Just as central bankers around the world were growing more confident that inflation was coming back under control and growth stabilizing, a new economic threat looms: potentially hefty tariffs imposed by President-elect Donald J. Trump.
It’s too soon to know what policies Mr. Trump will carry out during his second presidential term or how other governments might respond. But central bankers are alert to the risk that global trade tensions will make managing inflation more challenging.
At the same time, investors are preparing for the risk of a trade war that hits economic growth and encourages policymakers to cut interest rates more aggressively, particularly in Canada and the eurozone.
Last week, Canada’s central bank cut rates by half a percentage point, and the bank’s governor warned that tariffs proposed by Mr. Trump would have a “big impact on the Canadian economy” and a “dramatic effect” on the bank’s outlook. The European Central Bank also cut rates, the fourth time this year, and added global trade frictions to the list of economic risks it was watching.
“Restrictions on trade, protectionist measures, are not conducive to growth and ultimately have an impact on inflation that is largely uncertain,” Christine Lagarde, the president of the European Central Bank, said last week.
The threat of tariffs is exacerbating the challenges that many countries are facing. Political turmoil has shaken the governments of France, Germany and Canada, with economic issues prominent sources of tension. In her letter of resignation on Monday, Canada’s finance minister, Chrystia Freeland, accused Prime Minister Justin Trudeau of engaging in “costly political gimmicks” instead of focusing on countering the grave threat of tariffs.
Central banks will be under pressure to lower interest rates to support these economies. At the same time, investors are betting that the Federal Reserve will keep rates higher than previously expected amid relatively strong growth, a resilient labor market and somewhat stubborn price increases. Mr. Trump’s policies could also stoke U.S. inflation.
It’s a shift from the past few years, when most major central banks around the world were in a shared battle to bring down high inflation caused, in part, by the pandemic and the energy shock after Russia invaded in Ukraine.
“We are seeing this divergence” as economic drivers are becoming more specific to each country, said Katharine Neiss, the chief European economist at PGIM Fixed Income, an asset manager.
“That said, the U.S. does drive global financial conditions,” so it influences other central banks, she added. “So there’s a limit to that divergence.”
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