Tariffs. They’re blunt instruments. They’re also the favoured form of trade diplomacy in both of the Trump administrations.

I’ve been writing about trade wars and tariffs since the 25% steel and 10% aluminium tariffs introduced by Trump back in 2018.

But do they actually cause inflation, or are they just another misunderstood economic tool? And if they go far enough, can they drag an economy into the dreaded world of stagflation?

Let’s take a quick spin through the mechanics of tariffs, using Ferrari’s recent response to Trump 2.0 tariffs as the inspiration for this blog.

The non-inflationary argument

Some argue that tariffs don’t necessarily cause inflation. If companies absorbing the tariff costs can offset them through efficiency gains, supply chain adjustments, or lower profit margins, prices might not rise significantly. In a highly competitive market, businesses may simply take the hit rather than pass it on to consumers. In these cases, tariffs act more like a corporate tax rather than a consumer tax, meaning inflationary pressures are limited.

But it’s a sticky clutch. This works best when tariffs are small, targeted, and don’t disrupt supply chains too much. If costs rise across an entire sector, businesses have fewer options to absorb them, making inflation more likely.

Some also argue that while tariffs may cause short-term price increases, the market eventually adjusts, either through reshoring production or diversifying supply chains, bringing prices back down in the long run.

However, history has shown this isn’t always the case—look no further than the 1930s, when the Smoot-Hawley tariffs contributed to prolonged economic pain and the Great Depression, instead of bringing the promised relief.

The inflationary side of tariffs

Not all tariffs are created equal. An indiscriminate tariff—slapped across multiple products from multiple countries by a government that feels it’s being taken advantage of—tends to be inflationary. Why? Because tariffs are essentially taxes on imports, and those taxes get passed down the chain.

Take Ferrari. The Prancing Horse just became the first European carmaker to respond to the latest round of tariffs. With a 25% tariff on its U.S. imports, Ferrari has decided to split the cost with its dealers, raising prices by a maximum of 10% while absorbing the remaining 15% itself.

That’s a strategic move—a bit like adjusting the suspension to smooth out a rough ride. But let’s be real—most companies won’t be so generous. Instead, they’ll push most if not all of the cost onto the end consumer, making new cars even pricier.

Plus, Ferrari could pivot if these tariffs remain long-term.

It’s not just finished goods that feel the squeeze—tariffs on raw materials like steel and aluminium ripple through the economy. If the cost of making something rises, the final price tag follows. Inflationary? Absolutely.

The stagflationary threat

Now, let’s take it a step further. What happens when higher prices lead to reduced demand? You either pay the price (inflation), or you consume less (economic stagnation).

Companies struggling with higher costs and weaker demand often respond by cutting back on production and laying off workers. And here’s where things get ugly—when inflation and economic stagnation are joined by high unemployment, you get the full stagflation engine misfiring on all cylinders.

Think of the 1970s. The oil crisis drove up costs across the board. Consumers had to pay more for fuel, leaving them with less money to spend elsewhere. Businesses suffered, demand shrank, and unemployment soared. Inflation, stagnation, and high unemployment—the three ingredients that, when mixed together, bake the perfect stagflation cake—or in car terms, cause an economic engine stall.

It’s not just a U.S. problem

The effects of tariffs don’t stop at the border. Take Ferrari again. The U.S. accounts for 25% of Ferrari’s sales. With a 25% tariff, Ferrari has already projected a 50-basis-point hit to its profits. That might not sound like much, but if it applied to its entire sales, that would be 200 basis points lost. And if it passed on the entire amount—loss of more sales and profits.

Now, apply that logic to other industries, and you start to see how an interconnected global economy can suffer.

Conclusion

So, are tariffs non-inflationary, inflationary, or stagflationary? The answer is that it depends on how they’re used. Small, targeted tariffs that don’t disrupt supply chains too much? Possibly non-inflationary.

Broad, indiscriminate tariffs? Inflationary at best, stagflationary if they start cutting into demand and jobs. And that’s what the current administration in the U.S. is at risk of serving up.

At the end of the day, tariffs are like tuning a high-performance engine. Get the mixture right, you get improvement. Get it wrong, and all you get is sputtering, backfiring, and an eventual stall—and when it goes on too long and the economy stalls and people are laid off, you get no growth, still high prices and rising unemployment—stagflation.

Not saying it will happen, just saying that tariffs will turn up the oven in which a stagflationary cake could already be baking.

Right now, Trump. Lutnick and Bessent don’t seem to care too much about some pain, but if these tariffs are long-term—they’re not telling Americans about the real pain they’re about to face. Biggest losers? American companies and households. Maybe then we get the much anticipated ‘pivot’.

See you in the market, and if you’ve signed up for the NextPerspective quarterly, you’ll receive the autumn edition tomorrow. Topic? Dollar Wars and the return of Obi-Wan Kenobi.

Mike

Prancing Horses and Stagflation

The non-inflationary argument

The inflationary side of tariffs

The stagflationary threat

It’s not just a U.S. problem

Conclusion