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This edition was written by Sarah Ahmad, Tristan Loa, Jack Spira, and Louise Sheiner.
How do tariffs affect prices along the supply chain? Using detailed product-level transaction data from a large U.S. wine importer affected by the 2019-2021 tariffs on European wines, Aaron Flaaen of the Federal Reserve and co-authors find that markups along each stage of distribution amplified the tariffs’ impact, so that the increase in consumer costs per bottle exceeded the tariff paid per bottle. Following the 25% tariff, foreign producers absorbed part of the tariffs by lowering their prices by 5.2%, implying that one-quarter of tariff revenue was paid by foreign producers. Within the U.S., importers increased their prices to distributors by 5.4% and consumer prices rose by 6.9%. In their data, this corresponds to an average retail price increase of $1.59 per bottle, greater than the $1.19 tariff paid per bottle. The price effects unfolded gradually, taking three months for importers' prices and one year for consumer prices to fully adjust.
Examining the roughly 40% shortfall in GDP per capita experienced by major European economies relative to the U.S. since 2000, Giuseppe Fiori, Colleen Lipa, and William Wu of the Federal Reserve find that investment by U.S. firms, measured as a share of their capital stocks, was two to four times larger than investment by firms in France, Germany, and the U.K. They argue that investing in capital that embodies less technological progress, which reduces the returns to investment, underlies Europe’s lower investment rates and slower productivity growth. In a counterfactual simulation that uses observed investment rates but gives European firms the same investment-specific productivity growth as in the U.S., the gap in output per hour relative to the U.S. narrows by 29% in the U.K., 35% in France, and 101% in Germany, suggesting that investment-specific productivity is a major contributor to the economic divergence across the Atlantic. The authors suggest that Europe’s regulatory and institutional frameworks help explain why its firms “systematically underinvest in productivity-enhancing technologies compared to their American counterparts.”
Between 1999 and 2010, China's higher education system expanded dramatically—the number of universities doubled, and college enrollment surged from 1 million in 1998 to over 8 million by 2018. During this period, enrollment of Chinese students at U.S. universities surged, increasing sixfold between 2005 and 2019. Ruixue Jia of the University of California, San Diego, and co-authors link the expansion in China’s education system to the growth in Chinese enrollment in the U.S., finding that, from 1999 to 2011, every 100 additional Chinese college graduates increased enrollment of Chinese graduate students in the U.S. by 3.6 students. These students were enrolled primarily in STEM master's programs at top-tier public universities. Contrary to concerns that Chinese students would crowd out other students, the researchers found a crowd-in effect: one additional Chinese master's student was associated with an increase in enrollment of 0.26 American master's students, 0.27 international undergraduates, and 0.50 international master's students, with minimal displacement of international PhD students. The authors attribute this to public universities using revenue from full-fee-paying international students to subsidize in-state tuition and expand programs.
“At the beginning of this year, it seemed the simple textbook account was all we needed to understand the world. The new United States administration moved quickly towards much higher tariffs. The dollar promptly appreciated; by some measures, it hit a multi-decade high in January. U.S. inflation also started to edge up, and the differentials with major trading partners began widening. All this made the U.S. more expensive to trade with," said Lesetja Kganyago, Governor of the South African Reserve Bank.
“The twist, however, is that from January onwards, the dollar has weakened. Depending on the measure used, it has depreciated by around 7−8% from its January peak. There isn’t much evidence that foreigners are dumping their U.S. assets, but there is evidence that they are hedging their dollar positions more aggressively. We must also bear in mind that the dollar has been relatively strong over the past few years, so it made sense that it would correct towards more normal values, not least because U.S. interest rates have eased lower.
One implication of all this is that 2025 has been a better year for emerging markets than many had feared. The adverse scenario for emerging markets was a wicked mix of a strong dollar, high U.S. interest rates, and tariffs that hurt our export industries. While we still have the tariffs to grapple with, the other factors have been more favorable.”
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