Trade wars are not good news. Mr Trump’s imposition of tariffs on another $200bn of Chinese exports helped drag eastern markets down ahead of the event. Forecasters and pundits fear that the tariffs will curb exports and activity in Chinese factories, push up the price level a little in the US and adversely affect the sentiment of investors and trading companies worldwide. Markets have not crashed on the bad news over tariffs for a variety of reasons. Some think the tariffs will be temporary. They expect a deal to emerge as Mr Trump imposes tariffs in order to get an offer of reduced tariffs and better market access from the counter party. Some realise that so far the tariffs affect a very small proportion of world activity, so they will not of themselves stop general modest paced global growth. We need to ask if the bad news is now fully discounted, and who suffers most from it?
China and Germany remain the most exposed of the major economies; both because they are in the sights of Mr Trump as he fires off his tariffs, and because they have large export sectors that are at some risk. There are several smaller economies that trade on a large scale in relation to their national incomes that are even more at risk from any general outbreak of trade war. Singapore, the Netherlands and Switzerland, for example, rely on voluminous exports and need good access to world markets. In the US, exports account for just 13% of Gross Domestic Product, so a few percent off US exports running into retaliatory tariffs is not going to impede good growth for the economy as a whole. President Trump also hopes for substantial import substitution as an offset, as the US tariffs start to bite. The revised Mexican trade deal he has signed requires more local content in products to be tariff free, and has a specific requirement for cars to have an important manufacturing component using labour that is paid at least $16 an hour.
The good news is there are limits to Presidential power over trade.
It is difficult to forecast exactly if and when Mr Trump will want to do more deals to quieten things down. The Chinese situation is still deteriorating. China is not only being provoked by the second round of US tariffs. She also faces a possible third round ending up with all Chinese exports under tariff into the US, and a possible hike from the present 10% tariff on the $200bn to 25%. Worse still from the Chinese point of view, the US and her allies are now pushing back more strongly over China’s occupation and fortification of reefs, islands and artificial islands in the South China Sea. China sees a linkage between trade terms and geo political issues in her region. Whilst there is a deal with Mexico, it keeps in place steel and aluminium tariffs and has not yet led to a revision of the Nafta Agreement which governs US/Mexico/Canada trade. When announcing the deal with Mexico President Trump stressed it was the “US – Mexico Trade Agreement” and went on to say he still wanted to get rid of Nafta.
The good news is there are limits to Presidential power over trade. The US is governed by World Trade Organisation rules of which it is a member, and by international treaties like Nafta. Congress has a role in changing these arrangements. There are also limits to how much damage trade reduction can do to the US economy, given the relatively low percentage of activity taken up by exports. It does not seem to us as if even with further escalation the trade tensions are sufficient to tip the west into recession. These events are unhelpful to shares in general and appear most damaging to the economies and countries most dependent on exporting goods that attract the new tariffs. Markets will have to live with it for longer as Mr Trump settles into a new phase to his trade war. The falls in the Chinese and German stock markets in recent months may have given correct warning of what is now beginning to unfold.
The above article was previously published by Charles Stanley on 19th September 2018