Friday, July 20, 2018

From Trade War to Currency War?

Tae Kim of CNBC reports, Trump says stock market gains since election give him opportunity to wage a trade war:
President Donald Trump said the stock market rally since his election victory gives him the opportunity to be more aggressive in his trade war with China and other countries.

“This is the time. You know the expression we’re playing with the bank’s money,” he told CNBC's Joe Kernen in a “Squawk Box” interview aired Friday.

The president has a big cushion. The S&P 500 is up 31 percent since Trump's win on Election Day, Nov. 8, 2016, through Thursday. The market's gain has slowed this year as the administration has implemented new tariffs on countries, with the benchmark index up 4.9 percent for 2018 through Thursday.

Trump added the market would likely be much higher if he didn’t escalate the trade issues with China and the rest of the world.

“We are being taking advantage of and I don’t like it,” he said. “I would have a higher stock market right now. … It could be 80 percent [since the election] if I didn’t want to do this.”

The president also said he is willing to slap tariffs on every Chinese good imported to the U.S. should the need arise.

"I'm ready to go to 500," Trump added.

The reference is to the dollar amount of Chinese imports the U.S. accepted in 2017 — $505.5 billion to be exact, compared with the $129.9 billion the U.S. exported to China, according to Census Bureau data.

So far in the trade war between the two largest economic powers in the world, the U.S. has slapped tariffs on just $34 billion of Chinese products, which China met with retaliatory duties.
So Trump came out swinging on Friday, appearing on CNBC to state he is willing to put tariffs on all $505 billion of Chinese goods the US imports:
"I'm not doing this for politics, I'm doing this to do the right thing for our country," Trump said. "We have been ripped off by China for a long time."

Trump said the U.S. is "being taken advantage of" on a number of fronts, including trade and monetary policy. Yet he said he has not pushed the tariffs out of any ill will toward China.

"I don't want them to be scared. I want them to do well," he said. "I really like President Xi a lot, but it was very unfair."

Trump also said he was told by unspecified Chinese officials that "nobody would ever complain" from past administrations "until you came along — me. They said, 'Now you're more than complaining. We don't like what you're doing.'"
President Trump also criticized the Federal Reserve's monetary policy again on social media Friday, a day after his initial negative remarks were revealed on CNBC:
“I’m not thrilled,” he told CNBC's Joe Kernen in the interview that aired in full Friday. “Because we go up and every time you go up they want to raise rates again. I don't really — I am not happy about it. But at the same time I’m letting them do what they feel is best.”

Fed officials, including Chairman Jerome Powell, have raised interest rates twice this year and have pointed to two more before the end of 2018. The Fed did not comment on the president's remarks Thursday.

After Trump’s criticism of the central bank aired on Thursday, the White House sent a statement to clarify the president’s remarks.

"Of course the President respects the independence of the Fed. As he said he considers the Federal Reserve Board Chair Jerome Powell a very good man and that he is not interfering with Fed policy decisions," the statement said. “The President’s views on interest rates are well known and his comments today are a reiteration of those long-held positions, and public comments."

But then Trump hit the Fed again on Friday in the tweet.


So what is going on? Is Trump poised to take over the Fed as he slaps more tariffs on China?

Here's the problem. More protectionism will temporarily boost inflation as corporations pass on higher prices to consumers but it also means a higher US dollar which made a 52-week high on Thursday before dropping Friday after Trump's remarks.

And a higher US dollar means lower import prices, which lowers inflation. It also means more pain for commodities and emerging markets which have been reeling this year.

In short, Trump needs inflation and he knows it, but his disjointed policies are not going to achieve this end. Also, he risks a currency war with the Chinese at a time when the yield curve is flattening, which isn't exactly smart macro policy.

So why is Trump so fixated on tariffs? I've already discussed my thoughts back in April looking at whether the trade war will crash markets, noting this from a friend who placed it all into context:
  • For 30 years, US policy toward China was to build a solid economic relationship so US corporations can produce goods at a lower cost and sell them to Americans and others all over the world. Politically, this moved China away from a purely communist country like North Korea, which is what the US wanted, to a mixed market economy which is still communist but has a growing middle class which can buy US and European goods. This policy also weakened labor unions and allowed US corporate profits to soar to record levels, kept inflation and wage growth low in America and elsewhere, and the current account deficit with China was tolerated as long as Wall Street benefited from a capital account surplus to recycle China's savings and speculate on risk assets all over the world. 
  • Now comes Trump who is tapping into the disenchantment of American workers in the Rust Belt, he tells them the level playing field isn't there and that's why manufacturing jobs have left the US but he's going to rectify the situation by standing up to China. The truth is China does get away with murder when it comes to trade but the problem is it's still a communist country. Moreover, it's paying for students to come study in the US so it can steal intellectual property and become a leader in many high-value industries, competing with the US and Europe head-on.
  • In effect, Trump is promoting his economic nationalistic agenda, so it's odd people are surprised. He's not listening to Larry Kudlow, he's listening to Peter Navarro, appealing to his disenchanted base who feel that Republicans and Democrats have let them down over the years to solely pander to corporate interests (ie. campaign contributors).
  • Sure, US corporations don't like trade wars but Trump has given them a huge tax break and has told large companies the US government will do business with them. The money US corporations are saving in taxes can go into investing, increasing wages, paying off debt or buying back shares but they will all opt for share buybacks to increase their senior level compensation which is based on earnings per share. 
  • But China isn't stupid, it's striking back with its own tariffs on American products coming from Rust Belt states, ie. Trump's base. It knows it can hit Trump in areas where midterm elections are taking place in November. It might also choose not to finance US debt but I doubt this will occur and besides, the Fed can just buy US bonds through QE if it needs to.
  • I do not see a US recession before 2020. Trump still has the billion-dollar infrastructure program in his arsenal. The only wild card is the stock market which can get clobbered but even there, he will force the Fed and Treasury to buy stocks, it's already going on through the Bank of Israel and the Swiss National Bank via swaps and outright purchases, and don't be surprised if he privatizes Social Security to force it to invest in US stocks if things get really bad.
My friend got me thinking that maybe there is a method to Trump's madness. He obviously has a clear nationalistic economic agenda to fulfill and he's going to try to score a victory with China, even if it's a pyrrhic one.
Now, a few points here. The timing of a recession is very hard to predict, it could be sooner than 2020 if all hell breaks loose and a trade war degenerates into a full-blown currency war.

As far as infrastructure spending, that is a possibility, it has bipartisan support, but in a political year like 2018 with mid-term elections looming large, I wouldn't hold my breath.

It's also worth noting that a trillion-dollar infrastructure program is still government spending which crowds out private investment and raises interest rates, precisely what Trump doesn't want now.

Infrastructure spending is needed but it's a long-term boost to the economy, not a short-term one.

What else? I was struck this morning by this nonsense on Zero Hedge, Global Bonds Stumble, Yield Curve Steepens After Trump, BoJ, and expressed my disagreement on Twitter:



Can we all please stop deluding ourselves that the yield curve is steepening? It’s not, every selloff in bonds will be bought hard as global investors prepare for the global slowdown ahead.

And if a currency war ensues, China will export deflation all over the world and it's going to really be game over for risk assets.

This isn't the time to take dumb risks in markets or in politics. Can the US afford a trade war? Probably. Can it afford a currency war? No way. Trump's advisors are playing with fire here, and they, not the Fed, will sow the seeds of his demise if they continue down this path.

Below, President Donald Trump spoke with CNBC anchor Joe Kernen on Thursday just outside the Oval Office at the White House. The conversation touched on the state of the U.S. economy, America's trade wars — and the president's news-making remarks about the Federal Reserve's ongoing interest-rate hikes.

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