“I used to think that if there was reincarnation, I wanted to come back as the president or the pope or as a  .400 baseball hitter. But now I would like to come back as the bond market. You can intimidate everybody.” US President Bill Clinton’s political adviser, James Carville, in 1993:

We’ve discussed the President’s tariff war before. And now he has another plan, to reduce US taxes by $5tn. The combination has reawakened the bond vigilantes and caused Moody’s to downgrade US debt:

• Interest rates are starting to rise, as the chart shows
• Bond investors were already being asked to fund a $36tn deficit
• Now Trump’s tariff war is returning US tariffs to pre-WW2 levels
• Even after his China climb-down, they will still average 16.4% – the highest since 1937

In turn, as Yale’s Budget Lab note, this will increase consumer prices by 1.4%. It will cost consumers $2300 per household.

IMF WARNS OF MAJOR DOWNSIDE FOR GDP

It won’t just be the US economy that suffers, of course. Everyone will suffer from this return to ‘beggar-thy-neighbour’ policies.

The US led the way after the War in reducing tariffs. It never wanted to suffer another 1930s-style Depression. But apparently that lesson has been forgotten:

• The US suffers the most, seeing GDP growth fall from a forecast 2.7% in January to just 1.8%
• But the other G7 countries are also badly hit, as the IMF chart shows

TRUMP AIMS FOR MAJOR TAX CUTS, WHICH WILL ADD TO THE DEFICIT

Trump’s tariff negotiations are already proving far more complex than he expected. There was a very small ($1tn) UK deal. And he has already had to climb down on his 145% China tariffs, without getting a clear commitment for the future.

This is a problem, as he is also determined to continue his previous tax cuts, which are mostly set to expire this year.

The original idea was that these would be paid for by massive cuts in Federal spending, and a major rise in Customs revenue from tariffs:

• Elon Musk originally justified his DOGE unit by saying it could save up to $2tn
• Today, however, the total expected savings are just $150bn
• And some existing cuts may well be reversed by the courts

So any tax cuts will inevitably add to the deficit. And as the Committee for a Responsible Federal Budget reports, the current House of Representatives plan would add $5.2tn.

This is higher than the House estimate of $3.8tn, which assumes certain tax cuts expire after 4 years. But as the CFRB note, it is very unlikely that Congress would allow this to happen, just before an election.

The Budget is also politically risky as it includes $880bn cuts to Medicaid.  This would hit MAGA voters.

INTEREST RATES ARE ALREADY RISING 

Investors are used to ‘smoke and mirrors’ proposals from Congress that mask what is really happening.

But they are not used to Tariff wars. Nor are they used to major US companies such as Wal-Mart, Target and Home Depot telling the President his policies will lead to empty shelves.

Understandably, they are getting nervous. And their nerves aren’t helped by the fact that the deficit is already the largest in history, outside recessions, as the Bloomberg chart shows.

Republicans are racing to finish the draft budget by Memorial Day at the end of the month. Bond investors can be forgiven for getting nervous about who is going to pay the bill for Trump’s tariff war and tax cuts.

More By This Author: