Stagflationary effects will hit the U.S. hardest, Canada and Mexico at risk too.

The U.S. economy stands to suffer the most in terms of weaker growth and higher inflation from its trade war, with Canada and Mexico next in line to face the threat of stagflation, according to a new paper from the Bank for International Settlements (BIS).

In a new bulletin, a handful of economists at the BIS examine the impacts of rising trade protectionism, noting that, while the global economy has so far proven relatively resilient in the face of higher U.S. tariffs, they are expected to hamper global growth.

In the first half, the economy was bolstered by a “front-loading of trade,” the U.S. backing off many of its initial tariff threats and relatively easy financial conditions, the paper said.

However, as higher tariffs persist, their effects are expected to feed through to the global economy, lowering economic growth and stoking inflation.

While some countries have reached bilateral trade deals, “average U.S. tariffs are likely to settle at levels unprecedented in the modern era,” the paper said — which will act as a drag on the global economy.

Already, there are signs of the negative effects of higher tariffs, it noted.

“The increased trade costs are starting to affect corporate earnings in some manufacturing sectors,” it said. “Recent U.S. economic data — such as weaker private spending, persistent inflation and softening labour market performance — indicate emerging economic weakness.”

Additionally, ongoing trade policy uncertainty, “could depress domestic demand and put global growth at risk,” it said.

Alongside weaker growth, the “inflationary effects of tariffs could also be significant,” the paper said, although these impacts will likely vary, since the tariffs have mostly been imposed unilaterally by the U.S., which is facing, “higher import prices that are likely to increase price pressures,” as a result, it said.

In other markets, the inflationary impacts are less certain.

“On the one hand, lower export demand, trade diversion and currency appreciation can reduce inflation. On the other hand, if tariffs disrupt supply chains, higher inflation could materialize globally,” it said.

And with a recent episode of global inflation still fresh in the memory of businesses and households, “inflation expectations could be less well anchored in this event,” the paper said.

Indeed, the countries that impose tariffs face a “stagflationary shock,” the paper said, as “tariffs raise import prices, thereby depressing real income and demand” — while the countries that are hit with tariffs face lower export demand that leads to lower growth and inflation.

According to the paper, various economic models project, “lower output growth across the board,” due to tariffs — with the U.S. “the most affected economy due to tariffs being imposed on a wide range of trading partners.”

Other major economies, including Europe and China, are generally projected to feel smaller impacts, although it also depends on the ultimate tariff levels and any retaliation.

In any scenario, the U.S. economy, “remains the most affected in terms of both growth and inflation,” the report said.

While in scenarios that involve the highest tariffs and retaliation, “Canada and Mexico would face the strongest stagflationary effects, after the U.S.,” it said.

Alongside the risk of retaliation exacerbating the impact of higher tariffs, there’s also a risk that the financial conditions that have buffered the immediate impact of higher tariffs don’t last, the paper cautioned.

“Investor risk appetite could buckle as the effects of tariffs grow more apparent, leading to tighter financial conditions,” it said. “Stretched valuations and existing financial vulnerabilities could aggravate market corrections, particularly if lenders retrench and financial accelerator effects kick in.”

Additionally, an ongoing depreciation of the U.S. dollar carries risks too, the paper said.

“The shock-absorbing function of exchange rates could become impaired, possibly exacerbating the inflationary impact in the U.S. and disinflationary effects elsewhere,” it said — while also potentially undermining the U.S. dollar’s status as the global safe haven currency.