Are Tariffs Really Inflationary?

Marc Zabicki (00:00):

As market strategists and asset allocators, we anticipated President Trump's policy agenda, the one that he campaigned on would keep us busy as he was likely going to shake up Washington DC a bit. That shakeup would probably result in some occasional market turbulence as market participants juggled potential outcomes. Well, we've indeed gotten what we anticipated. In this latest edition of LPL Street View, we take a brief look at the issue of tariffs given President Trump's new threatened trade toll on Mexico, Canada, and China. When it comes to potentially rising tariff policy, we are indeed in unique territory, but we can perhaps glean some insight from President Trump's first stint in the Oval Office.

Marc Zabicki (00:55):

So let's start off with a long-term look at the average tariff rate over the last 30 years. It appears in practice that tariff policy was a benign tool as tariff rates were in the low single digits for most of the last 30 years. That is until President Trump 1.0 in 2019 where the average rate spiked to nearly 14%. So let's indeed take a look at the year 2019 a bit more closely. We noticed that U.S. inflation moved higher from 1.5% to 2.3% during that year. So there was a modest lift in the level of prices, but was that due to tariff policy alone? What we also see is that the fed funds rate was lowered from 2.5% to 1.75% during 2019. Did that monetary tariff policy change help cause a lift in price levels? Perhaps in part. The conclusion that higher tariffs in 2019 caused a consequent and sole lift in inflation does not seem to be exact.

Marc Zabicki (02:06):

Given the public discussion over tariff policy, one would assume that this is a closed case. Higher tariffs are immediately inflationary. What we see is there is very little recent data to aid in drawing that straight-line conclusion. Even the data in 2019 was not definitive as the lift in inflation during the period was not far different from what occurred in previous years. What we do know is that President Trump appears ready to use tariffs as a policy tool. Whether that tool is primarily a negotiation tactic or a policy change in hopes of garnering sustained revenue remains to be seen. So far it appears to be the former, although his administration has indicated that tariff revenue could

Marc Zabicki (02:59):

be considered as a potential offset to lower U.S. tax policy. What's the bottom line here? We believe investors should not be tactically adjusting portfolios based on the winds of policy change. We have indicated that a higher degree of volatility can be expected this year as fast moving traders swing from one policy headline to the next. You need to be willing to digest that or be willing to take a bit less risk. For most investors, however, changing strategies based on what you read in the newspaper is probably not the way to go. So pick a strategy you are comfortable with as policy change should indeed be upon us over the next several years. Thanks for listening and as always, allocate wisely.