisis and the COVID-19 pandemic.
With inflation above the Federal Reserve's 2 percent target and likely headed higher due to tariffs, the Fed will probably wait for evidence that the job market is weakening before it eases monetary policy. Moreover, as long as inflation stays sticky, it will not have flexibility to lower rates as quickly as it did in the last two shocks.
Similarly, fiscal policy will not be as supportive this time due to budgetary constraints. Congressional Republicans currently are targeting cuts in federal spending of $1.5 trillion over ten years, and they may cut Medicaid spending to attain that goal.
The main counter-cyclical policy tool Republicans can deploy would be tax cuts. Yet, as the Wall Street Journal reports, the extension of the Tax Cut and Jobs Act is by far the largest part of the tax legislation they are trying to complete by Jul. 4. Even if it is enacted, it would not reduce current tax rates.
Amid all of this, the IMF's world economic projections in April call for U.S. growth to slow by a full percentage point this year to 1.8 percent, down from its October forecast of 2.2 percent. Meanwhile, U.S. inflation is projected to rise to 3 percent, a full percentage-point increase from the January forecast. If so, the tariffs that Trump is contemplating would inflict greater damage on the U.S. economy than on other industrial economies.
Finally, while the U.S. may avoid a recession this year, the risk of one increases the longer the trade war lasts. Accordingly, investors should be prepared for significant collateral damage from tariff hikes that could result in lower stock prices and a weaker dollar.
Nicholas Sargen, Ph.D., is an economic consultant for Fort Washington Investment Advisors and is affiliated with the University of Virginia's Darden School of Business. He has authored three books including 'Global Shocks: An Investment Guide for Turbulent Markets.'