Blain's Morning Porridge, submitted by Bill Blain
I've just spent a cold and blustery bank holiday weekend sailing. Almost as blustery as the threats of trade-war talk rattling stock markets. Almost as cold as the mood around them. This week's markets are likely to be all about how China reacts and Trump twits. The next few days are going to be critical.
Will they, or will they not send, a team to the US, and if the Chinese don't go, how conciliatory/aggressive will Trump be to keep a trade deal together? It's going to make for fascinating soap opera! I suspect markets will remain "jittery" on China engagement/dis-engagement risks over the coming weeks.
The Trump Twitterstorm, and the subsequent down/up ructions in stocks, demonstrate 2 contradictory market forces: how reactive to immediate news markets are, and how quickly they discount news. At present, it seems impossible to wean global markets driven by boundless optimism off the opioid of insanely low interest rates. (Who has learnt the lesson of 10-years of QE nonsense? Low interest rates = low returns and do little for the real economy - they simply encourage investors to seek higher returns by buying financial risk!)
The weekend was a classic example of contradictory behaviour: markets stalled on Trump's threat of 25% tariff hikes on $200bln of trade, and imminent trade war with China. Everyone had thought a trade agreement was a done deal. Oh dear, what a shame, never mind. Then the market quickly bought the story the trade talks will continue... The market still assumes the talks are a done deal. Maybe they are - but a small chance remains they aren't! My worry is complacency reigns.
The tariff threats just before face-to-face meetings are just another typical page from Trump's China Playbook - keep destabilising them, "ambushing" with new and contradictory demands, and eventually playing a conciliatory card. It's not particularly sophisticated, it smacks of a bully, and it's a high-risk strategy - possibly causing the Chinese to walk away, and certainly building a long-term loss of confidence (a point I'll come back to.)
There are two sides to this game:
- Trump has less time on his side than he pretends. He needs an agreement asap to confirm his "Mastery of the Deal" and success to US Agribusiness and farmers ahead of the election. He's betting the numbers - like last week's jobs release - will continue to show the American economy thriving. Sure, he'd like to further pump prime it with interest rate cuts and spending, who would not, but see the comment above about insanely low rates.
- While the Chinese can threaten tariffs on US agribusiness, it is wrestling with a swine flu that's already decimated its primary source of protein. (Actually, that is a bad word to use - decimate means reduce by 10% - we could be looking at 50% of the pig herd lost. This article gives some background.) Meanwhile, Xi is less secure in power than his political posturing suggests - his anti-corruption crusade has hurt many key figures. It's still possible an outbreak of unrest trigged by shuttered factories, or a subsequent further fall in house prices, or related unrest, could see his political wings clipped and his likely displacement.
Xi and China need a quick rehabilitation to protect the China Dream. It's now well understood the long-term implications of one-child families have triggered a demographic backlash: the threat the economy gets old before it gets rich, the imbalance between male and female, income inequality, and vulnerability of the economy in terms of its reliance on debt to fuel exports and the transition of the economy to consumption. These are deep and serious problems - but they are not insurmountable or beyond the ability of China to solve - they do not mean China is on the very of meltdown. Far from it - its now a mature economy.
It's also facing rising backlash on the Belt and Road project - it could be fake news, but the number of stories about unhappy "client" states wanting to renegotiate infrastructure deals is rising, and despite its spending on Military might and economic power, China has limited economic "reach" compared to the US. Again, problems, and costly ones, but not terminal.
How will the Chinese react the Trump tweets - will Liu He still visit Washington with his team? How much "face" will they lose if they do? I'm told the Chinese are furious as the way the deal discussions have been trampled on - and it's entirely possible they will sulk. On the other hand, Washington leaks say China was trying to renage on earlier enforcement and IP protections - arguing these were already in place which has upset Washington's extreme right-trade factions. There is not a simple solution.
Yet, the market is betting there is going to be a solution, expecting Trump will now prove conciliatory after spanking the naughty Chinese over the weekend. I'm not so sure - it's possible the Chinese may decide the issue of long-term trust with Trump is incurable, and accept short-term trade pain and a trade war. Fabian.
As noted: the next few days are going to be critical.