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Former Treasury Secretary Janet Yellen said this week that President Trump has taken a “wrecking ball” to the economy and could not give a “passing grade” to its handling thus far. The financial markets would agree with her. The utter chaos and uncertainty of the past two weeks make any analysis going forward difficult at best.

Because tariffs are inflationary, long term Treasury bonds have been selling off, causing long bond yields to rise worldwide. President Trump has asked the Fed to lower rates, and the Fed refuses to do so because this would fuel inflation. As consumers recoil and households feel less wealthy due to a declining stock market and higher unemployment, Trump wants to see lower bond yields. But the opposite is happening, and is pushing up borrowing costs throughout the financial system. This is raising the already elevated fear of a recession.

Liquidity has been evaporating in the financial system just as we head into the largest refinancing of Treasury bonds ever known in one year ($9.2 trillion will be maturing in 2025, out of $36.2 trillion of total national debt). President Trump’s tariffs are unpopular abroad, so it is likely that there is less appetite from Europe, Japan, or China to buy these bonds. If foreign nations sell less to the U.S. because of tariffs, it makes sense that they will have fewer dollars to invest in U.S. Treasury bonds going forward to finance our national debt.

The economic damage caused from Trump tariffs could prove to be far more damaging than under Herbert Hoover in 1930, because imports were only 3% of GDP at that time. Today, they represent 15% of GDP, so the economy is five times more exposed than when we learned, ninety-five years ago, that tariffs cause turmoil. Even after the 90 day pause that Trump announced on certain reciprocal tariffs on April 9, Bloomberg Economics now estimates the average tariffs to be at 22.8%.

The logic of the current administration’s policies is fundamentally flawed. Its strategy of forcing businesses to manufacture in the U.S. will face limits, and is less about attracting manufacturing back to the U.S. than extorting businesses to “build a plant in the U.S. or else”. This may work to a limited extent, but is certainly no way to make America richer, stronger, or greater, nor is it an effective way to raise taxes. The point of tariffs is to raise prices on foreign goods, and to make foreign goods more expensive so that people will buy less of them, and buy more domestic goods. Either that, or to make foreign manufacturers produce their foreign made goods here in the U.S.

However, it takes many years to build a factory, and decisions to build factories in the U.S. are dependent upon how long businesses believe that the current protectionist policies will last. Also, import tariffs on raw materials, which are yet unknown, may shift with the whims of the administration going forward, creating uncertainty about input costs which will impact decisions about allocating capital toward production here. Furthermore, the Biden era financial incentives and tax credits including the Infrastructure Investment and Jobs Act (IIJA), the Inflation Reduction Act (IRA), and the CHIPS and Science Act, to incentivize reshoring of production from abroad, have all been frozen by Trump, and may lead to terminations and permanent disruptions. The labor needed to build factories is facing increasing risks of worker shortages in the construction sector considering mass deportations of undocumented workers.

Recently, there are signs of a slowdown in the U.S. economy that will give businesses further reasons to delay investment plans as consumers, firms, and the stock market soften their outlook while the government is being downsized and the risk of inflationary tariffs create new levels of uncertainty. Before committing large amounts of capital to produce goods in the U.S., where labor costs are expensive, businesses may favor more predictable manufacturing environments elsewhere,where they may still obtain cheap raw materials and labor. Imagine spending $1 billion building a factory in the U.S., only to discover that the supplies needed for production are then subjected to tariffs, or that that the products manufactured are no longer subject to tariffs, or that one’s cost of goods sold is now twice that of a competitor.

Treasury Secretary Scott Bessent’s Plan, referred to as “3:3:3”, refers to his target of achieving 3% GDP growth, a 3% budget deficit, and a U.S production of 3 million barrels of oil per day. The first he plans to achieve through deregulation and other pro-growth policies. This may prove to be difficult. Early this year, the Atlanta Fed estimated first quarter GDP growth at levels near 3%, but revised its estimates in early April to minus 2.4% Bessent’s plan aims to bring the federal budget deficit down to 3% of Gross Domestic Product (GDP), from a 6.4% deficit in fiscal year 2024. That high deficit under Biden was due to interest on the federal debt, which exceeded $1 trillion for the first time, and growth in Social Security, Medicare, and military expenditures. The Trump administration hopes to bring interest rates down, but with foreign capital fleeing the United States at an unprecedented level, bond yields are being pushed higher. In the week following the announcement of reciprocal tariffs, the US 10- and 30-year bond yields both jumped nearly a half percent.

How can tariffs bring interest rates down? By causing a recession. An induced recession would allow for the Federal Reserve to cut interest rates and refinance the nation’s debt at lower interest rates. But recessions are bad for people, bad for stocks, and bad for the government’s tax receipts. Even if a recession caused interest rates to decline by two percent, the savings on interest payments for the U.S. government would be far outweighed by lower tax collections and a rise in unemployment benefits. The Fed only controls short term interest rates. Investors control long term interest rates, and many of those investors are from abroad. We in the U.S. live in a debt fueled economy, and 23% of that debt is borrowed from foreign investors, both public and private. The exodus of foreign capital from U.S. debt is causing long term interest rates to rise at one of the fastest paces in modern history. That exodus is causing the bond yield curve to steepen, which is tightening financial conditions (think mortgage rates).

Much is discussed in the press about Trump’s tariff rates, but there are two other issues that the current administration sees hindering U.S. exporters: foreign regulations and value added taxes. These latter two have an equally large impact because they add to the cost of American products sold abroad. The Fed views the recently implemented tariffs as a significant economic shock with the potential to slow growth, elevate inflation, and increase the risk of recession. If the average tariff rate reaches 25%, Fed Governor Waller sees unemployment rising to 5%, and substantial economic deceleration. In the worst-case scenario, economists at Bloomberg have estimated that, using a Fed model, a 28% overall increase in tariffs could translate into a 4% hit to U.S. GDP and add 2.5% to core PCE, an inflation measure preferred by the Federal Reserve.

The Yale Budget Lab, a non-partisan policy research center in New Haven, now estimates that the average American household will lose $3,800 per year from the tariffs announced in April.

The stock market is likely to remain fragile and volatile over the course of the second quarter, and prudence is advised. The consequences of the Trump tariffs, combined with a worsening fiscal situation in the U.S., and an exodus of foreign capital may take some time before stability reasserts itself. As dialogue increases between the U.S. and its trade partners, things should become more investor friendly as tensions subside in the coming months. For the first quarter of 2025, the S&P 500 index was down 1.2%, the Dow was down 4.6%, and the Nasdaq was down 10.41%.

Wishing you a pleasant springtime season and a quick resolution to the recent geopolitical uncertainty!