Our Global Head of Fixed Income and Public Policy Research,
Michael Zezas, joins our Chief U.S. Economist, Michael Gapen, to
discuss the possible outcomes for President Trump’s immigration
policies and their effect on the U.S. economy.
----- Transcript -----
Michael Zezas: Welcome to Thoughts on the
Market. I'm Michael Zezas, Morgan Stanley's Global Head of Fixed
Income and Public Policy Research.
Michael Gapen: And I'm Michael Gapen, Chief
U.S. Economist for Morgan Stanley.
Michael Zezas: Our topic today: President
Trump's immigration policy and its economic ramifications.
It's Friday, February 14th at 10am in New York.
Michael, migration has always been considered an important
feature of the global economy. In fact, you believe that strong
immigration flows were an important element in the supply side
rebound that set the stage for a U.S. soft landing. If we think
back to the time before President Trump took office almost a
month ago, how would you categorize immigration trends then?
Michael Gapen: So, we saw a very sharp
increase in immigration coming out of the pandemic. I would say,
if you look at longer term averages, say the 20 years leading up
to the pandemic, normally we'd get about a million and a half
immigrants, per year into the United States. A lot of variation
around that number, but that was the long-term average.
In 2022 through 2024, we saw immigration surge to about 3 million
per year. So about twice as fast as we saw normally. And that
happened at a very important time. It allowed for very
significant and rapid growth in the labor force, just at a time
when the economy was emerging from the pandemic and demand for
labor was quite high.
So, it filled that labor demand. It allowed the economy to grow
rapidly, while at the same time helping to keep wages lower and
inflation starting to come down. So, I do think it was a major
underpinning force in the ability of the U.S. economy to soft
land after several years of above target inflation.
Michael Zezas: Got it. And so now, with a
second President Trump term, are we set up for a reversal of this
immigration driven boost to the economy?
Michael Gapen: Yeah, I think that's the key
question for the outlook, and our answer is yes. That if we are
going to significantly restrict immigration flows, the risk here
is that we reverse the trends that we've just seen in the
previous year.
So, I certainly believe one of the main goals of the Trump
administration is to harden the border and initiate greater
deportations. And these steps in my mind come on the back of
steps that the Biden administration already took around the
middle of last year that began to slow immigration flows.
So yes, I do think we should look for a reversal of the
immigration driven boost to the economy. But Mike, I would
actually throw this question back to you and say on the first day
of his presidency, Trump issued a series of executive orders
pertaining to immigration. Where are we now in that process after
these initial announcements? And what do you expect in terms of
policy implementation?
Michael Zezas: Well, I think you hit on it.
There's two levers here. There's stepped up deportations and
removals and there's working with Mexico on border enforcement.
Things like the remain in Mexico policy where Mexico agrees to
keep those seeking asylum on their side of the border; and to
facilitate that, they've stepped up their military presence to do
that.
Those are really kind of the two levers that the U.S. is pushing
on to try and reduce the flow of migrants coming into the U.S.
Still to be determined how much these actually have an impact,
but I think that's the direction of policy travel.
Michael Gapen: And are there any catalysts
specifically that you're watching for? I mean, recently the
administration proposed tariffs on Mexico and Canada around
border control, but those have been delayed. Is there anything on
the horizon we should look for this time around?
Michael Zezas: Yeah. So obviously the
president tied the potential for tariffs on Mexico and Canada to
the idea that there should be some improvement on border
enforcement. It's going to be difficult for investors, I think,
to assess in real time how much progress has been made there.
Mostly it's a data challenge here. There are official government
statistics which have a good amount of detail about removals and
folks stopped at the border and demographics in terms of age and,
and whether or not they were working. That might really kind of
help us piece together the story in terms of whether or not
there's going to be future tariffs – and Michael, probably for
you, to what extent there's an impact on the economy if folks are
already in the labor force.
But that data is on a lag, it'll be really difficult to tell
what's happening now for at least several months. Maybe we're
going to get some hints about what's going on for comments coming
in earnings calls, for example, from companies that deal in
construction and food service and hospitality. But I don't know
that those anecdotes would be sufficient to really draw
substantial conclusions. So, I think we're a bit in a fog for the
next couple months on exactly what's happening.
But based on all this, Michael, what's your outlook for
immigration this year and beyond?
Michael Gapen: Yeah, so we, as I mentioned,
we were getting about 3 million immigrants per year between 2022
and 2024; long run averages before the pandemic were more like a
million and a half a year. Our outlook is that immigration flows
should slow below pre- COVID averages to about 1 million this
year and about 500,000 in 2026. And again, that would be the well
below the long run average of about a million and a half per
year.
Now, as you mentioned, understanding these flows in real time is
hard and there's a lot of uncertainty around this and how
effective policies may be. So, I think people should consider
ranges around this baseline, if you will. On one hand, we could
see a reduction in unauthorized immigration replaced by more
authorized immigration. So maybe there's a benign scenario where
immigration slows back to its one and a half million per year.
But it's more through legal and formal channels than unauthorized
channels.
Alternatively, it could be the case that some of the policies,
you mentioned in terms of, say, stepped up deportations or other
measures, and maybe there's a chilling effect. That there's just
like an externality on immigration behavior. And in fact, we slow
maybe to about 500,000 this year and see a decline in about
250,000 next year.
So, I think there's a lot of uncertainty about it. We think
immigration slows below its longer run averages, which would
represent a major shift from what we've seen over the last three
years.
Michael Zezas: Got it. So, lots of
crosscurrents here, about how the actual labour supply is
impacted. But bottom line, if we do arrive at a point where
there’s a significant reduction in immigration, what’s the
expectation about what that means for the U.S. economy?
Michael Gapen: Yeah, so a lot of cross
currents here. Number one, I think with a high degree of
confidence, we can say reduced immigration should lead to slower
potential growth, right? So, a slower growth in the labor force
should mean slower growth in trend hours, right? Potential GDP is
really only the sum of growth in trend hours and trend
productivity.
So, the surge in immigration we saw really boosted potential
growth up to 2.5 per cent to 3 per cent in recent years. So, if
we reduce immigration, potential growth should slow. I think back
towards, say, 2 per cent this year, maybe even 1 to 1.5 per cent
next year. So, you slow down growth in the labor force, potential
should moderate.
Second, and I think the more difficult question is, well, okay,
if you also reduce growth in the labor force, you're going to get
less employment, and that's a demand side effect. So, which
dominates here, the supply side or the demand side? And here, I
think to go back to your first question – yeah, I do think we're
going to get a reversal of the outcome that we just saw.
So, I think it'll moderate both potential and actual growth. So,
I think actual growth slows. The amount of employment we see
should decline and soften. We're not saying the level of
employment will decline, but the growth rate of employment should
slow. But it should coincide with a low unemployment rate, so
it's going to be a very different labor market. A lot less
employment growth, but still a tight labor market in terms of low
unemployment.
That should keep wages firm, particularly in the service sector
where a lot of immigrants work, and we think it'll also help keep
inflation firm. So, it could keep the Fed on the sideline for a
significant period of time, for example.
And I'd just like to close, Mike, by saying I think this is an
underappreciated risk for financial markets. I think
investors have digested trade policy uncertainty, but I'm not
convinced that risks around immigration and their effect on the
economy are well understood.
Michael Zezas: Got it. Well Michael, thanks
for taking the time to talk.
Michael Gapen: Thank you.
Michael Zezas: Thanks for listening. If you
enjoy the show, leave us a review wherever you listen to podcasts
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