The Weekly - Trade Wars: A New Hope…

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30/07/2018
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One lesson we have learned from President Trump’s gyrating stance on trade thus far is that whatever looks certain today is likely to appear uncertain tomorrow. Months of hard-line rhetoric with European ministers, amongst others, was seemingly leading to an escalating list of tit-for-tat levies on key goods.  As a result, there was widespread surprise when, following a White House meeting on Wednesday, President Trump and European Commission President Jean-Claude Juncker gave us a welcome respite. They announced a pact aimed at working towards a zero-tariff arrangement on all non-auto industrial goods.

This is good news for the global economy and marks the first instance of diminishing trade wars in months.  We shouldn’t get carried away though; the pact is vague in detail and a mere first step with Europe whilst other relations still remain fraught, but it’s a significant step nonetheless.

So why spend six months at each other’s throats?  This is of course not the first time that we’ve seen a sharp change of tack from the US President. We need only to think back to the fierce exchange between Trump and Kim Jong Un that appeared to escalate close to breaking point before the two decided to meet, shake hands and forgive all.  Subsequently, most of President Trump’s comments these days are typically met with a large degree of scepticism, in addition to the usual combination of shock and concern.  

In truth there are few politicians who can back-up such strong talk with the same action.  If we truly felt the enigmatic President’s actions would carry the same punch as his rhetoric, then I suspect markets would be in a far darker place than they are today.  In Trump’s case, to what extent it is calculated or just brazen behaviour is still somewhat opaque.

Either way we now have a commitment, albeit a vague one, from both sides pledging to negotiate towards tariff-free trade.  However, US tariffs on steel and aluminium imports remain in place, as do the EU’s retaliatory tariffs on US exports.  Importantly, the threat of US levies on Europe’s car industry has not been eliminated, but it seems it has been stalled for the time being.  The US has an automotive industry trade deficit with Europe of about $32 billion! To put this in perspective, it dwarfs the trade surplus in autos the US has with China of just over $6 billion.

Regardless of the outcome of US-EU trade talks, I suspect we may hear a lot more from Trump on trade with China ahead of the November 6th mid-term elections. The possibility of additional levies remains a threat but the consequences of rising US-China frictions could very quickly become a lot more meaningful for the world economy.  US policy may take many sharp turns between now and the midterms as Trump deciphers his best route to a more favourable result rather than as a result of any longer-term strategy.

Where do we go from here?  It’s possible that European trade relations are at least parked to one side and perhaps attention is diverted back to China where another $200bn of Chinese goods are currently set to be hit with tariffs in the coming months.  This comes in addition to the tariffs on $50bn of imports from China which are already largely in effect. What are the chances of a similar U-turn and commitment to US-Chinese free trade?  It’s dangerous to rule anything out but this surely feels a stretch too far.

China's unwillingness to approve the merger of the US tech company Qualcomm with Dutch chip maker NXP Semiconductors has not helped tensions this week. A number of other international regulators had already approved the transaction, with China the lone opposition despite a great deal of lobbying in favour of the deal by US officials. China, for what it’s worth, said the question of approving the deal by Qualcomm's self-imposed deadline was an anti-trust matter and not linked to US-China trade frictions.

Incidentally, this wasn’t the only hiccup for US tech last week.  For once, all is not running smoothly within the so called FAANG stocks – Facebook, Amazon, Apple, Netflix, Google (Alphabet) – having been responsible for much of the US equity market’s strong performance in recent times.  Facebook now holds the unenviable record of the greatest loss in market value for a single stock on a single day.  The social media giant saw $120 billion disappear from its market value, a drop of -19% on the day.  Interestingly, Twitter also suffered a -20% decline during the week but that’s where it ends for the tech sector’s woes, as Amazon bucked the trend and posted a positive set of results to edge ahead in its race with Apple to become the World’s first $1trillion company.

Facebook and Twitter have been at the centre of a lot of controversy surrounding fake news since Trump’s election, so mid-term elections are probably something they could do without. However, it looks like they could play an important role in determining the course of trade over the next three months.

US Equities hold firm as US economic growth impresses

Equity markets were little changed over the course of last week. The UK’s FTSE 100 inched +0.3% higher whilst the American S&P 500 posted a +0.6% on the back of reassuring second quarter growth data.

The US market’s weekly gain was more notable in light of the results posted by Facebook that fell short of expectations and subsequently led the tech giant to plunge in value by an eye-watering $120bn, a fall of -19% on the day.

US economic growth accelerated in the second quarter following a sluggish Q1. Gross domestic product (GDP) expanded at a 4.1% annualized rate in Q2 which is the fastest rate since 2014. Higher consumer spending and business investment both contributed strongly whilst US exports, which have a big influence on the GDP calculation, jumped as exporters increased trade ahead of increased tariffs.  Residential housing investment was the only significant detractor during the quarter, falling -1.1%, as rising rates and shortages of materials have been hindering US housing data. The yield on US 10-year treasuries rose on the back of the data, climbing 10 basis points to close the week at 2.96%.

Eurozone markets fared better than most in a week that saw the European Central Bank reiterate its monetary policy guidance that will see their asset purchasing programme draw to a close by the end of the year, but any rate rises are not likely until at least next summer. Germany’s DAX 30 rose +2.4% whilst the French CAC 40 index achieved a +2.1% weekly gain.

The price of oil edged a little higher during the week. The primarily European benchmark Brent crude climbed +1.7% to close the week at a shade over $74 per barrel. This represents a steadier week than we have seen in some time following a volatile period as investors weigh the potential of the US shale market against production levels from Russia and Saudi Arabia.

The Week Ahead

The Bank of England meets on Thursday when the Monetary Policy Committee is expected to raise interest rates by 25 basis points. Governor Mark Carney’s guidance has pointed to the move recently and despite criticism of giving mixed messages on the subject previously that led to some false dawns for the UK rate cycle, it now seems that most economists are anticipating a unanimous vote in favour.  Last November, the bank effectively reversed a cut of 25 basis points following the Brexit referendum but that aside, rates have not risen since the Global Financial Crisis.

A busy week on the central bank calendar before policy-makers disappear on their summer holidays will also see the Bank of Japan meeting on Tuesday.

In terms of data, Eurozone nations are expected to publish first estimates of Q2 GDP during the week. In addition, the first Friday of the month, as always, is scheduled to bring the latest US Labour Report complete with non-farm payrolls data and closely watched wage growth measures.