Trade tensions escalate as President Trump signals 25% tariffs on auto, tech, and pharma imports, alongside a 10% China tariff. The Fed remains cautious, weighing inflation risks against job market concerns from federal layoffs. Markets react with gold hitting $2,950 and analysts warning of underpriced currency risks. A potential Trump-Putin meeting on Ukraine adds geopolitical uncertainty.

Tariff Tensions: What's Next for Inflation, Markets, and the Fed?

Donald Trump, the President of the United States, continues to stir the pot of uncertainty with his tariff rhetoric, leaving traders struggling to navigate in the dark while Federal Reserve officials remain cautious.

On Tuesday, Trump announced that he would likely impose a 25% tariff on automobile, semiconductor, and pharmaceutical imports, with these measures expected to take effect as early as April 2. If implemented, these tariffs are likely to hit manufacturers in the European Union and Asia the hardest.

On the other hand, in a statement to reporters on Wednesday, Trump suggested that a potential trade deal with China was possible. This came just days after he imposed a blanket 10% tariff on all imports from China.

Since officially taking office, Trump has been steadily announcing tariff plans while also signaling his willingness to negotiate. His approach has led some market observers to believe that he is using tariffs merely as a bargaining tool.

However, the announced measures have the potential to reshape global trade, and the mere possibility of such a shift is enough to keep both market participants and monetary policymakers on high alert.

The minutes from the Fed's January meeting, released on Wednesday, revealed that policymakers preferred to wait before taking action amid upside risks to inflation and uncertainties stemming from Trump's policies. Several Fed officials who spoke this week also echoed this stance.

St. Louis Fed President Alberto Musalem stated that policy should remain restrictive until inflation is clearly moving toward the 2% target. He also noted that upcoming changes in government policies could significantly impact the economic outlook.

Meanwhile, Atlanta Fed President Raphael Bostic maintained his expectation for two quarter-point rate cuts this year but acknowledged that potential shifts in trade, immigration, and fiscal policies were increasing the uncertainty surrounding these projections.

It is widely accepted that if Trump implements all the tariffs he has announced---especially if the affected countries retaliate---it could push inflation higher in the U.S. In such a scenario, the Fed may be forced to shelve its planned two rate cuts for this year.

On the other hand, Trump's policies on immigration and government layoffs present additional risks to the labor market that cannot be ignored. The Department of Government Efficiency (DOGE) has already laid off more than 10,000 government employees, with nearly 200,000 more on probationary status potentially in the firing line.

Economists warn that as government layoffs continue, initial jobless claims could rise in the coming weeks. Initial claims in Washington, Maryland, and Virginia have already surged to their highest levels in two years.

These numbers could climb further and are likely to be reflected in the March payroll data, which will be released in early April.

Economists suggest that if all probationary federal employees are laid off, payrolls could decline for the first time since 2020. This would have the potential to weaken economic growth through both lower consumer spending and broader federal budget cuts.

Meanwhile, Trump's offer for government employees to resign and continue receiving their salaries until September has been accepted by 75,000 workers so far. If these individuals secure new jobs before then, it could lead to a misleading increase in payroll figures due to double counting, making the data difficult to interpret.

Ultimately, the layoffs of federal employees represent a significant policy move with potential implications for the labor market. If job losses weigh on employment figures, it could provide justification for the Fed to proceed with rate cuts. However, in the short term, Fed officials are likely to remain primarily focused on the uncertainties stemming from tariffs and their potential impact on inflation.

On the market side, Goldman Sachs strategists argue that currency traders are underpricing tariff risks. According to them, after risk premiums in key currency pairs eased in recent weeks, long dollar positions have now become more attractive.

Additionally, the actual implementation of retaliatory tariffs would be the most significant upside risk for the dollar.

Similarly, TD Securities strategists, in a research note, stated that the recent decline in the dollar is not a true reversal and instead presents a buying opportunity. They argue that the pullback has cleared out risk premiums and brought positioning back to more neutral levels.

Indeed, according to data from the Commodity Futures Trading Commission, speculative investors have been trimming their bullish bets for four consecutive weeks, yet positioning remains net long on the dollar. Therefore, if President Trump proceeds with the tariffs he has announced, it could trigger a new rally in the dollar.

Gold Nears $3,000 Amid Tariff Uncertainty and Geopolitical Risks

Gold prices surged past $2,950 yesterday, marking a new all-time high, before pulling back by around 1%—likely reflecting a wave of profit-taking. However, gold remains a safe-haven asset amid uncertainties and is on track for its eighth consecutive weekly gain, having risen more than 1.5% since the start of the week.

The primary driver behind this week's rally was a strong inflow of over 16 tons into physically backed gold ETFs—the largest since January 2024. These inflows have been fueled by heightened demand for haven, driven by both economic uncertainty stemming from Trump's tariff policies and geopolitical tensions.

Trump is set to meet with Russian President Vladimir Putin to negotiate a deal to end the war between Russia and Ukraine. This move carries the risk of sidelining Ukraine and its European allies, raising concerns that the U.S. may withdraw its support for Ukraine—further escalating geopolitical risks. This uncertainty could continue to provide tailwinds for gold inflows in the coming period.