As Stocks Dropped Amidst Trade War, Perhaps A Global Recession Is On The Horizon

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by: Econ Alerts
Summary

The future of the global economy has become uncertain owing to the US/China trade war.

The war has been fought mainly with tariffs, trade sanctions. The US and China have levied tariffs on billion dollars' worth of each other's goods.

On August 5, the US stock market took a sharp dip. This was not unconnected to China's deliberate devaluation of its currency after August 1’s Trump new tariffs.

The trade war has always affected specific vulnerable companies. Most of these are in the automobile, tech, and agricultural industries.

If the trade war escalates, a full global recession could result. So, brace yourself for it.

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Background

Owing to trade uncertainties amidst the US/China trade war, the global economy is slowing. The war can be traced to certain events in 2018 when Peter Kent Navarro, the Director of the Office of Trade and Manufacturing Policy, expressed concerns about the transfer of trillions of dollars overseas. These were funds that could have been invested in the United States but were being used by foreign investors to buy America's assets.

Moreover, the US-made industrial espionage allegations against China and accused the country of intellectual property and military technology theft. Earlier in July 2012, Keith Alexander, the Director of the National Security Agency (NSA), had described this situation as "the greatest transfer of wealth in human history."

Then came 2017: the U.S. initiated formal investigations into China and its trade practices. And, in January 2019, there was the Huawei saga. However, that was followed in March, after several denials of the levied allegations, by China passing a bill that effectively outlaws the forced transfers of intellectual property, especially from foreign companies.

The rest, they say, is history.

Then, The Tariffs…

Tariffs are the principal weapon with which both countries have been fighting each other. For instance, in response to China's alleged unfair trade practices and theft of intellectual property, President Donald Trump, on March 22, 2018, requested the United States Trade Representative (USTR) to levy tariffs on $60 billion worth of China's goods. Consequently, heavy import duties were levied on many Chinese products, from medical devices to weapons.

Source: Bloomberg

Over the year and into 2019, both countries have gone on to impose tariffs on billion dollars' worth of each other's goods. And despite multiple talks, they have yet to reach a negotiated resolution to end the trade war.

From Trade War To A Battle of Currencies

On Monday, August 5, the equity market in the U.S took a sharp drop. The S&P 500 Index fell by as much as 2%, only to record a modest gain the following day as a result of currency stabilisation. The Dow Jones Industrial Average (DJIA) also rose, eventually closing up 311 points. Of course, the abysmal performance of the nation's stock market was not unconnected to the trade war.

Source: Bloomberg

Interestingly, many of the technology companies affected by the stock market dip and which are components of those indices affected either get their raw materials from China or have their manufacturing facilities there. Hence, they are especially vulnerable to tariffs on Chinese goods. For instance, rare earth minerals, mostly imported from China, enjoy high patronage from US electric car and wind turbine manufacturing companies.

Earlier, on August 1, President Donald Trump had announced on Twitter US's decision to impose 25% tariff on the "remaining $300 billion worth of imported China's goods." This decision led the Central Bank of China to deliberately allow its currency to fall to a decade low.

However, in spite of China's positive balance of trade status with the US, it is arguable that it has been manipulating its currency. But President Donald Trump, it seems, has a strongly contrary belief.

As The Trade War Lasts, Certain Specific Companies Have Been Worst Affected

Prior to the August 1 tariff, the US, on May 10, had increased the tariffs on $200 billion worth of Chinese goods, leading to a decline in stock market indices. Notably, the tech-focused Nasdaq 100 was the worst hit. This indicates how, if the trade war becomes fully blown, many companies in specific industries such as technology could be most affected.

Automobiles

In 2018, China retaliated to US tariffs by imposing more tariffs on US-assembled automobiles. Tesla Inc. (TSLA) was badly affected as its Chinese market size, a significant contributor to its revenues contracted.

Left with no choice, as a result, the company had to raise the price of its Model S and Model X by $20,000 in July before it slashed the prices again. Although the new tariffs by China have since been suspended, Tesla could be further brutalised if both countries do not come to a resolution anytime soon.

Tech Has Been Unscathed, So Far...

US technology companies such as NVIDIA Corp. (NVDA), Qualcomm (QCOM), Qorvo (QRVO), Micron Technology (MU) and Intel Corp. (INTC) either manufacture their products or market most of them (primarily chips and electronics) in China. Hence, they depend, to a high extent on China, for their revenues, putting them at greater risk whenever the trade war riles.

Although Apple Inc. (AAPL) has been able to escape tariffs on its China-assembled products, it would be significantly affected too if the tariffs are extended to its product class.

Also, if the trade war fully escalates, China can hurt US technology companies like Apple in many ways such as heavy taxation, stricter regulation, and total boycott.

Agriculture Has Suffered

In 2018, China who is the fourth-largest importer of US agricultural products imposed more tariffs on US soya beans imports. In the same year, despite China's cuts to US soya beans, the US sold $3.1 billion worth of soya beans to China alone. Also, China has been turning to countries like India and Brazil to meet its cotton needs.

Other agricultural products that have been adversely affected are hide and skins, pork, and grains. And if China, sometimes in the future, decides to boycott these US products again, companies directly involved in their production could experience a significant decline in revenue.

The Rest Of The World Is Not Spared: The Trade War Is Everybody's Business

As the US/China Trade War lingers on, the rest of the world does not seem to be spared. Most central banks are easing their monetary policies and cutting their rates. New Zealand's dollar, India's rupee, and Thailand's baht slipped as a result of rate cuts.

Although the United States Dollar has been relatively steady, tensions of the trade war also forced the Fed to cut down rate for the first time in a decade on Wednesday, July 31.

Outlook: There Could Be A Recession, So Brace Yourself

Even though President Donald Trump believes that his inspired trade policies are working, China, unfortunately, is not the only one affected. On the United States itself, the policies, as hinted by the country's Chamber of Commerce which represents over three million companies, are having backfiring effects.

Undoubtedly, the American economy has been expanding, although slowly, since the last bear session of 2008/2009. However, usually, a long period of expansion precedes an economic decline. On October 3, 2018, the Dow Jones Industrial Average (DJIA) hit its highest closing period for the 15th time of the year.

Source: Bloomberg

However, by December, it was at its lowest ebb ever since the peak of the Great economic depression. This characteristic behaviour of the stock market, experts believe, often heralds a recession.

Plus, historically, strong labour market statistics have always preceded economic downturns. And presently, the United States, with its unemployment rate of 3.7% and wages which have been on a consistent rise, is at its 50-year labour market low!

Source: Bloomberg

As the trade war continues, the stock market rumbles and the prices and yield of bonds rise and fall, respectively, signifying negative investors' economic outlook, it is evident the global economy is showing signs of strain. And one thing is sure: a recession could be in sight.

Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.