Tariff Fuel Market Volatility

• Another round of tariffs took effect today. Global equity markets are down, and bonds are rallying across the curve.
• USD is trading on the defensive as the US growth outlook is flashing yellow. Atlanta Fed Q1 GDPNow model is now tracking at -2.8% SAAR.
• President Trump accused Japan and China of weakening their currencies suggesting more tariffs are in the pipeline. JPY and CNH are firmer.

Another round of tariffs took effect today. US duties on Chinese imports doubled to 20% while imports from Canada and Mexico have been hit with 25% tariffs, with a reduced 10% rate for Canadian energy. US President Donald Trump also announced plans to impose tariffs on “external” agricultural product on April 2. Tariffs on automobiles and country-by-country reciprocal tariffs are planned to begin the same date.

Following the tariff announcement, USD/CAD rose briefly by over 1% and USD/MXN surged by 2.4% from yesterday’s lows. USD/CNH edged down as President Trump accused China of weakening their currency.

Canada and China retaliate. Canada responded with 25% tariffs against $155 billion of US goods – starting with tariffs on $30 billion worth of goods immediately, and tariffs on the remaining $125 billion on US products in 21 days’ time. China plans to impose from March 10 an additional 15% tariff on US chicken, wheat, corn and cotton products, and an additional 10% tariff on sorghum, soybeans, pork, beef, seafood, fruits, vegetables and dairy products.

According to the non-partisan Budget Lab policy research center at Yale, the effects of the tariffs on China, Mexico, and Canada, will lower US real GDP growth by -0.6pts in 2025. US PCE price level is estimated to rise between 1% and 1.2% in the short-term.

The US growth outlook is already flashing yellow which is a drag on USD and Treasury yields. Manufacturing activity almost stalled in February with the ISM index dropping 0.6pts to 50.3 (consensus: 50.7). The details were poor. The New Orders and Employment indexes dropped back into contraction territory while the Prices index surged to 62.4, the highest level since June 2022. The Atlanta Fed Q1 GDPNow model is now tracking at -2.8% SAAR, down from -1.5% on February 28.

Nevertheless, we remain constructive on the US economy in large part because of solid labor market conditions. St. Louis Fed President Alberto Musalem summarized it well yesterday highlighting that “Payroll growth averaged 237,000 from November to January—exceeding estimates of the break-even pace—and the unemployment rate ticked down to 4%. Job openings and quits rates have declined, but layoffs have remained low. A recent National Federation of Independent Business survey found a sizable net percentage of small businesses are expecting to add jobs in the coming three months. Recent surveys conducted by several Federal Reserve banks also show increases in the percentage of firms planning to add jobs in the months ahead.”

Friday’s February non-farm payrolls data will shed more light. Recent government layoffs are a downside risk to the labor market outlook. But it’s worth noting that total federal jobs account for less than 2% of total non-farm employment. Today, New York Fed President John Williams speaks (7:20pm London) and there are no US economic data releases. President Donald Trump is slated to address a Joint Session of Congress (tomorrow, 2:00am London).

JAPAN

President Trump accused Japan and China of gaining an unfair advantage through weaker currencies suggesting more tariffs are in the pipeline. I’ve called President Xi, I’ve called the leaders of Japan to say, “You can’t continue to reduce and break down your currency. You can’t do it, because it’s unfair to us.” It’s very hard for us to make tractors — Caterpillar — here, when Japan, China, and other places are killing their currency, meaning driving it down.

Both Japanese Prime Minister Shigeru Ishiba and Finance Minister Katsunobu Kato rebuffed Trump’s claim emphasizing that Japan hasn’t adopted a so-called yen-weakening policy. Kato added “That can be understood by looking at our recent currency interventions.”

To be fair, JPY is very cheap. Our PPP model pegs USD/JPY fundamental equilibrium at around 98.00. But USD/JPY overvaluation is justified by wide US-Japan real 10-year bond yield spreads.

AUSTRALIA

AUD/USD is holding above 0.6200. The RBA Minutes of the February policy meeting offered more insights on bank’s guidance for a cautious easing path ahead. At that meeting, the RBA debated keeping rates steady or trimming the policy rate 25bps to 4.10%. The RBA chose to deliver on rate cut expectations. According to the Minutes “members agreed that their decision at this meeting did not commit them to further reductions in the cash rate target at subsequent meetings.” Members noted that “interest rates in Australia had not risen as high as elsewhere and that the labour market domestically was in a much stronger position than had been the case in other economies when their central banks first lowered interest rates.”

Australia’s already released GDP input data point to decent underlying Australian economic growth in Q4 (tomorrow, 00:30am London). Real GDP is expected to rise 0.6% q/q vs. 0.3% in Q3 driven by household consumption. Net exports is estimated to add 0.2pts to GDP growth while business investment is projected to be the main drag. Markets brought forward the timing of the next 25bps RBA rate cut to May from July as heightened trade tensions weighs on the global economic outlook.