To head off a recession, Congress needs to pass a tax bill now.
After posting strong 2.8% growth in 2024, GDP fell 0.3% in the 1st quarter.
This disappointing performance was caused largely by businesses and households speeding imports ahead of President Trump’s Liberation Day tariffs.
Exports grew too but were overwhelmed by additional foreign purchases.
Many imports were stashed in manufacturing and retailing inventories, which count positively as investment in computing GDP, but those used immediately in factories or sold to final consumers are a subtraction from GDP.
If businesses and consumers had not rushed to buy for immediate use foreign capital goods, cars and appliances ahead of the new tariffs, GDP would have grown about 2.3 percent—roughly in line with growth in recent years.
Importantly, 1st quarter investments in equipment and software were particularly robust as businesses remain optimistic about longer-term U.S. economic prospects.
New tariffs on autos, steel, aluminum, Mexico and Canada, the 30% additional taxes on most Chinese imports and 10% additional duties on most other foreign goods raise the average potential taxes collected on all imports by about 11 percentage points.
Such a $355 billion excise tax—about 1.2% of GDP—would be a mammoth fiscal brake. Add the unusual knock-on effects of newly unemployed workers spending less and the extraordinary negative impacts these tariffs are having on broader consumer sentiment, and the negative consequences of Trump’s tariffs on GDP could easily exceed 2%.
In January, economic forecasters were expecting 2% growth for this year. Hence, the economy could contract for two consecutive quarters and fall into a recession just as Republicans in Congress are gearing up for the midterm elections.
U.S. importers should lower the actual taxes collected by shifting purchases from high tariff jurisdictions—in particular, China given the political and security risks—to lower tariff countries like Vietnam and Mexico and domestic suppliers.
However, alternative manufacturing capacity often can’t be found quickly, prices will rise and stores won’t stock some items—choices on Amazon and at Target will shrink.
U.S. manufacturers will bear new costs as they reengineer products to do without some imported components.
The mix of mitigating and aggravating effects is difficult to put into econometric models.
Just as large corporations can’t offer earning guidance until the tariff picture clarifies, economic projections of the overall consequences of Trump’s tariffs are rough estimates at best.
Unknowns include the scope and speed of implementation of new trade agreements the Administration is negotiating with major trading partners.
If those slash tariffs and accomplish broad liberalization of non-tariff measures, then the gains may prove worth the more-immediate upheaval. But if trade talks only delay reinstatement of some higher tariffs suspended on April 9, secure commitments to purchase more U.S. energy and other commodities and continue endless negotiations on tougher issues, then little will have been accomplished.
Near-shoring, friend-shoring and reshoring manufacturing will accelerate, and the economy will urgently need a fiscal boost.
Sequencing is critical.
Trump can raise tariffs quickly, but Congress takes months to cut taxes.
Simply extending the provisions of the 2018 Tax Cut and Jobs Act that expire on January 1 would keep fiscal policy unchanged—that wouldn’t offset the negative effects of Trump tariffs, diminish recession risks or alter the federal budget deficit.
An additional $300 billion tax cut to mitigate the negative effects on growth of the new tariffs is needed ASAP!
The reconciliation process for writing a tax bill in Congress forces Republicans to plan in terms of 10-year intervals, grand spending reforms and issues like inequality—for example, tax breaks for tips, overtime and Social Security benefits. But in the long run, we are all dead.
Optimally, any new tax cuts should be retroactive to April.
Cutting interest rates won’t pack the necessary punch, and Trump hectoring Federal Reserve Chairman Jerome Powell is distracting and counterproductive.
Consumers need more disposable income to deal with the inflationary effects of the tariffs on everyday items. Businesses need the opportunity to keep more after-tax profits to finance the reengineering of supply chains and building out more domestic manufacturing.
So far, we haven’t seen many layoffs.
The April jobs report was encouraging but as inventories piled up during the pre-tariff import surge dissipate and businesses adjust to whatever more-permanent trade policy regime emerges, unemployment will rise. And the 1st quarter pause to growth could be the precursor of a tough recession or long period of halting slow growth coupled with rising prices.
To avoid stagflation, Congress needs to cut taxes now.
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Peter Morici is an economist and emeritus business professor at the University of Maryland, and a national columnist.