Trade Policy Tango

by Brad Houle, CFA
Executive Vice President

This weekend, many world leaders will travel to Buenos Aires, Argentina, for a meeting of the Group of Twenty, also known as, “G20.” Founded in 1999, the G20 consists of 19 countries and the European Union. According to the World Bank, the G20 economies collectively account for about 85 percent of gross world product, 80 percent of world trade and two-thirds of the world's population. Although the G20 does not have the power to enforce policies, the outcomes of G20 summits have been highly influential to global policy.  

The headliners of this year's G20 will be British Prime Minister Theresa May, Russian President Vladimir Putin, Chinese President Xi Jinping and U.S. President Donald Trump. While there is always a great deal of speculation as to which world leaders will have private meetings and what may result from those encounters, what will matter most to investors is any interaction between the President Trump and President Xi. At stake is the direction of trade tensions between their respective countries and tariffs on various goods that continue to escalate trade disputes.

China clearly has more to lose in a trade war with the United States due to China's gross domestic product (GDP) being more dependent on foreign trade than the U.S. That said, tariffs and trade disputes don’t benefit anyone in the long run. Tariffs can be inflationary and a drag on GDP growth. This risk to the Chinese economy has been reflected in the performance of the Chinese stock market, which has declined more than 20 percent compared to the modestly positive performance of U.S. stock market this year.   

There is probably more of a chance that a deal is struck by Presidents Trump and Xi than is presently priced into the market. In the days leading up to the meeting, the Trump administration has had a more positive tone that an agreement can be forged with the Chinese government. Ultimately, free trade is a driver for economic prosperity for all countries involved and a rational response from both parties is in everyone's interest.

Also this week, Federal Reserve Chairman Jerome Powell conveyed in in a speech at the Economic Club of New York that interest rates are “just below” a range of estimates of the so-called neutral level. This sparked a strong rally in the stock market. The comments were interpreted by investors as being a shift to a more “dovish” stance by the Fed Chairman in terms of the number of short-term interest rate hikes and timing of those increases. One risk factor we identified at the beginning of the year was that the Fed was going to aggressively increase short-term interest rates in an effort to keep inflation in check. Presently, the market’s expectations for future inflation has dipped below 2 percent. There is no doubt that GDP growth is slowing and will continue to do so until further notice. That said, growth is slowing, but there is still growth in the economy. As stated before, we do not see a recession on the horizon.

Week in Review and Our Takeaways

  • A resolution of the trade dispute between the U.S. and China would be beneficial to both parties and be a catalyst for the markets

  • The Federal Reserve is mindful of slowing growth and has signaled that aggressive rate increases are not necessary at this time