How close are we to a trade deal?
In my travels over the past week, the most common question I received is, “How will the U.S.-China trade talks end?” Recent reports suggest that the U.S. and China are very close to a trade deal. That should be a real positive for stocks globally, especially Chinese stocks. However, I would caution that stocks could go down just as easily if the talks don’t culminate in a true agreement – and I believe that is still a very real possibility.
Just last week, U.S. Trade Representative Robert Lighthizer poured cold water on President Donald Trump’s suggestion that a trade deal was close to fruition, cautioning Congress that significant hurdles remain. The ability to reach a trade deal quickly will ultimately depend on what the U.S. is willing to take in terms of concessions from China – if the U.S. only wants a reduction in the trade deficit, I believe a fast deal is in the offing. However, if the Trump administration wants real change in terms of intellectual property protections and access to markets policies, then I believe that will take time.
It seems that Trump is eager for a deal and would be satisfied with a reduction in the trade deficit; however, Lighthizer has been clear that, in his interactions with the president, Trump wants much more in terms of structural reforms. As Lighthizer explained in testimony before Congress last week, Trump is very patient and has given him instructions suggesting he is willing to wait for real structural reforms: “His instructions to me are: You have to get a great agreement. If we have no agreement, we’ll just wait until we get a great agreement,” Lighthizer said.1
As I’ve said before, I don’t expect China to agree to significant concessions such as major intellectual property protections. Doing so would set a dangerous precedent where other large economies might try to play “hardball” with China in order to win trade concessions. I also believe that China is less willing to capitulate now that we have started to see some improvement in Chinese economic data. For example, we saw a rise in the Caixin China General Manufacturing Purchasing Managers Index (PMI) reading for February, which indicates that the massive Chinese stimulus (both monetary and fiscal) begun months ago has started to have a positive impact. Having said all that, if we get an actual deal – which I believe would likely be a specific commitment from China with regard to trade deficit reduction as well as a vague commitment from China with regard to structural reforms – I would expect stocks globally to rise significantly.
The Fed touts its data-dependent approach
Last week also brought insights into the Federal Reserve (Fed) and its recent change of heart in terms of balance sheet normalization. In his semi-annual Humphrey-Hawkins testimony before Congress last week, Fed Chair Jay Powell gave some explanation for the Fed’s recent pivot toward more dovishness: Not only is the fed funds rate currently in the range of neutral, but inflation is muted and significant downside risks are present.
Powell reiterated that the Fed will rely on a “data-dependent” approach to monetary policy, and that it will be patient as it assesses economic conditions and determines the need for adjustments in the future. Powell was also sure to extol the virtues of this data-dependent approach, explaining, “This common-sense risk-management approach has served the Committee well in the past.”2 In my view, this should be positive for the stock market – and business sentiment.
We also heard from Fed Vice Chair Richard Clarida last week, who spoke about the Fed’s ongoing review of its monetary policy strategy. He added one more thing to worry about for the future – as if we need to add anything to our list. He suggested that there are negative consequences to the flattening of the Phillips Curve – that it could mean that, just as it took more monetary policy accommodation to increase inflation than what we’ve historically needed, it may take more Fed tightening to tamp down higher inflation when it appears. This is a valid concern for the future and deserves further exploration.
Global Market Strategist, Invesco Ltd.
1 Source: The New York Times, “Trump trade adviser defends china deal before Congressional skeptics,” Feb. 27, 2019.
2 Source: The Wall Street Journal, “Fed chief Jerome Powell says US economy ‘is in a good place,’” Feb. 28, 2019.