As you make your way through Terminal 5 in Heathrow airport, there are plenty of opportunities to buy a T-shirt bearing the slogan “Keep Calm and Carry On”. The wearer of such a garment, upon their return to the United States, is presumably advertising the idea that a visit to the blessed plot has bestowed upon them the ability to weather all manner of shocks with equanimity.
When it comes to financial markets, however, the British could learn calmness from the Americans. The U.K. gilt market, petted and coddled by timid politicians, seems to descend into turmoil under the mildest provocation. Meanwhile, U.S. markets, hardened by years of unruly words and abrupt policy changes from Washington, does indeed seem to “keep calm and carry on”.
Entering 2025, the American economy was a healthy tortoise, not growing too fast but also not particularly threatened by inflation or recession. Since then, the new administration has implemented radical policy changes that should, at least in theory, have boosted inflation and slowed growth. And yet, almost six months after inauguration day, both unemployment and inflation are virtually unchanged from the start of the year, while U.S. stocks and bonds have generated healthy year-to-date returns. For all that has been written about policy shocks, both the economy and financial markets have seen surprisingly few effects …so far.
This may, in part, be due to countervailing forces such as AI excitement, lower gasoline prices and the promise of fiscal stimulus and deregulation. However, part of the issue could also be delays – delays in policy implementation and further delays in economic impacts. Moreover, these delays may be being compounded by a tendency among consumers, businesses and investors to underreact before they overreact.
If this is the case, then we may still be seeing only the thin end of the wedge of policy effects. For both private sector forecasters and the Fed, this implies that it is still appropriate to budget for the full eventual impact of these policies. For investors, it points to a continued need to reduce risk in unbalanced and concentrated portfolios.
The Delayed Impact of Tariffs
One clear area of delayed implementation and impacts is tariffs.
Amidst the many recent twists and turns in U.S. trade policy, one good guide to its implementation has been tariff revenues. Throughout 2024, monthly tariff revenues averaged $7 billion, or roughly 2.6% of goods imports. However, they have ramped up recently, reaching $16 billion in April, $23 billion in May and $27 billion in June. While $27 billion is, of course, real money, it still represents just 10% of estimated goods imports. This is far short of the average statutory rate on imported goods in June which we estimate was between 14% and 15%. Part of the reason for this is that goods that had left port before April 5th didn’t have to pay the higher duties announced on April 2nd or in the days that followed.
To further complicate matters, while the 90-day pause window on so-called “reciprocal tariffs” ended on July 9th, the President has, over the past two weeks, announced new tariffs on many countries including Brazil, Canada, the European Union and Mexico, as well as on copper imports in general, all set to take effect as of August 1st. Given this, and the possibility of foreign retaliation triggering even more U.S. tariffs, the most likely path is one in which tariff rates continue to rise for months to come. And even if August were to see the last of the tariff increases, it might not be until November before the full impacts of tariff rate increases were seen in revenues received.
Moreover, even beyond this point, many retailers will hesitate to mark up prices on old inventory and, consequently, the full feedthrough to consumer prices could be delayed further. Tuesday’s CPI report for June may reflect just the first impacts of higher tariffs, with almost all of the impact on consumer prices still to be seen in the months ahead.
The Delayed Impact of the Immigration Crackdown
We are also likely seeing just the first labor market impacts of the immigration crackdown. Here it is worth tracking three sets of numbers:
First, according to Customs and Border Protection (CBP)1 the number of encounters with unauthorized immigrants at the southern border has plummeted from a peak of 250,000 per month in late 2023 to just 12,000 per month between February and May of this year. This reflects greater enforcement on both sides of the border, a change in protocols for those seeking asylum and the international impact of very clear messaging from the administration on the immigration issue.
Second, while there is a lack of data on deportations, we do know about detentions2. In June, over 35,000 individuals were detained by Immigration and Customs Enforcement (ICE) and Customs and Border Protection, up from 22,000 in January. However, within these totals, ICE detentions rose from under 12,000 in January to over 30,000 in June while CBP detentions fell from just over 10,000 to under 5,000. Since ICE arrests generally involve people who have been in the United States for longer, they are more likely to be part of the labor force when arrested.
Third, the number of immigrant visas issued fell 16% year-over-year in April and 20% year-over-year in May, to a monthly total of under 48,0003. This could reflect more restrictions on the granting of immigrant visas, slower processing times or lower demand. Regardless of the cause, if this pattern continues, it could also hit labor supply. Last year, 670,000 immigrant visas were issued. If this number were to fall by 20%, it would reduce immigrants by 134,000 per year, the majority of whom would have entered the U.S. labor force.
The recently-passed OBBB Act, authorizing the hiring of another 10,000 ICE agents, along with massively increased funding for the detention, processing and transportation of unauthorized immigrants, should further increase deportations. This, combined with an effective end to unauthorized border crossings, voluntary self-deportation and fewer immigrant visas issued could cut annual net immigration to just a few hundred thousand. This stands in sharp contrast to average annual net immigration of over 1,000,000 seen since the start of the century. Moreover, in a “low-immigration” scenario, where net immigration is 400,000 per year between now and 2030, Census projections4 show the population aged 18-64 falling by over 140,000 per year.
Moreover, because the household survey only adjusts its demographic projections once a year, in January, because the establishment survey misses many unauthorized immigrants for obvious reasons and because unauthorized immigrants don’t claim unemployment benefits, much of this downshift in U.S. employment from the immigration crackdown may not show up in official job reports. However, the knock-on effect of fewer workers on both consumer demand and in areas such as construction and agriculture should become more visible over time.
The Delayed Impact of Federal Job Cuts
A third potential area of delay in the impact of policy changes has to do with federal employees. Soon after taking office, the new administration took action to reduce the number of federal workers. According to a count compiled by the New York Times, these efforts, including buyout offers, actual layoffs and planned layoffs, suggested a reduction of roughly 280,000 federal government jobs. However, partly because employees who took the buyout remain on government payrolls through September and partly because courts had initially blocked many of the layoffs, federal employment was just 66,000 lower in June than it was last December. We believe federal job cuts will accelerate in the months ahead, partly as those receiving buyouts formally leave federal employment and partly because of a Supreme Court ruling last week that gave the administration a green light to resume layoffs that lower courts had stalled5.
Offsetting Factors
There are, of course, offsetting factors that will temper the economic impact of these policies. The fact that gasoline prices are 10% lower than a year ago while stock prices are 12% higher is supporting consumer spending, while 100% expensing of equipment and R&D spending, along with AI enthusiasm is helping capital spending. Moreover, next year should see a bumper crop of income tax refunds which could, at least temporarily, help boost consumer spending further.
That being said, there is an additional reason not to be complacent about the impact of policy changes and that is the tendency of both the economy and markets to underreact - before they overreact. Many employers, faced with weak revenues, are still reluctant to fire workers given how difficult they were to find in the first place. However, if firms become overstaffed, then once they believe we have fallen into recession, they could fire workers in bigger numbers, intensifying the downturn. Many retailers may be reluctant to raise prices in reaction to tariffs, unsure as to how long the tariffs might last or what their competitors might do. However, once tariff-related markups become more widely acknowledged among consumers, hesitant retailers could make up for lost time in jacking up their prices.
And, as we have seen many times before, if market sentiment remains mixed or confused, many stock market investors will continue to add to their retirement plans and other portfolios, pushing valuations even higher. However, if bear market fears suddenly become widespread, many investors may want to sell, in order to lock in some of their gains from recent years, thereby intensifying the rout.
In other words, in both the economy and markets, there is, at first, a reluctance to take action and then a “piling on” that produces what statisticians call a “non-normal” distribution. In particular, monthly inflation rates, unemployment rates, and stock market returns all suffer from high “kurtosis” – that is to say, they generally meander close to average levels and then suddenly deviate dramatically from them. Rather than a following the well-known bell curve pattern, these variables follow a distribution that looks more like a runway model in clown shoes – generally tall and thin – but with surprisingly wide feet.
The economy and markets could still get kicked by a sudden surge in unemployment or inflation or a sudden drop in stock prices and the risk of this may increase if businesses and investors continue, for the moment, to underestimate the eventual impact of dramatic policy changes. For this reason, it is still a good idea to search for balance as the policy actions of the first half of 2025 generate the policy effects of the second half.