President Trump’s decision to raise tariffs on the US economy’s three largest trade partners represents a huge shock to the trade sector at home and abroad.

We continue to suspect tariffs on Canada and Mexico will be at least partially rolled back in coming days and weeks, although China looks unlikely to get a reprieve. 

Either way, uncertainty is weighing on sentiment. With some nowcasts showing a big fall in Q1 GDP, markets are pricing three Fed rate cuts this year. 

Forecasting the impact of tariffs is complicated. The shock to growth and inflation is sensitive to the structure of the affected market, behavioural changes, and currency adjustments, among other things. 

If sustained permanently, we think the latest tariff announcements would take between 0.3-1% off US GDP, while adding 0.5-1% to the price level.

But it is possible the shock generates a larger hit to activity, and smaller price level effect, if firms absorb tariffs into margins or there are large FX adjustments. 

The Fed will be sensitive to relative changes in growth and inflation, and in the near term it might prefer to stay on hold amid uncertainty. We are currently forecasting that the Fed cuts once this year, in September.

More easing is certainly possible should risks to the expansion emerge, with labour market data key to this assessment. Of course, if the economy holds up then higher inflation could make it hard for the Fed to ease at all. What is clear is that the central bank needs to clarify its reaction function. 

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