Updated April 14, 2025
In the ever-evolving U.S. tariff policy landscape, the administration appears to have shifted its emphasis from broad, country-specific levies to a regime centered on China and strategic industries. Still, we should not assume the president won’t reinstate reciprocal tariffs on select countries after the 90-day review period, depending on how negotiations progress. As of April 14, here is the current state of play:
- A 10% baseline tariff on nearly all imports globally, excluding Canada and Mexico, which are carved out under United States-Mexico-Canada Agreement (USMCA).
- A 25% tariff on non-USMCA-compliant imports from Canada and Mexico; Canadian energy faces a 10% tariff.
- A 145% tariff on imports from China, prompting retaliatory tariffs of similar magnitude from Beijing.
- A 25% tariff on cars, auto parts, steel and aluminum. The administration has flagged pharmaceuticals, semiconductors, lumber and copper as potential future targets.
- Key exceptions, including cell phones and computers manufactured in China, with further carve-outs likely.
U.S. effective tariff rate
Sources: USTR, FS Investments, as of April 14, 2025.
Even after the postponement of country-specific tariffs, these taxes bring the U.S. effective tariff rate to around 25%, from 2.4% at the end of 2024, based on the current import mix. Of course, tariffs of this magnitude on China will drastically reduce imports from the country, likely bringing the effective tariff rate to somewhere closer to 20%.
Searching for certainty
While the tariffs themselves will likely cause significant friction, investors, consumers and businesses are seeking clarity and forward guidance above all else. Policy uncertainty has spiked to unprecedented levels and has become itself a significant economic risk. Unfortunately, the ever-changing nature of tariff policy since April 2 has made it difficult for households and businesses to plan for the future, and for investors to commit funds to those activities. Even after the postponement of country-specific tariffs, the levies in place are near the top end of most economists’ expectations following last November’s elections. Of course, certain members of the administration continue to discuss negotiations, leaving the door open for tariff rates to be lowered at some point. More clarity could materialize in the coming days and weeks, but the bluntness of the policy action leaves markets and businesses with more questions than answers.
A flu, a cold or simply allergies
Uncertainty has already given the U.S. economy a case of the sniffles, and the question now is whether it turns into a flu or a cold (or, optimistically, just spring allergies). Business confidence measures have fallen and those for consumers have outright plunged, impacted by uncertainty and expectations for higher inflation. We recently released our Q2 U.S. Economic Outlook, in which we quantify a range of potential hits to growth more specifically. The headline is that under most circumstances, we expect the U.S. economy to undergo a slowdown, but not an outright recession.
A second question revolves around the relative impact on economies around the globe; as the saying goes, when the U.S. sneezes, the rest of the world tends to catch a cold. The genesis of today’s economic angst is trade policy coming out of Washington, but two realities would suggest the U.S. will be far from the economy most acutely impacted.
- The U.S. is the most insular major economy. Trade makes up 96%, 73% and 37% of gross domestic product (GDP) for the EU, Mexico and China, respectively, compared to just 25% for the U.S. Although these countries have varying degrees of reliance on the U.S. specifically, trade disruptions are likely to echo throughout supply chains, impacting those economies most exposed to trade.
- The U.S. had the strongest economy coming into this episode. U.S. GDP has grown consistently between 2.5% and 3.5% for the past two years and came into 2025 with solid momentum. Many other economies, including China and many in Europe, appeared fragile even prior to the onset of tariff risks, leaving them more exposed to its impacts.
Inflation: You’re going the wrong way!
The most certain outcome in a very uncertain time is that tariffs will increase prices. The Fed recently raised its forecast for 2025 core personal consumption expenditures (PCE) to 2.8% from 2.2% six months ago; however, the central bank still expects inflation to reach its 2% target by 2027, suggesting a one-time price increase rather than higher ongoing inflation.
The problem is inflation trends were headed in the wrong direction even prior to tariffs being implemented. The six-month annualized change in core PCE was 3.1% through February, up from 2.0% at the end of 2023 and 2.3% last September. While housing inflation has retreated to its pre-COVID average, other services have not, and goods prices have begun to rise again. The resting rate of inflation is closer to 3% than 2% today, and the significant tariffs in place are likely to inject both fresh upward pressure and significant noise into inflation data. The Fed finds itself stuck between a rock and a hard place, with slower growth and higher inflation pushing toward opposite policy actions.
The stock market: Thermostat or thermometer?
Thermostats control a room’s temperature, while thermometers simply react to it. The equity market fancied itself a thermostat heading into the second Trump term, believing it could guide the policy temperature by reacting positively to policies it liked and negatively to those it did not. All presidents care about the stock market—even more so, one that presides over an economy in which equity and mutual fund assets comprise 30% of household net worth. Or so the theory went.
In the end, it was apparently volatility in the bond market that prompted the postponement announced on April 9. As the benchmark tied to borrowing costs across the household, corporate and government sectors, a dislocation in the Treasury market would be potentially destabilizing for the economy and financial system. However, it has become clear the U.S. administration is willing to endure more equity market pain than many expected—the S&P 500 briefly entered a bear market on April 8—making stocks more thermometer than thermostat.
A thermometer measuring what?
If the U.S. equity market is a thermometer, the room temperature it is trying to measure is that of future earnings of large-cap public U.S. companies. The decline in the S&P 500 this year would suggest concern around future profits, and analysts are beginning to agree. Despite a strong Q4 reporting cycle, the consensus estimate for 2025 S&P 500 earnings per share (EPS) has declined by -2.3% since the end of January, a small but meaningful move. Moreover, the erosion has been driven by industries most exposed to tariff-related disruptions (consumer durables, industrial goods, energy and materials).
Importantly, the market is not a reliable temperature gauge for the U.S. economy. While the economy and large-cap stocks may live in the same house, they reside in rooms on different floors. The S&P 500 sources more than one-third of its revenue from international customers, while exports make up only 13.7% of U.S. national income. In other words, while the market drawdown may appropriately reflect worsening prospects for internationalized large-cap U.S. stocks, we should not extend that conclusion to the U.S. economy writ large.
Investing in an uncertain, imperfect environment
The economic policy of the U.S. administration is likely to drive three economic realities:
- Significant friction in global trade as tariffs increase import prices, ultimately resulting in slower growth and supply chain disruptions in the short-term, and less trade flow if implemented for the long term.
- Interest rate volatility as monetary policymakers approach a world facing slower growth and higher inflation—a central banker’s nightmare.
- Increased capital investment into the U.S. as the administration uses both sticks (tariffs) and carrots (tax, regulation and industrial policy) to incentivize firms to invest domestically.
This represents a comprehensive shift from the neoliberal era and particularly the post-Global Financial Crisis era, which was defined by minimal trade barriers, low and stable interest rates, and weak capital investment (read more in our recent white paper, U.S. exceptionalism: At a crossroads). More tactically, this points to ongoing risks for the traditional U.S. 60/40 portfolio. The S&P 500 still trades around 19x forward earnings (estimates that are likely still too high) and is significantly exposed to trade disruptions. Bonds have performed well so far this year but will be ground zero for policy-driven rate volatility. The correlation between the two remains elevated at +0.49 over the past four months.
U.S. middle market: Removing variables
In a period steeped in uncertainty, investors should seek out investments that limit the number of uncertainty-inducing variables. Those that can best sidestep the impacts of trade disruptions and are less exposed to and benefit from the current interest rate environment will be most attractive. The opportunity to profit from increased domestic capital spending is a bonus. These characteristics point directly to the U.S. middle market, which sources 84% of revenues from the U.S., insulating it from tariff-related dislocations and positioning it to benefit as larger companies are forced to reshore production.
The chart below shows this view is taking hold. These two indexes split the S&P 500 in half, based on firms’ foreign and domestic revenue composition. Thus far in 2025, the 250 companies with the highest percentage of U.S. sales have declined only -2.49%, while the 250 with a higher percentage of foreign sales have lost -11.55%. Investors are rewarding a domestic focus—the problem for the S&P 500 Index overall is the 250 foreign-exposed stocks are worth twice as much as those with higher U.S. exposure. Through both private equity and private credit markets, strategies focused on the U.S. middle market allow investors to isolate this domestic outperformance, insulate portfolios from tariff impacts, and potentially drive attractive income and growth in a period of significant uncertainty.
Companies focused domestically outperform
Source: Bloomberg, as of April 14, 2025.
