What Trump is up to and how it might end

Global investors, like Beijing are getting wise to Trump’s game

After returning the U.S.-China dispute to a level of intensity markets assumed had passed, Donald Trump’s White House continues to mix concessionary tones with combative ones. An eye-catching turnaround in Wednesday’s session comes after a case in point. It followed informal briefings signalling that the President would delay imposing tariffs on car imports into the U.S. for up to six months. 

The auto sector duly led stocks on a rebound, with relief that a likely decision on car tariffs by 18^th May has been postponed. Washington is also considering ending tariffs on Canadian steel, according to Treasury Secretary Steven Mnuchin, one of Trump’s longest-surviving allies. The U.S. is emitting this mood music even as Trump readies an executive order banning U.S. firms from using Huawei equipment. And just days ago, he warned China that it risked being “hurt very badly” if Beijing didn’t “act now”. True, this administration’s convoluted approach isn’t new. But with global shares set for their first two-week decline since December, speculation on the workings of the President’s mind is once again febrile.

One key train of thought emerging is that Trump is using tariffs on China as leverage, to pressure Beijing into continuing to stimulate its economy. Note China’s stock indices resumed travelling in near-lockstep with Wall Street gauges in late December, gratifying Trump’s well-known enthusiasm for a consistently strong stock market.

Price chart: S&P 500 Index; Shanghai Composite Index – weekly [Mid-May 2017 to 15/05/2019 18:56:00]

Source: Bloomberg/City Index

Chinese input offers a long-in-the-tooth U.S. stock market rally further assistance. Furthermore, the reignited trade conflict ratchets up pressure for acquiescence to another well flagged Trump demand: A Fed rate cut. By Monday, rates markets had shifted chances of a cut to 75% from 50% in the week before. Assuming unintended joint Chinese and U.S. stimulus is followed by a trade deal later in the year, the Dow and other Wall Street indices should reach new record highs. The timing would also be good ahead of next year’s U.S. election.

If this reading of Trump’s strategy is correct, risks would centre on Beijing’s increasingly savvy way of dealing with Trump gambits. China can certainly act in ways that expose U.S. shares to renewed volatility, as it did at the beginning of this week.  Ownership of the largest hoard of U.S. Treasurys offers even more leverage. Once China runs out of American imports to tax, which it will do sooner than the States, it can ‘weaponize’ Treasury holdings by selling them in huge volume; forcing yields (and perhaps Fed rates) higher. 

Naturally, Beijing would be shooting itself in the foot with such a move, hurting the value of its Treasury investments. Likewise, the U.S. could tack even more tariffs on to Chinese imports. But it has almost run out of goods that are one-step removed from U.S. consumers. Soon, any further import tax hikes will hit the pockets of ordinary Americans—including Trump’s base—harder.

Paradoxically, this scenario of mutual assured destabilisation itself may be keeping a relative floor under global shares. However, as with more unthinkable forms of warfare, the deterrent effect may only be apparent after severe warnings. It is unlikely that Washington and Beijing have been sufficiently spooked just yet. Perhaps we should expect Wall Street and Shanghai stock markets to stage sharper and faster sell-offs quite soon.