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Kristina Hooper | November 12, 2019

What’s standing in the way of a U.S.-China trade deal?

In the last two months, I have had the pleasure of meeting with clients in a variety of different countries in Europe and Asia, as well as the U.S. There is one issue that all of these clients are interested in: the U.S.-China trade conflict.

 

The last several weeks have seen sentiment grow increasingly positive around U.S.-China trade relations in general and, specifically, a U.S.-China trade deal (albeit just “Phase 1”). The most positive news of all came on Nov. 7, with reports that a Phase 1 deal had basically been finalized and that it would include the rollback of some tariffs. China’s Ministry of Commerce spokesman Gao Feng announced that day, “In the past two weeks, top negotiators had serious, constructive discussions and agreed to remove the additional tariffs in phases as progress is made on the agreement.”1

 

U.S. President Donald Trump contradicted that assertion on Friday morning, explaining that he has not agreed to roll back tariffs on China. However, markets barely flinched. There has continued to be an assumption on the part of markets that Phase 1 of the trade deal is a fait accompli. Hence, the rise in U.S. Treasury yields, the drop in gold, and the rise in equity prices. Japanese stocks have been doing particularly well in recent months.

 

However, as I have said before, I am not confident that even Phase 1 of the trade deal is guaranteed to happen. That’s because I think there is a good chance that China will condition the signing of Phase 1 on a rollback of some tariffs – something I believe will be difficult for the U.S. to agree to. After all, Phase 1 doesn’t tackle the hard-core issues that are a major part of the U.S.-China trade conflict, such as intellectual property rights and access to markets, so it doesn’t behoove the U.S. to make any significant concessions in the first phase.

 

Agriculture remains an issue

But never say never: The U.S. is very desirous that China re-start its agricultural purchases, so it might just cave in. And although China was expected to already begin buying more agriculture from the U.S., it seems that those purchases have not yet begun, likely due in part to a major drop in the number of pigs in China, given a culling of the herd due to swine fever. (Last week’s report from China’s General Administration of Customs showed that China imported 6.18 million tons of soybeans in October, which is the lowest level since March, and is down 24.6% from 8.20 million tons in September.)2 Having said that, buying agriculture is one of the biggest bargaining chips that China has. U.S. farmers have been hurting, and the Trump administration has been eager to alleviate their suffering, especially as the 2020 election nears. If China is not getting tariff relief in Phase 1, then it may not find it worthwhile to increase agriculture purchases from the U.S. going forward.

 

And China has the luxury of waiting, as its economic data appears to be stabilizing. The Caixin China Composite PMI Index for October clocked in at 52.0, slightly up from 51.9 in September.3 And while China has continued to sustain damage from the trade war, it appears to be moderating. China’s exports in October fell 0.9% from a year earlier, which was less than expected – and far better than its decline of 3.2% in September. While exports to the U.S. dropped 11.3% from January to October, exports to the European Union rose 5.1%.4 And exports to Southeast Asian countries rose significantly, suggesting a back door through which exports are being sent to the U.S.

 

But perhaps the most compelling data supporting the fundamental strength of the Chinese economy can be found in Singles Day purchases. Singles Day is the 24-hour shopping extravaganza in Asia pioneered by Alibaba more than a decade ago. Early reports from this year’s Singles Day (Nov. 11) indicate a strong consumer willing and eager to spend. According to the South China Morning Post, Chinese consumers collectively spent 268.4 billion yuan (U.S.$38.4 billion) on Singles’ Day. This set a new record, up from approximately $30.8 billion in 2018.5

 

This data suggests that, while the Chinese economy remains under pressure, it may easily tolerate the situation and may not be forced into any concessions that it is not fully comfortable with.

 

Market implications

However, the possibility that a Phase 1 deal falls through has market implications. In my view, failure to secure such a deal would be likely to send risk assets such as stocks downward. In such a scenario, Treasury yields would likely go down and gold would likely go up. While my base case remains that a Phase 1 deal comes to fruition, the risks are increasing – especially the risk that it could be delayed. I must stress that investors should prepare for – but not be frightened by – the possibility that a Phase 1 deal does not come to fruition or is delayed significantly. I believe any kind of resulting sell-off would be relatively muted and short-lived because of the cushion being created under risk assets by central bank accommodation. And any resulting sell-off could represent a buying opportunity for investors with longer time horizons.

More from Kristina Hooper

2020 outlook: An optimistic view of capital markets
December 3, 2019

Amid a host of central bank developments, one constant remains: global market pressure
November 26, 2019

What could the upcoming U.K. election mean for Brexit?
November 19, 2019

What’s standing in the way of a U.S.-China trade deal?
November 12, 2019

The Fed gives stocks free rein to run. Can the rally continue?
November 4, 2019

Will this week’s data confirm last week’s optimism for stocks?
October 29, 2019

Should investors be scared of a Halloween sell-off?
October 22, 2019

News versus noise: Assessing the market impact of three major headlines
September 30, 2019

Markets shake off a series of unusual events
September 23, 2019

Could ‘helicopter money’ help Europe’s economy take flight?
September 16, 2019

Five things to watch in September
September 3, 2019

Uncertainty hits a high point as the trade war escalates
August 26, 2019

Beyond the yield curve: Other economic indicators to watch
August 20, 2019

Will the inverted yield curve lead to recession?
August 14, 2019

Dovish central banks to shape late 2019 markets
August 13, 2019

You can’t train a great white shark – or control global trade
August 12, 2019

Stock market sell-off underscores trade war dangers
August 6, 2019

This week the Fed will remind us that it’s the world’s central bank
July 29, 2019

Waiting for a rate cut: How much is too much?
July 16, 2019

ECB worries have receded, but Fed policy doubts have some pundits on the defensive
July 8, 2019

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1 Source: Bloomberg News, “U.S. Says Phase-One China Deal Would Include Tariff Rollback,” Nov. 7, 2019
2 Source: CNBC, “China October soybean imports fall 10.7% from year earlier- customs,” Nov. 7, 2019
3 Sources: IHS Markit, Caixin, Nov. 5, 2019
4 Source: South China Morning Post, Nov. 8, 2019
5 Source: South China Morning Post, Nov. 11, 2019
Important Information
Blog header image: James Ross / Stocksy
All investing involves risk, including the risk of loss.
The Caixin China Composite Purchasing Managers’ Index (PMI) is considered an indicator of economic health for the Chinese manufacturing and services sectors. It is based on survey responses from senior purchasing executives.
The opinions referenced above are those of Kristina Hooper as of Nov. 11, 2019. These comments should not be construed as recommendations, but as an illustration of broader themes. Forward-looking statements are not guarantees of future results. They involve risks, uncertainties and assumptions; there can be no assurance that actual results will not differ materially from expectations.