Tariffs Impact Prices (PPI), And Rates Shoot Higher; Uh Oh…

The Producer Price Index (PPI) or wholesale inflation came in hotter than expected today, and rates shot higher.

This matters so much because inflation impacts interest rates and, therefore, the real estate market significantly.

Tariffs Impact Prices but Not “Inflation”

As the PPI indicates, when import and input costs increase, prices usually go up. But prices don’t continually go up like we see when the money supply is increasing (prices adjust one time because of tariffs and then stop).

Actual “inflation” occurs when the supply of money in the economy is increased faster than the economy grows.

This happens when the Fed is doing Quantitative Easing (where they buy Treasuries and Mortgages with printed money) and when banks lend money at a faster pace than normal (like they often do when rates are artificially low).

Here is an excellent 3-minute video explaining this: Will Rate Cuts Increase Inflation?

So, Keeping Rates High to Fend off Tariff Inflation Is Stupid

This is a point that Steve Forbes and Steve Hanke both make. If the Fed is worried about inflation, but the creation of too much money is the leading cause of inflation, higher rates will do nothing to fend off tariff-related price increases.

Tariffs Could Cause “Deflation;” the Good and Bad of Tariffs

The irony is that tariffs could damage the economy so much that they could actually foster deflation like we saw in the 1930s, after the Smoot-Hawley Tariff Act went into effect.

Here Are Some Reasons for Tariffs:

1. To bring manufacturing back to America’s heartland – to provide jobs that were lost over the last 30 years to free trade
2. To ensure America’s vital industries (defense, batteries, medical) are not too dependent on China.
3. To raise additional revenues to help pay off our federal debt.
4. To stop China from taking over key American industries by allowing patent theft and with mass subsidies that allow manufacturers to undercut American firms.
5. To allow Trump to use them as a strong bargaining chip in negotiations with other countries that need access to America’s giant market.

Here Are Reasons Against Tariffs:

1. They foster “uncertainty” – so firms will be afraid to invest or expand when they don’t know what their costs will be (this is huge).
2. Advanced countries typically evolve out of manufacturing in favor of services in any case, so what we saw over the last 30 to 50 years is normal.
3. Robots are taking over manufacturing, so tariffs may not be the job boon that people expect.
4. They are an additional tax and regulation – and will thus invariably inhibit an enormous amount of trade and transactions (slowing the economy).
5. Lower taxes and deregulation are a better way to revive manufacturing.

Here is a 2-minute interview with famed economics historian Niall Ferguson, in which he explains much of this.

And once again, I suspect Mr. Trump and his Treasury Secretary know all of this and are imposing tariffs anyway because they believe strongly in the pro-tariff reasons.

Their likely hope is that the massive capital expenditure/business investment boom (that they are heavily courting and encouraging), a major deregulation push, lower energy prices, and lower rates will offset tariff damage.

Nobody has a clue what will happen (because we’re in unprecedented times), but I suspect that it is more likely than not that tariffs will slow the economy – resulting in lower rates (not more inflation).