PMC Weekly Review - December 23, 2019

A Macro View: Trade War Truce—Phase -One Deal – Ho-Ho-Ho or Ho-Ho-Hum

Does Kris Kringle’s sack of goodies hold a solution to what the market and investors have been waiting for in the contentious US and Chinese trade war that has lasted 529 days? Or does a lump of coal await both ? On Friday, December 13 , US and Chinese officials announced they had reached a “phase-one” deal just days before the next tariff hike would become effective. The  deal negates roughly $160 billion of additional tariffs on consumer goods, including electronics, cell phones, computers, and Santa’s favorite…toys. So what has changed? What has stayed the same ? Where does the most work still need to be done? How will this all turn out?

The tit-for-tat trade war between the world’s two largest economies has had far-reaching  effects, with the International Monetary Fund estimating the fallout will slow global growth in 2019 to 3.0%, the slowest pace in a decade. Implications for the US and Chinese economies are far reaching. Perhaps the most publicized negative impact has been to US farmers, as Chinese tariffs on US agricultural products have resulted in a loss of nearly two-thirds of their exports, forcing the US government to offer them billions in aid. On the other side of the coin, numbers from China show third-quarter economic growth slowing to its lowest point in ten  years. As a telling sign, China, the world’s biggest auto market, saw vehicle sales drop 11.7% from a year earlier, according to the China Association of Automobile Manufacturers. Also important to remember is the collateral damage caused to other economies, notably those in which GDP is derived from exports. A decrease in exports often forces  companies to lower their growth estimates and, as a result, scale back investment, ultimately hurting future growth. Take Germany, for example, who  derived roughly 40% of its  GDP from exports in 2017. Currently, total US tariffs applied to Chinese goods are  at $550 billion. Chinese tariffs applied to US goods are at $185 billion.

So what did the “phase-one” deal (expected to be signed in the first week of January) accomplish? The US agreed not to  proceed with a 15% tariff on $160 billion worth of consumer goods, and reduced the tariffs applied on September 1 to $120 billion of Chinese goods from 15% to 7.5%. The initial 25% tariff on $250 billion of Chinese imports would remain. In return, China agreed to purchase at least $200 billion of US goods and services over the next two years. Beijing indicated it would substantially increase agricultural purchases as well, up to $50 billion per year, according to President Trump.

Between the tit-for-tat tariff amounts and percentages lies the more difficult and core issues. These are largely the structural reforms that precipitated the trade war, and many see them as necessary  for US firms to compete on an equal playing field in China. These reforms include frequent complaints by US executives that they are forced to share or give away technology and ideas in return for access to the Chinese market. Also  included is the alleged theft of American intellectual property, such as  counterfeiting name brands and stealing trade secrets, as President Trump notes. Finally, many cite the frequent government subsidies Chinese companies enjoy that create a lopsided competitive environment. Although this list is not nearly inclusive, these challenges, among others, could derail what has been accomplished in the “phase-one” deal, which does not materially address any of these concerns .

So big question….. how will this all turn out? Though many details are not yet available and appear murky, it is worth noting the trade talks have fallen apart previously, with President Trump and Chinese President Xi meeting at two international gatherings with the intention of a truce, only to end in a more combative stance. Although “phase-one” is a potential good starting point, is it possible the spirt of generosity and compromise will end with the holidays?


Ryan Knisely

Investment Analyst

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