The Economy
Policy Contours Forming, Details Have Yet To Take Shape
December 2024
That the Presidential and Congressional elections are behind us does not mean that the uncertainty around those elections is behind us. Though the broad contours have started to form, the specific details on what could be potentially significant changes to fiscal, trade, regulatory, and immigration policy have yet to be revealed. The lack of specific details makes forecasting the path of the U.S. economy over coming quarters an even trickier endeavor than is typically the case, which is a point that we will no doubt make early, and often, next month in our annual outlook edition. Two policy areas in which the incoming Trump Administration seems likely to seek potentially sweeping changes are immigration and trade. Though there are not yet any specific details to go on, we think it worth offering some general points to keep in mind as you process potential impacts of changes to immigration and trade policy.
For instance, we’ve heard some argue that reduced immigration flows will lead to lower rates of inflation, the premise being that less demand for goods and services will put downward pressure on prices. The problem with arguments based solely on demand, however, is that they are, well, based solely on demand while ignoring the supply side of the economy and, as we understand these things, less demand does not mean more supply. Rapid growth in the supply of foreign born labor has been a primary driver of faster growth in total labor supply over recent years. As such, to the extent immigration reform acts as a brake on the pace of growth in labor supply and, in turn, employment, it could be that the corresponding hit to supply results in greater upward pressure on prices that would offset any downward pressure stemming from there being less demand. This is a point apparently lost on those who argue immigration reform will curb the pace of house price appreciation, given the extent to which foreign born labor is a key source of construction labor.
The reality is that long-running demographic trends have resulted in slowing growth in native born labor supply, a trait by no means limited to the U.S., meaning that foreign born labor has become an increasingly important driver of growth in the supply of labor. This, in turn, has facilitated faster growth in the supply of goods and services than would have otherwise been the case. The household survey data presented in the monthly employment reports clearly show the impact of foreign born labor. Amongst the various demographic cuts of the household survey data is that between native born and foreign born labor market participants. Note that survey respondents are not asked about their immigration status but, either way, foreign born participants have accounted for rapidly rising shares of the labor force and household employment over recent years; as of November, foreign born participants accounted for 19.2 percent of the U.S. labor force and 19.1 percent of household employment.
This helps illustrate a point we’ve made over the past several months, which is that upward pressure on the unemployment rate has been much more a function of faster growth in the labor force than of greater numbers of people losing their jobs. We have, however, noted that we did not think the rapid rate of growth in foreign born participants seen over the past few years would be sustained indefinitely. The corresponding slowdown in labor force growth would, in turn, cap any increase in the unemployment rate stemming from a slower pace of job growth. Immigration reform, regardless of the specific form it takes, would buttress our argument. At the same time, however, less foreign born labor would mean slower growth in the labor force, potentially putting renewed upward pressure on wages while at the same time curbing growth in the production of goods/provision of services, resulting in renewed upward pressure on prices. The point here is not to argue that there is no need for immigration reform. Instead, our point is that along with immigration reform could come potentially significant disruptions in labor supply and, in turn, the broader economy. Any such reform will hopefully be crafted with the points we’ve made here in mind, and these points will guide our assessment of the specific policy details that emerge.
Along the same lines, we think there are some general points to keep in mind as the specific details on trade policy emerge over coming months, specifically, whether or to what extent tariffs will be expanded. One question to consider is what the point of expanded tariffs would be, as expanded tariffs could be intended as: 1) a means of raising revenue to help offset higher spending and/or the costs of extending the 2017 tax cuts or implementing any additional tax cuts; 2) a means of addressing trade practices or other policies perceived to be at odds with U.S. interests; 3) a means of protecting domestic producers from foreign competition deemed to be unfair; or 4) a means of directing manufacturing activity to the U.S.
While a specific tariff on a single foreign nation can be some of those things, it cannot be all of those things, which suggests that we are unlikely to see “blanket” tariffs at a specific rate aimed at every foreign trading partner. In the second case above, it could be that the threat of expanded tariffs is sufficient to bring other nations to the negotiating table – that tariffs were deployed in the first Trump Administration should remove any doubt as to whether the threat of expanded tariffs is indeed a credible threat.
In terms of the potential revenue brought by expanded tariffs, it helps to note that, of the roughly $3.1 trillion of goods imported into the U.S. in 2023, forty-three percent came from just three nations – Canada, China, and Mexico. To put that in perspective, you’d have to add up the shares of the next nineteen countries on that list arrive at a combined share of forty-three percent. Note that the share of imports coming from China began to erode rapidly in the wake of tariffs put into place during the first Trump Administration. This in part reflects firms who had been importing goods from China diversifying supply chains and in part reflects Chinese firms shifting production and/or assembly of goods to other Asian nations.
We’d expect to see the same reactions in response to expanded tariffs on Chinese-made goods, particularly if tariffs were raised as high as has sometimes been suggested. Think about this in the context of the intent of the tariffs, however, and it points to the difficulty in using tariffs to achieve specific objectives, such as a source of government revenue. This suggests significantly higher tariffs on Chinese goods would be unlikely to raise targeted amounts of revenue, and that tariffs would have to be imposed on a much wider group of countries, and tariff rates would have to be higher, to achieve the same revenue objectives.
That U.S. exports are similarly concentrated amongst the same group of countries could be seen as suggesting the U.S. has little to fear from other nations imposing retaliatory tariffs on U.S.-made goods. Of the roughly $2.0 trillion of exports of U.S. goods in 2023, forty-one percent went to either Canada, China, or Mexico – you’d have to add up the shares of the next eighteen countries on that list to get to a similar combined share. That said, if, Canada and Mexico were to be subject to significantly higher tariffs on imports into the U.S., as has been suggested, that could easily result in more U.S. firms feeling significantly more pain from Canada and Mexico imposing retaliatory tariffs.
These are just a few illustrations of our broader point, which is that even once details of changes to trade policy come to light, the implications of these changes will be anything but straightforward and are likely to take time to fully play out. This adjustment process will likely be something that sends forecasters back to the drawing board given the number of possible permutations, in both policy changes and the reactions to those changes, that can impact the paths of output, employment, inflation, and interest rates.
Sources: Bureau of Labor Statistics; U.S. Census Bureau; International Trade Administration
As of December 12, 2024
