In spite of the latest kerfuffle, the odds still favor an agreement on trade. Even without an agreement, the recovery will continue and stocks will recover.
The main problem the US has in dealing with China is the country’s reputation as an unreliable partner. China has a well-earned reputation for not abiding by its agreements.
When it was admitted into the WTO it agreed to open its country to foreign financial institutions and to respect intellectual property rights. China also agreed to respect international boundaries in the South China Seas. China has consistently violated such agreements.
The Trump Administration has insisted upon certain guarantees that any agreements should have triggers that go into effect in return for violations. Among these triggers, Trump has demanded that current tariffs on China continue and should only be removed as China complies with its agreements.
Trade negotiators for both the US and China had indicated they had reached agreement on 90% of their issues. Then last week US negotiators received a revised agreement changing some of what had been agreed upon. One major change involved China refusing to change its own laws to comply the agreement. China would still agree to do certain things, but would not change its laws to make such changes legal in China.
Backing away from an agreement already reached reflects a lack of sincerity and trust. Since these were already the main issues the US faced with China, Trump was forced to call their hand. Either China was serious in complying with whatever the two countries agreed to or there would be no agreement.
The ball is now in China’s court. China has to decide whether extending the current 10% tariff on China’s exports is an acceptable temporary penalty for assuring their compliance. The alternative is an additional 15% tariff and a further disruption to trade.
As he has all along, Trump is playing a dangerous game. Tariffs are disruptive to both countries. I had assumed the current dislocations from tariffs would slow real growth to the 3% area. If Trump follows through and raises tariffs on China to 25%, growth in the US is likely to move closer to 2½%. The disruption to China’s economy would be even greater as more production moves from China to other countries.
Avoiding tariffs is clearly in the best interests of both countries. The main problem is President Xi Jinping. He cannot be seen as caving in to US demands. Any trade agreement between the two countries will have to be designed to allow Xi to save face. Trump has negotiated enough deals to know that if the US fails to allow such a concession, the disruption from tariffs will continue.
In a worst case scenario, another round of higher tariffs would be enough to slow the US recovery. But it won’t be enough to stop it. With the S&P 500 10% below its fundamental stocks remain a strong buy.
Blog with Dr. G
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