A trade war is brewing between the US and many of its major trading partners. There are few historical precedents for this situation – a wide range of tariffs that provokes retaliation from other countries during a period of full employment – and the economic outlook is not without risks. That makes assessing the economy difficult for both business and policymakers.

It will take time to see the impact of tariffs on international trade and on GDP growth in the affected countries. However, we forecast a 6.3 per cent increase in US business fixed investment for 2018 – up from 4.7 per cent last year – even if the risks are tilted to the downside.

The current US economic expansion began in July 2009. If, as we expect, it lasts at least until the end of 2019, it will become the longest on record, beating the 1991 to 2001 expansion.

Although GDP growth in the first three months of 2018 was below average at 2.0 per cent we expect a second-quarter rebound to 3.9 per cent and have increased our full-year forecast to 2.8 per cent. Our inflation forecast is unchanged however: a 2.5 per cent average in 2018, dropping to 2.0 per cent next year.

Yet there are risks. The trade war has prompted reprisals from other countries and may widen to include motor vehicles.

The uncertainty of whether the trade war is contained or escalates further will likely depress the growth of business investment spending for industries directly affected by the new tariffs and quotas. But doubts over growth may affect investment far beyond those industries.

Surveys of business investment intentions provide some early clues. Plans to increase capital spending over the next six months were at record levels in the first quarter of 2018 but while still strong in the second quarter, were down.

Our expectation of a second-quarter GDP rebound is based on a recovery in consumer spending and a jump in net exports. But higher oil prices, encouraging increased drilling and production, mean investment spending is expanding again too, lifting total business fixed investment by 7 per cent in the past year.

The sustainability of the upturn in GDP growth is likely to rest on the strength of business spending in the year ahead. And whether business investment remains strong may depend on a tug-of-war between factors such as tax cuts and the disruption and uncertainty stemming from higher tariffs and trade tensions.

A full-out trade war would create upside risks for inflation, in our view. The economy is close to full employment and demand growth is being boosted by fiscal stimulus. Hitting the economy now with tariffs on a wide range of imports could spark increased inflation expectations – partly in response to price increases on imported goods, and partly as consumers realise there are few offsets to stop price increases being passed on.

With so few historical precedents for this situation, decision-making is difficult for the US Federal Reserve as well as for business. Nevertheless, we continue to anticipate a quarter-point interest rate hike in September and another in December 2018.

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