With traders desperate to glean some advance knowledge on i) the outcome of today's trade talks with China which have been muddled by Trump's first skeptical then optimistic comments, and whether the US will hike tariffs at 12:01am tonight, ii) how a tariff hike would impact the ongoing trade war with China, and iii) what all this means for stocks, moments ago Goldman published a report that had something for both the pessimists and the optimists.
First, and repeating its flop-flop from yesterday, Goldman's political economist Alec Phillips writes that the tariff hike at midnight continues to be the most likely outcome, in Goldman's view, to which it ascribes a 60% probability, which as a reminder was assigned a minority probability (below 50%) as recently as Tuesday.
However, in fodder for optimists, Phillips then notes that details in the notice implementing the tariff hike indicate that exports that have already left Chinese ports before May 10 will not be subject to the increase as reported earlier today. This, according to Goldman, creates an unofficial window, potentially lasting a couple of weeks, in which negotiations can continue and generates a “soft” deadline to reach a deal. As a result, given this detail, Goldman believes that downside to sentiment might be slightly more muted than if the tariff increase came with a “hard” deadline, suggesting that even a "no deal" headline today won't throw markets into a tailspin. It also "leaves an opportunity for the two sides to reach an agreement in the next couple of weeks, though challenges remain" Goldman concludes.
Here are the main notes from the full Goldman note:
1. We continue to believe the tariff rate on the $200bn tranche of tariffs is likely to officially increase to 25% at 12:01 a.m. ET Friday (in about 11 hours). However, we note that this is a slightly softer deadline than previously expected. According to the formal notice increasing the tariff rate to 25%, the increase will apply to goods that both 1) enter the US for consumption on or after 12:01 a.m. ET Friday, and 2) were exported to the US after May 10. In other words, at 12:01 a.m. Friday the tariff rate will technically be 25% but only for goods that leave China after that point. By contrast, in the formal notice implementing the 10% tariff rate last September, the tariff applied to goods that entered the US for consumption after the deadline and there was no similar “in-transit” exclusion (see Exhibit 1).
Exhibit 1: The Recent Notice Includes an "In-Transit" Exception
2. This technical detail might create a limited window for negotiations to continue before the US places Customs duties on imports from China. If the tariff increase technically goes into effect at midnight tonight, the duty collections might not rise for about two weeks, or whenever shipments leaving China on May 10 arrive at US ports. In our view, this means that trade negotiations are more likely to continue over the next couple of weeks than if the potential tariff increase in May was a “hard” deadline.
3. This nuance might also result in slightly less downside to sentiment regarding the US-China trade outlook than if 12:01 a.m. Friday was a “hard” deadline. That said, events over the next week could pose risks in both directions if the tariff increase takes effect on May 10. Even though we expect that talks might continue, the US Trade Representative’s office also looks likely to release a proposal to apply 25% tariffs on the remaining roughly $300bn of imports from China not yet subject to tariff if the May 10 tariff hike takes effect.
That's the good news. There is some potentially worse news as Phillips explains below, and it involves an escalating tit-for-tat retaliation:
4. China would also likely move forward with retaliatory tariffs. China has already announced it will retaliate if the US follows through with its tariff rate hike to 25%. In September, China had announced tariffs on about $60bn of imports from the US at rates of 5%, 10%, 20% and 25%. However, China ultimately imposed the tariffs at a rate of 5-10%. In our view, Chinese retaliation could take the form of increasing these tariff rates (such as to 25%). In addition, China may reimpose additional tariffs on US autos and auto parts, which it has suspended since December 14.
Needless to say, should China pursue a retaliatory route, Trump's willingness and ability to compromise would be severely curtailed and the outcome would be the worst possible from a game theory perspective. At least that's the theory, for what happens in practice, tune in one minute after midnight for the official announcement.