As we reflect on a busy half-year, we thought we would offer responses to the questions we hear most frequently from partners and clients.

How far will the trade battles go?

We have already used several metaphors to describe the trade battle, from chess to the Great Wall. However, a new one might be useful to help us cope with the escalating trade tiff: The Kübler-Ross Five Stages of Grief.

Denial is behind us. Some commenters brushed off tariff threats as rhetoric, a negotiating tactic meant to force concessions. Once the Section 232 tariffs on steel and aluminum went into effect on June 1, we could no longer say the threats were merely hot air. Additional tariffs aimed at China went into force at the end of this week.

Anger is growing. Last month’s G7 meeting gave us the iconic picture of world leaders confronting President Trump, who sat with defiant body language. But tariffs are not just internationally unpopular: many U.S. companies are warning of higher prices and job losses.

Bargaining is afoot. Beyond continued negotiations among trade ministers, there has been a surge of tariff exception requests to the U.S. Department of Commerce from businesses that have been disadvantaged. Exemptions are meant for the import of goods not available domestically.

Depression would characterize the tone of outlooks studying the tariffs’ likely outcomes. Economic forecasters uniformly warn of higher costs, layoffs, and downside risks to growth.

Acceptance is not yet at hand, especially since the stakes are continuously rising and there is no new equilibrium in sight.

Our base case remains that there will be no further implementation of significant tariffs beyond the remainder of the $50 billion action against China. The threatened tariffs on imported autos, and the $200 billion threat against China, could be damaging to U.S. consumers, who will be voting in November’s midterm elections. But as long as American leaders think they are gaining political capital by driving a hard bargain, they will not likely take a backward step.

Is U.S. fiscal policy working as planned?

Last December, the U.S. Congress rushed through sweeping tax reform legislation. We were not enthusiastic about the measure, as we detailed in our piece Checks and Balances. But the proof is in the performance. Has tax reform had the desired influence?

Some of the anticipated effects have certainly come to fruition. S&P 500 profits have increased by more than 20% over the past year, and a cumulative total of $670 billion in share repurchases have been announced by American corporations so far in 2018. That has added to the nation’s spending power: aggregate household wealth in the United States has exceeded $100 trillion for the first time. Combined with the exceptional performance of the American labor market, the demand side of the U.S. economy has rarely been in better condition.

The supply side presents a different story. Tax reform advocates hoped the reduction in corporate income tax rates and accelerated depreciation for capital expenditures would pave the way for productive investments that would increase capacity in the U.S. economy. On this front, early returns have been disappointing: as shown in the chart below,
growth in capital investment has actually stepped back a bit from its pace of late last year.



Spreading trade anxieties are almost certainly at play. Large companies are struggling to understand the international economic landscape, and aren’t sure where to invest (or whether to invest at all). The uncertainty is hostile to long-term capital formation, and the numbers reflect that.

Six months may seem like a long time, but the U.S. is still in the early stages of adjusting to its new tax regime. If supply-side reactions don’t improve, the calculations that justified tax reform will be not be realized. And that would raise questions over America’s fiscal future.