Getting serious
For months the US and China have been trading angry words about tariffs, but for the most part the spat has seemed simply that: words and unlikely to come to anything lasting.
Broadly, the feeling seems to be that this is all just some Apprentice-style gunboat diplomacy. That the bombastic tweets and chunky numbers are just a game, just a joke. Considering the breadth and depth of protectionism that has been proposed by the world’s two great superpowers, the reaction has been fairly muted. Sure markets have jumped around a bit whenever a new threat pops up, but they are quick to settle again.
However, last week something actually happened. Something that could show how serious this has really become. The People’s Bank of China loosened its monetary policy, effective on 5 July, the day before the hundreds of billions of threatened tariffs are enacted by both sides. By reducing how much capital banks have to keep with the central bank, Chinese companies should be able to access more and lower cost credit during an expected slowdown caused by the new trade barriers. It appears that one of the major parties at the negotiating table thinks greater protectionism is all but locked in. And this US strategy of suppressing trade has spread to Europe too. Even the Americas, lest we forget. Levies on cars and industrial metals will hurt Canada – 85% of its automotive exports go to the US. Most cars are moved across national borders several times before they are completed, which is why listed carmakers have been particularly volatile lately. The prospect of hard borders and high tariffs make their complicated supply chains look extremely fragile indeed.
This is a serious reversal in global trade policy: freer trade has been the overriding goal of nations for several decades. However, it has always been distrusted by a large slug of people the world over. For many developed world workers, free trade is synonymous with the rich getting richer and the poor being left behind. Deregulation and global markets are seen as an elite conspiracy to squeeze the lower classes in return for cheaper coffee and electronics. There is some truth to this argument. The liberalisation of trade led to a boom in emerging markets as they closed the wealth gap with the West in just a few short decades. But just as surely, smaller towns and industrial hubs in developed countries shrivelled up and almost died. Unfettered trade between rich and poor countries resulted just as classical economist David Ricardo theorised. Wages for workers in developing nations soared, as did returns for the Western owners of capital (and homes). Wages for unskilled labour in the developed world stagnated and jobs evaporated.
Free trade allows greater production and living standards overall on average, but it also increases inequality. It creates wealth by allowing inefficient businesses to be beaten by operators elsewhere that can do the job better and cheaper. You can’t have the gain without the destruction. Some parts of the population do exceptionally well from this, while the lives of others become worse. Depending on your politics, it’s government’s job to adjust for these effects or not. To allocate some of those gains to helping those who lost out find new skills, a new life or a new home, or to leave each to their own wits and wherewithal.
But if government doesn’t release the pressure, this situation tends to evolve into a populist backlash against the whole endeavour. More should have been done to support these communities, like the American rustbelt, British mill towns and ailing secondary European cities. From ancient Rome to the French Revolution and the Occupy movement, from electing Donald Trump to putting your trust in Nigel Farage and voting for Marine Le Pen, it’s the same feeling of disenfranchisement each time.
And when it all comes crashing down, everyone is worse off.
Source: FE Analytics, data sterling total return to 22 June
Cashing in
One important ingredient for the global economy is, of course, oil.
The price of a barrel has marched steadily higher over the past year. From about $42 in June 2017, Brent is now bobbing around between $70 and $80. It’s come a long way from the $30-odd of January 2016 when some analysts were predicting a new era of bottom-dwelling oil prices. The black gold is just too integral to our society for that to ever be the case. It is in practically everything we make, and used to power the trucks and planes that move us and our manufactures around the world. It helps that about 40% of the global market is controlled by a cartel, too.
Opec has endured the pain of loss-making oil prices well. By curtailing production, they swallowed much lower government taxes and company revenues from selling less oil at already pitiful prices. But by holding their line, they have allowed the price to jump back up to more comfortable levels. After a couple of years of raw budgets and complaints from restive citizens, oil producers in the Middle East, Russia and South America – in the main – have come through unscathed. Some, such as Brazil and Venezuela, have fallen into disarray of course. Now, though, the Opec members have entered a sensitive period. Some are pushing for production increases to take advantage of healthy global growth and higher prices, while others are wary of a supply surge undoing all of the hard work.
They struck a compromise in Vienna on Friday. The bloc has adjusted its country quotas, some up, some down, to allow a net increase of somewhere in the region of 600,000 barrels of production a day. To give some context, that’s about 0.6% of total daily crude oil production and 1.5% of Opec’s output. Investors took the announcement well, with the Brent price jumping 2% on the day. The demand for oil is expected to outstrip production for the foreseeable future, based on consensus estimates, which bodes well for buoyant prices.
There’s still a risk that shale oil upsets the finely balanced marketplace. Oil drillers are booming in the US, particularly in the shale industry. The country has added 4 million barrels a day to its production over the past three years, the greatest absolute increase of any other nation by far (Canada was second with less than 1 million more barrels). There is talk of US shale drillers being held back by a lack of labour, water shortages and too few pipes to get the gas and oil out. Many pipelines are halfway through construction, so when they come on stream, the oil market could get a bit rocky. We’ll be watching out for greater US production as the year progresses. A significant shift in the price of the world’s most important commodity would have serious consequences for inflation, growth, currencies, equities and bonds.
Bonds
UK 10-Year yield @ 1.32%
US 10-Year yield @ 2.89%
Germany 10-Year yield @ 0.34%
Italy 10-Year yield @ 2.69%
Spain 10-Year yield @ 1.35%
Economic data and companies reporting for week commencing 25 June
Monday 25 June
UK: CBI Distributive Trades Survey
US: New Homes Sales
EU: GER: IFO Business Climate, IFO Current Assessment, IFO Expectations
Interim results: Porvair
Quarterly results: Carnival
Tuesday 26 June
UK: BBA Mortgage Lending Figures
Final results: Carpetright, Northgate
Trading update: Capita Group
Wednesday 27 June
EU: M3 Money Supply
US: MBA Mortgage Applications, Durable Goods Orders, Pending Homes Sales, Crude Oil Inventories
Final results: Liontrust Asset Management, Tatton Asset Management, ULS Technology
Trading updates: Bunzl, Whitbread
Thursday 28 June
UK: Nationwide House Price Index
US: Continuing Claims, GDP, Initial Jobless Claims, Personal Consumption Expenditures
EU: Business Climate Indicator, Consumer Confidence, Industrial Confidence, Services Confidence, Economic Sentiment Indicator; GER: GFK Consumer Confidence, Import Price Index
Final results: BCA Marketplace, Greene King, Latham (James), Stagecoach Group, Smith (DS)
Trading update: Tullow Oil
Friday 29 June
UK:GFK Consumer Confidence, Consumer Credit, Current Account, GDP, Index of Services, M4 Money Supply, Mortgage Approvals
US: Personal Consumption Expenditures, Personal Income, Personal Spending, Chicago PMI, University of Michigan Confidence
EU: Consumer Price Index; GER: Retail Sales, Unemployment Rate
Trading update: John Laing Group, Serco Group