The China-US trade war is back on the agenda. While everyone awaited the announcement of a trade agreement, President Trump took to Twitter to reveal his plans to increase import tariffs from 10 to 25%. According to the US, China has reneged on its promises and this was the consequence.
He also threatened to impose the same 25% import tariff on another USD 300 billion of Chinese goods, in other words on all Chinese imports into the US. This is having direct consequences for the stock markets. The improved prospects for a trade agreement, which alongside the Fed’s policy U-turn were one of the reasons the market got off to a strong start this year, so this latest development is leading to market corrections.
The MSCI World Index, for instance, rose by 19% until the end of April and fell 3% in the first half of this month. For the Chinese equity market, the situation is more acute, as it rose 23% until the end of April, then dropped 6% in May.
The direct impact on Chinese exports has been relatively limited so far. In 2018, Chinese exports to the US rose in line with global trade trends. It is possible that, in anticipation of introduction of the tariffs on 1 January this year, companies sent additional goods across the oceans.
Only in recent months have we seen the volume of Chinese exports to the US decline significantly – and more so than total Chinese exports and total US imports. The trade war is bad news for the Chinese economy. Economists expect the current measures to bring down growth by 0.3 to 0.5%, due to both weaker exports and a knock-on effect on investments.
If the 25% import tariff is imposed on all Chinese goods, the country’s GDP growth rate will slow further by around 0.8 to 1%. To compensate for this, the government would likely take the necessary stimulus measures because, as a state-run economy, China has a direct say in how companies and banks are run.
However, a not insignificant side-effect of this would be a further increase in the country’s debt levels – something China has become more careful about in recent years. But let's not get ahead of ourselves. Negotiations are underway and a deal is still possible. In any case, the Chinese have an unexpected ally: the New York Stock Exchange.
Trump looks to the stock market as a key benchmark for his economic policies, and the stock market has a clear preference for a trade agreement.
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