The trade truce that President Trump negotiated with Chinese President Xi Jinping in Japan over the weekend offers less than meets the eye.
Business leaders are sighing with relief that the agreement forestalls the imposition of tariffs on an additional $300 billion of Chinese goods. But otherwise it mostly appeared to lock in place a status quo that could augur an extended economic cold war between the world’s two largest economies.
The proof of that, analysts say, will be evident in the results the truce produces. Among other things, look for those results to include a stock market bump that’s short-lived; no new clarity for Federal Reserve officials trying to determine whether to cut interest rates; a continuing escalation between the United States and China in tensions over technology; and corporate chiefs holding back on major investments and continuing to migrate supply chains out of China.
1. The stock market.
The market just concluded a strong half-year, with the S&P 500 up 17 percent over that period and the Dow Jones industrial average climbing 14 percent. That represents the Dow's strongest first-half performance in two decades, capped by its best June since 1938. Investor bullishness came despite Trump's intensifying trade war with China, and threatening escalations on other fronts, including Mexico and the European Union. But several Wall Street watchers, weighing in over the weekend, said the Osaka cease-fire won’t translate into a sustained rally for stocks, because investors probably will recognize its limits.
Reports from the summit “confirm our view that the US-China trade war continues into 2020 pretty much as it is today, what we call ‘suspended animation’ — engagement, generally no deal, no end to tariffs, but also no new ones,” Terry Haines of Pangaea Policy wrote in a weekend note. “The market reaction likely will be similar to last December’s informal summit meeting, with an initial small market positive, serving as a sigh of relief, giving way to an incremental negative as investors digest that there will be no quick end to the US-China trade war.”
Or as Olivier d’Assier, head of applied research for the Asia-Pacific region at Axioma, which advises asset managers, told the Wall Street Journal’s Steven Russolillo and Paul J. Davies, the deal represented a “weak outcome.” “It falls far short of the specifics we were hoping to get in terms of a timetable for talks, a deadline for finalizing the negotiations and a framework for rolling back the existing rounds of tariffs,” he said. “In other words, things are not going to get worse in the short term, but this monkey is by no means off our backs.”
And Goldman Sachs economists reached a similar conclusion, noting the Trump administration will be able to impose new tariffs quickly if talks falter. Writing in a Saturday note, they said they “continue to think that renewed talks are unlikely to result in the broad agreement the US had sought a few months ago, and that it is slightly more likely that the US will impose tariffs on additional imports from China.”
2. The Fed.
Federal Reserve Chair Jerome Powell made it clear at the conclusion of the central bank’s June meeting that monetary policymakers are moving toward cutting interest rates this year, and the drag from Trump’s trade offensive would weigh heavily into those decisions. While some Fed watchers predicted before Osaka that a Trump-Xi cease-fire there would point the way to a more comprehensive deal — and remove the need for imminent rate cuts — the Journal’s Nick Timiraos talked to analysts over the weekend who reached the opposite conclusion.
He writes he agreement “does little to clear the fog of uncertainty weighing on global trade and investment that has prompted Federal Reserve officials to consider cutting interest rates.” And indeed, with no details about the path forward, “analysts said the cease fire could make a deal less likely because it reveals both sides see little urgency to make new concessions and are comfortable with the status quo.” The outcome leaves Fed officials to “weigh how much trade uncertainty has already weighed on spending and investment decisions, and how continued uncertainty could affect this picture.”
Bond traders, meanwhile, will need to see "more than a few friendly words" between Trump and Xi to step back from their bets on rate cuts, Bloomberg's Katherine Greifield and Brendan Murray write. "Heading into the weekend, futures traders had expected the U.S. central bank to lower rates by about a percentage point in the coming year," they report. "The market had priced in a 100% probability of a quarter-point cut in July, with some observers even predicting a half-point reduction. While rate-cut expectations were damped on Monday, a quarter-point cut in July and around 1% of total reduction by end of next year still remains fully priced in."
Trump, in a key concession to the Chinese, agreed to allow American companies to start selling gear to Huawei again. The Trump administration last month placed the tech giant on the Commerce Department’s entity list, suspecting it of working with the Chinese government to facilitate espionage and therefore representing a national security threat. The president’s move drew angry bipartisan blowback from Capitol Hill, with Sen. Marco Rubio (R-Fla.) calling it a “catastrophic mistake” to reverse sanctions on the company:
If President Trump has agreed to reverse recent sanctions against #Huawei he has made a catastrophic mistake.— Marco Rubio (@marcorubio) June 29, 2019
It will destroy the credibility of his administrations warnings about the threat posed by the company,no one will ever again take them seriously. https://t.co/jEhHcblsVG
But Scott Kennedy, a China expert at the Center for Strategic and International Studies, said the move would do little to slow a wider arms race over technology between the two countries. The Trump administration has been driving that conflict-within-the-conflict with restrictions on the sales of American tech products to China and tighter limits on Chinese investment in the U.S., the New York Times’s Peter Baker and Keith Bradsher write. As Kennedy told the paper, the two sides “are more likely to continue going around in circles rather than reaching the destination of a real deal… Neither side looks ready to compromise; meanwhile, the tech war will continue to intensify. This is a truce on only one front of the wider conflict.”
American companies that have relied on China for their production have already begun shifting those supply chains to other countries in the region and beyond — a response to the 25 percent tariffs the Trump administration has imposed on $200 billion of Chinese imports. That process is likely to continue apace, since the truce that Trump and Xi reached over the weekend provides no timetable for resuming talks, much less for removing those existing tariffs.
The deal “could further cement a broad reshuffling of the global economic order that undermines China’s decades-long role as the world’s factory floor," the NYT’s Bradsher writes. “Even a fragile truce could have lingering implications. The United States would keep in place broad tariffs on Chinese goods for months or perhaps years to come. Global companies would almost certainly respond by continuing to shift at least the final stages of their supply chains out of China.”
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— Global stocks rally on truce. Bloomberg's Laura Curtis: "Stocks advanced globally after the U.S. and China reached a truce in the trade war and agreed to resume talks toward a deal. Gold, the yen and Treasuries retreated, but a series of weak factory reports from major economies took the edge off the bond drop. Futures on all three main U.S. equity gauges rose 1% or more. Contracts for the Nasdaq 100 Index set the pace on news [Trump] agreed to ease a ban on American companies supplying Chinese tech giant Huawei. Technology shares helped to boost the Stoxx Europe 600 Index... Traders seem cautiously optimistic in the wake of the G-20 gathering, though the move to delay further tariffs and resume talks doesn’t offer much clarity on the critical issues."
— Investors wonder how long the bull market will last: “Stocks are flirting with records again, but many investors are struggling to discern how much longer the bull market can continue,” WSJ’s Akane Otani reports.
“S&P 500 companies are expected to post a slight year-over-year decline in earnings for the second and third quarters of 2019, according to FactSet, extending a downward trend that began in the first quarter of the year. If analysts’ estimates hold true, that would mark the longest streak of declines since 2015-16 — the latest sign the decadelong economic expansion is stumbling.”
— A 2020 Democrat speaks out on China. We wrote here Friday that the Democratic presidential field has been mostly dodging the issue of what to do about the economic and security threat posed by China. In response, a new entrant to the race — former Navy officer and Rep. Joe Sestak (D-Pa.) — reached out to weigh in.
In a Sunday phone interview, Sestak said his rivals are making a mistake by avoiding the issue. China, he said, is a force the next president will need to reckon with, ideally by reviving the institutions the U.S. fostered in the last century to help guarantee a world order that reflects American values. “I believe with China we’re seeing a country that sees its rise as inevitable, and resistance is futile, and rich rewards will be giving to those who cooperate,” he said. Both the Trans Pacific Partnership and the World Trade Organization are imperfect, he added, but can upgraded, and the U.S. should use them to engage American allies in confronting China’s trade abuses.
“This is not easy, but it’s a message that needs to be out there,” Sestak said. And he called Trump’s truce with Xi “meaningless” because the Chinese “didn’t give us anything in return.”
— Huawei concession shows Trump is ready to deal. Bloomberg's Shawn Donnan: "In recent weeks, [Trump] has drawn the ire of security hawks in Congress for suggesting he could bargain away his blacklisting of Huawei Technologies Co. to secure a trade deal with China.
"On Saturday he took a big step toward doing just that, signaling that he cares more about selling U.S. products to China than embarking on a clash of civilizations advocated by some top advisers. In the long run, those business instincts may say more about where U.S.-China ties are headed than his deal with [Xi] to suspend any new tariffs and resume trade talks."
Kudlow says Huawei decision is not ‘amnesty’: “[Kudlow] responded Sunday to criticism of President Donald Trump’s controversial decision to allow Chinese telecom giant Huawei to buy US products, part of a truce Trump struck with [Xi] at the G-20 summit in Japan over the weekend to ease trade war tension,” CNBC’s Spencer Kimball reports.
“Kudlow said the administration has not removed Huawei from the blacklist that largely blocks the company from buying American products. Instead, the Commerce Department will simply grant more licenses to allow U.S. companies to sell products to Huawei so long as those sales pose no threat to national security, Kudlow said.”
— Farmers encouraged by truce, still want a trade deal. WSJ's Jesse Newman and Jacob Bunge: "Farmers and agricultural groups welcomed the U.S.-China trade truce but many said they still need a comprehensive agreement to restore large-scale exports of U.S. crops and meat and lift the fragile farm economy... [Trump] said after meeting with... [Xi] that China will start buying large amounts of U.S. farm products. 'It’s definitely encouraging because they’re the biggest market opportunity in the world,' said Jon White, a hog farmer in Jones, Mich., who sells 70,000 pigs a year. Still, he said, 'we’ll believe it when it actually happens.'"
— Vietnam and E.U. sign free trade agreement: “Vietnam and the European Union signed a free-trade agreement on Sunday, opening opportunities to further boost trade between the euro bloc and one of Southeast Asia’s biggest manufacturing nations,” the Associated Press reports. “The agreement, which was signed by European Commissioner for Trade Cecilia Malmstrom and Vietnamese Trade Minister Tran Tuan Anh in Hanoi, Vietnam’s capital, will eliminate almost all tariffs for goods traded between Vietnam and the EU’s 28 member countries.”
“Once the deal takes effect, the EU will lift 85% of its tariffs on Vietnamese goods, gradually cutting the rest over the following seven years … The deal is the EU’s second free trade agreement in the Southeast Asian region, after one with Singapore. It is viewed as a stepping stone for pursuing a comprehensive deal with the Association of Southeast Asian Nations, a 10-nation bloc with a combined population of 650 million.”
Trump is overstating the impact of the Fed’s ‘quantitative tightening’: Trump "has railed repeatedly about the Federal Reserve’s 'quantitative tightening' and the impact it has had on economic growth during his administration. The program will be over soon, which may not bring as much relief as Trump thinks,” CNBC’s Jeff Cox reports. “One reason the president may not want to get his hopes up too much is that he may be overstating its impact.”
“The program does not, as Trump suggested a few days ago, pull $50 billion a month out of the economy. In fact, there’s an argument to be made that conditions haven’t tightened much or at all since the QT program began in October 2017.”
— Deutsche Bank eyes major restructuring. Bloomberg's Steven Arons: "Christian Sewing is preparing to undo over a decade worth of failed expansion at Deutsche Bank AG. The chief executive officer may slash headcount by more than a fifth -- as many as 20,000 positions -- in what’s shaping up to be the bank’s biggest makeover in years, two people familiar with the matter said. Some of the heaviest cuts would hit the investment bank as Sewing radically reduces trading of equities and possibly interest-rate derivatives outside Europe...
"Sewing may present his plan as early as this week... The plan hasn’t been formally adopted yet and the number may change, they said. If implemented, Deutsche Bank’s headcount could fall to the lowest level since 2006."
— Besieged by opioids lawsuits, business slumps at Purdue Pharma: “OxyContin maker Purdue Pharma LP is struggling with slumping sales, a shrinking workforce and restructuring challenges as it battles lawsuits related to the opioid crisis, according to people familiar with the company,” the WSJ's Jared S. Hopkins reports. “Purdue’s revenue is expected to drop below $1 billion this year for the first time in more than a decade, as employees leave and a potential bankruptcy filing looms, people familiar with the matter say.”
“Controlled by members of the billionaire Sackler family, Purdue has also been reviewing the corporate structure of at least two dozen entities affiliated with the company that are under government scrutiny for possible fraud, according to some of the people familiar with the company. Purdue has previously said that it may file for bankruptcy but hasn’t made a decision.”
— Musk’s quest for Tesla record is a double-edged sword: “Wall Street relented from more downbeat expectations for Tesla deliveries in the last few weeks after [CEO Elon] Musk downplayed demand concerns at Tesla’s annual shareholder meeting and in emails to employees,” Bloomberg News’s Dana Hull reports.
“Tesla’s big push over the final days of June will determine if it surprises the street and beats its previous record. Analysts’ fear is that even if Tesla does show marked improvement in deliveries this quarter, Musk will achieve this at the expense of profitability.”
The House and Senate are on recess for the July 4th holiday.