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Macroeconomics

20 May 2019

A NEW PAGE IN THE TRADE WAR IS BEING WRITTEN 

The good news is we didn’t get another tweet from PresidentTrump over the weekend, possibly impacting markets.

Still, the major new element in the trade war last week came when the US declared their telecom sector was under threat and hence issued a national emergency declaration. In practice this came down to imposing an obligation on US companies to apply for a licence to sell technology to Huawei. This is so far the peak of the US-China face-off. The supremacy of global tech is in play. It will not come without a cost. Global supply chains will be impacted, involving US companies like the chip producers which saw their share prices sink from the moment the decision was announced. It has to be said that Huawei’s bill of materials is heavily tilted towards semiconductors. Cutting the Chinese smartphone producer off from US chips is a real game changer. And already Qualcom and Intel have said they will comply with Trump’s ban and stop supplies to Huawei. Over time the latter, which is the world’s biggest supplier of network gear and the second largest smartphone vendor, will need to buy its vital components elsewhere. Can it turn to European or Japanese providers for these parts?

So how will Beijing respond? Besides also raising tariffs?

It could make life more difficult for US companies doing business in China. It could weaken the yuan and so far the Chinese currency has lost ground versus the greenback. China could also trim its stock of US bonds. It already sold the most Treasuries in more than two years back in March. Hence the question whether Beijing might weaponize its position as the US’ largest foreign creditor. However, since China holds almost USD 1.2 trillion in US Treasuries, selling them would also potentially imply shooting itself in the foot. Moreover, what would China do with the proceeds? Selling them back into yuan might not be an option, as Chinese corporates have an ever growing appetite for USD financing.

Global trade is going to suffer more. Perhaps this morning’s Japanese first-quarter GDP data tell the story. While being better than expected, the data send a stark message. Exports and imports contracted sharply. But as exports contracted less, the net trade figure added significantly to the final GDP outcome. That said, the contractions suggest global trade is indeed slowing rapidly.

So far, investors have remained fairly sanguine. The past week hasn’t been too bad and most investors were already defensively positioned. More money switched from equity to bonds. And until corporate bond spreads widen significantly, there will be no sign of capitulation. Instead, investors might still look to buythe dip. Time will prove them right or wrong.