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Investors relaxed over impending tariffs

By David Morrison  |  03/07/2018 14:19
”trade

This article looks past US Independence Day to the prospect of the US imposing tariffs on Chinese imports this Friday

After months of bluster and rhetoric the Trump administration’s deadline for imposing tariffs on Chinese imports is up this Friday. The US is set to launch tariffs on $34 billion-worth of Chinese goods with the threat of a further $16 billion to come. This takes care of the first US salvo to which China has promised to respond in kind. If they do, Trump has signalled that he’s prepared to slap tariffs on a further $200 billion of Chinese imports. And that’s before considering Trump’s other targets which include Canada, the EU and Mexico which put together raises the prospect of a global trade war which across-the board tariffs would likely trigger.

US indices near record highs

There’s been some speculation that Trump won’t pull the trigger on Chinese tariffs. But why would he pull back now and lose face? After all, considering what’s at stake here the US financial markets have proved remarkably resilient. The S&P 500 (arguably the US index most at risk from tariffs as it comprises all the US’s major multinationals) remains within 5% of the all-time high set in January. Meanwhile, the tech-heavy NASDAQ 100 is just 2% below the record close set last month – hardly an indication of impending doom. Investor reaction, at least Stateside, has been remarkably tame.

Shanghai Comp in bear market

Yet China’s Shanghai Composite entered bear market territory last week having fallen more than 20% from its most recent peak. Some analysts say that the discrepancy between the price action of US and Chinese equities is because the US will come out winners in any tariff tit-for-tat. They argue that China exports far more to the US than the US does to China. Last year Chinese exports to the US totalled just over $500 billion while their US imports were $130 billion. However, there’s a possible offset here as US corporations also sold China $280 billion-worth of goods and services through local subsidiaries. But the Chinese operations of US corporations are often co-owned by state-backed Chinese companies. This means that any attempt by Chinese consumers to boycott US companies would only backfire.

Yuan falls

But it’s not just the Chinese stock market which is feeling the heat as the yuan has fallen sharply against the US dollar. Overnight the USDCNY traded above 6.70, hitting its highest level since August last year. While a weaker Chinese currency will go some way to offset US tariffs, it also makes it more expensive for China to service and repay US dollar-denominated debt. Also bear in mind that Trump has previously accused China of manipulating its currency lower, even when the yuan was rising in value against the dollar. So, this current round of yuan weakness could give the US president another excuse for some bombastic Tweets criticising Beijing. In a sign that China is concerned about the yuan’s rapid decline, People’s Bank of China (PBOC) Governor Yi Gang, popped up to say that that the PBOC was paying “close attention” to recent yuan volatility and will "keep the yuan exchange rate basically stable at reasonable and balanced level." This intervention led to a bounce in the currency.

More tariffs?

Of course, it could be that the disparity between US and Chinese markets will persuade Trump that he’s doing the right thing in pursuing tariffs. He’s previously linked his presidency to a strong US equity market. So, if he can follow through on election promises and appear to champion American businesses at the expense of the US’s trading partners without upsetting the domestic stock market, then he’ll capitalise accordingly. But this raises the prospect that the only thing that will persuade him from taking further measures is a significant sell-off in US stocks. The trouble is that a bigger move on tariffs is likely to lead to a more aggressive response from China, the EU and everyone else. If so, it’s difficult to see how even US equities will dodge the fall-out.
 
Any information, analysis, opinion, commentary or research-based material on this page is for information purposes only and is not, in any circumstances, intended to be an offer of, or solicitation for, a transaction in any financial instrument. No representation or warranty is given as to the accuracy or completeness of this information. Any person acting on it does so entirely at their own risk and GKFX accepts no responsibility for any adverse trading decisions. You should seek independent advice if you do not understand the associated risks.
 

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