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R&R Weekly Column

US - China Trade War On Hold For Now, But Strategic Rivalry Likely To Continue

by Brunello Rosa

21 May 2018


On Saturday 19 May, US and China issued a joint statement saying that “there was a consensus on taking effective measures to substantially reduce the United States’ trade deficit in goods with China” and that “to meet the growing consumption needs of the Chinese people and the need for high-quality economic development, China will significantly increase purchases of United States goods and services.” The statement remains extremely vague on the detailed actions that will need to be taken in order to achieve the intended results (for example, there is no mention of the USD 200bn target reduction in deficit – from the current USD 350bn – initially mentioned by the US administration). At the same time, it probably marks the beginning of a truce between the two sides, with a dangerous escalation of tariffs and counter-tariffs being put on hold for the time being.


This is probably good news, at least on a short-term basis, as the combination of rising US Treasury yields, strengthening USD and economic soft patch is key areas of the world economy (e.g. Eurozone and Japan) was already putting the resilience of the ongoing global expansion into question. A full-fledged trade war between two global economic heavyweights would have made the situation much worse, especially for emerging markets, the most fragile of which are already suffering from this dangerous cocktail (especially when domestic policy mishaps are added to the mix, as in the case of Argentina, as discussed in our recent report). 

However, this short-term truce is unlikely to imply the end of the strategic rivalry between the US and China, which instead has just begun. As discussed in our recent paper on US – China trade tensions, what really matters in this story is not the bilateral trade deficit of the US versus China, or the tit-for-tat tariff skirmishes of the last few weeks, but rather the beginning of a long-term rivalry (in both the economic and geo-strategic realms) between US and China, which – according to the new US National Security Strategy, defining China as a new “strategic competitor” – needs to be contained. If this interpretation is correct, the trade, technology, FDI, investment tensions between the US and China will likely escalate in the next few years regardless of any short-term agreement.

Even if an agreement to avoid a short-term trade war is eventually reached this year, after further negotiations in coming months, this will not be the end of the serious trade and technology tensions between the two sides that will likely increase and escalate over the next few years. A key battlefield in this technological rivalry between the US and China will be in the Artificial Intelligence area, where the formal goal of China is to become the technological leader by 2030. In this respect, the joint statement provides little (if any) reassurance, given the absence of any serious discussion on intellectual property rights (a major complaint by the US administration), as exemplified by the case of the Chinese telecommunications equipment maker ZTE , which is not mentioned in the statement. 

In conclusion, whether or not a tactical agreement to avoid a short-term trade war between US and China is reached this year, the strategic economic and geo-political rivalry between the two sides is likely to intensify in coming years.   

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Looking Ahead

The Week Ahead

Week  21 -  27 May  2018

In the US, the FOMC May meeting minutes will give further hints on Fed monetary policy intentions. The market-implied likelihood of a 25-bps hike at the June 12-13 FOMC meeting remain unchanged at 100%, while the likelihood of “at least three” and “at least four” hikes in 2018 are at 91% (pw: 90%) and 50% (pw: 46%), respectively (CME). 

In the UK, the April CPI is expected to decrease (c: 2.3% y-o-y; p: 2.5%). 

In Venezuela, President Maduro is likely to be re-elected in the May 20 presidential election. 

The Quarter Ahead


The EU will counter US sanctions on Iran. To counterbalance the re-imposition of US sanctions on Iran, the EU announced a package of measures to be in force before August 6, when the first set of US sanctions take effect.

Chinese “A” shares will be included in the MSCI Global EM Index. On June 1st, 234 firms will be included in the index. In September, a second batch of firms will be added, bringing China’s estimated weight in the index to 0.8%. 

Ahead of the June 24 presidential and parliamentary election, Turkey will remain vulnerable. Last week, after President Erdogan’s comments on taking “more responsibility for monetary policy after June elections”, the TRY depreciated against the USD to USD/TRY 4.49 (+3.9% w-o-w). In the next quarter: a) President Erdogan is expected to be re-elected, and an alliance led by his party AKP is likely to get majority in Parliament; b) CBT is likely to hike; CBT’s expectation survey forecasts a 130-150bps policy rate hike in the next three months. 

Bond issuance in MENA will remain elevated. New MENA bonds amount to USD 49.1bn y-t-d, compared to a total 2017 issuance of USD 86.4bn (56.8%). 

During the next quarter, oil prices will likely remain above 70 USD/bbl, supported by a constrained supply. Brent oil price increased by 1.8% w-o-w (to USD/bbl 78.5). Once US sanctions are launched, Iranian crude exports will fall. Further increases in US shale output will be limited by the ongoing financial difficulties of producing companies: in Q1 2018, in spite of high oil prices, 75% of the top-20 US shale oil producers incurred losses.  

Last week's Summary (14 - 20 May 2018)

DMs - US Accelerating, other DMs decelerating

In the US, the economic cycle is gaining momentum; in other DMs, growth is weakening. In the US, leading indicators continue to beat expectations (Philadelphia Fed May manufacturing index a: 34.4 points—the highest reading since May 2017—; c: 21.0; p: 23.2; April US industrial production a: 0.7% m-o-m; c: 0.6%; p: 0.5%). In other DMs, growth is weaker: Q1 GDP growth was flat for the EZ (a: 0.4% q-o-q; c: 0.4%; p: 0.4%), but fell more than expected in both Germany (a: 0.3% q-o-q; c: 0.4%; p: 0.6%) and Japan (a: -0.2% q-o-q; c: 0.0%; p: 0.1%).  

EMs - Pressure Rising

The pressure on EMs is increasing. 

The Bank of Indonesia increased its policy rate for the first time since 2014 (a: 4.50%; p: 4.25%), while, in India, the RBI policy committee is likely to veer towards a hawkish stance in June, paving the way for a 25bps increase in August. 

Sell-offs of EM currencies are likely to continue: last week, the Argentinian peso depreciated further (USD/ARS rose by 5.2% w-o-w).   

US Markets - Yields Rising and USD Strengthening

The economic data flow is supportive of: a) the Fed’s intention to hike interest rates; and b) a stronger USD. The 10-y UST yield rose by 9 bps w-o-w to 3.06%, after peaking at 3.13%—a seven-year high—on May 18. The USD appreciated against: a) a basket of currencies (DXY up by 1.2% w-o-w); and b) the EUR (EUR/USD down by 1.4% w-o-w at 1.177). 


US - Equity Market Falls

US stock markets reacted with losses. Rising rates and EM risks weighed on stocks: the S&P500 lost 0.4% w-o-w, driven by declines in utilities and real estate, i.e.: sectors that are losing attractiveness as bond yields rise. Volatility increased to 13.5 (+0.9 points w-o-w).

Eurozone - Periphery Yields Rising on Italy Government

In Europe, periphery bond yields increased as Italy’s prospective governing alliance (League+M5S) announced plans to break with EZ economic orthodoxy. 10y bond yields increased in Italy (+36bps, to 2.24%), Spain (+17bps, to 1.44%), Portugal (+19bps, to 1.87%), and Greece (+53bps, to 4.53%). 

Iraq - Elections Won by Sairoon Alliance

In Iraq, the results of the parliamentary elections show a victory of the Sairoon Alliance, formed by Muqtada al-Sadr and the Iraqi Communist Party. Sadr opposes both the US and Iran. 

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