HIGHLIGHTS OF THE WEEK
- Trade developments captured headlines this week. The U.S. disclosure of detailed plans regarding the tariffs on $50bn worth of Chinese imports led Beijing to retaliate with planned tariffs on $50bn of U.S. exports. The hardened Chinese stance led President Trump to threaten additional tariffs on $100bn worth of Chinese goods.
- While the announced tariffs are likely to merely shave off about 0.2pp from annualized GDP growth in the U.S. over the next two years, the potential for the conflict to escalate to a full-scale trade war is much more concerning.
- Economic data came in healthy with the ISMs holding near recent highs while auto sales came in slightly better than expected in March. Payrolls disappointed despite a healthy ADP print, but wage growth accelerated on the month.
Retaliating on Retaliation: Trade War Drums Beating
Equities have been on a rollercoaster ride this week, driven by shifting headlines on U.S.-China trade tensions. Initially, the U.S. announced details on its plans to levy a 25% tariff on $50 bn worth of goods imports from China, targeting some 1,300 items, including aircraft parts, batteries and medical devices. In a tit-for-tat move, China announced it would respond by mirroring the tariffs on American goods imports. The range of products targeted by China however, which included soybeans, cars, aircraft and chemicals, was narrower at 106 products. Later in the week, Pres. Trump instructed the U.S. Trade Representative to consider an added set of tariffs on $100 bn worth of imports. In what’s looking like a high-stakes poker game, China’s Ministry of Commerce said that China was prepared to “hit back forcefully” – reigniting trade war fears.
It is important to distinguish between tariffs that we already have details on and the latest inflammatory rhetoric. The former are not overly concerning. We estimate that the U.S. tariffs (including enacted tariffs on steel and aluminum) could shave off about 0.1 pp from annual GDP growth over the next few years, and could add up to 0.1 pp annually on inflation. Depending on what’s finally enacted following a consultation period, the price and demand impacts could be somewhat more pronounced if the tariffs are applied largely on consumer goods rather than business investment goods. On the other hand, China is targeting roughly 38% of American goods exports to China, which represent only about 0.3% of U.S. GDP. We estimate that these tariffs would reduce U.S. growth by up to 0.1 pp annually for the next two years. In this vein, slightly weaker U.S. demand could also act to offset some of the price pressures from the U.S. import tariffs.
The potential for the conflict to escalate is much more concerning. U.S. exports to China totaled $130 bn last year. This means that if the U.S. went ahead with tariffs on $100 bn of goods on top of what’s already being considered, and China reciprocated, the direct impact from exports would be much harsher given that all U.S. goods exports to China would face tariffs. The indirect impacts related to supply chain disruptions and the hit to business confidence and investment would also be more pronounced.
Developments on the trade front overshadowed decent signals from the economy. Auto sales came in slightly better than expected in March, and the ISM indices remained well in expansionary territory, despite easing off slightly (Chart 1). Payrolls gains slowed to 103k on the month, but this came atop of a very strong showing in February at 326k (Chart 2). Looking past the monthly noise, the underlying job market remains healthy, as demonstrated by increased wage gains – up 2.7% y/y.
Tax cuts and increased government spending are expected to add fuel to the labor market and the economy, with the latter expected to run at roughly 3% over the next few quarters (see forecast). In short, the U.S. economy remains on a solid course, but further escalation in the trade conflict poses a material downside risk. The hope and expectation is for the conflict to be resolved through the ‘The Art of the Deal’ rather than ‘The Art of War’.
Admir Kolaj, Economist | 416-944-6318
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