The Trump administration’s trade wars are whipping Fed policy back and forth
By Sarah Foster
President Donald Trump’s trade wars just might prompt the Federal Reserve rate cut he’s been clamoring for — but for the wrong reasons.
Weeks after the White House slapped higher duties on Chinese imports and threatened new ones on products from Mexico, Fed officials have made it known that they’re monitoring the situation and are prepared to lower borrowing costs if it’s needed to soothe an ailing economy.
. . . Mexico is the U.S.’s third-largest trading partner after China and Canada. Businesses have spent the last 25 years deepening their supply chains, since the North American Free Trade Agreement (NAFTA) was enacted, and its close proximity to the U.S. makes it an important economic partner.
“We have a very integrated manufacturing and agriculture system with Mexico, and this uncertainty creates issues,” says Wayne Winegarden, senior fellow at the Pacific Research Institute. “Imagine yourself a manufacturer. Are you going to invest in new supply chains right now? Are you going to open a new manufacturing plant? Whether or not these tariffs go through, the fact that it keeps coming up is going to create pause, and that’s problematic.”
. . . The conflict could jeopardize the future of the revised NAFTA, now dubbed the U.S.-Mexico-Canada Agreement. Congress has yet to ratify the deal, and the increased tensions cast its future into doubt.
It would also be a double-hit for the U.S. economy, given that a trade war is also pervading with China, its No. 1 trading partner. If the Trump administration follows through with its plans to impose 25 percent tariffs on $300 billion of imports, that would mean that virtually all imports from the two countries are subject to tariffs.
“Putting tariffs on China is just as bad as putting tariffs on Mexico,” Winegarden says. “Beat me with a stick, or beat me with a knife. In the end, I’m still hurt.”
. . . Inflation has been undershooting the Fed’s 2 percent target for much of the expansion, and at the Fed’s last policy meeting, it was a key reason for why officials decided to continue remaining on hold.
But there is something that could potentially make this aspect more complicated. If tariffs on Mexico continue to increase a mechanical 5 percentage points each month, the data could reflect a mechanical, sustained rise in inflation as well.
“They have to discriminate between a one-time bump in the price level because of the tariffs versus a sustained increase in inflation,” Winegarden says. “But if you’re phasing in new tariffs every month, you’re phasing in smaller price increases all along, which sends some very complicated signals. The Fed’s job is being made more difficult. The chance of a mistake by the Fed increases simply because the environment they’re working in has a lot more noise to it.”