The Trump administration announced yesterday that the US and China had agreed to reduce reciprocal tariffs by 115 percentage points for 90 days, a larger reduction than most of the market expectations. These reductions push the overall trade-weighted tariff rate to about 14%, or 17% when we exclude the temporary electronics exemption. We assume that the US will maintain the newly announced tariff rates on China throughout the medium term, after upcoming negotiations. We are now projecting real GDP growth for this year at 0.9% (4Q/4Q), up from 0.4% before the latest tariff news. A tariff is a tax, and so relative to prior assumptions this can be seen as a tax cut of almost $300 billion. The rolling back of this tax should provide some relief to consumer spending leading us to project real GDP growth for this year at 0.9% (4Q/4Q), up from 0.4% before the latest tariff news. We now see core PCE inflation this year at 3.4%, down from 3.8% prior to the truce, but up from 2.2% at the start of the year. Given our new growth outlook, we now see the unemployment rate peaking around 4.5% by Dec’25 & 4.8% by 2Q26. Our updated labor market outlook is less demanding of immediate action to stem employment risks; hence we are pushing back the timing of the resumption of rate cuts from July to one rate cut each in Sep & Dec. Earlier we were predicting 3 rate cuts of 25 bps each in REMCY25. After December we see a further three sequential cuts, taking the funds rate target range to 3.0-3.25% by 2Q26. The market is currently pricing in 55 bps of cut in REMCY25 which is reasonably close to our estimates above. But in H1CY26 market is pricing in only 42 bps of cut which is lower than our estimate of 75 bps of cuts. Hence, we see an opportunity to receive 2-year SOFR or outright buy 2yr USTs at 4.00% levels.
