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Welcome to our latest video #MacroMemo. As usual, it is all about tariffs. There's a lot going on. I'm recording this on February 11^th – and I think that's important to state just because of course things are changing seemingly on an hourly and at minimum a daily basis. So this could yet prove stale. But we have some fairly fundamental things to say about the tariffs that have been threatened and that have been averted, and that are now in place, and some of the directions we might see tariffs go in the near-term.

So we'll talk through all of that and implications and responses and so on. We'll spend a moment as well just on the latest economic data, which is holding up pretty well as it stands.

We'll spend a moment on AI, artificial intelligence developments in the context of DeepSeek, that Chinese leap forward that took place in recent weeks.

And we'll also maybe just wrap up our thoughts on the Los Angeles fires and just some thoughts on the economic and inflation implications now that that seems to be largely settled.

Let's start with tariffs. On the tariff development front again, it's been a very busy few weeks really, since, the Trump inauguration. Last week, hat is to say. In early February, we did have Canadian and Mexican tariffs, those 25% threatened tariffs delayed until at least March 4th.

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And so we may yet have to revisit those. But for the moment, those are off the table.

Conversely, though, China was hit with tariffs. China faced and is now subject to an additional 10% tariff. China was paying an average of a 19% tariff. Or rather, the U.S. was charging an average of a 19% tariff on Chinese goods prior to that.

So, loosely speaking, you could say the rate is now averaging 29%. China has since responded. The response is, I would say, less than proportionate in a tariff context. So, not charging a 10% blanket tariff on all U.S. imports. However, China is limiting some of its rare earths and critical minerals exports, which is a bit of a pinch point that China controls.

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China is also seemingly ramping up its investigations into various U.S. tech firms with an eye to perhaps restricting them in a Chinese context. So certainly some response there as well. Then we had the last weekend and over the weekend, in fact, late on Sunday evening, President Trump announced steel and aluminum tariffs. These are tariffs that apply right around the world at a 25% rate.

That does rhyme a little bit with his first term in the sense there were steel and aluminum tariffs temporarily applied then as well. The aluminum tariff rate happened to be 10%, but the steel was also 25%, just like it is right now. In that episode, countries essentially negotiated away those tariffs over time. And so they were removed at different points for different countries.

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In a Canada-Mexico context, they were lifted after about 14 months as the USMCA (United States-Mexico-Canada Agreement) trade deal was penned. This time around, these tariffs could stick around and might stick around for longer, given that tariffs are being viewed as a potential revenue source. These steel-aluminum tariffs do hit Canada harder than the rest, in the sense that Canada is the number one exporter of steel and aluminum to the U.S.

It has a substantial lead on both fronts. When it comes to steel, Mexico, Brazil, China, Taiwan round out the top five. When it comes to aluminum, really, there almost is no top five. Canada is the overwhelming exporter of aluminum products to the U.S. To give you a sense, the number two country is the United Arab Emirates, which provides seven times less aluminum to the U.S. than Canada does.

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So this does hit Canada disproportionately hard. We do expect reciprocation in the form of probably steel and aluminum tariffs from other countries to the U.S., perhaps, plus a bit of a top up. In Canada's case, Canada doesn't import as much steel and aluminum as it sells, and so Canada can be expected to top up with some probably discretionary consumer-type goods mostly.

When we do some of the very loose modeling for this, I can say that we have some economic damage that's genuine but not overwhelming. And so in Canada, we figure GDP (gross domestic product) might be 0.2-0.3% smaller than otherwise with these tariffs. Steel and aluminum, about 5-10% of what Canada sells to the U.S. Less damage for other affected countries, maybe a 0.1-0.2% GDP hit for, the U.S.

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In terms of what might be next on the tariff file, well, I think we can look at a few different things. I would say from a geographic standpoint, the European Union (EU) seems to be very much in focus. Japan and the UK notably less so. And so do watch the EU in particular.

From a sector perspective, steel and aluminum has been cited. And so that's of course, now in place.

Copper tariffs, though. He's talked about oil and gas, I'm a bit more skeptical about that, at least in a big way. But nevertheless, that's been cited. Pharmaceuticals: often in a European context, so that might be a more genuine threat. Semiconductors: so of relevance to Taiwan in particular.

The auto sector has been mentioned as well, and probably you'd link that as well, disproportionately, to Europe.

There's also been talk about reciprocal tariffs. At some point all these different tariff ideas are blending together a little bit. And so I would say reciprocal tariffs are sort of just a combination of geographic tariffs and sector tariffs. The idea being some foreign countries limit U.S. access to their markets in certain sectors and the U.S. doesn’t like that.

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So the U.S. is proposing tariffs that essentially match those sorts of restrictions, one presumes with the idea that maybe the trade barriers can be removed on both sides at some point. The European auto sector would be a particularly obvious example of this.

Europe charges a 10% tariff on North American vehicles that enter Europe. The U.S. charges 2.5% on European vehicles entering the U.S. And so there is an asymmetry there. And so that conceivably is in focus as well. So certainly still tariffs.

Certainly still the expectation is more as opposed to less. Overall, our view is still that some tariffs will stick, that this is a more dangerous tariff period than perhaps the first Trump term.

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We still think that targeted tariffs are the most likely to truly stick. And indeed, that's arguably what we're seeing with steel and aluminum and some of this other talk. We're a bit more skeptical of the big blanket tariffs that hit an entire country. We're of the view that's less likely to stick around. And again, we are budgeting for some of these tariffs to persist. And so that is reflected in our economic forecasts.

I do want to mention as we sort our way through all these different White House initiatives, that where you can see the sequencing of policy initiatives is a little bit different than it was in the first Trump term. And so in the first term, you had tax cuts that came first. That was a boost to growth, then tariffs came later.

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That was a drag on growth. This time we are in theory getting the reverse sequence. We're getting tariffs first. But tax cuts may come later toward the end of this year or beyond. And so from that perspective you might expect a little bit less upfront growth, a little bit more later growth.

I must confess our forecasts don't overwhelmingly reflect that just because, of course, there are other things happening. And so the combination of the lagged effective rate cuts and positive wealth effects and reviving animal spirits still has us looking at a pretty decent growth outlook for the U.S. and for other countries, even over the first part of this year. But the tariff side does hit and hurt more than some of the other policy measures help, at least in the short run.

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Just in terms of the Canadian response: well, you know, we're going to see exactly what that is. But when it looked like there was going to be a 25% blanket tariff on Canada, we did get some clarity. The idea was a two-stage plan to implement tariffs on the U.S., building to about 155 billion CAD of products that would be targeted.

That would be less than half of the U.S. exports into Canada. So it would not be a complete tit-for-tat response. And I suppose now that we see steel aluminum tariffs online, the realistic expectation is that Canada hits U.S. steel and aluminum. But that's not a full match. Canada maybe tops that up with some items from its prior list.

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I'll mention as well, just from a Canadian standpoint, we've seen a bit of a national unity push or swell in recent weeks as the tariff threats have rained down from the U.S. It is worth talking about some of the opportunity areas there for Canada. One would be to reduce provincial trade barriers. I think there is some scope for that.

Estimates have suggested the economy is about 4% smaller than it would otherwise be due to those barriers. It’s the equivalent, apparently, of a 19% tariff, which seems rather undesirable. But I will say I think expectations need to be kept rather in check on this front. And so, just to give you a sense, this is not a new idea.

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In 2017, actually, there was a Canadian free trade agreement among the provinces promising to bring down barriers. And we've seen some progress, but not a lot. It's not as easy as signing a single executive order or equivalent document to lift 19% tariffs.

These barriers are largely accidental. They're not in the form of explicit tariffs. They mostly live in the realm of provincial variances in permitting and licensing, in technical standards and safety certifications, in government procurement rules, in securities regulators. There are a lot of potential efficiencies and synergies in utilities, healthcare and education sectors, but those are things that the provinces do.

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And so really, when you're talking about removing some of these barriers and really aligning regulations, more than anything else what is essentially being asked is that provinces give up their sovereignty over such matters and instead hand that up more or less to the federal government. I think there's room, perhaps, for some of that. But politicians are not keen to lose most of their power. So I think we need to be a bit skeptical that there are going to be big, big steps here.

I do think there's room, importantly, for some transport regulations to be eased and harmonized across the country in a way that makes it easier to transport goods to ports and so on.

I think it's also important to recognize that this may be a time for nation-building projects, like some of the pipelines that were rejected a decade ago, enhancing ports, maybe even enhancing the Saint Lawrence Seaway.

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Okay, let me pivot over just to some quick economic data. I would say it’s pretty solid still. We're not seeing signs of trouble here. The U.S. economy in particular is moving forward at a pretty enthusiastic rate. The ISM (Institute for Supply Management) Manufacturing Index actually leapt above that critical 50 threshold to its best reading since the fall of 2022.

So we're seeing strong growth there. I assume the services sector was conversely a bit weaker, but still fine. We're getting a Q4 GDP print that was in the low twos, but consumer spending was very strong within that. That's probably a pretty good place to be. And indeed U.S. payrolls, which looked, I suppose, a little bit weak on the surface for January with 143,000.

New jobs were actually a lot stronger than it looked. And there were big upward revisions to the prior few months. The unemployment rate did fall and weather might have held back the actual rate of job creation by 80 or 90,000 jobs. And so I would say when you dig into the details, if anything, it was a bit maybe too much hiring.

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I say that just in the sense that the U.S. economy is at risk of overheating and inflation is a bit too high and so on. And so we wouldn't want too much more economic strength is perhaps the take-away.

For Canada, we’re still seeing evidence of an economy that is picking up, too. And that's actually more uniquely positive in the sense that the Canadian economy was weak.

Strength is welcome. There's economic slack to eat through. We saw a third consecutive month of strong job creation with 76,000 jobs, and the details were strong. We have consumers feeling a little bit more optimistic, even those with mortgages that are resetting and who expect their rates to go up.

Again, it's a pretty positive interpretation to the extent that unemployment was too high going into this.

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Just a couple quick things from me. One would be on the AI side. It's just to acknowledge in the last few weeks there was this big seeming leap forward from a Chinese AI company called, DeepSeek. Their model seems to accomplish pretty impressive things more cheaply and with less resource intensity than some of the previously leading models. I will just say it is significant.

Equally, though, it's probably not quite as exciting as it seems in the sense that the cost estimates that seem so absurdly cheap were probably just the final run of the model. This was built on top of existing very expensive models that were open source. It's fairly easy to copy what DeepSeek did because it is also open source, and so others will be able to replicate any sort of innovations that occurred. The next ChatGPT is in safety testing right now and is theoretically as good or better and apparently five times faster.

So I don't think there's been a real changing of the guard in terms of who is leading on that front, and ultimately it’s good that rapid advances are still happening in AI from a productivity perspective. Even if DeepSeek doesn't win the AI race, China does look in somewhat of a better light as well.

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I would just continue to say don't count China out. Yes, it has any number of challenges right now, but when you step back and think, it is still proving to be quite an innovative place. It's leading in the auto sector, certainly in the electric car space, with trains, with drones, with batteries, with solar power. There is a lot of innovation happening there. There seems to be some in the AI space as well.

Now, let me finish just for a moment with the wrap-up, economically at least, of the Los Angeles fires. So these tragic fires took place from early January through really to late January. LA is the second largest metropolitan area in the U.S. It is 12.7 million people, pretty amazingly a GDP all to itself of 1.3 trillion USD.

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That's around 5% of the U.S. national GDP. We think the economic damage is fairly limited, though, and certainly, quite limited when you're talking about it in the context of national output. There was no great deal of structural and housing damage, but ultimately 16,000 structures were destroyed out of 4 million structures in the metropolitan area.

Just 0.4%, perhaps 20-40,000 people lost their jobs. That's less than 1%. Much of that would be, we think, temporary, particularly with the need for reconstruction. Financial losses, absolutely significant, $20-45 billion USD. But that is about a quarter to a fifth as big as the hurricanes that struck the U.S. southeast last fall. So smaller than that.

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We do see a small dip, we think, in economic activity in January, a small bounce in February. Certainly that need for more housing construction thereafter, potentially a bit more inflation, both in the context of now a housing shortage and the need to buy new cars and possessions, which is a localized issue, but also insurance costs going up, perhaps not just for LA, but for California and to a lesser extent nationally.

So that could be a visible if a slight increase on inflation.

Okay, I'll stop there and say thanks for very much, as always, for your time. Hopefully you found this useful and please consider tuning in again next time.