Tariffs, the US Economy and the Fed: Where Next for Global Stock Markets?

Market pricing has moved aggressively in favour of a September rate cut by the Federal Reserve, after a weak July jobs report and ugly revisions to May and June signalled the US labour market may finally be cracking under the pressure of tariffs. The data pushed the US closer to stagflationary territory, which has been a long-term fear among bears; ie that we end up with a 1970s market that drifts sideways. So far, the market has held up and looked beyond the tariff risks, but we may at last be seeing the hard data finally catch up with the soft survey data that has indicated sentiment is weakening. Front-loading by companies to avoid tariffs and corporates wearing the associated higher costs by maintaining flat pricing may have masked the real impact - but this may be changing.

The rally on Monday in the US stock market was interesting since it suggested investors either have very short memories and/or little concerns about the economy, and figure that as usual the Fed will come to the rescue. But this is not necessarily going to be the case for a couple of reasons.

Tariff Spectre

Effective US tariff rates are set to rise above 15%, with ongoing uncertainty around particular sectors, and some countries. We note Switzerland has been hit with an apparently very high rate of 39% that has produced some idiosyncratic moves for its equity market. There were also steep rates for Taiwan, Brazil, Canada and India. And despite some relief at the EU’s 15% tariff rate, there are mounting concerns about how this will impact exports and earnings growth for Europe’s big corporations. The Eurozone Sentix Investor Confidence Index tumbled to -3.7 in August following July’s 4.5, turning negative for the first time in four months.

The impact of tariffs is felt on both sides of the trade: US consumers will face an overall effective tariff rate of 18.3%, according to Yale researchers, the highest since 1934. After consumption shifts, the average tariff rate will be 17.3%, the highest since 1935, they write. Tariff shocks may be receding in terms Trump’s erratic policy announcements, but the impact of tariffs on the economies of the US and its trading partners is starting to show up.

For stocks the question is how much tariffs hit the E part of EPS. Global earnings forecasts have been cut since April but the market rally since the Liberation Day selloff has left markets looking complacent and exposed. While forecasts for EPS growth have been trimmed, they may still be overly optimistic in terms of the impact of tariffs. The recent rally, combined with emerging signs of an economic slowdown and lingering tariff uncertainty raises doubts about the short-term upside potential in equity markets, particularly in the US. Trump's new tariffs come into effect on 7 August.

Main St vs Wall St

Whilst Wall Street and Silicon Valley have been riding high, the rest of the US economy has been struggling a bit more.

Overall, with about two-thirds of the S&P 500 having reported second quarter earnings this season, 82% have reported actual EPS above lowered estimates, according to FactSet. But while booming AI spend and tech earnings suggest all is well, Consumer Staples earnings are down 0.1% and Materials are down 5%. Companies are reporting pressure on margins even though revenues are rising – a sign that they are yet to pass on additional costs like tariffs onto the consumer yet.

Over the weekend, Berkshire Hathaway sounded gloomy as it reported a 4% drop in earnings from its wholly-owned businesses (ie not its equity investments.) “The pace of changes in these events, including tensions from developing international trade policies and tariffs, accelerated through the first six months of 2025,” Berkshire said. “Considerable uncertainty remains as to the ultimate outcome of these events.”

“It is reasonably possible there could be adverse consequences on most, if not all, of our operating businesses, as well as on our investments in equity securities, which could significantly affect our future results,” the company added.

The US is on the precipice of recession, according to Moody’s Analytics chief economist Mark Zandi, citing the combination of restrictive immigration policy and tariffs.

Reports of a US recession have been greatly exaggerated in the past so I would caution about just how this slowdown translates in the hard data in the coming months. Corporate tax cuts are boosting earnings already. But there are clearly signs to worry.

Last week’s US GDP report showed an economy growing at an annualised rate of 1.1% in the first half, down from 2.9% in the preceding six-month period. Slowdown is not recession, and for investors this is likely to be of great importance for how the equity markets perform in the coming months.

What sort of cut we get matters a lot

The market thinks the Fed is ready to act, but this may not be enough this time. The stock market doesn’t bottom until after the Fed starts cutting is a thing you hear all the time. But this is only really true in a recession. So, what the Fed does is arguably less important than what the economy does.