Given the extreme moves we saw in the market today after yesterday’s announcement of the “reciprocal” tariffs, we’re moving up the weekly update. Before we move forward, if you need a quick refresher on tariffs, check out our recent post that discusses the basics here. If you’re already up to speed, we’ll move right into the recent market performance and then look deeper into why reciprocal is in quotes above.
Needless to say, the announcement on Wednesday evening was worse than most market participants expected. Hence, there was an immediate reaction in the futures market as the rates were shared with the media. Futures dropped from 3%-5% based on the market, which continued into this morning’s opening bell. And it continued throughout the day with the S&P 500 down -5%, the Nasdaq down -6% and the Russell 2000 down -6.6%.
These types of moves are, without question, painful to experience. It is human nature to feel the need to do something. However, it is in these times when sitting back and doing nothing can be beneficial. What do we know for certain? Only that new tariffs were implemented, and each country will presumably assess the expected damage. Depending on their assessment, they are likely to take one of three courses of action:
- Announce reductions in their tariffs on U.S. goods, likely leading to reductions on both sides.
- Add retaliatory tariffs on U.S. goods, further escalating the trade war.
- Do nothing, accept the new tariffs, and continue trading with the U.S. under the new terms.
Given the three potential outcomes, there is still a lot of uncertainty. Multiply those three outcomes by all the countries impacted, and you’ll see there are still many variables left to shake out. Given that, the risk of whipsaws in the market is incredibly high. If you get good news, the market may rush higher, or if you get bad news, the opposite is likely to happen. All this is to say there is no reliable way to “know” what the market will do next. Focusing on your long-term strategy is still the prudent way to go.
Now, let’s move on to these “reciprocal” tariffs. As we noted in the title, they were quite a bit worse than expected, with a baseline rate of 10% all the way up to 50%. When you weigh all the tariffs on a trade volume basis, it comes close to hitting 30%, the highest tariff rate in over 100 years. Needless to say, this was out of the ballpark compared to the high end of expectations, and this is why the market is reacting so poorly.
Finally, why are the quotes around “reciprocal”? Well, in the days leading up to the announcement, there were many indications that the rates would, in fact, be reciprocal but “nicer” (i.e., lower) than what other countries imposed on the U.S. However, it didn’t take long after the announcement for analysts to uncover the actual calculation (and for the White House to confirm). Effectively, what the administration calls the “tariff rate imposed on the U.S.” is no more than a country’s trade balance with the U.S. divided by how much they export to the U.S.
For example, Indonesia, which exports $28B worth of goods to the U.S. and only imports $10B from the U.S., the U.S. has an $18B trade deficit. This $18B is divided by Indonesia’s U.S. exports of $28B to get 64% (see line 10 of the image below). From there, we are being “nice” and cutting the “tariff” rate in half to 32%, which is what will be applied. As should be clear, this method has nothing to do with the actual tariffs a country imposes on U.S. goods.
So why is this such a flawed methodology? Well, the best example I found through hours of reading used the African nation of Lesotho. Lesotho happens to be one of the poorest countries in Africa, with an annual GDP of $2.4B and where over 50% of the population lives on less than $4/day. They export approximately $236M worth of goods to the U.S. (predominantly diamonds) but only import $4M from the U.S. This means the “tariff” rate they are charging the U.S. is about 99%, so they’ll now have to pay a 50% tariff.
First, given the economic situation in Lesotho, it should be clear that as a country, they cannot be expected to have balanced trade with the U.S. There is simply not enough wealth to buy enough U.S. products to make that happen. Moreover, with the largest export being diamonds, there is no tangible benefit to the American worker by imposing such a tariff. You can’t simply bring back diamond mining jobs to the U.S.
And the final problem. Lesotho is part of a customs union, which means their import tariffs are the same as every country within the group. However, the other four countries received “reciprocal” tariffs between 10%-37%, even though they all have the same import tariff rates. That makes sense, right?
Granted, this is a specific example, but it exposes the fundamental economic incoherence of these new tariffs. Rather than addressing real trade barriers, they punish countries based on trade deficits that arise from structural economic realities. It highlights why blanket, across-the-board policy rarely works in the long run.
Wrapping up, the surprise at both the magnitude of the tariffs and how they were calculated has left many people scratching their heads today. And the extent of the bewilderment, unfortunately, is perfectly captured by the reaction in the market. Only time will tell how this plays out, but there is still time for cooler heads to prevail.
Markets / Economy
- “Liberation Day” was much more severe than markets had anticipated, as the S&P was down -3.3%, the Nasdaq was down -4.5%, and the small-cap Russell 2000 was down -5.6% through four days.
- The number of job openings decreased by 194K to 7.568M in February from an upwardly revised 7.762M in January and below market expectations of 7.63M.
- During the week ending March 22, continuing jobless claims were 1,903M, an increase of 56K from the previous week’s revised level. This is the highest level for insured unemployment since November 13, 2021, when it was 1,970M.
Stocks
- U.S. equities were in negative territory. Energy and Technology led the decline, while Consumer Staples and Utilities outperformed. Value stocks led growth stocks, and large caps beat small caps.
- International equities closed lower for the week. Emerging markets fared better than developed markets.
Bonds
- The 10-year Treasury bond yield decreased 20 basis points to 4.05% during the week.
- Global bond markets were in positive territory this week.
- Government bonds led for the week, followed by corporate bonds and high-yield bonds.
