President Trump’s tariffs, highly touted as a lever to boost American industry, are now emerging as a substantial tax on business—putting pressure on corporate profits, labor markets, and prices, according to Morgan Stanley’s chief economist. Michael Gapen draws a striking conclusion in his Monday research note, US Economics Weekly: “Tariffs have been a tax on capital, so far.”
Data shows that, for now, firms have reduced hiring to manage the shock of higher costs from tariffs. Surveys indicate that while roughly two-thirds of businesses affected by tariffs have not yet raised prices, many plan to do so, foreshadowing inflationary pressures in the coming months. The diminished profitability is a direct byproduct of increased unit non-labor costs—specifically, taxes on production and imports, which include tariffs paid by the non-financial sector.
This absorption of tariff expenses has contributed to a puzzling economic divergence: Solid growth in consumer spending actively contrasts with a distinct slowdown in employment growth. Without rapidly rising goods prices, household purchasing power has been maintained, but weaker labor markets have become more visible.
Whereas companies have so far shielded consumers from the brunt of these costs, the threat remains that as the pass-through process continues, price increases will follow, putting further pressure on both households and businesses. Academic studies reject the notion that exporters are significantly absorbing U.S. tariffs through price discounting, as evidenced by largely flat or higher import price indexes from major trading partners like the EU, UK, Japan, and ASEAN economies. Instead, U.S. companies are bearing the brunt, and the effective tariff rate has spiked—reaching 16% after recent rounds of increases, with customs and excise deposits at the Treasury climbing to record levels.
The contrast to earlier years is stark. In 2021 and 2022, when supply chains were disrupted and production costs soared, businesses responded by raising prices and, paradoxically, improving profitability. Now, however, the playbook has changed: Firms are managing costs internally, accepting lower profit margins, and avoiding immediate price hikes.
Looking ahead, Morgan Stanley analysts caution that if companies are not able or willing to pass more tariff costs on to consumers, profit warnings, greater cost control, and even corrections in equity markets could follow. This is a central concern for the Federal Reserve, as the potential for increased downside risk to the labor market grows. Alternatively, if unseen productivity growth emerges—potentially driven by efficiency measures and AI adoption—profitability could rebound without weakening labor markets, sustaining consumer purchasing power.
Survey data underscores that tariff pass-through is not yet complete. A Federal Reserve Bank of Richmond poll found about 25% of affected firms intend to raise prices, while between 40% and 50% have already done so and plan further increases. Recent months have brought observable upticks in consumer price inflation for goods exposed to tariffs, and projections by leading analysts suggest annualized core consumer price inflation will approach 3.7% by the end of 2025.
For this story, Fortune used generative AI to help with an initial draft. An editor verified the accuracy of the information before publishing.
