INVESTORS IGNORED THE LATEST ROUND OF TARIFFS; FOR HOW LONG?

Equity markets do not seem to be concerned over the latest phase of the U.S.-China trade war. http://www.tectono-business.com/2016/02/contemporary-step-by-step-guide-to.html Investors have been pricing negative news for months which has led several emerging markets into bear territory.  The 10% tariffs imposed by the U.S. on $200 billion worth of Chinese goods seemed to be a relief rather than a catastrophe given that markets were bracing for a 25% figure. Similarly, the Chinese response was a softer hit than anticipated after announcing that the nation won’t engage in currency devaluation.

There’s no doubt that China’s economy will take a bigger hit if tensions escalated further. After all, China had a trade surplus of $375 billion with the U.S. in 2017. If China’s exports decline significantly, the economy’s growth may slow down to 6% by 2019. However, there are no signs that Chinese officials are willing to wave the white flag anytime soon, especially with the U.S. mid-term elections being less than two months away. http://www.tectono-business.com/2016/02/contemporary-step-by-step-guide-to.html

When looking at the performance of global stock markets this week, investors still seem to believe that a deal between the largest two economies will be struck instead of a further escalation of trade tensions. However, with President Trump in office, we have doubts that an agreement will be reached. http://www.tectono-business.com/2016/02/contemporary-step-by-step-guide-to.html

Although China cannot go toe-to-toe with the U.S. in a retaliatory tit-for-tat tariff war, they still have options to support their economy and hit back at the U.S. with non-tariffs weapons. http://www.tectono-business.com/2016/02/contemporary-step-by-step-guide-to.html China may simply put its deleveraging efforts on hold and begin a new round of fiscal and monetary stimulus to offset the damage created by trade. A reduction in corporate tax rates on manufacturing and other industries along with keeping interest rates low and a further cut in Reserve Requirement Ratio to support credit growth will keep the economy well supported for the foreseeable future. http://www.tectono-business.com/2016/02/contemporary-step-by-step-guide-to.html

A gradual depreciation in the Renminbi is another tool to offset tariff impacts. The CNY has dropped more than 5.2% against the dollar so far this year, so it requires less than 5% depreciation to offset the current 10% tariffs imposed by the U.S. Despite Premier Li Keqiang vow not to pursue a policy of currency devaluation, officials can blame market conditions on the fall of the currency. http://www.tectono-business.com/2016/02/contemporary-step-by-step-guide-to.html

Beijing still seems to be playing defensive so far, but if China decides to move on the offensive a new strategy will be followed. http://www.tectono-business.com/2016/02/contemporary-step-by-step-guide-to.html This may include boycotting U.S. products, increasing taxes on earnings of U.S. companies in China, refusing to grant approvals for M&A involving U.S. businesses, and reducing its U.S. debt holdings. Any signs of China following this path will be damaging for investors’ confidence and that’s what could lead to a steep selloff in global equities.

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