Boy, I’ll tell you what – I don’t know when Albert Edwards starting writing his latest note (dated Thursday), but it’s looking pretty damn topical in light of the Daimler news and accompanying market fallout in European autos.
As you’re hopefully aware, Daimler just became the first major company to slash its profit outlook due to escalating trade tensions between the U.S. and China. You do not have to be some kind of incorrigible pessimist to suggest Daimler will not be the last to adjust its outlook to account for the now sharply higher odds that simmering trade tensions will come to a boil over the next six months.
The contentious G-7 meeting underscored the idea that the Trump administration is not inclined to adopt anything that even approximates a conciliatory stance, the President’s wild press conference about “what they teach you at Wharton” notwithstanding.
One of the things I mentioned this morning in the Daimler post linked above was that Mario Draghi’s successful effort to engineer a sharp decline in the euro by offsetting the ostensibly hawkish APP announcement with the addition of date-and-state-dependent forward guidance on rates helped buoy European automakers in the face of the burgeoning trade threat.
Don’t get so caught up in the headlines about Chinese tech and soybeans that you forget all about the prospect of the U.S. using “national security” as an excuse to tax auto imports. Remember that? It was all anyone was talking about for roughly 30 minutes on May 24.
Draghi’s dovish slant on rates and the euro plunge it catalyzed provided a bit of a reprieve for the trade concerns. Have a look at this chart which is just a panned out version of the SXAP plotted with EURUSD to show you how the ECB’s commitment to wait until “at least summer 2019” to hike rates (which means Q3 2019) helped push European automakers to their best day since early April:
As you can see, the index has fallen every session since Draghi, underscoring how vexing the trade issue really is.
Ok, so coming full circle to SocGen’s Albert Edwards, he’s out with a new note on Thursday morning that delves into the trade tensions between the U.S. and Europe and again, thanks to the Daimler warning Albert’s new note is even more topical than it already would have been.
“It doesn’t take a genius to see what’s coming down the line after completion of the current US probe into whether vehicle imports have damaged the US auto industry,” Edwards writes, before reminding you that “President Trump has already told French President Macron to expect 25% tariffs on imported autos on the same ‘national security’ grounds used to impose US steel and aluminum duties in March [and] Trump has previously expressed his disdain at German luxury brands, particularly Mercedes [which he] has said he would tax off Fifth Avenue!”
Here’s Albert on Germany being a bit more unwilling to play Trump’s game than Xi:
Currently, the US charges just 2.5% on car imports. This is lower than the EU’s 10% and China’s 25%, although the latter will lower its tariff to 15% from 1 July. And this is the key difference with China (and Japan) in its trade relations with the US. Both these countries will ‘play the game’ and make concessions as well as conciliatory noises. Germany, in my years of observation, will not. It will push back robustly and the legalistic bent of the European Commission will see tit-for-tat tariffs being implemented far faster than anything seen in the current US/China trade spat.
Albert then goes off on a bit of a tangent, drawing on anecdotal evidence from his recent trip to Yosemite on the way to making the point that while “the widely divergent 10% vs 2.5% tariff rate on autos between the EU and the US may indeed look like an anomaly in favour of the EU, it is nothing compared to the 25% protection US light trucks and pick-ups receive.” So for all you Chicken Tax buffs, don’t say he didn’t give you a shoutout.
But getting back to the issue at hand (i.e., to the point about the euro in the context of the trade tensions), Albert says “the key is that the ECB has, with its divergent monetary policy, pushed down the euro and is indirectly responsible for greatly exacerbating current trade tensions.”
Of course the ECB would cite the divergent paths of the U.S. and eurozone economies when it comes to explaining the transatlantic policy divergence, but Edwards pokes some holes in that as follows:
If you measure US core CPI on the same basis as the eurozone, inflation is the same (ie stripping out the 25% weighting for owner equivalent rent in the US series, which the eurozone series does not include, see chart below). The ECB has pursued an excessively easy monetary policy due to a definitional anomaly in its CPI measure. The consequences of this will be immense if President Trump imposes punitive tariffs on European autos.
Core inflation calculation considerations aside, the U.S. does seem to be on a divergent trajectory when it comes to growth compared to Europe and China and in that regard, Albert cites his colleague Wei Yao’s assessment of the recent spate of weak data which, as a reminder, included FAI growth falling an all-time low of 3.9% and retail sales growth decelerating to the slowest pace in over a decade and a half.
“Wei thinks we may see an imminent monetary easing from China to counter the slowdown,” Edwards writes. Indeed. Here’s an excerpt from some of my random Wednesday evening musings:
China is probably going to have resort to another reserve requirement ratio cut in the not-so-distant future. You might have noticed that, in a break with recent precedent, the PBoC did not follow the Fed last week by hiking repo rates. That’s likely a reflection of jitters in Beijing about decelerating growth and the prospect for a trade war to act as a further drag on the economy at a time when the country’s efforts to squeeze leverage out of their labyrinthine shadow banking complex are already leading to less credit creation. Long story short, if the trade tensions continue to escalate, Beijing will likely deploy another RRR cut. That could potentially help to shore up EM more generally.
Albert thinks it may go further than that, and in that regard, we’ll just leave you with the closing line from his note:
If a weak Renminbi is part of that easing, what will President Trump do then? I think we know.