When equity markets were hitting new highs Donald Trump was taking all the credit. “The reason our stock market is so successful is because of me,” the President declared to journalists aboard Air Force One. But the problem with this attitude, as noted by Barack Obama’s former press secretary Jay Carney, is that if you claim the rise, then you own the fall. If the current trade spat escalates, then there are likely to be some sharp market falls – these really will be owned by Trump.
Market participants were a lot happier in 2017, when the main focus of the US administration was tax cuts rather than trade protectionism. Now the prospect of mercantilist trade policies has got investors concerned about future growth. Despite claims to the contrary, there are few, if any, real winners in a full-blown trade war. An escalation is likely to result in job losses, corporate profit erosion, higher consumer costs and equity market losses.
There were hopes that progress was being made on this issue, as China made a number of concessions. But the situation has been escalated by the White House once more. This week’s wobble was sparked by the President’ suggestion of tariffs on a further $200bn (£152bn) of Chinese goods should the country launch any retaliatory action against the initial tranche of measures. The administration had previously unveiled tariffs on Chinese imports worth $50bn, but these have been reduced to $34bn following a consultation with US businesses. They will come into force on 6 July.
The main question investors are trying to figure out is whether these new threats are part of a political game or is there a real danger of a major global upset. “I fight when I feel I’m getting screwed, even if it’s costly and difficult and highly risky,” the President said in The Art of The Deal, his book on the Trump business philosophy. He certainly thinks that China has not been playing fair and, to quite a significant extent, he is correct. Western companies do not operate on an even playing field when operating in the country – they are required to team up with a Chinese business partner, for example. This fact has helped spark what is perhaps the most important issue in the debate – the issue of technology transfer.
Launched by Premier Li Keqiang in 2015, the “Made in China 2025″ strategy aims to guide the country’s industrial modernisation, including the substitution of foreign technology with innovation developed within China itself. US tariffs are likely to be levied on products within the ten areas identified in this initiative. These include artificial intelligence and robotics, information technology, aerospace and next-generation vehicles.
Technology is one of the US’s key strengths. As well as dominating Nasdaq, technology companies make up more than 26% of the weighting of the S&P 500, so are vital to the US economy. The Americans are very concerned that the Chinese are stealing their expensive and hard-won innovation. The current administration has blocked Chinese takeovers of US technology groups such as chipmaker Xcerra and payments group MoneyGram. However, there is now a plethora of small, innovative US businesses and transfers can occur through vehicles such as bankruptcy courts or the foreign venture capital firms which bankroll US tech start-ups. But perhaps the biggest risk is the requirement for a Chinese business partner when foreign companies operate in the country. It is regarded as a back door way for innovation to be “stolen” by Chinese businesses. But, despite Trump’s efforts, it’s possible that this horse has already bolted.
President Trump says that winning a trade war is easy because China doesn’t import enough from the US to match Donald Trump’s tariffs dollar for dollar. However, China can take action other than raising tariffs. An interesting case in point is South Korea’s Lotte Shopping. It used to operate in China, but authorities closed down it stores and the company has been forced to sell its Chinese operations bit by bit after they were closed down for “fire-safety violations”. This followed Lotte’s decision to hand over land in Seoul for a US-made missile defence system, which irked Chinese authorities. The disorderly withdrawal cost shareholders almost $2bn.
High-spending Chinese also avoided South Korea during the dispute, a tactic that could also be used to target Chinese vacationers in the US and luxury goods purchases from US-owned businesses. Chinese authorities are experienced and effective at organising boycotts. Many US businesses have operations in China that are growing rapidly. Electric vehicle maker Tesla plans to build a new factory, sportswear companies such as Nike are seeing double-digit growth in revenues in the country. Other companies that could be targeted include Boeing, Caterpillar and Apple.
All of this means investors need to ask themselves what the “end game” looks like. The fear that drove the market sell off earlier in the week eased somewhat as the week passed as investors hoped that the current noises from the White House was part of a political chess game. They are also seeing a time limit on the current worries as it is widely accepted that the most important issue for the President right now is preventing a “blue wave” of Democrat wins at the mid-term elections in November.
A damaging trade war that hit global markets – and the average American’s wealth – would not help in the mid-terms. That’s why many investors are hoping that President Trump will want to strike a deal with China on trade and claim some sort of “win” before Americans go to the polls. But unfortunately, Trump is anything but predictable. Market risk has increased.
The above article was previously published by Charles Stanley on 25th June 2018