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This edition was written by Tristan Loa, Georgia Nabors, Jack Spira, and Louise Sheiner.
Robbie Minton and Mariano Somale of the Federal Reserve Board find that the costs of tariffs levied by the U.S. in 2018-2019 and in February to March of this year passed quickly to consumers. Matching data on personal consumption expenditure (PCE) prices with import volumes of final and intermediate goods, the authors compare product-specific measures of above-trend inflation with the predicted effects under full tariff pass-through. Focusing solely on the direct effects of tariffs—excluding the effects of retaliatory measures and price increases by “protected” domestic producers—their analysis suggests that the inflationary effects of tariffs peak within two months of implementation. The tariffs imposed in February and March of 2025 are estimated to have increased core goods PCE prices 0.3% by March (a pass-through of $0.54 per dollar of tariffs), commensurate with a 0.1% increase in overall core PCE prices. This is less pass-through than they detect in the 2018-2019 tariffs ($2.12 per dollar), both because imports now comprise a smaller share of PCE and because the 2025 tariffs were implemented more gradually, with some inflationary effects likely extending into April and May.
Economists find that federal research and development (R&D) spending produces significant social benefits—positive spillover effects for firms and industries other than the direct recipients of such investment. Using estimates of the social returns to government R&D spending from the literature, Andrew J. Fieldhouse of Texas A&M and Karel Mertens of the Federal Reserve Bank of Dallas predict that, if fully appropriated, the R&D provisions of the CHIPS and Science Act would increase U.S. productivity by 0.2% to 0.4% after seven years. In the year that this productivity boost reaches its peak, U.S. output will $40 billion higher than it would have been absent the expenditures, surpassing in a single year the total R&D spending authorized by the bill over a decade. Further, the authors find that past efforts to reduce the deficit by decreasing federal R&D focused primarily on defense R&D spending, while non-defense R&D investment was increased or left unchanged. They argue that fiscal consolidation targeting non-defense R&D spending could have large negative impacts on productivity.
C. Kirabo Jackson and Julia A. Turner of Northwestern and Jacob Bastian of Rutgers find that a universal pre-Kindergarten policy implemented in 1995 in seven states and two large cities increased public pre-K enrollment among four-year-olds by 10 percentage points over the following five years. The rise in enrollment led to increases of 1.2%, 1.5%, and 1.6% in labor force participation, employment, and hours worked, respectively. These effects were strongest in areas with the largest increases in public pre-K enrollment and where programs were widely accessible and high quality. Most of the employment gains were experienced by mothers, prospective mothers, and female informal caregivers. The authors estimate that each dollar spent on a universal pre-K policy increased aggregate earnings by between $3 and more than $20, depending on the specification. At the upper end of this range, the policy generated enough tax revenue to cover its cost.
"I expect to see a drag on productivity in the near-term stemming from the recent changes to trade policy and the related uncertainty, for several reasons. First, uncertainty around trade policy is likely to reduce business investment going forward. At this time, firms do not know the ultimate level and incidence of tariffs or their duration. Firms contemplating large investments might observe conditions that could hold under the paradox of thrift, wondering whether they could get a better deal if they just wait. Higher costs of imported materials and components could also cause firms to delay or scale back their investment plans. This reduction in capital formation can lead to slower technological innovation and adoption and decreased overall efficiency in production processes," says Lisa Cook, Governor of the Federal Reserve Board.
"Second, protectionist trade policies, while intended to support domestic industries, may inadvertently lead to a less competitive environment, if they prop up less efficient firms."
"And third, any supply-chain disruptions resulting from the policy changes would make production slower and less efficient. These disruptions can lead to inventory mismatches, production delays, and increased costs as firms scramble to find alternative suppliers or redesign their products to accommodate new input constraints. This set of disruptions could pose a particular challenge for monetary policymakers."
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