Tariffs and Inflation: The Economic Math

The U.S. government's recent decision to increase tariff rates on several categories of imported products has sparked intense debate among economists and policymakers. The proposed tariff rates, particularly the 60% tariff on Chinese imports and the 10% tariff on imports from all other countries, are significantly higher than historical levels. This raises critical questions about the potential impact on inflation and the broader economy.

The Federal Reserve Bank of Boston has developed a model that suggests, in an "extreme" scenario, these heightened taxes on U.S. imports could result in a 1.4 percentage point to 2.2 percentage point increase to core inflation. This scenario assumes 60% tariff rates on Chinese imports and 10% tariff rates on imports from all other countries. The researchers note that many other tariff proposals have surfaced since they published their findings in February 2025. Price increases could come across many categories, including new housing and automobiles, alongside consumer services such as nursing, public transportation, and finance.

Hillary Stein, an economist at the Boston Fed, highlights the broader implications of tariffs on consumer prices. "People might think, 'Oh, tariffs can only affect the goods that I buy. It can't affect the services,'" she said. "Those hospitals are buying inputs that might be, for example, ... medical equipment that comes from abroad." This underscores the interconnected nature of the global economy and the ripple effects of tariffs on various sectors.

The Budget Lab, an independent research organization, has modeled the effects of the April 2nd tariff announcement in isolation and all U.S. tariffs implemented in 2025. The April 2nd action is the equivalent of a rise in the effective U.S. tariff rate of 11 ½ percentage points. The average effective U.S. tariff rate after incorporating all 2025 tariffs is now 22 ½%, the highest since 1909. The price level from all 2025 tariffs rises by 2.3% in the short-run, the equivalent of an average per household consumer loss of $3,800 in 2024 dollars. Annual losses for households at the bottom of the income distribution are $1,700. The price level from the April 2nd announcement alone rises by 1.3% in the short run, the equivalent of an average per household consumer loss of $2,100 in 2024 dollars. Annual losses for households at the bottom of the income distribution are $980 under the April 2nd policy alone.



Both the April 2nd tariffs alone and all 2025 tariffs together disproportionately affect clothing and textiles, with apparel prices rising 17% under all tariffs. U.S. real GDP growth is -0.5pp lower in 2025 from the April 2nd announcement and -0.9pp lower from all 2025 tariffs. In the long-run, the U.S. economy is persistently -0.4 and -0.6% smaller respectively, the equivalent of $100 billion and $180 billion annually in 2024 dollars. The April 2nd announcement raises $1.4 trillion over 2026-35 conventionally-scored, and $366 billion less if dynamic revenue effects are taken into account. All tariffs to date in 2025 raise $3.1 trillion, including the effect of retaliation to date, with $582 billion in negative dynamic revenue effects.

The potential long-term effects of increased tariffs on the U.S. economy are significant, particularly in terms of GDP growth and consumer spending. The Federal Open Market Committee decided to leave its target for the federal funds rate unchanged at the meeting in March. The Fed targets its overnight borrowing rate at between 4.25% and 4.5%, with the effective federal funds rate at 4.33% on March 31. The inflation rate rose to 2.8% in February, according to the Commerce Department. Forecasts of U.S. gross domestic product suggest that the economy will continue to grow at a 1.7% rate in 2025, albeit at a slower pace than what was forecast in January.

Consumers in the U.S. and businesses around the world are bracing for impact. "There is a reason why companies went outside of the U.S.," said Gregor Hirt, chief investment officer at Allianz Global Investors. "Most of the time it was because it was cheaper and more productive." The Budget Lab's analysis suggests that the tariffs could push up the cost of living as merchants are likely to pass higher costs of imports on to consumers, potentially reigniting inflation. However, the tariffs could also slow down the economy, putting downward pressure on demand and prices. Another possible outcome is "stagflation," or a combination of stagnant economic growth and high inflation. "The magnitudes of the tariffs being considered is clearly material, and sufficient to put the economic expansion at risk should they be put in place for a prolonged period of time," Jonathan Pingle, chief U.S. economist at UBS, wrote in a commentary.

The White House economists, however, have a different perspective. Stephen Miran, chair of the Council of Economic Advisers, stated that "as the world's largest source of consumer demand, the U.S. holds all the leverage, which means foreign suppliers will have to eat the economic burden or 'incidence' of the tariffs." This claim is met with skepticism by many economists, who argue that the math used by the administration to calculate the tariffs does not hold up. Oren Ziv, an assistant professor of economics at Michigan State University, noted that the formula used by the administration is not consistent with modern definitions of trade deficits and is unlikely to yield the desired results.

In conclusion, the proposed tariff rates on Chinese and other imports are significantly higher than historical levels and could have profound implications for inflation and the broader economy. While the White House economists argue that the U.S. holds all the leverage, the economic data and models suggest otherwise. The potential long-term effects of increased tariffs on GDP growth and consumer spending are significant, and the tariffs could push up the cost of living, potentially reigniting inflation. The U.S. economy is at a critical juncture, and the decisions made in the coming months will shape its future trajectory. The world must choose: cooperation or collapse.