The Times They Are A-Changin’
This week, I want to talk about the Trump administration’s trade and tariff plans and what they could mean for the economy. In essence, the president is trying to change how we trade with other countries—and this has shaken the financial markets. Many of the ideas come from a 40-page paper entitled, “A User’s Guide to Restructuring the Global Trading System,” written in November 2024 by Stephen Miran, Chair of the Council of Economic Advisors.
Miran’s main point is that the U.S. dollar is too strong, and that hurts our ability to trade fairly. He says that because other countries use the dollar as a reserve currency—like their savings account—the demand for dollars stays high. As the world economy grows, it puts a bigger strain on the U.S. to provide those dollars and also pay for global security. This especially hurts American manufacturing because a strong dollar makes foreign goods cheaper—so companies move their factories overseas.
To fix this, Miran suggests using tariffs and changing currency policies. He argues that if tariffs are balanced out by a stronger dollar, then they won’t cause as much inflation or other problems. We saw this happen somewhat during 2018-19 when tariffs were put on China. In that case, the other country pays the price through reduced buying power, and the U.S. government gets more money. Miran also talks about how to set up tariffs and what the best rates might be. It’s clear that the Trump administration is using Miran’s paper as a blueprint.
Without getting into all the details of the paper, Miran looks at ways to address other countries whose currencies are too weak and what the financial effects of these policies might be. He thinks tariffs are a simpler tool, and since they’ve been used before, they’ll likely be used first. Changes to the dollar are more complicated, so they’ll probably come later, after tariffs. He stresses that any changes need to be made slowly and carefully to avoid big market swings. It looks like tariffs are just the first step in a bigger plan.
However, things haven’t gone exactly as planned thus far. First, the U.S. dollar has actually gotten weaker, not stronger. Miran’s paper says a stronger dollar helps keep prices down when tariffs go up. Second, the interest rate on 10-year U.S. Treasury bonds has gone up since the tariffs were announced. This is the opposite of what the administration wants. Higher interest rates make it more expensive for people and businesses to borrow money, which can slow down the economy.
A Hard Rain’s A-Gonna Fall
Looking ahead, the path remains uncertain. Forecasting market direction is complicated when political decisions, rather than underlying economic trends, are the primary drivers; for instance, a single high-level communication between U.S. and Chinese leaders could significantly alter the outlook. In the absence of a comprehensive global agreement, the ongoing reshaping of international trade relationships continues to present both distinct risks and potential opportunities.
Following the policy direction of the Trump administration, reputable economists observed that the probability of a U.S. recession stood at approximately 50/50. The most significant risk identified was stagflation—a scenario characterized by persistently high inflation coinciding with slowing economic growth. Should yields on the 10-year US Treasury rise toward 5%, the Federal Reserve might need to intervene through bond purchases to manage or cap yields. Such a situation could also necessitate substantial cuts in U.S. government spending to decrease the amount of borrowing required.
The trend and absolute level of the 10-year US Treasury yield carry exceptional weight, particularly given the magnitude of U.S. national debt (exceeding $36 trillion, or roughly 130% of U.S. GDP—a ratio considered by many economists to be near a sustainable limit). Rising interest rates inevitably increase debt servicing costs, consuming a larger share of the federal budget. Furthermore, an economic recession would likely reduce government tax revenues, thereby increasing the deficit significantly.
Foreign entities hold approximately 25% of outstanding U.S. debt securities. A potential challenge for the U.S. involves the risk of these holders diversifying away from dollar-denominated assets, including government bonds. Concentrated selling of U.S. debt within a short time frame would exert downward pressure on bond prices, consequently pushing interest rates higher. This contributes to the ongoing debate regarding the U.S. dollar’s continued reliability as a safe “store of value.” Ultimately, investors should remain prepared to navigate various potential scenarios.
Near Term Outlook
My best guess is that the uncertainty surrounding tariff and economic policy will cause an initial surge in consumption, followed by a pullback. Companies that report early during earnings season (i.e., this week) will have less insights to share than those that report later since the surprise tariff announcement occurred on April 2. In fact, United Airlines just released their outlook yesterday and noted that the macro environment is “impossible to predict this year with any degree of confidence.”
Even without entering a technical recession, GDP growth is likely to decelerate under these conditions. People are more worried about their job security today than they were three months ago. Layoffs will likely rise and the unemployment rate is projected to rise modestly as the year progresses. Moreover, mortgage rates remain high, near 7%. So, it is unlikely the housing market will be a source of strength.
When interest rates and earnings growth rates change abruptly, the stock market usually follows with an adjustment period of its own. We are enduring that process now. Balanced portfolios have performed well and mitigated some of the declines that have been led by technology stocks. Maintaining an appropriate asset allocation is the best way to weather the storm.
For the past couple of years, stocks have been trading near peak valuation multiples using a variety of metrics. Market selloffs create opportunities for investors who have cash and patience. Great companies will make the necessary adjustments to deal with whatever new global trading system evolves. We expect to add some of these great companies to portfolios as the year unfolds, but being patient until the dust settles a little more is our best advice right now.
Christopher Gildea 610-260-2235