Trade War Will Create Further Economic and Financial Market Stress
NAHB Chief Economist Robert Dietz provided this economic and housing industry overview in the bi-weekly newsletter Eye On the Economy.
A global trade war is underway, causing significant economic and financial market disruptions. As initially announced, the U.S. imposed trade sanctions including a 10% minimum tariff rate on virtually all U.S. trading partners, combined with higher “reciprocal” tariff rates — which were, in fact, taxes on bilateral U.S. goods deficits rather than tied to specific foreign tariff or non-trade-based rules. However, even those rates were four times higher than they should have been, given the equation specified. It appears these higher rates were designed as leverage for negotiations.
As these rates were set to apply on the evening of April 8, financial markets shuddered. The 10-year Treasury rate spiked to 4.5%, alarming investors as a bond market repricing occurred. On April 9, President Trump set a general 90-day pause on the applicable reciprocal rates (leaving in place the 10% baseline tariffs on all countries except for Canada and Mexico), subject to bilateral trade negotiations.
However, this pause also excluded China, which is now subject to a prohibitive (perhaps a virtual trade embargo) 145% tariff rate. This rate will disrupt supply chains for Chinese goods, raise prices for these items, and cause financial market repricing. Recognizing this risk, an exemption of this tariff was set on Friday of last week for computer chips and other electronic items.
For financial markets, the 10-year Treasury rate is settling at near 4.5%, as an additional risk premium for U.S. government debt is imposed by investors. The rate has also increased due to expectations for higher inflation in 2025. Separately, duties on Canadian lumber are set to rise from 14.5% to 34.5% later this year.
Treasury rates are worth watching in the weeks ahead. There remains a liquidity risk if a significant portfolio reshuffling occurs. Such liquidity risks can produce significant financial and economic distress. However, the bond market appears orderly, for the time being. The other risk for bonds, including mortgage-backed securities and mortgage interest rates, remains a political retaliation via a large-scale sale of foreign-owned debt. Such an action would spike interest rates.
Although the negotiations may yield growth opportunities for U.S. energy firms and other exporters, most forecasters are now saying a recession is more likely than not for 2025. NAHB’s forecast for GDP growth in 2025 has been revised lower to near 1%, with flat readings for several quarters as we believe negotiations and carveouts will continue. Our probability for a 2025 recession is a smaller, one-in-three chance. Nonetheless, we expect inflation to rise in the quarters ahead above a 3% annual rate and for the unemployment rate to approach 5% as a growth slowdown occurs.
While we expect distress as trade flows from China are interrupted, it is important to recall recent data that showed solid economic momentum. Inflation data surprised to the good side for March: The Consumer Price Index measure of inflation slowed to a 2.4% year-over-year rate, with shelter inflation slowing to 4%. Absent the trade war, these data would have set the Federal Reserve on pace for additional short-term interest rate cuts. And while overall producer prices fell in March, the prices for residential construction materials rose just 1.3% year over year.
And despite recent government job cuts, the economy created 228,000 jobs in March, with home builders and remodelers adding 13,000 positions. The job openings count for construction remained low, at just 242,000.
Also, NAHB Remodelers continue to report relatively good market conditions. The NAHB Westlake/Royal Remodeling Market Index declined five points in the first quarter, but fell to an otherwise positive reading of 63. NAHB is bullish on the future of the home improvement sector for a variety reasons, including an aging housing stock. New NAHB research finds that almost half of owner-occupied homes were built before 1980.