The ultimate market outcomes of President Trump’s
tactical tariff escalation may be months away. Our Global Head of
Fixed Income Research and Public Policy Strategy Michael Zezas
takes a look at implications for investors now.
Read more insights from Morgan Stanley.
----- Transcript -----
Welcome to Thoughts on the Market. I’m Michael Zezas, Global Head
of Fixed Income Research and Public Policy Strategy. Today:
The latest on U.S. tariffs and their market impact.
It’s Thursday, July 10th at 12:30pm in New York.
It's been a newsy week for U.S. trade policy, with tariff
increases announced across many nations. Here’s what we think
investors need to know.
First, we think the U.S. is in a period of tactical escalation
for tariff policy; where tariffs rise as the U.S. explores its
negotiating space, but levels remain in a range below what many
investors feared earlier this year. We started this week
expecting a slight increase in U.S. tariffs—nothing too dramatic,
maybe from 13 percent to around 15 percent driven by hikes in
places like Vietnam and Japan. But what we got was a bit more
substantial.
The U.S. announced several tariff hikes, set to take effect
later, allowing time for negotiations. If these new measures go
through, tariffs could reach 15 to 20 percent, significantly
higher than at the beginning of the year, though far below the 25
to 30 percent levels that appeared possible back in April. It’s a
good reminder that U.S. trade policy remains a moving target
because the U.S. administration is still focused on reducing
goods trade deficits and may not yet perceive there to be
substantial political and economic risk of tariff escalation. Per
our economists’ recent work on the lagged effects of tariffs,
this reckoning could be months away.
Second, the implications of this tactical escalation are
consistent with our current cross-asset views. The higher tariffs
announced on a variety of geographies, and products like copper,
put further pressure on the U.S. growth story, even if they don’t
tip the U.S. into recession, per the work done by our economists.
That growth pressure is consistent with our views that both
government and corporate bond yields will move lower, driving
solid returns. It's also insufficient pressure to get in the
way of an equity market rally, in the view of our U.S. equity
strategy team. The fiscal package that just passed Congress might
not be a major boon to the economy overall, but it does help
margins for large cap companies, who by the way are more exposed
to tariffs through China, Canada, Mexico, and the EU – rather
than the countries on whom tariff increases were announced this
week.
Finally, How could we be wrong? Well, pay attention to
negotiations with those geographies we just
mentioned: Mexico, Canada, Europe, and China. These are
much bigger trading partners not just for U.S. companies, but the
U.S. overall. So meaningful
escalation here can drive both top line and bottom line effects
that could challenge equities and
credit. In our view, tariffs with
these partners are likely to land near current levels, but the
path to get there could be volatile.
For the U.S., Mexico and Canada, background reporting suggests
there’s mutual interest in maintaining a low tariff bloc,
including exceptions for the product-specific tariffs that the
U.S. is imposing. But there are sticking points around
harmonizing trade policy. The dynamic is similar with
China. Tariffs are already steep—among the highest anywhere.
While a recent narrow deal—around semiconductors for rare
earths—led to a temporary reduction from triple-digit levels, the
two sides remain far apart on fundamental issues.
So when it comes to negotiations with the U.S.’ biggest trading
partners, there’s sticking points. And where there’s sticking
points there’s potential for escalation that we’ll need to be
vigilant in monitoring.
Thanks for listening. If you enjoy Thoughts on the Market please
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want everyone to listen.
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