Investors' Outlook September 2018

Investors Outlook , Multi Asset 9/1/2018 by Christophe Bernard
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U.S.-China trade war ‒ if it was only about trade

With the full 50 billion U.S. dollars in tariffs now complete, investors and corporations are watching with anxiety whether the recent resumption of talks between China and the United States will prevent the imposition of import duties on a further 200 billion U.S. dollars of Chinese goods. To answer this question, let's remind ourselves of the stated objectives of the Trump administration:

  • Substantially reduce the bilateral trade deficit (in 2017, the U.S. imported 506 billion U.S. dollars of Chinese goods, while China imported only 130 billion U.S. dollars of U.S. goods
  • End subsidies to strategic areas outlined in the China agenda 2025, such as artificial intelligence, 5G telecom, self-driving cars or battery technology
  • Stop forced technology transfers
  • Allow for more competition to state-owned enterprises

 

Bilateral trade deficit USA versus China

bn USD

Source: U.S. Census Burean, Thomson Reuters Datastream, Vontobel

While China is willing to make significant concessions on the trade deficit, it is unlikely to relinquish its ambition to achieve global leadership in the aforementioned strategic areas. Also, any “surrender” by President Xi Jinping would damage the “strong man” reputation he has been nurturing since ascending to China’s top post in 2013 and taking a nationalist stance. So far, China has adopted a tit-for-tat retaliation policy versus U.S. trade tariffs while taking easing measures to offset the likely economic fallout from an escalation. In addition, the renminbi has been allowed to depreciate while banks have been ordered to support exporters. It seems that China is getting ready for a longer campaign. At the same time, after a trade truce with the European Union, and with Nafta negotiations seemingly on track given a bilateral deal achieved with Mexico, the U.S. is concentrating its firepower on China. President Donald Trump and key officials in the U.S. administration are convinced that China is running a state-backed scheme to steal U.S. technology in a bid to challenge global U.S. pre-eminence over the longer term.

With a strong greenback, Wall Street marking new highs and a vibrant U.S. economy, Mr. Trump is confident President Xi is going to crack (see chart 2). We’re not so sure. China is adamant that it will resist foreign powers, for historic reasons. Hence, we do not believe the end to the trade war escalation is near. For this to happen, the escalation would need to have a painful-enough consequences for the U.S. economy.

Chinese assets are losing ground versus the U.S.

Source: Datastream, Vontobel

Certainly, soybean growers or car exporters are not thrilled, but overall, the pressure on President Trump to strike a deal now looks manageable. And in the case of agriculture, a 12 billion U.S. dollar subsidy has been put in place to support farmers. That being said, the macroeconomic impact of an additional 200 billion U.S. dollar tranche of tariffs is more likely to be felt over time in terms of lower demand and higher prices. For China, the situation is more precarious and the leadership is departing from its ”deleveraging” policies to mitigate downside risks to growth.

If it was only about trade, the two sides could probably reach a deal over the next quarter or so. Instead, it’s about long-term strategic leadership, with the U.S. unwilling to give up its global position without a fight. Admittedly, if China could finally help solve the North Korean crisis, Mr. Trump would possibly lower the bar on trade...

All this means that investors will face further uncertainty. While remaining alert regarding any further escalation of the trade war on the one hand, they should remain flexible to seize opportunities if a path towards de-escalation emerges, on the other hand. A likely pre-requisite for de-escalation would be the planning of a one-on-one meeting between Presidents Xi and Trump on that matter. Recent experience shows that only commitments made by President Trump seem to stick, while those of underlings are of little worth.