The tariffs are here. Inflation isn’t. What gives?

Over the course of April, President Donald Trump imposed large tariffs on goods from every country in the world, pushing America’s average levy on imports to its highest level in roughly a century. And inflation slowed. In April, the Consumer Price Index (CPI) rose at a 2.3 percent annual rate, its slowest pace since early 2021, according to a federal report released Tuesday morning. Economists had expected that figure to be 2.4 percent. Markets rallied on this happy surprise. Meanwhile, the Trump administration lowered its tariffs on China on Monday, bringing its levy on Chinese imports down from 145 percent to 30 percent for 90 days, as the two countries work toward a permanent agreement. China, in turn, lowered its retaliatory tariff on American goods from 125 percent to 10 percent. Americans might look at these two developments and wonder: Does this mean the economy is going to be fine? Is Trump’s manufactured economic crisis ending before it even began? No one can answer these questions with certainty. What we do know is: * Trump’s trade war is still poised to raise prices and slow growth later this year. * The risk of a severe economic crisis has fallen significantly. Price hikes are still coming Tariffs reliably increase consumer prices. When companies are forced to pay higher prices for foreign goods and imports, they generally pass on at least part of that cost to their customers. Given this, why didn’t April’s tariffs translate into higher inflation? The primary explanation is that US companies stocked up on foreign goods and inputs earlier this year, in anticipation of Trump’s tariffs. So, they’ve been able to keep prices low by drawing down on those inventories. As Morgan Stanley’s chief economist, Michael Gapen, told the Wall Street Journal, “What’s sitting on store shelves today is based on agreements that were made two to three months ago.” Trump’s tariffs on industrial inputs, such as those on steel and aluminum, will also take a while to register in consumer prices, since manufacturers must make new products with such materials before bringing them to market; cars and washing machines on sale today were generally built with metals purchased before Trump’s tariffs took effect. But companies will eventually exhaust their pre-trade war inventories. And when they do, prices will rise. Mattel announced earlier this month that it will need to raise prices on its toys to offset tariff costs. Procter & Gamble, the consumer goods conglomerate that produces Tide detergent and Charmin toilet paper, said that it will probably need to raise prices by July. And signs of tariff-induced price increases were already visible in April’s CPI report. Although overall price growth was modest last month, furniture costs jumped 1.5 percent relative to March. Trump’s retreat from 145 percent tariffs on China — which had effectively suspended trade between the world’s two largest economies — makes the outlook on prices less foreboding. And yet, according to Yale’s Budget Lab, America’s average tariff rate remains at 17.8 percent, its highest level since 1934. If Trump’s current tariff rates remain in place, the Lab expects prices to rise by 1.7 percent this year, costing American households $2,800 on average. The big question is whether tariffs will induce a one-time surge in prices or trigger an inflationary cycle, in which price growth becomes self-reinforcing. On the one hand, tariffs are a bit like a sales tax. And although a hike in US sales taxes would raise consumer costs, you wouldn’t expect that to spark inflation: The prices of affected goods would rise all at once, but then likely stabilize. In fact, sales taxes can potentially slow price growth over the long-term by reducing consumer demand: Make everything slightly more expensive and people will soon have less disposable income to spend on goods and services, which could eventually force businesses to lower their prices in order to generate sales. On the other hand, Trump’s tariffs remain so high and broad that they could disrupt supply chains and yield shortages. At the same time, House Republicans are advancing a package of tax cuts that could increase the deficit by roughly $5 trillion over the next decade. And when the government increases the deficit, it injects more money — and thus, demand — into the economy. So, it’s possible that demand for goods could spike later this year (or early in 2026), while their supply becomes constrained. That scenario could generate an inflationary spiral as consumers rush to stockpile products before they become scarcer and more expensive, thereby making products scarcer and more expensive. Meanwhile, if workers respond to tariff-induced price hikes by demanding higher wages — and employers respond to wage demands by raising prices — self-reinforcing inflation could become even more entrenched. For now, investors seem to believe that this scenario is unlikely, even as higher prices are all-but certain. The risk of a US recession has fallen As Trump jacked up tariff rates in April, many Wall Street forecasters began projecting a recession by year’s end. Last month, JP Morgan put the risk of a US recession in 2025 at 60 percent, while Goldman Sachs pegged it at 45 percent. Following Trump’s deal with China on Monday, both brokerages slashed their recession odds. Today, Goldman says that there is only a 35 percent chance of a downturn this year, while JP Morgan places the odds at a bit below 50 percent. Wall Street’s newfound optimism partly reflects the direct consequences of the US-China agreement. According to the Budget Lab, that deal reduced the expected negative impact of Trump’s tariffs on prices and growth by 40 percent. But finance’s relief at Trump’s deal with China doesn’t reflect its official details alone. After all, the agreement technically only pauses Trump’s 145 percent tariffs for 90 days, while trade talks continue. Taken at face value, the agreement still holds the prospect of a complete cessation of trade between the US and China. Yet the deal told us something about Trump that Wall Street was desperate to hear: that he’s willing to radically scale back his trade demands, in the face of souring economic conditions. Crucially, Trump didn’t actually hold out for any substantive concessions before lowering his tariffs on China by 115 percentage points. Beijing did not address any of the grievances that the president cited when he initially imposed vast tariffs on all Chinese goods. China did reduce its retaliatory tariffs, but it only imposed those duties after Trump had launched his trade war. Trump therefore felt comfortable drastically scaling back his tariffs with China, even in the absence of any face-saving “wins.” Apparently, mounting reports of quiet ports and impending shortages persuaded Trump to take a step back. What’s more, he suggested Monday that his goal in ongoing trade talks with Xi Jinping’s government is to “open up” China to American goods. This is a significantly more modest goal than fully ending America’s trade deficit with China, which Trump had previously deemed a precondition for any agreement. If Trump decides that what he really wants is to increase US soybean farmers’ share of the Chinese market, a permanent trade agreement between Washington and Beijing should not be hard to reach. Beyond its implications for US trade with China, Trump’s climbdown Monday makes it more plausible that he would back off some of his other tariffs, if inflation or unemployment began to surge. All this means that the odds of America entering a severe economic crisis just fell significantly. But tariff rates remain historically high. And Americans are still poised to suffer higher prices and weaker economic growth in 2025, due to a trade war that Trump seems to be losing.

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The tariffs are here. Inflation isn’t. What gives?