- Growth rates in Mexico and Canada are bound to get hit. China’s exporters will feel the pain too.
- In the US, we see near-term downside to growth and upside to inflation.
- We forecast 2% growth in 2025-26 and inflation in the 2.5-3% range.
- The Fed will find it hard to cut rates substantially in this context.
- A terminal rate of 4% is in store, in our view.
Commentary: Coming US economic noise
The game of tariffs, as expected, has intensified. The US government is set to impose substantial tariffs on imports from Canada, Mexico, and China. Many more such measures are forthcoming, we’re sure. We are also sure that there will be an element of brinkmanship, some tariff threats on certain products and countries will be issued and then withdrawn after extracting some concessions. We also expect retaliatory measures by trading partners, especially toward products with their origins in republican-run “red” states. Noise and lobbying over trade policy are about to spike.
In thinking through the ramification of tariffs, threatened or actual, we should begin with the premise that time for price cuts or passing on savings to customers from productivity gains is over for the time being. Businesses, facing a tight labour market and still-strong demand environment, would pass on tariff-induced costs readily. Given the types of goods heavily traded between US, Canada, and Mexico, we see immediate upside to autos and gasoline. Also, demand for US exports would be affected as retaliatory measures are implemented.
Mexico’s export sector, currency, and price level could be destabilised severely; Canada will also likely face considerable damage. Chinese exports, particularly those that have done well lately through the direct-to-consumer delivery model, would likely suffer the most.
The myriad goals of Trump, which include scaling back multilateralism, downsizing the government, reducing the oversight of tech and financial sectors, scaling back immigration, pushing through tax cuts, encouraging fossil fuel production, among others, do not lend themselves to macro stability in the near term. This in turn could have the effect of paralysing the Fed from acting, as forecasts become harder in the cacophony of policy noise.
Given the strong momentum in the US economy seen through end-2024, we ought to forecast 2.5%+ growth for 2025 and 2026, but would be pegging our forecast to around 2% instead, incorporating the heightened policy noise. Beyond tariffs, immigration tightening measures, along with consolidation of public sector payrolls and spending would be growth negative, offsetting supportive measures like deregulation and tax cuts, in our view.
Inflation has already been stalling long before settling at the Fed’s target of 2%. With tariffs and tax cuts in play, we see headline and core inflation more in the 2.5-3% range the next two years. Unless there are major financial stability related concerns, the Fed would find it hard to carry out substantial accommodation; we see 4% as the terminal rate in this cycle, putting aside the scenario of Trump finding ways to force the Fed into cutting rates.
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Nathan Chow 周洪禮
Senior Economist and Strategist - China & Hong Kong 高級經濟學家及策略師 - 中國及香港
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