Aimed at China, Donald Trump’s trade war shots keep businesses and investors on their toes

Whatever the intended impact of the latest tariff threat and designation of China as a currency manipulator, the US moves are sure to disrupt the global economy and inflict pain beyond their initial target. Under such conditions, market volatility is a given

Hannah Anderson

Published: 1:00am, 10 Aug 2019

Why you can trust SCMP

Markets have had an uncomfortable two weeks – largely because of the US government’s continued escalation of its trade war with China. Two major developments necessitate further reflection: new upcoming tariffs and the designation of China as a currency manipulator.

Tariffs may be economically significant, but they are unlikely to weigh on trade negotiations. Meanwhile, designating China as a currency manipulator doesn’t change either side’s economic outlook, but it will be a major issue in trade talks, given its sensitivity and the abruptness of the announcement.

On August 1, US President Donald Trump announced he would impose tariffs on effectively all US imports from China. Beginning September 1, he plans to charge a 10 per cent levy on the remaining roughly US$290 billion of imports from China that do not currently face higher tariffs as a result of America’s intellectual property rights complaints.

Just a few days later, the US Treasury Department officially designated China a currency manipulator.

While the imposition of this 10 per cent tariff will not result in a catastrophic increase in prices for the US, it does set up two negative disruptions to the economy. First, the US administration has confirmed, once again, that businesses globally will have to contend with an extreme level of uncertainty regarding US trade policy; and second, in this round, for the first time, the average consumer will see an immediate corresponding increase in prices.

The direct inflationary impact will be, to borrow the Federal Reserve’s favourite word, “transitory”, because a tariff is a step up in prices, rather than sustained growth, so the effect fades when looking at period-over-period growth in prices, which is how we usually measure inflation.

However, if businesses feel they can no longer avoid sales-killing tariffs, the costs incurred from restructuring production lines could be passed on to consumers over the next few years, prompting a sustained increase in prices.

In stressing trade uncertainty, the Fed may have given the US administration a road map leading to lower rates

Designating China a currency manipulator certainly prompted a sharp market reaction, but it carries few punishments. Practically, taking this step only requires that the US and the designated country engage in negotiations with the International Monetary Fund to determine the appropriate balance in currency valuations.

As recently as June, the IMF said it did not believe China was keeping the renminbi artificially low to gain an export advantage – in fact, China has mostly been acting to keep the renminbi exchange rate elevated – it is not clear what steps the IMF would take.

If this year-long mandated negotiation fails to produce a fairer exchange rate policy, then the US is allowed to apply additional retaliatory measures, none of which weren’t already available to the US administration; labelling China a currency manipulator does not give Trump any new weapons in the trade war.

The currency manipulation designation carries more political than economic weight. Chinese officials reacted more strongly to this announcement than to the new round of tariffs, and currency management is a more sensitive topic.

By choosing this strategy to fight a trade war, the US is likely to have prompted a reassessment within the Chinese government as to the value of negotiating with the US at all, which is likely to prolong trade tensions well beyond this year.

China still likely to attend September’s trade talks, former official says

The uncertainty surrounding trade policy is one of the “global developments” the Fed highlighted in supporting its July decision to cut rates. In stressing trade uncertainty, the Fed may have given the US administration a road map leading to lower rates. Trump has long advocated for lower rates, and keeping trade tensions high may bring about just that outcome.

Investing under these conditions remains difficult. Trade risks have been present all year and market reactions follow a familiar path: the initial shock of the news prompts a sharp sell-off in US and Chinese equities on the day; the uncertainty infects global equity prices and raises concerns about China’s economic outlook for the next few days, nudging the renminbi down; eventually, barring a continued media focus on trade tensions, investors return to focusing on the rest of the items on their watch list.

As trade tensions are likely to persist for the foreseeable future, markets will probably remain volatile, and protection from this will remain expensive.

Hannah Anderson is a global market strategist at JP Morgan Asset Management

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