13.05.2019 – Special report. China and the USA apparently slide into a historical confrontation. China has now announced counter tariffs in the customs dispute. Another escalation threatens, Wall Street and global trade are upside down. Traders now need an overview of who has stashed more ammunition in their arsenal in the epic conflict. And what assets promise successful investments in the turmoil of battle.
Who wins, who loses?
A confusing mixture in the customs dispute: The fronts between the world’s two largest economies have hardened. The first reaction of the financial markets on Monday to the worsening situation over the weekend points the way for further developments on the financial market. Chinese equities fell, as did the futures on US indices and the DAX. Investors fled to US government bonds and the yen – both assets are considered safe havens in times of crisis. Outside the People’s Republic, the dollar temporarily rose to a four-month high against the yuan.
What remains to be added in the medium term is that US agricultural products that are heavily exported to China – in other words, soya in particular – would suffer from an open trade war. Ditto world trade, which is likely to have a strong negative impact on the oil price in the medium term.
The thread of conversation has been cut
What recently caused particular nervousness on the floor was that there was no concrete date for a new round of negotiations. US economic advisor Larry Kudlow told Fox News that China had invited trade commissioner Robert Lighthizer and finance minister Steven Mnuchin to Beijing again – but without an appointment. Kudlow added that US President Donald Trump would probably meet Chinese President Xi Jinping at the G20 summit in Osaka, Japan, at the end of June.
Trump is calm
Trump gave the Chinese chief negotiator, Vice Prime Minister Liu He, a bump on his flight home on Friday via Twitter: “The conversations had been “very pleasant”. But there was “absolutely no hurry” to end them. In the meantime the “process has begun to impose additional 25 percent duties on the remaining 325 billion dollars”. Trump added that an agreement would be “much worse” if it was negotiated in his second term. Trump also set Beijing a deadline of one month to seal an agreement, according to news agency Bloomberg, otherwise the new special tariffs will also enter into force definitively.
China strikes back
Liu He, struck a new note on Friday when he said “every nation has its dignity” and stressed that China could make “absolutely no concessions” on fundamental issues. How does a diplomat want to retreat behind such red lines? He announced not yet concrete countermeasures. On Monday then the confirmation: From 01 June China wants to raise tariffs on US goods worth 60 billion dollars from 10 to 25 percent.
On Friday, He also made three Chinese core demands for the first time: First, all US additional tariffs would have to be eliminated. Secondly, the quotas for planned Chinese purchases of US goods would have to match real demand. Thirdly, the text of the agreement must preserve the “dignity” of both countries. What is supposed to be meant with that? Perhaps this: Washington expects from China that Beijing will put the results of the negotiations into legal form – and not only into government decrees. Washington therefore wants absolutely binding commitments from which China will not get out. This is probably an unprecedented innovation for Beijing.
On Sunday, China also struck little conciliatory note through the state-controlled Chinese media. The editor-in-chief of the Global Times, Hu Xijin, tweeted that from the perspective of Chinese politics there was hardly any room for compromise. Among experts, the journalist is regarded as an insider of the Chinese leadership and a mouthpiece of the communists.
On Monday, he added on Twitter: China could stop buying US agricultural products, buy fewer jets from Boeing, restrict service trading. In addition, Chinese scholars discussed the possibility of throwing US government bonds onto the market. Beijing has thus shown Washington its instruments of torture.
America is on the long end of the stick
But how exactly will the Middle Kingdom strike back? According to Statista, the USA only shipped goods worth 120 billion dollars to China in 2018 – these goods are already largely subject to Chinese “counter-tariffs”. The Red Dragon, on the other hand, exported products worth around 540 billion US dollars to the USA. So there is still room for improvement. In relative terms, a whopping 19 percent of Chinese exports go to the USA. In contrast, only seven percent of US exports are shipped to China.
USA also has a traditionally strong domestic economy. If imported Chinese goods become too expensive, domestic companies will immediately be found to take over the job – or manufacturers in India or South Korea who jump into the gap. On the other hand, the hardliners in China are of course also hoping that in future domestic companies will offer the products that the Americans are still supplying. And if China introduces stimuli, America can do the same; in addition, the Federal Reserve could now lower interest rates after all.
Threatening Yuan devaluation
Perhaps Beijing will devalue the yuan in order to make world trade exports cheaper. This will erode the purchasing power of the Chinese middle class. What Beijing might well want – because many chuppies – Chinese urban professionals – would probably invest their money in real estate for fear of the yuan crash, which could prevent the collapse of a market plagued by high vacancy rates. Otherwise, China’s appetite for gold could also be fuelled.
US bonds as a means of power
What remains is the nuclear option: China is the largest holder of American bonds and could throw US government bonds onto the market in retaliation. The People’s Republic still holds about 1,200 billion US dollars, Japan as number two about 1,000 billion. This would have a considerable impact on the US economy, which is running on pump. The first reaction of investors shows that nobody believes in this possibility yet – but traders should keep it in mind.
Conclusion: As always when politics interferes in the market, much is uncertain. The only thing that is clear is that volatility should increase if the situation escalates.
Bernstein Bank wishes you every success with your investments!
Important Notes on This Publication:
The content of this publication is for general information purposes only. In this context, it is neither an individual investment recommendation or advice nor an offer to purchase or sell securities or other financial products. The content in question and all the information contained therein do not in any way replace individual investor- or investment-oriented advice. No reliable forecast or indication for the future is possible with respect to any presentation or information on the present or past performance of the relevant underlying assets. All information and data presented in this publication are based on reliable sources. However, Bernstein Bank does not guarantee that the information and data contained in this publication is up-to-date, correct and complete. Securities traded on the financial markets are subject to price fluctuations. A contract for difference (CFD) is also a financial instrument with leverage effect. Against this backdrop, CFD trading involves a high risk up to the point of total loss and may not be suitable for all investors. Therefore, make sure that you have fully understood all the correlating risks. If necessary, ask for independent advice.