The March inflation numbers came in last Thursday at 2.4%.

The last time we saw a number that low was September of last year.

Before that, it was Q1 of 2021.

What happened in September of last year?  The Fed kicked off its easing campaign — with a 50 basis point rate cut.

So, headline CPI is running at a level that supported the launch of an easing campaign, and an aggressive start to it.

Add to this, as of April 1, the Fed has dramatically dialed down its quantitative tightening program (effectively ending it), because there were “signs of increased tightness in money markets.”

This move looks like a clue that something in the financial plumbing might be breaking.

And if we recall back to 2019, it was similarly “strains in the money markets,” that forced the Fed to slash rates, and go back to expanding the balance sheet (i.e. quantitative easing – QE).

With this in mind, let’s revisit some things Jamie Dimon (JP Morgan CEO) said about liquidity conditions back in October — and what he said this past Friday.

Back in October, he warned about the risk of volatility in the Treasury market.

He complained that the banks have tons of excess cash but can’t use it efficiently due to regulatory constraints.  It affects their ability to provide liquidity in the Treasury market, while the Fed is simultaneously extracting liquidity from the Treasury market.

And with that, he implied that we will likely see another episode of big Treasury market volatility, caused by the Fed’s quantitative tightening.

Fast forward six months, and the Fed is still extracting liquidity from markets, though now only at a rate of $5 billion per month (as of April 1).

And we’ve just had a huge spike in the 10-year yield.

What did Jamie Dimon have to say about liquidity conditions now?

He made the same case for regulatory change, for this reason:  so banks could intermediate more in the markets to provide stability, rather than the Fed.

And by Fed involvement, he means more QE.

Yesterday we talked about Reagan’s strategy to end the Cold War, “escalating to de-escalate.”  It looks like Trump is taking the same approach in his attempt to end China’s multi-decade global economic war.

And just as the Soviet Union responded to Reagan’s escalation with escalation, China has responded to Trump’s escalation with escalation. 

The Soviets were drawn into an arms race with the U.S. that economically broke them.  Similarly, China has now been drawn into a trade war, which will economically break them.

That said, as we’ve discussed in recent weeks, we should expect China to counter Trump’s tariffs by weakening the yuan.

No surprise, heading into tomorrow’s doubling of tariffs on China, the Chinese central bank has been walking its currency lower, and now have set it to very near the weakest level (versus the dollar) in 18 years.

As for the rest of the world, as the additional “reciprocal” piece of the tariff plan kicks in tomorrow, it should represent the high-water mark, from which any news should be in the direction of lowering tariffs.   

Let’s talk about some comments made over the weekend by the Treasury Secretary, Scott Bessent, and how it relates to some of today’s activities.

Bessent had an hour long interview with Tucker Carlson that was posted on Friday (see it here).

In this interview, he made a brief comparison of the Trump tariff strategy to Reagan’s tactic of “escalating to de-escalate” in dealing with the Soviets.

To describe it simply, core to this tactic was Reagan’s massive military ramp-up, which provoked the Soviets into a costly arms race.

Reagan then (arguably) coordinated with the Saudis to flood the oil market with supply, crashing oil prices.  That slashed Soviet oil income, which it needed to finance the military buildup.  From an economically fragile position, Gorbachev made a deal.

Importantly, Reagan, unlike his predecessors, viewed the Soviet Union as an existential threat, and was focused on defeating it, not managing it.

As for Trump’s tariff strategy, it’s really all about China.

In Trump 1.0, he thought just getting any movement on trade with China would be considered a success.  In Trump 2.0, it’s about ending China’s multi-decade economic war.

As we discussed in my note last week, if anyone is wondering if the bark might be worse than the bite, they can look no further than Trump’s Secretary of State selection.

In Rubio’s book, he called the Chinese Communist Party “a totalitarian regime bent on world domination.”  And in his confirmation hearing to become Secretary of State, he said “if we stay on the road we are on right now, in less than 10 years, virtually everything that matters to us in life will depend on whether China allows us to have it or not.”

All this to say, the first level of Trump’s “escalate to de-escalate” strategy seems to be about drawing the rest of the world back into alignment with the U.S., using the U.S. consumer as leverage.  And he’s getting movement, from over 50 countries so far — even Europe.

After re-aligning/rebuilding allies, the second level of the “escalate to de-escalate” strategy seems likely to be about isolating China.  Like Reagan, Trump escalated, and now provoked a tit-for-tat increase in tariffs, and China’s economy will be the biggest loser.

So, if we consider this, today when it was falsely reported that Trump’s economic advisor said he was considering a 90-day pause on tariffs, the recovery in markets was explosive.

The S&P 500 spiked 8.7% in about half an hour.

The U.S. 10-year yield spiked 20 basis points.   The yield curve steepened.

Even after the report was debunked, markets held up.

Did this market reaction, on the idea that Trump may pause tariffs, prove that Trump does indeed “hold the cards” (as he likes to say) … that the economy is strong … and that he can turn the dials, at will, to unleash it?

Maybe.

Perhaps a clue: The stock of the most important company in the world, traded in a 17% range today, and put in a bullish technical reversal signal (an outside day).

And the S&P, traded just shy of this big line from the covid lows, before bouncing 7% …

With the big decline in stocks today, let’s take a look at the historic one-day declines of similar magnitude (or more) … 

This is the S&P 500 futures.  As you can see this roughly 5% or greater decline has some rare company. 

Interestingly, among these severe declines is a down 5.4% day on February 5th of 2018. 

And while it wasn’t directly attributed, at the time, to tariffs, it came just two days before the effective date of a 30% tariff on solar panels and a 20% tariff on washing machines — mostly all having to do with China.

The next day was the low of a 12% decline. 

The decline was from the record highs, and happened over the course of just six days. And it took a little more than six months to regain new record highs.     

Guess what else happened on February 5, 2018?

Jerome Powell was sworn in as the new Fed Chair. 

Trump tax cuts had just been signed into law two months earlier.  And just three days before Powell took the helm, a hot employment report hit, with the hottest wage growth since prior to the Global Financial Crisis.  Government bond yields were already on the move (trading to the highest levels in four years, around 2.7%).  And Trump had just kicked off tariffs. 

From the outset of the Trump administration, the Fed viewed Trump economic policies as inflationary, and started to exit emergency level policies of the prior eight years.  They started a series of mechanical interest rates hikes. 

By the time Powell became Fed Chair, they were several months into quantitative tightening.  And there was clear concern in markets about the potential of a misstep by an inexperienced Fed Chair, in dealing with the unknowns of quantitative tightening.

With that, we have the plunge in stocks today, of similar magnitude to this February 2018 day.  And we have the “tariff” commonality.

Also, like in 2018, we have plenty of Fed influence on the stock market correction.

In the current case, we have a Fed that has hit the pause button, early into the easing cycle, even as they have rates at historically restrictive levels (continuing to put downward pressure on the economy and on inflation).

And, again, they’ve judged, based on their actions and their forecasts, that the balance of risks from the Trump policies would skew toward inflationary.

But both the bond market and the stock market over the past two months seem to be telling us the Fed pause was a mistake. 

As we’ve discussed many times in my daily notes, the turning points in markets over time tend to be determined by some of form of monetary policy adjustment.  You can see it in the chart, just over the past four years.

In the current case, we should expect the Fed easing cycle to re-emerge.

As we head into the initiation of broad-based tariffs tomorrow, let’s take a look at the chart of the U.S. trade balance …

We can see the dramatic trade deficit that developed from the early 90s, driven by China’s economic plan to corner the world’s export market (by manipulating a persistently weak currency).   And it sharply widened leading up to the Global Financial Crisis. 

Then we had Trump 1.0.  And core to the Trump agenda was “structural reform,” meaning balancing global trade.  That came with a multi-year negotiation on trade with China, which resulted in a “phase one” trade deal, but has ultimately delivered an even deeper trade deficit. 

And this recent collapse in the chart is the front loading of trade over the past two months, in efforts to get ahead of tariffs.

Now, if we look back at the trade war of 2018-2019, it was even admitted by Trump that getting any movement on trade (with China) could be considered a success, given the history of the prior twenty-five years. 

This time around?  If we’re wondering if the bark might be worse than the bite, we can look no further than Trump’s Secretary of State selection. 

Marco Rubio wrote a book in 2023 titled Decades of Decadence, which probably got him the job to run the State Department. 

In his book, he has a chapter on China. 

He called the Chinese Communist Party “a totalitarian regime bent on world domination.”  He said the rise of China was the result of “a series of extremely bad decisions, almost all of which were made by the elite political class of the United States.”  And as China rose, “the US government helped them at every step of the way, failing to see the threat that was right before their eyes.”

Also remember, the race for AI supremacy is a two horse race (between the US and China).

And the winner will be the difference between AI that serves humanity and AI that controls humanity (serving the interests of the Chinese Communist Party).  

So, we should expect Trump to leverage tariffs on China to the fullest extent.  

As we discussed last week, the launch of reciprocal tariffs on Wednesday will widen the reach, but the big bang already happened earlier this month, with tariffs implemented on the three biggest exporters to the U.S. (China, Canada and Mexico).

And keep in mind, it has now been nearly two months since Trump’s blanket 10% tariff on China (addition to any existing tariffs).

So, the exasperation over April 2nd has seemed overdone.

And we may have seen that play out in today’s sharp rebound in stocks.  Add to that, later in the day, in an Oval Office press conference, Trump indicated that the reciprocal tariff plan wouldn’t be of equal scale, but rather they intend to be “very nice by comparison,” and “the numbers will be lower than what they’ve been charging us.”

Maybe more important than tariff week, its jobs week.

And we should begin to see DOGE job cuts reflected in this March report on Friday.

As a clue, remember the report last month from the recruitment firm Challenger, Gray showed the biggest layoffs in February since the covid lockdown era, and the depths of the global financial crisis.

It seems obvious that a labor market shock is coming, it’s a matter of when.  The consensus view for Friday is around 140k jobs created and no change to the 4.1% unemployment rate.

It’s an optimistic view.

The question is, will the job market over the next couple of months force the Fed into a more dovish stance on interest rates?

Remember, the Fed has been telling us for the past year that signs of “cracks” in the labor market would be a condition to “react” (i.e. with rate cuts).

With the government job cuts well telegraphed, one would think that Jerome Powell would have acknowledged this labor market inevitability in his last post-FOMC press conference.

Here’s what he said about jobs …

First, he was asked about the Treasury Secretary’s observation that a large amount of the job growth under the Biden administration was government or “government adjacent” jobs.

His response, a dismissive “employment is employment.”

Well, now we have a rightsizing underway of government jobs, which makes this next commentary from Powell’s Q&A of interest:  He said, “what we have is a low firing, low hiring situation,” so “if we were to see a meaningful increase in layoffs, then that would probably translate quickly into unemployment … because it’s not a big hiring market.”

Yesterday we talked about tariffs and Trump’s objective to rebalance global trade.  

It’s about China, and the multi-decade economic war it has waged using its currency as a weapon.  That’s led to a wealth transfer, from the West, to China.  And that has led to a structurally fragile global economy.

That said, a weak yuan has been the go-to strategy for manipulating economic advantage, and the formula for its rise to global economic superpower status.  And we should expect China to counter Trump’s tariffs by … weakening the yuan.

If we look back at 2016, in the seven weeks surrounding the election, the Chinese central bank made the largest seven week devaluation of the yuan in a decade — in anticipation of tariffs. 

This time, for Trump 2.0, the yuan is already set around the weakest levels vs. the dollar since 2007.

And if history is our guide (from trade war 1.0), we should expect China to create some leverage in trade negotiations by threatening a big one-off currency devaluation.

What leverage would that create?

A sharp yuan devaluation would (very likely) trigger global financial market instability.  A small one-off devaluation in 2015 sent global stock markets into a sharp fall, on the fear that a bigger Chinese currency devaluation was coming, which could have led to a global currency war, as export competitors devalued to stay competitive.

A currency devaluation threat from China could either 1) put pressure on Trump to negotiate more favorably to avoid a bigger economic fallout, or 2) it could embolden his effort to end China’s economic warfare — perhaps by rallying allies to coordinate sanctions (to put China in the penalty box).   My bet would be on the latter.