The San Francisco Fed’s Economists Just Accidentally Vindicated Trump’s Escalating Tariff Policy
If you were trying to make tariffs look like a policy disaster, you’d do exactly what a team of economists at the Federal Reserve Bank of San Francisco just did: assume every trading partner hits back just as hard and that America just stands there and takes it.
That’s the setup behind a new Economic Letter from the regional bank, which warns of declining wages, higher unemployment, and shrinking GDP in the wake of Trump’s new tariffs. But the moment you dig into the underlying model, the story falls apart. And the punchline? The model winds up making the case for keeping tariffs—not abandoning them.
A One-Round Trade War Where the U.S. Surrenders
The San Francisco Fed’s baseline assumes full foreign retaliation, as if Canada, Europe, and China all respond dollar-for-dollar to U.S. tariffs. But it also assumes zero American response. That’s not just unrealistic—it’s the opposite of the Trump administration’s declared approach.
In a recent letter to the European Union, Trump put it plainly: “If for any reason you decide to raise your Tariffs and retaliate, then, whatever the number you choose to raise them by will be added onto the 30% that we charge.” A version of that sentence went out with all the letters announcing tariff rates that Trump sent last week.
In other words, retaliation triggers escalation. Yet the San Francisco Fed’s model ignores this entirely. It envisions a trade war in which America hits first, then politely declines to respond while its trading partners pile on.
It’s a boxing match where one side throws a punch and then agrees to stand still, arms akimbo, for the rest of the match. When the model says that doesn’t end well, we’re supposed to be surprised?
Quantifying the Worst Case
Behind the Economic Letter is a detailed working paper authored by Andrés Rodríguez-Clare of UC Berkeley, Mauricio Ulate of the San Fran Fed, and José P. Vasquez of the London School of Economics. While the Letter emphasizes the “worst-case” outcome, the paper itself is more balanced—if you know where to look.
In the baseline scenario—which assumes full foreign retaliation, no counter-retaliation by the U.S., and an abrupt tariff sunset after four years—the model estimates that U.S. real income falls by about one percent. Real wages decline slightly, especially in agriculture and services, while manufacturing employment increases during the tariff period but then drops sharply when the tariffs are lifted. Unemployment remains low during the tariff years but spikes as the economy readjusts.
Labor force participation also dips, but not because people are pushed out of the workforce. Instead, some workers voluntarily leave low-wage sectors to engage in home production—a stand-in for unpaid domestic labor like raising children or caring for family. Sectoral prices rise most in agriculture, followed by services, with manufacturing seeing more modest increases. Overall, welfare—defined as lifetime consumption—declines by just under half a percent.
Those are the headline figures that make the Fed’s Economic Letter sound dire. But they hinge entirely on a scenario where the U.S. imposes tariffs, absorbs retaliation without responding, and then scraps the policy just as it begins to yield structural change.
That’s not a forecast. It’s fan fiction for free traders.
The Real Model Tells a Different Story
The same model includes scenarios for partial retaliation and no retaliation at all. In those, the impacts are dramatically smaller. In the no-retaliation scenario, the drop in real income is only 0.5 percent over four years—barely more than rounding error in national accounts. Unemployment stays near zero throughout. Manufacturing jobs increase and stay high. Real wages rise in tradable sectors.
One of the paper’s most important admissions is that tariffs can improve the U.S. terms of trade—meaning we pay less for imports and get more value for what we export. Even though the paper insists that tariffs introduce some inefficiency by disrupting global specialization, the paper shows that in low-retaliation scenarios, this trade advantage more than cancels out the efficiency cost.
In other words, tariffs can make Americans richer, even if the global economy became marginally less efficient. That’s a radical departure from the usual free trade dogma.
It’s also worth noting that the efficiency loss is itself based on an indefensible assumption that the current distribution of production is itself efficient. This is a pretty common error in discussions of trade. Economists ignore all the distortions in global manufacturing caused by the mercantilist policies of China, the EU, and dozens of other nations, assuming that products are currently made where efficient markets have decided they should be due to specialization or comparative advantage.
In reality, production has been sucked into countries by their industrial policies. So, using tariffs to counteract this does not necessarily produce a loss of efficiency. To the contrary, we’re likely to see efficiency improve when production is reshored into the United States.
Tariffs and the Family Economy
The most politically explosive finding is buried in the labor market response. In every version of the model, unemployment stays low. Labor force participation, however, ticks down slightly. Why? Because some Americans voluntarily exit the formal workforce to engage in what the economists call “home production.”
That’s academic code for unpaid domestic labor: raising children, caring for elderly parents, running a household. These aren’t people being pushed out of work—they’re choosing to step away from low-wage service jobs to invest their time in home and family.
In short, the model quietly shows that tariffs make it easier for Americans to choose family life. The economy becomes more favorable to manufacturing where wages rise. At the same time, sectors like services and agriculture shrink slightly. The overall result is a mild shift in incentives that allows households—particularly working-class ones—to opt for a single income without falling into poverty.
If you’re looking for a policy that supports fertility, homemaking, and family cohesion, this is it. The model unintentionally makes the conservative case: a strong industrial base gives families the economic space to grow.
Another under-appreciated result is that the model shows capital flows out of services and into manufacturing. Investment doesn’t disappear—it moves. The country gets less Uber and more industry. And because the manufacturing sector is more productive in terms of wages and output per worker, this shift helps drive up wages for middle-class workers.
It’s not de-growth. It’s re-growth, with a new center of gravity.
The Pain Comes When Tariffs Expire
What the Fed calls “damage” really comes from policy instability. In every version of the simulation, the U.S. imposes tariffs in 2025—and then suddenly drops them in 2029. This triggers a sharp contraction, especially in manufacturing, as the economy tries to reorient back to pre-tariff conditions. But wages don’t fall fast enough to make that transition smooth. The model includes downward nominal wage rigidity, meaning workers are effectively stranded at their higher wage levels as demand dries up. That’s when unemployment spikes. That’s when GDP shrinks. That’s when the trouble starts.
But the cause is not tariffs — it’s the sudden removal of tariffs. A four-year plan with no follow-through is a recipe for disruption. The real lesson from the model is that protection must be consistent. If you rip it away after the economy has adjusted, you’re bound to create pain.
One last point worth noting: the model completely ignores tariff revenue. The authors treat tariffs as a deadweight loss, but forget that they also raise money. That revenue could be used to reduce taxes on workers, fund public investment, or pay down debt. None of those benefits are included. This is a built-in anti-tariff bias—one that understates their fiscal and growth potential.
What the Model Really Shows—If You Read It Honestly
Strip away the artificial assumptions. Replace full retaliation with no retaliation. Take out the arbitrary sunset. What does the model say?
Real income slips by less than half a percent over four years—not per year, total. Unemployment never breaks above a tenth of a percent. Manufacturing booms. Real wages rise where they matter. Prices remain relatively stable. Capital reallocates into more productive industries. And some Americans, seeing more opportunity at home than at work, choose to raise children or care for family instead of staying in the labor force.
That’s not economic catastrophe. That’s economic realignment.
The Real Message: Stick With It
The model’s underlying logic is simple: if you’re going to impose tariffs, keep them. Don’t make them temporary. Don’t pull the rug out after four years. Let the economy settle into a new structure—one that supports industry, rewards production, and gives families room to breathe.
The San Francisco Fed didn’t model Trump’s actual policy. It modeled a half-hearted imitation, layered with worst-case retaliation assumptions and an abrupt phaseout guaranteed to spark dislocation. And even then, in its own sensitivity tables, the real takeaway is clear: durable tariffs are not only manageable—they’re beneficial.
They promote manufacturing. They stabilize wages. They let some Americans come home again. In the end, the paper doesn’t just defend tariffs. It makes the case for a nation that can afford to have children again.
The economists behind the paper probably have no idea that they’ve just produced a striking vindication of Trump’s trade strategy, one that increases America’s wealth and makes us a more family-friendly country again.
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