Larger tax-cut proposal not enough to offset drag on growth from tariffs: Goldman Sachs

Goldman Sachs reports that while proposed House Republican tax cuts are larger than previously estimated and should positively impact growth in 2026 and 2027, the economic drag from tariffs will more than offset this boost. The report also notes that tariff revenue would likely exceed the increased budget deficits caused by the tax cuts, and that Moody's recent downgrade of the U.S. credit rating appears to have been influenced by the pending fiscal package, highlighting concerns about the deteriorating fiscal outlook.

Analysis

A Goldman Sachs report, led by Jan Hatzius, indicates that the House Republicans' proposed tax cut package, while larger than initially anticipated by 0.1% to 0.2% of GDP over the next few years, will not be sufficient to counteract the negative economic impact of tariffs. The package's individual income tax deductions and business investment incentives are expected to positively influence growth in 2026 and 2027. However, the report posits that the economic drag from assumed tariff increases—projected to raise approximately 1.25% of GDP or $400 billion in FY2026 based on 11% of GDP in goods imports in 2024 and a 13 percentage point tariff rise—will more than nullify the growth stimulus from these fiscal measures. While the tax cuts are estimated to increase budget deficits by about 0.4% of GDP compared to current policy, tariff revenues are expected to exceed this deficit increase. This complex fiscal interplay occurs against a backdrop of deteriorating U.S. fiscal health, evidenced by a national debt exceeding $36 trillion and a fiscal 2024 deficit of 6.4% of GDP. Goldman Sachs also notes that Moody's recent downgrade of the U.S. credit rating from Aaa to Aa1 appears influenced by this pending fiscal package, highlighting market sensitivity to the nation's fiscal trajectory, a concern previously flagged by S&P in 2011 and Fitch in 2023.

Key Decisions for Investors

• Investors should moderate expectations for U.S. economic growth acceleration in 2026-2027 from the proposed fiscal package, as Goldman Sachs projects the negative impact of tariffs will outweigh the benefits of tax cuts.
• Given the U.S. credit rating downgrade by Moody's, attributed partly to the fiscal outlook, and persistent budget deficits, investors should closely monitor fiscal policy developments and potential impacts on U.S. Treasury valuations and broader market sentiment.
• It is advisable to assess portfolio allocations, considering heightened risks for sectors heavily reliant on imports due to potential tariff impacts, while also identifying opportunities in industries that might benefit from specific business investment incentives within the tax proposals.