Trump's Trade War Renews Global Economic Uncertainty

Donald Trump's renewed trade war has sparked concerns about its impact on the global economy. The current macroeconomic conjuncture is vastly different from the one a decade ago, when the first round of tariffs was introduced.

In contrast to the sluggish recovery from the Great Recession, actual output now exceeds potential, and unemployment is at its natural rate. Inflation has also increased, particularly after the US war with Iran led to higher oil prices. The US Federal Reserve (Fed) no longer has the flexibility to keep monetary policy accommodative in the face of tariff-related price shocks.

The risk of the Fed losing credibility if it fails to respond to rising inflationary pressures generated by new tariffs is a concern. Bond markets have already priced in higher interest rates, driven by rising inflation expectations and massive debt issuance associated with AI 'hyper scalers.' This could erode public support for the administration's policy agenda.

The Canadian economy is well-positioned to absorb the costs of the trade shock, thanks to its low net general government debt burden. However, targeted support policies are needed to help workers and sectors affected by the Trump tariffs.