August 23 – Reuters (Se Young Lee and Judy Hua): “China said on Friday it will impose retaliatory tariffs against about $75 billion worth of U.S. goods, putting as much as an extra 10% on top of existing rates in the dispute between the world’s top two economies. The latest salvo from China comes after the United States unveiled tariffs on an additional $300 billion worth of Chinese goods… scheduled to go into effect in two stages on Sept. 1 and Dec. 15. China will impose additional tariffs of 5% or 10% on a total of 5,078 products originating from the United States including agricultural products such as soybeans, crude oil and small aircraft. China is also reinstituting tariffs on cars and auto parts originating from the United States. ‘China’s decision to implement additional tariffs was forced by the U.S.’s unilateralism and protectionism,’ China’s Commerce Ministry said…”
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S&P500 futures were trading up about 0.3% in early Friday overseas trading, boosted by a somewhat stronger-than-expected PBOC renminbi “fix.” The first “Bomb” hit at 8:02 am eastern: “China to Levy Retaliatory Tariffs on Another $75B of U.S. Goods.” 8:04: “China to Resume 25% Tariffs on U.S. Autos From Dec. 15.” 8:17: “China to Impose Extra 5% Tariff on Soy Beans From Sept. 1.” 8:24: “China: Imposes 5% Tariff on U.S. Crude Oil Imports From Sept. 1.”
S&P500 futures dropped as much as 26 points (0.9%) on Chinese retaliation, news that hit two hours before Chairman Powell’s widely anticipated 10:00 am speech to open the Fed’s Jackson Hole Economic Policy Symposium. Powell’s talk was generally considered “balanced” to somewhat more dovish than expected. Markets were relieved to see no reference to “mid-cycle adjustment,” with more attention to trade and global risks. By 10:37 am, the S&P500 was back in positive territory, having fully recovered earlier (China retaliation) losses.
Presidential Bomb drops at 10:57: “As usual, the Fed did NOTHING! It is incredible that they can ‘speak’ without knowing or asking what I am doing, which will be announced shortly. We have a very strong dollar and a very weak Fed. I will work ‘brilliantly’ with both, and the U.S. will do great…”
Followed up with a precision bunker buster: “…My only question is, who is our bigger enemy, Jay Powell or Chairman Xi?”
Cluster Bomb inbound at 10:59: “Our Country has lost, stupidly, Trillions of Dollars with China over many years. They have stolen our Intellectual Property at a rate of Hundreds of Billions of Dollars a year, & they want to continue. I won’t let that happen! We don’t need China and, frankly, would be far….”
“….better off without them. The vast amounts of money made and stolen by China from the United States, year after year, for decades, will and must STOP. Our great American companies are hereby ordered to immediately start looking for an alternative to China, including bringing..”
“….your companies HOME and making your products in the USA. I will be responding to China’s Tariffs this afternoon. This is a GREAT opportunity for the United States. Also, I am ordering all carriers, including Fed Ex, Amazon, UPS and the Post Office, to SEARCH FOR & REFUSE,….”
“….all deliveries of Fentanyl from China (or anywhere else!). Fentanyl kills 100,000 Americans a year. President Xi said this would stop – it didn’t. Our Economy, because of our gains in the last 2 1/2 years, is MUCH larger than that of China. We will keep it that way!”
Trading at 2,926 at 10:59 am, the S&P500 was down 1.8% to 2,874 just 11 minutes later (ending the session down 2.6% at 2,847). The tech-heavy Nasdaq100 dropped 2.6% in an hour. After trading at 1.66% in early overseas trading, 10-year Treasury yields were down to 1.52% by noon eastern (almost matching the low yield since 2016). The implied yield on December Fed fund futures dropped a quick eight bps to 1.55%. Gold was trading below $1,500 before the Bombs started falling. The shiny metal surged to $1,529 on Trump’s Cluster… (Bomb). Crude (WTI July contract) traded as high as $55.60 in pre-U.S. Friday trading, only to sink as low as $53.24. The yen rallied almost 1% to near the strongest level vs. the dollar since 2016. China’s offshore renminbi dropped 0.5% versus the dollar. The onshore renminbi traded to 7.0955, the low versus the dollar since March 2008.
Beyond the obvious major ramifications of an escalating China/U.S. trade war, expect intensifying debate regarding the mental stability of our Commander and Chief. The President’s, “My only question is, who is our bigger enemy, Jay Powell or Chairman Xi?” is especially alarming. Any suggestion that Chairman Powell is an enemy of the people crosses the line.
Having a disagreement with Federal Reserve monetary management is one thing. The President villainizing the head of the Federal Reserve in the current environment only further undermines a critical institution at a time of troubling market, economic, social and geopolitical instability. And doing so right after Powell delivered a Jackson Hole speech widely viewed as balanced and positively received by the markets does not instill confidence in the President’s rationality. That Friday’s tweets followed by a couple days the bizarre exchange over Greenland and the cancellation of the President’s state visit to Denmark is further disconcerting. And it’s worth recalling that the President threatened China with new tariffs back on August 1st over the objections of his advisors.
And so much for “good friend.” I’ll assume affixing the “enemy” label to Xi Jinping denotes serious trade war escalation. The “We don’t need China and, frankly, would be far better off without them” is frighteningly delusional. Along with the majority of Americans, I’ve believed a tougher stance with China was overdue. Yet I’ve also voiced serious concerns that the President’s abrasive and condescending approach with Beijing stood a low probability of success – with not insignificant odds of dangerous fallout. A Friday afternoon Bloomberg headline resonated: “Much Tougher to Walk Back: Investors on Trump-Tweet Stock Rout.”
As promised, Friday evening the President retaliated against China’s retaliation:
August 23 – Bloomberg (Joshua Gallu): “President Donald Trump said he’s raising tariffs further on Chinese imports in response to Beijing’s retaliation earlier in the day, deepening the impasse over the two nations’ trade policies. Duties on $250 billion of imports already in effect will rise to 30% from 25% on Oct. 1, Trump said in a series of tweets Friday after U.S. markets closed. He also said that the remaining $300 billion in Chinese imports will be taxed at 15% instead of 10% starting Sept. 1. Friday’s events marked a dramatic escalation in tensions between the U.S. and China after months of failed talks to resolve their trade dispute. It’s unclear whether negotiators will follow through with a plan to meet in Washington next month as relations have continued to sour. “China should not have put new Tariffs on 75 BILLION DOLLARS of United States product (politically motivated!),” Trump said on Twitter.”
Friday’s caustic tone and sudden escalation brought into focus the possibility that this trade war has the clear potential to spiral precariously out of control. Will President Trump move forward with measures that would force U.S. companies to retreat from China? Might the Department of Treasury intervene in the currency markets? Could the U.S. further ratchet up sanctions on Chinese companies? What impact will this latest escalation have on already shaky Chinese financial stability? How much closer is China to using its huge trove of U.S. Treasuries to make a point?
And if the day hadn’t already generated bountiful historical subject matter… With an escalating trade war, talk of currency wars and intensifying geopolitical strife, it was an ominously befitting backdrop for Bank of England governor Mark Carney’s Jackson Hole speech, “The growing challenges for monetary policy in the current international monetary and financial system.”
August 23 – Bloomberg (Brian Swint): “Mark Carney laid out a radical proposal for an overhaul of the global financial system that would eventually replace the dollar as a reserve currency with a Libra-like virtual one. Just a few months before he steps down as Bank of England governor, Carney offered his vision for the international economy at a time of sweeping change. Trade wars and the threat of currency wars are hurting growth and upending multilateral cooperation, while central banks are trapped in a low interest-rate world as they struggle to revive inflation… His most striking point was that the dollar’s position as the world’s reserve currency must end, and that some form of global digital currency — similar to Facebook Inc’s proposed Libra — would be a better option. That would be preferable to allowing the dollar’s reserve status to be replaced by another national currency such as China’s renminbi.”
The hastened formation of an international non-dollar block of economies will surely be one of the momentous consequences of the U.S. China trade war. Countries including Russia, China, Turkey, Iran, Venezuela, North Korea and many others will eventually operate outside of the existing U.S.-dominated structure of trade arrangements, financial relations and payment systems, and sanction regimes. Not only do I expect the unfolding crisis to be of an international scope much beyond 2008. Today’s hostile environment is in stark contrast to the cooperation and coordination that previously ensured a concerted global crisis response. There are today incredibly high stakes tottering on the perception that a unified global central bank community retains the capacity to hold crisis dynamics at bay.
August 22 – Bloomberg (Craig Torres): “Harvard University economist Lawrence Summers warned central bankers that they are staring at ‘black hole monetary economics’ where small changes in interest rates and even more aggressive strategies do little to solve demand shortfalls. ‘Interest rates stuck at zero with no real prospect of escape — is now the confident market expectation in Europe and Japan, with essentially zero or negative yields over a generation,’ Summers wrote on in a series of tweets… ‘The United States is only one recession away from joining them.’”
Federal Reserve policy is at a critical juncture. The efficacy of global monetary stimulus is at a critical juncture, as are the world’s financial, economic and geopolitical backdrops. The Fed’s Jackson Hole symposium has spurred a most important debate. Several regional Federal Reserve Bank Presidents provided comments notable both for insight and candor. For posterity, I’ve included excerpts from timely interviews conducted from Jackson Hole.
Esther George, President of the Federal Reserve Bank of Kansas City: “As I look at where the economy is, it’s not yet time – I’m not ready to begin to provide more accommodation to the economy without seeing an outlook that suggests the economy is getting weaker here.”
Bloomberg’s Michael McKee: “If you’re not ready to cut rates, are you happy with where rates are given that inflation is lower than anticipated? And would you be happy to leave them at this level for quite some time?”
George: “So I think that’s going to be a process of judging how the economy unfolds. I think where rates are right now – relative to the unemployment rate and inflation – suggests we’re at a sort of equilibrium right now. And I’d be happy to leave rates here – absent seeing some weakness or some strengthening or some kind of upside risk that would make me think rates should be somewhere else.”
McKee “Where would you put the neutral rate right now relative to where you are – are you tight? Are you loose? Accommodative? How do you see it?”
George: “I would judge policy to be at neutral or even accommodative with this last rate cut. If you think about where real interest rates are relative to the rate of inflation and where the Fed funds rate is, we’re operating close to zero with real rates. I can’t believe that that is tight in any sense for the economy right now.”
Eric Rosengren, President of the Federal Reserve Bank of Boston: “My own view [dissenting from the July 31st rate cut decision] was that we have to be careful not to ease too much when we don’t have significant problems. So the focus is not to do something that affects the exchange rate or something that necessarily takes care of the world economy. We’re supposed to focus on unemployment and inflation in the United States. So I think we’re at a pretty good spot right now. And there are costs to easing in times when you don’t need to ease.”
Bloomberg’s Kathleen Hays: “What’s the cost?”
Rosengren: “There are several costs. One is, one of the ways monetary policy works is that you cause people to buy houses and cars earlier than they otherwise would – “inter-temporal substitution”. You choose to make an investment now because interest rates, you think, are going to be temporarily low. And so you make expenditures you might not otherwise make. A second is, that when we lower interest rates we make the cost of debt lower. That means that both households and firms are more likely to be leveraged. And if they get leveraged right before we have more significant problems, they are actually in much worse shape. So we have to think about the financial stability characteristics, and by that it’s thinking of how much do we want households and firms to be leveraged going into whenever we actually do have a significant downturn.”
Rosengren “What I think has people really focused on whether we’re going to have a recession is a combination of volatility in the stock market: we obviously had a very big movement a week ago when we lost 800 points on the Dow – but in subsequent days we moved back up. And if you look at the long bond [yield], it is very low. It’s around 1.60%. One of the reasons for that is the global weakness. But the cure for global weakness is for countries around the world to expand with either fiscal or monetary policies in their own countries rather than just the United States to be doing the easing.”
CNBC’s Steve Liesman: “Let’s talk about where we are in terms of the economy. What is your outlook for the economy? What is your view of growth right now? Is it too slow?”
Patrick Harker, President of the Federal Reserve Bank of Philadelphia: “No. I think it’s exactly what we had anticipated – a year ago and even two years ago. We are going back to trend growth, roughly 2% growth.”
Liesman: “Where would you say policy is relative to that trend growth?”
Harker: “In December, I was not supportive of the increase. I was supportive of the decrease somewhat reluctantly this time around to get us back to where I think policy should be. We’re roughly where neutral is. It’s hard to know exactly where neutral is – but I think we’re roughly where neutral is right now. I think we should stay here for a while and see how things play out.”
Liesman: “You don’t see a case for further stimulus to the economy?”
Harker: “No. Not right now.”
Liesman: “Why not?”
Harker: “Because you look at the labor markets are strong, inflation is moving up slowly, the last CPI print was a good print. We’ll see how PCE comes in. There are negative headwinds to the economy. But right now I don’t think they call for any drastic action. I think we can take some time and see how things play out.”
Liesman: “Isn’t there an argument to take out an “insurance” cut for the type of potential negative effects?”
Harker: “I’ve heard that argument, but I’m not very sympathetic to the argument. Right now, given the volatility even of the policy itself, we don’t need to make that move right now. Nothing is moving dramatically in a negative direction. There is potential for it to do so. I think we need to keep our powder dry so that when that happens we have the policy space to move.”
Liesman: “How much concern do you have if rates remain too low for too long for the financial stability side of things?”
Harker: “That is the other factor that I have to weigh. I didn’t think the cut was appropriate necessarily, but I went along with it to get back to neutral. But I’m on hold right now. My forecast is just to hold where we are for one of the reasons is that. We run the risk of creating too much leverage in the economy.”
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