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It's Up to the Fed to Save Economy From Trump Tariffs

It's Up to the Fed to Save Economy From Trump Tariffs

By    |   Wednesday, 05 June 2019 12:25 PM

Federal Reserve Chairman Jerome Powell gave a fairly clear signal that if the economic damage of the U.S. trade tariffs or taxes on imported goods from China and possibly from Mexico, but that’s not for sure yet, gets worse, the Federal Reserve is ready to offer policy accommodation to offset that damage.

In his opening remarks at the Fed sponsored “Conference on Monetary Policy Strategy, Tools, and Communications Practices,” Powell said: “I’d like first to say a word about recent developments involving trade negotiations and other matters. We do not know how or when these issues will be resolved. We are closely monitoring the implications of these developments for the U.S. economic outlook and, as always, we will act as appropriate to sustain the expansion, with a strong labor market and inflation near our symmetric 2 percent objective.”

Now, the question is whether the Federal Reserve, acting alone, can offset the damage of the U.S. trade tariffs/taxes.

Essentially, these costs will be coming in 3 areas:

  • First, the direct costs of fiscal tightening as American companies or American consumers pay for the tariffs or taxes on the imported goods from China, with some additional impact from “perceptions” of lower living standards as U.S. prices rise.
  • Second, the indirect costs associated with “uncertainty” as investment is delayed or canceled in the United States. Ultimately, a risk premium may increase the real cost of borrowing for all U.S. based investments.
  • Third, the global consequences of uncertainty with other economies affected by reduced investment spending, reduced trade and reduced manufacturing.

For the direct costs, the Federal Reserve can offset the costs in part of the trade tariffs/taxes. Indeed, that is what central banks are designed for to do, and they do well.

A rate cut would help to reduce the damage of fiscal tightening or reduced consumer spending arising from the U.S. trade tariffs or taxes.

For the indirect costs of uncertainty, things are more difficult. Uncertainty risks can be helped by central bank accommodation, but it’s a more difficult risk to overcome through central bank policy alone.

For the indirect costs of the global effects, the Federal Reserve has less ability to influence these, at least when acting alone.

What this adds up to is that the Federal Reserve can blunt the impact of any slowdown that the U.S. trade tariffs or trade taxes impose, but the Federal Reserve may not be able to stop the slowdown entirely.

The global economy is now likely to grow “below” its trend rate of growth this year and that’s a direct consequence of U.S. trade tariffs or taxes.

The Federal Reserve cannot prevent that, but it may be able to prevent a recession.

Interestingly, and also yesterday, the World Bank released its June 2019 report on Global Economic Prospects under the title “Heightened Tensions, Subdued Investment.”

The press communique reads among other things “Growth among advanced economies as a group is anticipated to slow in 2019, especially in the Euro Area, due to weaker exports and investment.

U.S. growth is forecast to ease to 2.5% this year and decelerate to 1.7% in 2020. Euro Area growth is projected to hover around 1.4% in 2020-21, with softness in trade and domestic demand weighing on activity despite continued support from monetary policy. Growth among emerging market and developing economies is projected to fall to a four-year low of 4% in 2019 before recovering to 4.6% in 2020.”

Global trade growth is projected to be the weakest in 2019 since the financial crisis a decade ago.

For long-term investors, not traders, these projections could be helpful when planning for investing for the median to longer term.

Etienne "Hans" Parisis is a bank economist who has advised investors on financial markets and international investments.

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The question is whether the Federal Reserve, acting alone, can offset the damage of the U.S. trade tariffs/taxes.
fed, economy, trump, tariffs
Wednesday, 05 June 2019 12:25 PM
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