“President Trump is taxing the USA masses with import tariffs” – Steven Magee

U.S. / China Trade Tensions Update

Though most of Canada took time to relax and celebrate the Civic long weekend, the U.S. and China missed the memo. Both sides have taken steps to escalate their ongoing trade dispute over the course of the past five days, and markets have become more volatile as a result. While Canadian markets were closed on Monday, major indexes in the U.S. fell close to 3%.

U.S. Actions

Things kicked off last Thursday (August 1st) as U.S. President Donald Trump took to Twitter for a surprise announcement. In a four-part thread, Trump announced new, 10% tariffs on $300 billion of Chinese imports not previously targeted. This came the day after Fed Chairman Jerome Powell cited trade tensions in justifying last week’s rate cut by the U.S. Federal Reserve.

China Retaliates

The Chinese government was quick to respond with two separate measures:

1. A request for Chinese state-owned companies to suspend imports of U.S. agricultural products – a politically sensitive target for Trump ahead of the 2020 election.
2. Allowing the yuan-U.S. dollar exchange rate to fall below the symbolic 7 to 1 level. Last night, the U.S. Treasury reacted to this move by declaring China a currency manipulator – a claim the People’s Bank of China abruptly rejected.

Implications of a Weaker Yuan

A cheaper yuan reduces the cost of Chinese exports in the U.S. – offsetting a portion of U.S. tariffs. As such, it indicates China is looking to provide a buffer against the escalating trade war.

However, the manoeuvre comes with some risks for China. A devaluation back in 2015 resulted in significant capital outflows from the country, and a weaker yuan also puts pressure on Chinese borrowers who will face a less favourable exchange rate when repaying foreign-denominated debt.

Economic Perspectives

In his primer on protectionism, RBC Global Asset Management Chief Economist Eric Lascelles outlines that recessions are rarely triggered by protectionism alone. The economic damage is often mitigated by several factors:

1. Businesses seek to maximize profits. They will continue to import products subject to pricey tariffs if they can’t find an alternative way forward.
2. Tariff waivers. If U.S. businesses can’t find a suitable domestic supplier, they may qualify for a tariff waiver – 80,000 of which have been submitted regarding steel and aluminum tariffs alone.
3. Governments assist affected industries. The U.S. has directed billions to assist its agricultural sector.

Stock Market Perspectives

In the context of recent developments, it is important to note that markets have performed very well so far this year. Even after Monday’s sell-off, the S&P 500 remains up more than 13% in 2019.

For its part, the stock market usually responds to new economic uncertainties with increased volatility in the short term. If you think back to December, similar uncertainty related to trade between the U.S. and China also rattled markets for a few weeks, including a decline of close to 3% on Christmas Eve before resuming an upward trend.

So, over the coming days and weeks it would be normal to expect more ups-and-downs as the market digests new information, especially while both sides in the current trade dispute remain entrenched,

Conclusion

While the short-term will likely see continued ups-and-downs in the market, long-term focused investments need not be overly concerned; as for shorter-term investments, these tend to be (should be) more conservatively allocated and as such, have less exposure to equities.

As always, we stand ready to answer any questions you may have about your portfolio, so don’t hesitate to contact us.

Sources: RBC GAM

This information is provided for general information purposes only. It does not constitute professional advice. Please contact a professional about your specific needs before taking any action.