“I’m amazed how little politicians seem to have learned from history. Nobody is benefiting from a trade war” – Carlos Moedas
China-U.S. Trade Negotiations Update
In recent weeks, as we’ve written about, there has a been an overall increase in drama surrounding the ongoing trade dispute between China and the U.S.
Here is a more comprehensive update which summarizes the dispute; what is happening, how markets are reacting, some key developments, and finally the road ahead.
As always, feel free to contact us with questions about how the ongoing trade dispute is affecting your portfolio. We are here for you.
Accident or Not
Whether by design or accident, the trade negotiations between the U.S. and China took a turn for the worse a few weeks ago. Were it not for the subsequent tweets, comments and actions by both countries, one could have dismissed the early-May breakdown in talks as a hiccup or simply negotiation tactics. But as it stands, it seems increasingly likely the U.S.-China dispute is not going to be resolved any time soon. Unlike last year, when China went out of its way to re-engage the U.S. after the Trump administration threatened and eventually implemented higher tariffs, Chinese officials’ responds were much more combative this time around.
Why the Surprise
The deeper issues, such as intellectual property protection, technology transfer and access, compliance monitoring of any agreement, the removal of tariffs and the definition of an “equal playing field,” were never going to be resolved within a few months. However, there was the hope that some agreement on trade might soon be forthcoming with a commitment to continue dialogue on the outstanding issues. Comments from both sides up to the end of April not only suggested that the latter was possible, but also that it was the most likely outcome. These assumptions were shattered by a single tweet as the U.S. walked away from the negotiation table – and wrong-footed a complacent market.
Chinese equities sold off aggressively, dragging down emerging market equities in general. The U.S. market, on the other hand, remained surprisingly resilient, reflecting:
• Optimism that some sort of deal will be reached in the near future. Anecdotally, it is interesting to note that U.S. investors are more optimistic on a near-term outcome than investors in Asia. A recent J.P. Morgan global survey indicated that only a quarter of investors surveyed believe Phase III tariffs (i.e., tariffs on the remaining US$300 billion) will be implemented. Half of respondents still think a deal is possible, with 27% seeing a deal being struck in late June.
• The hope that the impact on the U.S. economy would be minimal and inflationary pressures resulting from the higher tariffs would be manageable in the current low inflation environment.
• The belief that the U.S. Federal Reserve put is firmly in place and any major disruption to the economy or markets will be met by interest rate cuts and possibly even renewed quantitative easing. The market is already pricing in at least 50 basis points (bps) of cuts in interest rates in the U.S. over the next 13 months, and the U.S. 10-year bond yield has plunged 30 bps in recent weeks to 2.30%, from a high of 3.26% in October 2018.*
Key Developments Since the Breakdown in Talks
All indicators are pointing to increased rather than decreased tensions:
• The threat of a 25% tariff on an additional US$300 billion of Chinese imports.
• Huawei restrictions.
• Possibility of restriction on Chinese surveillance companies.
• Renminbi weakness.
• Hawkish and non-conciliatory comments from both sides.
• Bipartisan support in the U.S. for “being tough” on China. There are huge differences as to what that implies but, ahead of next year’s U.S. election, no presidential candidate wants to be accused of “being soft” on China.
The Way Forward
Between tweets by U.S. President Donald Trump and the lack of clear insights into the views of China’s Politburo Standing Committee, predicting the eventual outcome is a mug’s game, but given the deep-rooted differences between and frustration on both sides, especially from the hawkish camps within both administrations, the path forward looks increasingly challenged. Thus, following the developments on the dispute remains essential, especially given the profoundly different market impact of a near-term resolution versus a drawn-out and escalating dispute.
Bank of Canada Holds Key Rate at 1.75%
In a widely expected move, the Bank of Canada held its benchmark (overnight) rate at 1.75%. The reasoning provided for the decision was evidence of a slowing economy during late-2018 and early-2019. However, there were signs of improvement during Q2 2019. The BoC feels the Canadian economy’s current slowdown is “only temporary”, based on strong job figures and upticks in both consumer spending and exports.
Economists had pegged the odds of a May rate hike at less than 10% prior to the decision on Wednesday to keep the rate steady.
Going forward, economists estimate a 50% chance of a BoC rate cut by October 2019, a move that would aim to stimulate the economy.
The BoC’s next interest rate announcement is scheduled for July 10th.
Sources: CI Investments, CBC.ca, Bank of Canada, *Bloomberg
This information is provided for general information purposes only. It does not constitute professional advice. Please contact a professional about your specific needs before taking any action.