“From the Desk of Michael Sheldon, CIO”
The outcome of the meeting between the U.S. and China in Japan this past weekend was pretty much as expected. There was a cease-fire but no material de-escalation of trade tensions between the two sides. No substantial progress was announced on the main issues surrounding the ongoing trade dispute. A partial easing of U.S. restrictions on exports to Huawei and news that China will start purchasing higher amounts of U.S. agricultural products represent a slight de-escalation of trade tensions although details remain unclear. For reference, the U.S. Department of Agriculture recently commented that U.S. soybean exports to China in the last 12 months dropped by $11 billion or 80% compared to the average level during the same period in 2016 and 2017.
The impact on the U.S. economy from tariffs already put in place and the uncertainty it has caused in terms of future business activity remain question marks looking ahead. The U.S. consumer remains on solid footing for now, but business activity has started to slow somewhat. The Federal Reserve Bank recently indicated that it stands ready to ease policy in order to maintain the current economic expansion. With unemployment at 50-year lows, it may seem strange that the central bank is considering lowering rates. However, the Federal Reserve Bank is looking ahead (as central bankers should) and appears ready to cut rates as soon as the upcoming July Fed meeting next month. At this point the question for the Fed is likely not “whether” but by “how much” they cut rates.
We expect a resolution to ongoing trade tensions at some point, but the timing of a truce between the U.S. and China is difficult to predict at this point. President Trump appears to want a deal (especially for his political base) but is holding out until China meets his terms (i.e. no more forced technology transfer, lower tariffs on U.S. business entities operating in China etc…). Following this past weekend’s meeting, trade negotiations appear set to start up again. If current negotiations ultimately fail, then tariffs on an additional $300 billion in Chinese imports will likely be implemented.
According to Strategas Research, the tariffs currently in place are likely to reduce GDP by about one-half point on an annual basis. For reference, U.S. GDP is currently forecast to increase 2.4% this year followed by growth of 1.9% in 2020 (source: Factset). If the additional tariffs mentioned above are implemented in the future, that will likely have a more material impact on U.S. economic growth. In summary, talking is always better than not talking. A pause in U.S.-China tensions should be greeted positively by the markets but it is not the final outcome that investors are ultimately looking for. Over the next several months, we will likely also hear more on trade topics that include USMCA ratification (i.e. NAFTA 2.0) and EU / Japan trade / auto tariffs.
As always, we welcome any comments you may have.
Michael Sheldon CFA®, FRM®
Executive Director & CIO
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