MNI INTERVIEW: Tariffs' Inflationary Impact Will Last - Koenig

U.S. monetary policy was neutral at best before President Trump's trade war, and tariffs are set to exacerbate the existing decline of potential growth and increase upside risks to inflation, Evan Koenig, former senior aide to the president of the Dallas Fed, told MNI. 

Even before the White House's 145% tariffs on China and 10% on everyone else went into effect in April, nominal demand growth was inconsistent with further declines in inflation, last week's first quarter GDP report and employment data show, Koenig said. 

Final sales to private domestic purchasers, a core measure of output growth, accelerated to a seasonally-adjusted annual rate of 5.5% in the first quarter from 5.3% a year ago. Aggregate weekly payrolls, which combines hiring, wages and hours worked for private-sector employees, rose 5.3% in April compared to 4.6% a year ago. 

Core PCE inflation has been accelerating over the past three months to 3.5%, compared to its six-month annualized rate of 3.0% and 12-month rate of 2.6%. 

"Policy is at best neutral. I don’t think we were in as good shape as most people think or have argued, and Trump's trade policies will increase downside risks to output growth and upside risk to inflation going forward," Koenig said. (See: MNI INTERVIEW: Fed On Hold Until Tariff Pause Passes- Lockhart)

LOWER GROWTH POTENTIAL

The significant rise in tariffs will likely cause major disruption to trade patterns and reduce efficiencies – and come at a time when potential growth is already slowing, he said. 

The workforce participation rate for people age 55 and over has not bounced back much after Covid and is trending downward as baby boomers retire. For a time, increases in the participation rate of prime age workers were offsetting that decline, creating room for noninflationary growth, but that seems to have come to an end, he said. 

Population growth has also waned as immigration slowed, pointing to a lower rate of sustainable output growth, Koenig said. 

"The sorts of tariffs that have been talked about I suspect would have fairly long-lasting effects and be disruptive over a period of time as firms try to adjust supply chains and some close down and others open up," he said. 

"It’s going to take a while for those adjustments to occur, and while they are occurring that will hold down potential GDP growth. That will then translate into inflation pressures that will take several years to play out."