Morning Commentary: The Trade War Begins to Bite at Home

Foreign Exchange - Morning Commentary
The Trade War Begins to Bite at Home
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Alan Rose
Alan Rose
Foreign Exchange Senior Trader
Up until the last few months, the U.S. economy has been able to largely side step the global economic downturn that so many of the world’s economies have been experiencing due to the trade war between the U.S. and China. Spurred on by strong U.S. consumer demand, it seemed as if the trade war had downstream effects for everyone but ourselves. But now there is a growing body of evidence showing that the trade war and the use of tariffs is now firmly planted on the consumer’s radar screen and impacting our economy.

Friday’s Michigan Consumer Sentiment survey for August was very revealing in that consumer sentiment, expectations, and current conditions all fell to their lowest levels since the 2016 election. In the survey, trade tariffs were spontaneously mentioned by one in three consumers; the trade war and tariffs are getting into the consumer’s head.

Yesterday’s ISM manufacturing report also showed clear evidence of the impact of the trade war as the index fell into contraction territory for the first time since 2016 and has fallen for five straight months. The new order component fell to its lowest levels since 2012 and export orders fell to the worst levels since 2008. References to the trade war and tariffs were widespread throughout the report.

It does not take a genius to understand that the longer the trade war drags on, the greater impact it will have on our economy and the psyche of the American consumer. The drumbeat of negative economic news or declining stock market valuations could make a recession a self-fulfilling prophecy.

Last I checked, there is only one political party in China, and President Xi appears to have the full backing and endorsement of the Communist Party…they can afford to play the long game for now. Our political system is different and the U.S. President comes up for reelection next year. While the use of tariffs was well intentioned to correct China’s abusive trade practices, no President wants to run for reelection and face voters on the back of a weakening economy. Americans in 2020 might have to choose between the short term pain of tariffs and a slowing economy or playing the long game and correcting unfair and abusive trade practices by our trading partners.
  • Markets are in “risk-on” mode this morning with global equities, interest rates and commodity prices all moving higher. The U.S. dollar (DXY) is lower today with the British pound outperforming and investors deleveraging out of safe haven currencies.
    • Developments in Hong Kong where Chief Executive Carrie Lam agreed to formally withdraw the extradition bill that was at the heart of the protests over the past weeks helped to initiate a global rally. Hong Kong stocks closed up by nearly 4%.
    • The other key development that is helping market sentiment is that defections within Boris Johnson’s Tory party and losing a key Parliamentary vote yesterday are reducing the prospects of a hard Brexit. Much uncertainty remains revolving Brexit and a firm end date with the added possibility of fresh elections being called in the U.K. For today, the British pound is the top performing major currency.
  • The U.S. trade deficit for July came in slightly better than expectations at $53.4 billion. The U.S. trade deficit with China narrowed as both imports and exports declined. China, the largest U.S. trading partner last year, has seen trading volumes with the U.S. decline as the trade war and tariffs take their toll on investment and supply chains. Mexico is now the number one trading partner for the U.S. followed closely by Canada.
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