Investors remain focused on Trump tariff policy and tax bill

Trade and tax policies remain front and center for markets, with investors gauging economic impacts from tariff-related uncertainty while anticipating pro-growth fiscal measures including tax cuts. As both executive trade and legislative tax policies progress in tandem, prospective linkages between tariff income and government spending represent a key unknown variable.

Trade Policy

Global equity markets rallied after last weekend’s U.S.-China trade talks in Switzerland produced a 90-day tariff pause. The U.S. agreed to roll tariffs back to a 10% base rate plus a 20% fentanyl surcharge on Chinese goods imported into the U.S., while China reduced its tariff rate to 10% on U.S. goods exported to China. According to a joint statement, both countries agreed to establish a mechanism to avoid further escalation while continuing discussions about economic and trade relations between China’s State Council Vice Premier He Lifeng and U.S. representatives including Treasury Secretary Bessent and Trade Representative Jamieson Greer.

The 125% tariff rate between the U.S. and China (plus the U.S.’s 20% fentanyl surcharge) had effectively established a trade embargo between the world’s two largest economies according to Secretary Bessent, speaking at the Saudi-U.S. Investment Forum in Riyadh. Elevated tariff rates had a demonstrably negative impact on trade activity during the month of April, with Chinese exports to the U.S. declining 21% relative to pre-tariff year-ago levels, according to Bloomberg data. However, China’s overall exports still grew in April as they sent more goods to the rest of the world. U.S. rail and truck shipping activity suggest tariffs have yet to dent the supply of goods within the U.S., though the falling number of container ships headed to the U.S. from China and restrained activity at the Port of Los Angeles suggest an impact may emerge in coming weeks.

Investors are closely following trade negotiations in hopes deals can relieve much of the tariff pressure which President Trump placed on hold until early July. On May 8, the U.S. announced the U.S.-UK Economic Prosperity Deal (EPD), a non-binding agreement addressing tariffs, non-tariff barriers, digital trade and economic security. While cheered by investors, the U.K. ranks far below China and the European Union (EU) in U.S. trade volumes. Secretary Bessent stated in Riyadh the European Union’s collective bargaining efforts on behalf of its member nations are hampering negotiating efforts. While Secretary Bessent expressed confidence in reaching a mutually satisfactory conclusion, he downplayed optimism for a quick agreement, stating that U.S.-EU negotiations remained behind those with other Asian economies, highlighting progress in discussions with Japan, Indonesia, and Taiwan in particular.

We have articulated three scenarios to provide investors with a framework to gauge potential tariff outcomes.

• Positive case: Successful negotiations wrap up at or before their allotted times, with headline rates below market expectations and China/U.S. relations thaw. Supply chains allow for demand to be met, companies and businesses resume growth and central banks remain accommodative.
• Base case: Prolonged negotiations with positive momentum, headline tariff levels hovering between 10%-20%. Companies and consumers demonstrate gradual adjustments while trade negotiations continue, but growth remains positive. Asset prices trend within defined ranges with pre-April 2nd (tariff announcement day) levels important reference points, ranging from 4,800-6000 on the S&P 500 to 4%-5% yields on the U.S. 10-year U.S. Treasury
• Negative case: Tariff negotiations go poorly (especially U.S./China), upending global trade and clouding other anticipated legislation. Headline tariff levels exceed 20%, companies and consumer activity slow and a recession unfolds as central banks offer minimal help. Riskier asset classes trend below April 2nd levels.

The U.S.-China tariff pause and U.S.-UK framework combined with recent market performance suggests we are somewhere between the base and positive cases. Last week’s events evidenced some progress towards a positive conclusion, but we remain attentive to the difference between positive and definitive with numerous bilateral negotiations still forthcoming. While retaining a glass half full outlook for diversified investment portfolios, we still view a full range of potential outcomes within this tariff pause period, though recent events have lowered the odds of the worst-case scenario.

Fiscal Policy

Meanwhile, Congress continues to work on a broad range of policy issues in its 2025 tax bill. Tax cuts, deregulatory efforts and potential interest rate cuts act as likely tailwinds to growth but the lengthening time gap between pro-growth policies and potential headwinds such as tariff and trade policies, government spending reductions and layoff announcements heighten near-term risks to business and consumer activity.

The forthcoming legislation is broadly expected to provide positive growth drivers to partially offset tariff-induced uncertainty and potential cost increases for businesses and consumers. After U.S. markets closed on Monday, the House Ways and Means Committee released its highly anticipated draft, officially scored at $3.7 trillion due to savings from phasing out renewable energy subsidies and continuing to cap state and local income tax (SALT) deductions, which were set to expire at the end of 2025. Among the myriad of proposals in the 600+ page bill, key provisions include:

• Permanently Extending the 2017 Income Tax Cuts. The individual income tax cuts from the 2017 Tax Cut and Jobs Act (TCJA) were set to expire at the end of 2025. The bill proposes making permanent the existing marginal federal income tax rates of 10%, 12%, 22%, 24%, 32%, 35% and 37%. President Trump had pushed for a higher tax rate of 39.6% for individuals making more than $2.5 million (effectively allowing the TCJA to expire for those individuals), but the House bill left out that proposal. The bill also proposes several other tax cuts, including a $500 increase in the child tax credit, a $1,500 increase in the standard deduction and a $15 million estate tax exemption.
• Increasing the SALT deduction cap to $30,000, but with limits. The bill proposes raising the SALT deduction cap from $10,000 to $30,000 but phases the deduction out for individuals earning greater than $200,000 and joint filers earning more than $400,000. Republicans in high-income tax states had proposed a figure as high as $62,000 for individuals and $124,000 for joint filers, setting up an intense negotiation.
• Eliminating taxes on tips and overtime, but with an expiration date. President Trump’s key campaign messages included pledges to eliminate taxes on tips or overtime. The bill proposes deductions for qualified tips and overtime pay through 2028.
• Making auto loans deductible, but with limits (and an expiration date). Another key Trump campaign pledge was to make auto loan interest tax deductible. The bill proposes making interest on car loans on US-made automobiles through 2028.
• Reducing taxes on Social Security recipients (with an expiration date). President Trump also pledged to eliminate taxes on Social Security. To keep the total cost down, the House bill alternatively proposes increasing the standard deduction for seniors aged 65 and over by $4,000, also expiring at the end of 2028.
• Spurring business investment through deductions and tax credits. The bill provides several provisions intended to promote growth, including 100% deductibility of capital investments and research and development costs as well as increasing the pass-through deduction for small businesses from 20% to 23%.

Following a 17-hour debate, the Ways and Means Committee advanced the bill on a straight party-line 26-19 vote early Wednesday morning.

Later Wednesday afternoon, the Energy and Commerce Committee also passed its proposed budget, seeking more than $800 billion in spending cuts primarily through Medicaid reforms. The bill includes new work, community service, or education requirements for Medicaid recipients, doubles states’ eligibility verification process to twice per year, and reduces federal funding for states that provide care for undocumented immigrants receiving Medicaid services.

Once passed, the individual committee bills move to the House Budget Committee, which organizes and presents them as a single bill for a House floor vote. Speaker Mike Johnson expressed optimism this week that the bill remains on track to pass the full House by Memorial Day. However, the Republicans hold a very slim majority and would need near unanimous agreement to pass the legislation without Democrat support, which would then need to be approved by the Senate, where the Republicans hold an equally slim majority, before it can be signed into law by President Trump.

Market Impacts

Capital markets remain more focused on evolving tariff news as they update economic growth and inflation expectations based on anticipated tariff levels. Recent market performance reflects falling recession odds and easier pressure on earnings growth. Still elevated inflation and less risk to prospective economic growth has lifted U.S. Treasury yields, hurting bond investors as prices move inversely from yields. Equity markets are likely to trade within a broad range as investors adapt to the changing prospects for tariffs and their impact on economic growth.