If we wind up with significant commodity inflation, though, here is how events might unfold.
In the first chapter, various Fed officials and the president fan out to give speeches to offer reassurances of various kinds. These will range from a reminder that the Fed is on guard against inflation getting out of hand to deflection and blame-shifting and threats of more tariffs.
Next will be larger and more rapid increases in the federal funds rate. This will be accompanied by a shift in the tone of the Fed commentary about monetary policy, with language suggesting increasing concerns about inflation. We are already seeing corporate profit forecasts fall, but things will become more serious once we actually see industrials and manufacturers miss quarterly earnings forecasts. By this point, consumers may start seeing larger prices increases than they’ve been accustomed to in recent years.
Increases in the fed funds rate will eventually raise the cost of credit, and that will begin to spread the hurt to other sectors, such as the financial and real-estate industries. If it gets to this point, the economy will start slowing, with the risk of a recession becoming more likely. The financial markets will see this and begin to trend lower long before the official start date of any recession.
When Trump was elected, I cautioned investors not to jump to conclusions. Politicians have to really screw things up before it starts affecting earnings and therefore stock prices. As recently as last month I suggested that a few modest tariffs won’t derail the economy — and besides the impact is already reflected in share prices.
Now, I am starting to consider the very real possibility that the latest White House trade policies will indeed have a significant negative economic impact, and do very real damage.
The facts have changed, and therefore we should be ready to changes our minds.
This column was provided by Bloomberg News.