Washington’s revived protectionism is putting fresh pressure on the Federal Reserve. Investors are once again bracing for trade disruption, rising inflation, and slower U.S. growth. For now, Asia is taking the first hit.
Donald Trump on Monday released a series of signed tariff letters via Truth Social, announcing steep new duties on at least a dozen countries. Imports from Japan, South Korea, Malaysia and Kazakhstan will face 25 percent tariffs starting 1 August.
The U.S. has proposed a deal to the European Union that would keep a 10 percent baseline tariff on EU imports, with carve-outs for sensitive sectors such as aircraft and spirits, according to reports by Politico and Reuters citing an EU diplomat and a national official.
Imports from South Africa will be subject to a 30 percent duty, while products from Laos and Myanmar will be hit with a 40 percent tariff. Thailand faces 36 percent. The moves mark the sharpest escalation in U.S. trade barriers since the Trump administration returned to the spotlight.
“A big tariff increase raises one-off price pressures, but its main impact is likely to be a slowdown in the U.S. economy and pressure for U.S. rate cuts, with obvious implications for markets”, said Brad Setser, senior fellow at the Council on Foreign Relations and a former U.S. Treasury economist, told Investment Officer.
“Trump obviously wants a US economy that is less integrated into the global economy. Hence the tariffs,” Sester said.
The initial market reaction was modest. U.S. equities closed nearly 1 percent lower on Monday, pulling back from record highs reached earlier this month. Long-term treasuries edged higher.
EU-US talks still ongoing
Luc Aben, chief economist at Van Lanschot Kempen, said on Monday that the continent remains on edge as trade tensions escalate. “Trump has traditionally taken a tough stance on Europe,” he wrote in a note to clients. “That’s why European indexes ended last week on a tentative note. A sharp move against the continent could easily rattle markets again.”
Still, Aben pointed out that the U.S. returned to the negotiating table shortly after the initial jolt on April 2. “That shows how quickly tensions can de-escalate, even after a strong opening move,” he said.
Lazard sees 120 bps inflation increase
Trump had on Sunday hinted at sending “TARIFF Letters, and/or Deals” to as many as 15 countries, with enforcement delayed until August 1. His announcement of specific rates and targets for about a dozen countries on Monday has erased ambiguity, and likely ends the period of investor complacency.
“Today’s tariff announcements are a reminder that the United States has increased its weighted average tariff on goods imports to the highest level in almost 90 years,” said Ronald Temple, chief market strategist at Lazard. “Entering 2025, the weighted average tariff stood below 3 percent, but as of today it is just short of 16 percent.”
Temple warned that this will not be costless.
“An increase of this magnitude is likely to translate to an increase in U.S. core inflation of about 120 basis points by year-end. Any further increases likely add to the negative impact on U.S. inflation while also slowing global economic growth.”
His warning comes as traders had recently scaled back expectations for an immediate pivot by the Fed, following stronger-than-expected labor market data.
Fed seen cutting in September
The central bank is widely expected to hold rates steady this month and begin cutting in September. The 10-year Treasury yield has moved up 15 basis points from its low in June to 4.4 percent. The two-year yield hovers near 3.9 percent.
Temple said the market has yet to fully price in the economic damage. “Since the announcement that ‘reciprocal tariffs’ would be paused for 90 days, investors appear to have largely pushed aside concerns about the impact of these measures on macroeconomic performance and corporate earnings,” he said.
“However, this complacency is likely to be challenged as the inflationary impact of tariffs becomes more apparent and as companies begin paying much higher duties to import not only final goods but also inputs into products assembled in the United States.”
For now, trade tensions have yet to feed meaningfully into U.S. macro data. Headline inflation edged up to 2.4 percent in May from 2.3 percent in April, while core inflation held steady at 2.8 percent. Meanwhile, the unemployment rate dipped to 4.1 percent from 4.3 percent, reflecting continued hiring and a tighter labor supply amid stricter immigration enforcement.
Still, the labor market may be more fragile than it appears. “This week’s labor market data is more complicated than it looks,” Temple said. “Layoffs are low, but hiring has slowed to levels last seen more than a decade ago. Employers seem reluctant to hire or fire as they wait for clarity on trade policy and labor availability.”
The policy mix could produce an unusual and difficult scenario for central bankers. The combination of increased deportations that reduce worker supply and higher tariffs that increase inflation could result in lower employment, but a stable unemployment rate, alongside higher inflation and slower growth. “That’s not a recipe for rate cuts. It’s a recipe for stagflation”, Temple said.
Setser, meanwhile, flagged a deeper structural contradiction.
“Trump obviously wants a U.S. economy that is less integrated into the global economy,” he said. “But the size of the U.S. fiscal deficit implies an ongoing external funding need. It isn’t yet clear how this contradiction gets resolved.”
“Put simply,” Temple said, “the effects of U.S. trade policy changes will be material, and this story is far from over.”