President Trump has left markets in a state of flux following tariffs rises on Chinese imports. Global equity markets saw the most significant weekly fall since the start of the year as the US poker game with China continued. Julian Broom, Head of Advice, explores the current situation:
The US has hiked tariffs by 15 percentage points to 25% on US$200 billion of Chinese goods. The move itself seems ill thought through – even against the context of President Trump’s unique approach to decision making– given US exports to China. For example, General Motors, sold 3.65 million vehicles last year to Chinese buyers, compared with fewer than 3 million to Americans. Furthermore the car manufacturer earned $2 billion last year from its joint ventures in China.
History has shown us time and again that a trade war has only losers. President Trump may try to pretend otherwise, but sanctions ultimately impact global growth. As things stand trade talks are ongoing, but the Chinese delegation has now returned to China hopeful of more talks in Beijing.
Despite the impasse President Trump is sensitive to the impact on markets and his supporters. In our view, he is targeting a vibrant equity market, and so it’s likely he’ll change tack if this strategy results in a significant downside on financial markets. He has also been sensitive in the past to the challenges that his tariffs have brought, particularly to the agriculture sector.
The Short Term Effect
Investors are currently scrambling for cover; the US equity market has suffered from the heaviest retail selling since the start of the year. Moreover China doesn’t have the ability to hit back hard; it has a far lower level of imports to raise taxes on – just $10 billion. It could limit sales of rare earths (China has a 90% share of the global market) which are crucial for the technology industry. However, it tried this with Japan in 2010 – the result was that rare earth prices from outside China simply rose.
The Rise of Chinese Consumers
The US must consider the bigger picture. An opportunity exists for the US is to do business with China rather than just export there. As the Washington Post recently reported global dynamics are very different now; Chinese consumers are buying more of what they produce compared a decade ago. Given that this group are taking over from the western baby boomer as the driving force of global consumer spending growth US companies need to be involved in Chinese domestic markets – not just export. By 2030, fast-growing developing countries led by China are expected to account for 51 per cent of global consumption, nearly double their 2007 share, according to a study by McKinsey Global Institute. Furthermore the US needs to get wiser to Chinese culture. Ford recently recognised its mistakes, responding to huge losses in the area by changing strategy and switching 30 expatriate managers for local talent.
A Global Impact
It is clear that other countries don’t easily benefit from a US/China spat. Few have a supply line built to take market share from Chinese exporters. Having said that the main winners to date appear to be manufacturers of low value-added items. US imports of Mexican goods rose 10% in 2018, the most in seven years, alongside a 20% rise in sales of metal ores and by-products. Yet it is clear that any further sanctions will only reinforce the political mood outside of the US of ‘how can we do without the US’.
President Trump is not an economist, but you’d hope his advisors would highlight that given a relatively vibrant US economy there would be stronger growth rates from imports rather than exports. If he wants a better balance between imports and exports, he could always take away the unfunded tax cuts and run a balanced budget!
Risk markets are understandably skittish. The trade war finally stopped the runaway rally in the US equity market; one of the most extended uninterrupted periods since 1928. If trade talks pick up the rally could return, but even without is still rattling up a reasonable rate of growth. Until there is a substantial downturn in growth or a Fed rate rise it is difficult to see a significant setback for markets.
Indeed it will be interesting to see if there is any change of mood from Fed officials and how their decision affects retail sales (which soared 1.6% in March and should show a more moderate 0.2% month-on-month rise in April) and industrial production, where growth is expected to ease from 8.5% year-on-year in March to 6.5% in April.
In summary then:
- China is unlikely to escalate the situation given the lack of targets for higher tariffs
- Some US businesses are aware that much is to be gained through a more positive engagement with China
- Chinese consumers will replace western baby boomers as the driver of global growth
- US and Chinese data will show who are the near-term winners and losers
- Share sell-offs should prove temporary