Markets have been resilient, so far, to confirmation that the US would increase tariffs on around $200b worth of Chinese imports to 25%. After initially falling, US and Chinese equities and US Treasury yields ended higher on the day on Friday. Currency movements, including the NZD, have been contained.
After plenty of speculation during Friday, at 4:01pm NZT the US confirmed that it was raising tariffs on around $200b of Chinese tariffs from 10% to 25%. China responded that it would be forced to retaliate, although it didn’t specify how. China has already applied tariffs to nearly all US imports, in response to Trump’s previous tariffs, but it could use non-trade countermeasures, including making business more difficult for US firms operating in China and potentially allowing the CNY to depreciate. The US will start the process on Monday to apply tariffs on the remaining $300b of Chinese imports.
After finishing talks on Friday, Chinese Vice Premier Liu said that in order to reach an agreement, the US must remove all extra tariffs (the US had reportedly argued for the tariffs to be removed in stages, as part of an enforcement mechanism), set realistic targets for Chinese purchases of US goods, and ensure the text of the deal is “balanced” (the Chinese had reportedly reneged on a prior agreement to implement aspects of the deal into Chinese law).
Markets have taken the confirmation of trade tariffs in their stride so far. The CSI300 index of Chinese equities fell over 3% intraday after the news was announced, before ending the session up 3.6%. Likewise, the S&P500 fell as much as 1.6% in the US session before recovered sharply over the final few hours of trading to finish up 0.4% on the day. That still left the S&P500 down 2.2% on the week. And US Treasury yields mirrored those movements in equities, with the 10 year Treasury yield closing 2bps higher, at 2.47%, despite a marginally softer than expected US CPI release.
The relatively sanguine market response so far probably reflects market hopes that a deal can still be reached between the two sides. The 25% tariff rate won’t apply to goods already in transit from China to the US, creating a two-to-four week window for negotiators to come to an agreement before the economic impact hits. Trump tweeted on Friday that the talks had been “candid and constructive” and maintains that he has a good relationship with Chinese President Xi. Over the weekend, White House economic advisor Larry Kudlow said that Treasury Secretary Mnuchin and Trade Representative Lighthizer had been invited back to Beijing to continue talks. Importantly, Kudlow mentioned that there was a “strong possibility” that Trump and Xi could meet at the G20 summit in Japan at the end of June (the two leaders agreed to a ‘ceasefire’ when they met at the G20 late last year).
Trump has released a barrage of trade-related tweets over the weekend, ranging from his approval for tariffs (“love collecting BIG TARIFFS!”), saying it’s in Chinese interests to agree to a deal before his second term, and floating the possibility of buying agricultural goods directly from farmers and sending this as aid to poorer countries.
Currency movements were also relatively contained on Friday, with the USD slightly weaker on the day. There was little market reaction to the slightly softer than expected US core CPI release (0.14% vs. 0.2% expected). Weakness in apparel prices – for the second month running – and used car prices weighed on the core index, while rental inflation remained strong. There was nothing in the data likely to move the needle for the Fed.
The Canadian dollar outperformed (+0.5%) after a very strong employment report, which showed a 106k increase in jobs (+12k expected), a fall in the unemployment rate and higher than expected wage growth. The Japanese yen gave back some of its recent gains amidst the sharp recovery in equity markets late in the session, and ended the day down 0.2%, at near 110. The GBP also underperformed (-0.1%) amidst growing angst against Theresa May, with the Conservatives languishing in the polls for the European parliamentary elections behind Nigel Farage’s Brexit party.
The NZD was similarly little changed on Friday. It traded a relatively tight (given the volatility in other markets) 0.6587-0.6612 range after the NZ market close, and ended the week around 0.66. During the local session on Friday, RBNZ Deputy Governor Bascand gave an interview in which he indicated the Bank retained an easing bias and would be watching the Budget in late May, among other indicators, to see whether more stimulus was required. Bascand framed the rate cut as more of a fine-tuning exercise, in order to boost growth to 3% and therefore lift inflation the modest amount needed to get to target. There was little reaction to the Bascand speech in both the FX and rates markets. There was a mild (0.5bp-1bp) decline in the NZ swap curve on Friday, although those moves should reverse today.
After its decision to keep rates on hold last week, the RBA released its quarterly Statement of Monetary Policy (SoMP) on Friday. The RBA removed any reference to there being "no strong case to adjust the cash rate in the near term', confirming that RBA meetings going forward are “live”. The RBA cut its forecasts for growth and inflation this year, but there were only modest adjustments for the following two years. The AUD ended Friday close to 0.70, up 0.2% on the day, but still within vicinity of its recent lows. The key for the RBA at present is the labour market (any weakness will almost certainly see a rate cut). The labour market report is released on Thursday and our NAB colleagues look for lower-than-consensus job growth (5k vs. 15k expected) and an unchanged unemployment rate, at 5%. The wage price index, released on Wednesday, will also garner attention.
The week ahead is likely to be dominated by the US-China trade standoff. Chinese activity indicators (retail sales, industrial production, fixed asset investment) are released on Wednesday. US retail sales is the data highlight in the US. Domestically, there are only second tier data released.
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