Morning Commentary: Early Harvest

Foreign Exchange - Morning Commentary
Early Harvest
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Andrew Kositkun
Andrew Kositkun
Foreign Exchange Head Trader
The US and Japan announced a bilateral trade deal “in principle” that was struck during the G7 meeting last weekend.  The reality, of course, is that deals aren’t so much struck at these meetings between country leaders as much as they are heavily negotiated beforehand and finalized at the meetings.  In this aspect, the announcement wasn’t really a surprise as there has been a steady stream of positive reports building up over the summer.  Moreover, with US-China talks stalling, there was extra incentive on the US’ part to register some sort of win ahead of the 2020 elections.

As of this writing, the details of the deal aren’t fully disclosed, but the main points appear to revolve around agricultural and industrial goods.  Broadly, Japan and the US have agreed to reduce barriers on beef and pork trade with Japan also agreeing to purchase a substantial amount of corn from the US.  Notably, the US will not cut the 2.5% tariff it applies on finished cars from Japan. 

Now, the focus shifts to whether or not the two countries can get this deal across the finish line.  History has shown that there can always be last minute surprises to agreed upon deals.  Moreover, USMCA (aka NAFTA 2.0) illustrates how things can go wrong even after a deal has been signed on an executive level.  Most recently, it has been reported that Japan is insisting on an end to the auto tariff threat as part of the trade deal. 

Ironically, the issues around USMCA could turn out to be why the US-Japan deal gets passed as the structure of the US-Japan deal was apparently created to avoid the issues that are preventing congressional approval with USMCA.  Trump likely wants to be able to campaign on the agricultural concessions during the 2020 elections.  From the Japanese side, the deal doesn’t include some of the more onerous clauses the US has proposed in other deals.       

Ultimately, we think there is a good chance this deal gets done.  While neither side may get everything it wants, the benefits of an “early harvest” to each side are great enough that two countries should find a way to settle the remaining differences.  However, from a market perspective, any positive from a US-Japan deal is likely overshadowed by the negatives from US-China tensions. 
  • The CNY fixing is stronger than expected, illustrating the PBoC’s willingness to lean against yuan weakness and supporting the view that China will not weaponize its currency.    
  • Germany released its final Q2 GDP number last night and confirmed a 0.1% contraction.  Notably, exports was the biggest drag as it contracted 1.3% QoQ.  With the trade war expected to drag on, contraction in Q3 wouldn’t be a surprise. This would put Germany into a recession. 
  • Italian politics remain fluid.  The political parties have until tomorrow to form a coalition.  Should this fail, snap elections will likely be scheduled for November. 
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