The Only Thing To Fear Is (Tariff) Fear Itself

If humans were creatures predisposed to learning from the past, Q4 2018 offered no shortage of lessons.

Unfortunately, most people are the living embodiment of that old adage about those who refuse to learn from the past being “doomed to repeat it.”

One of the things we should have learned in Q4 is that in an interconnected, globalized world, the protectionist envelope can only be pushed so far. Let us not forget that while Jerome Powell’s “long way from neutral” communications misstep on October 3 may well have been the straw that broke the camel’s back, it was just days previous that the Trump administration moved ahead with 10% tariffs on $200 billion in Chinese goods with a promise to more than double that rate at the turn of the year. Around the same time, Trump indicated he was in fact willing to slap duties on literally everything the US imported from China.

Markets were thus forced to cope with a recalcitrant Fed and an obstinate US president, with the latter exhibiting an increasingly disconcerting penchant for irrationality.

This clouded the outlook materially and likely undermined economic momentum globally even as the effects of fiscal stimulus were still working their magic on the domestic economy.

Credit Suisse touches on all of this in a note dated April 16 that’s worth briefly highlighting. The full piece is some two-dozen pages long, but the key points are summarized up front.

“Global industrial production fell modestly between October and February, according to our estimates, [but] this bad growth is probably too good to be true, because Chinese industrial production weakness appears to have been underreported”, the bank’s James Sweeney writes. “With that in mind, we would conjecture that we have just been through the worst five month stretch in global manufacturing in decades, excluding US recessions.”

So, there’s something to consider when the history of 2018 is written.

Of course, things have picked up in 2019 and if you’ve been following along, you may recall that Credit Suisse has stuck to a generally upbeat assessment throughout. Sweeney says “the recovery began in March” and while you might have been skeptical of that previously, you’re probably less so now. March activity data out of China was impressive (the obligatory “holiday distortions”/”seasonality”/”fake numbers” disclaimer notwithstanding) as PMIs, credit growth, exports, retail sales and IP all beat expectations and Q1 GDP suggests the economy has stopped decelerating. While Europe continues to look shaky, recent data in the US has been solid, and all in all, things feel a more stable now than they did two months back. Central banks’ coordinated dovish lean has certainly helped.

As Sweeney goes on to say, the fear of tariffs was in part responsible for the Q4 slowdown which, he notes, was Asia-centric. “We suspect that the most important reason for weak Asian data was the worry by businesses that a January 1 increase in US tariffs on Chinese exports would lead to a major growth shock”, Credit Suisse writes.

(Credit Suisse)

“Fear” is to be distinguished from any actual real impact of trade restrictions. Here’s Credit Suisse:

Very poor equity market performance in Q4 and concurrent growth weakness signaled the costs of tariff fears. Political leaders saw that the short-term pain associated with expected tariffs might be reason enough to avoid escalation. The activity that might be lost over time upon the implementation of tariffs is a separate issue from the immediate negative impulse that comes from tariff fears. This was a momentum shock, not a structural slowdown in growth due to a scale back of trade. The distinction will remain important as further tariff controversies flare in the years (or months?) ahead.

This is a somewhat notable take give worries (indeed, clear indications) that the Trump administration is prepared to ratchet up tensions with the EU once a deal with China is done.

The USTR’s decision to publish a list of products that could be targeted in retaliation for the harm to Boeing from Airbus subsidies came as something of a shock earlier this month, as was Trump’s apparently ad hoc “one-year” deadline on Mexico to curb the flow of illegal drugs or face car duties.

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“In November, further US tariff rate increases were widely expected. Now they are not”, Sweeney continues, citing conversations with clients in Asia. “Perhaps consequently, data have improved.”

Yes, “perhaps.” Credit Suisse goes to say that Chinese import growth tends to lead global IP momentum by ~2 months. Given lingering questions about the resiliency of domestic demand (e.g., the most recent trade data from China disappointed on the imports print even as exports beat expectations) and worries that ample liquidity and credit supply aren’t translating into real economic outcomes fast enough, this is something to focus on going forward.

(Credit Suisse)

The bank’s outlook isn’t all roses, though. There’s no denying that Europe is a weak link and indeed, the tariff threat mentioned above is very real. To wit:

The situation for European auto manufacturers is similar to the one that caused Asian electronics manufacturers to freeze in Q4 2018. A disorderly Brexit or US tariffs, particularly on autos, threaten trade barriers suddenly being raised across key supply chains. In such an environment, trade, orders, and production are likely to be weak as manufacturers await clarity. As long as these risks linger, Europe might lag the global rebound even more than usual.

Don’t tell the SXAP that, though. The European autos and parts index is in a bull market.

All in all, Credit Suisse expects a turnaround in Asia to support a global inflection, the beginnings of which we are witnessing right now. As we’ve been over repeatedly here lately, last month’s “growth scare” narrative has morphed into this month’s “nascent cyclical reflation” story. The question is whether that’s sustainable.

“Our forecast is for something less than a full-fledged recovery [as] we expect below trend growth in the rest of the year”, Credit Suisse says, wrapping things up and cautioning that “fading US fiscal stimulus, a weakening recovery in global mining, moderating employment growth in developed economies, and ongoing tariff concerns are also reasons not to expect the rebound to turn into a boom.”