Market Comment: US trade tariffs: no worries for now

News item -

Under the banner of 'Make America Great Again!' US President Donald Trump announced last week that he would be imposing import tariffs on steel and aluminium. It was an unexpected proposal, made on Thursday, after a meeting with industry executives and promoted later via Twitter. The details have yet to emerge in the shape of a policy statement. Nevertheless, markets took it seriously, with US stock markets seeing an intraday decline of 2%, before regaining lost ground. On Sunday, Trump administration representatives said that more details could be known as soon as the end of this week.

Limited effect on the US

The effect of Trump's 10% import tariffs on aluminium and 25% on steel are difficult to estimate. According to ABN AMRO Group Economics, conventional thinking is that trade restrictions are negative for economic growth. Trump’s own administration, however, believes that there may be positive effects on particular domestic industries. In general, Group Economics concludes that the impact of Trump’s initiative on the US economy will be limited, for now.[1] The longer-term negative effect and greater impact would come from the eruption of an international trade war.

What is a trade war?

A trade war is when a country imposes tariffs or other barriers on imported products, prompting other countries to retaliate by implementing similar taxes or penalties. The last US trade war took place during the Great Depression. The Smoot-Hawley Tariff Act, enacted in June 1930, increased import duties by as much as 50%. The goal was to protect US farmers from agricultural imports. In a sign of disapproval, other countries retaliated and also increased their tariffs. Many economists agree, in retrospect, that the trade war had contributed to the making of the Great Depression.

Why a trade war would concern markets

In the longer term, Mary Pieterse-Bloem, ABN AMRO Global Head Fixed Income, thinks that US protectionist policies could lead to lower growth and affect central bank policies. “Trade wars are essentially inflationary,” she says. “The extreme situation that could result from a trade war would be rising inflation and slowing economic growth. This is exactly the worst situation for central banks keen to raise interest rates back to normal levels."

Olivier Raingeard, ABN AMRO Global Head Equities, continues adding, “The economic regime would deteriorate with less growth, more inflation and more tightening, which is, in a certain way, exactly contrary to what we currently have. This cocktail would certainly lead to a derating of equities, as the reduction of earnings visibility would generate lower risk appetite for risky assets.”

Such a risk is admittedly some way off. The exact tariff policy measures have yet to be published and Trump is known for changing his mind. Republican lawmakers are also coming out against the tariffs. Nonetheless, this Trump proposal is yet another signal for investors to be alert to risks in 2018.

Reasons for optimism

Raingeard remains optimistic that the effects of Trump's trade initiative will be muted. “The checks-and-balance systems in the US and other countries should limit the risk of a trade war that would be detrimental for the world economy. Given this situation, we are sticking to our preference for an overweight position in equities.”

[1] For more information, read the Macro Weekly, 2 March 2018