Trade
Jared Franz
Tryggvi Gudmundsson
For advisors only. Not for use with investors
A new round of tariffs targeting Canada, Mexico and China has whipsawed financial markets in recent days as investors wrestle with the implications of rising policy uncertainty and the impact on the global economy.
Assessing the potential damage to economic activity is challenging, given the rapidly changing news events, including the on-again, off-again nature of the tariffs, last-minute carve outs, select concessions, and the likelihood that some newly erected trade barriers are a negotiating mechanism to achieve other policy goals of the Trump administration.
The unfolding narrative could, and probably will, change tomorrow, but one thing won’t: the relationship between Canada and the U.S. has fundamentally changed just as it has for Mexico, Europe and indeed, the rest of the world.
Our Capital Strategy Research team is following the events closely, analyzing various tariff-related scenarios, how they could ultimately play out, and in what way, if at all, they may change our big-picture outlook on the markets and the economy. But we are also cognizant of the fact that — as one of our colleagues noted — sometimes you have to “turn off the models.” The standard models for analyzing the global economy are based on 40 years of data that covers a period where the direction of travel was uniformly towards greater cross-border integration, not less. Add in the high level of uncertainty and you’re left with an environment where model results must be viewed with caution.
That’s why we’re using this four-box framework, along with extensive scenario planning, to consider a range of potential outcomes for the economy, markets and companies.
Sources: Capital Group, American Compass. As of March 5, 2025.
A key question for investors is whether we are at the beginning of a new structural shift in the geopolitical world order, or are we witnessing a continuation of trends that have been brewing over the past decade? The answer is probably both. Trump’s election victory represents a structural shift in how the U.S. approaches its leadership role in the world, but it’s also an extension of forces that have been in place in the U.S. for many years and are likely to continue, in our view. That message has been delivered more forcefully in the past few days, which explains much of the market volatility we’ve seen in late February and early March.
Against this backdrop, we view the evolving tariff story in four ways:
1. Decoupling
Part of the motivation for the latest tariffs is to reduce dependence on single-source supply chains, particularly in countries such as China, where the trade war has been focused for years. This type of tariff is aimed at bringing some manufacturing activity back to the United States.
2. Rebalancing
So-called reciprocal tariffs are intended to restore balance with other trading partners, such as Europe, Japan, Mexico and Canada. The goal here is to lower the U.S. trade deficit and compel these countries to facilitate more balanced trade.
3. Negotiating
The Trump administration has made it clear that some tariffs are specifically meant to pressure other countries to assist with U.S. policy goals.
4. Funding
Tariffs are seen as a way to raise revenue for the U.S. government and potentially offset the impact of other policy goals, including tax cuts and regulatory reform.
These four motivations will have an important role in how the story plays out. For instance, tariffs that are used for negotiating purposes are unlikely to persist over long periods of time. Conversely, tariffs that are part of a larger decoupling process could be here to stay.
As those issues are sorted out, the impacts on the U.S., Canadian, Mexican and global economies could be significant. But until we know the details and see at least some of the initial outcomes, it will be tough to reach a conclusion — beyond the obvious fact that we are navigating through a cloud of extreme uncertainty.
Our base case remains that the U.S. economy will continue on a path of healthy growth this year, driven by solid consumer spending and business investment, which in turn are supported by strong income growth and accelerating corporate profits. The outlooks for the Canadian, Mexican and other economies depend in part on the respective reaction functions. With that, it will be important to monitor not just developments in the U.S., but across geographies. Early examples include new fiscal pledges in Europe and China
We have always believed that focusing on fundamental drivers of the economy, such as income and profits, is the best way to forecast activity. However, we must also acknowledge that the sheer number of geopolitical developments that have occurred in the past two months might be creating enough uncertainty that economic activity could diverge from those drivers in ways that we have not seen before. Which is why, as fundamental, bottom-up investors, it may just be time to “turn off the models” and judge the impact of these unprecedented events as they unfold.
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