The value of the pound sank precipitously on Friday, falling by more than 1% against the euro and the dollar after UK prime minister Boris Johnson’s warning on Thursday that a no-deal Brexit remained a “strong possibility”.
Sterling fell 1.3% against the euro to €1.089 and against the dollar to $1.3204 in early London trading.
The pound has been under continuous pressure since Wednesday, when Johnson and European Commission president Ursula von der Leyen confirmed that “significant differences” were yet to be bridged after trade negotiations in Brussels.
The UK and EU are currently deadlocked over questions of their post-Brexit relationship, with main sticking points including competition rules and fishing rights in UK waters. The two sides have set a deadline of Sunday to reach an agreement and prevent a “no-deal” scenario that would likely cause economic chaos.
"We need to be very, very clear there's now a strong possibility that we will have a solution that's much more like an Australian relationship with the EU, than a Canadian relationship with the EU," Johnson said. Unlike Canada, Australia does not have a comprehensive trade deal with the EU, and most of its trade is subject to tariffs.
However, the UK as a nation conducts far more trade with the EU – around 47% of its overall trade compared with Australia’s 15%.
“With the UK now looking like it’s hurtling towards a no-deal Brexit, investors should adopt the brace position for swings in sterling and shares in domestic focused companies,” said Susannah Streeter, senior investment and markets analyst at Hargreaves Lansdown.
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Whether or not a deal is achieved, the UK’s temporary trade arrangements with the EU will expire on 31 December.
With the dust finally settling on the US presidential election, reactions from world leaders have been largely predictable. Heads of state have rushed to congratulate President-elect Joe Biden almost as soon as the vote swung his way in key states, with Canadian Prime Minister Justin Trudeau and French President Emmanuel Macron being among the first to call the former US Vice President on 7 November. More followed soon afterwards, seeking to reaffirm alliances and build early ties with the next head of the nation.
This has not been the case for all world leaders. China’s President Xi Jinping conspicuously refrained from congratulating President-elect Joe Biden on his election victory, apparently waiting until the confirmation of his winning Arizona on 13 November – and therefore depriving Trump of any conceivable comeback – to finally extend a hand. Xi’s reticence speaks to the Chinese government’s deep distrust of the US, and perhaps of the incoming administration more than the one outgoing.
Though the CCP has remained largely silent on Biden in official statements, it has made its opinions known elsewhere. "China should not harbour any illusions that Biden's election will ease or bring a reversal to China-US relations, nor should it weaken its belief in improving bilateral ties,” read an editorial published in the state-run tabloid Global Times on Sunday. “US competition with China and its guard against China will only intensify.”
To an observer, this hardly makes sense at first glance. In many respects, a Biden presidency is likely to prove beneficial to the Chinese government and economy. One of the main planks of the Trump administration’s foreign policy has been the imposition of tariffs on hundreds of billions of dollars’ worth of Chinese goods, sparking a trade war that Biden has slammed as “the wrong way” of confronting China and is likely to be rolled back during his term. The Trump administration’s severe restrictions on Chinese student visas are all but certain to be lifted as well, as are more minor swipes made by the outgoing government. Most of all, a Biden administration will not be prone to the same unpredictable outbursts as its predecessor, sometimes hailing Xi Jinping for his “hard work” and “transparency” and sometimes condemning him as “totalitarian”.
“US competition with China and its guard against China will only intensify.”
However, Biden’s administration will differ from Trump’s in one crucial respect: its willingness to embrace cooperation on the world stage – and, consequently, leave fewer openings for China’s ambitions. Though the Trump administration was characterised by an unpredictable foreign policy, this did not always manifest in the form of sanctions and tariffs; several abrupt policy shifts have had the effect of ceding leadership to China in key political and economic areas.
We have seen shades of this occurring recently in the White House’s refusal to join the 170-nation-strong COVAX alliance on the grounds that it was “influenced by the corrupt World Health Organisation and China”, leaving a leadership vacuum that China gladly filled. The administration’s earlier move to withdraw the US from the WHO and the United Nations Human Rights Council, both also pitched as repudiations of Chinese influence, gave the CCP further room to increase that same influence.
These are the splits that have had an obvious net positive effect for China and its image, but there have been other divergences from the international norm that have driven a wedge between the US and the international partners it ordinarily relies on in trade and diplomacy. A prominent example of this was the fracturing of the Iran nuclear deal, a high-profile break from diplomatic consensus that left allies scrambling to save trade agreements built up in the deal’s aftermath. Another was the Trump administration’s systematic blocking of nominees to the WTO Appellate Body, which renders it unable to form the quorum required to hear and resolve international trade disputes. While both of these departures were less concerned with rebuking China, they confounded America’s allies and eroded efforts to present a unified international front against threats like China’s growing economic dominance.
The chances of this erosion continuing under the Biden administration, which has posited the explicit aims of “working with our allies to stand up to China” and restoring the United States to a “position of global leadership”. Foreign leaders’ rush to build ties with Biden, even as Trump contends that the election is not over, illustrates even further that the old alliances are looking for a return to form. China is right to be wary; despite outside appearances, its economy is not an unstoppable machine. Even prior to the outbreak of the COVID-19 pandemic, its GDP growth in 2019 fell back to the lowest levels seen since the early 1990s, and the continual exodus of its young professionals is an albatross on its development.
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As it moves to expand trade with other nations through agreements like the Regional Comprehensive Economic Partnership – a free trade pact spanning a third of the global economy, formed in the aftermath of the US withdrawal from the rival Trans-Pacific Partnership a year after Trump took office – and pledges to open its economy even further, China will thrive in the void of competition left by America. It remains to be seen how long this void will be maintained.
Gold prices reached their highest level in eight years on Wednesday, while market shares saw a dip in investor enthusiasm.
Spot gold XAU= rose by 0.6% to $1,777.53 per ounce. Earlier, it hit its highest going rate since October 2012 at $1,779.06 per ounce.
MCX Gold futures also saw a price increase, and the SPDR Gold Trust announced that its holdings had risen 0.28% to 1,169.25 tonnes on Tuesday. Meanwhile, the pan-European STOXX 600 index fell by 1.6%, indicating a potential three-week low.
Investor concerns can largely be attributed to rising COVID-19 infection rates in some areas of the world, with Latin America’s death toll recently having reached 100,000 and record single-day infection rates being recorded in some US states.
However, broad political concerns have added to anxiety. Reports that the United States is considering placing tariffs on $3.1 billion of exports from western European nations, and that the EU may bar US travellers due to surging COVID-19 case figures, have not aided market positivity.
Neil Wilson, chief market analyst at Markets.com, commented that “Gold is a clear winner from this pandemic,” noting that the commodity was initially sold off in March as investors rushed to acquire cash immediately.
“Since then gold has made substantial progress in tandem with risk assets since the March lows because of central bank action to keep a lid on bond yields. The combination of negative real yields and the prospect of an inflation surge due to massively increased money supply is sending prices higher,” Wilson continued.
The precise shape of the UK’s post-Brexit taxation regime is yet to be decided; however, the indications are that radical changes are unlikely. Much will depend on the terms of the UK-EU trade deal, which is due to be negotiated this year. The EU has been abundantly clear that UK alignment in terms of taxation, labour and environmental regulation is the price for EU market access.
Yet, former Chancellor, Sajid Javid, warned that "There will not be alignment, we will not be a rule taker, we will not be in the single market and we will not be in the customs union – and we will do this by the end of the year." It remains to be seen whether his successor, Rishi Sunak, will be as bold or soften in the face of the economic consequences of losing trade with the EU. Below, Miles Dean, Partner at Andersen Tax UK, offers Finance Monthly his predictions on what we are likely to see in terms of taxation as future trade deals are negotiated.
Given the scale of UK trade with the EU, it appears probable that substantial alignment will ultimately be seen as a wise trade-off in order to retain valuable market access to the EU. The EU remains the UK’s largest trading partner. 44% of all UK exports went to the EU in 2017, with 53% of all UK imports coming from the EU. The efficient operation of cross-border supply chains are vital to the UK’s automotive and aerospace industries. These largely depend on the free movement of goods across the Channel.
The Conservative Party’s clear majority in the 2019 general election makes the UK’s future tax policy somewhat more predictable. While some more excitable commentators feared that the Conservatives would slash corporation tax, deregulate and sell off the NHS, the party’s 2019 manifesto went in rather the opposite direction - deferring a scheduled cut in corporation tax to fund the NHS. Section 46 of the Finance Act, 2016 had pledged to reduce the rate of corporation tax from 19 percent to 17 percent from 1 April 2020. However, Prime Minister Johnson told the Confederation of British Industry’s annual conference on 18 November 2019 that the this planned reduction would be put on hold to fund the NHS and other “national priorities”.
44% of all UK exports went to the EU in 2017, with 53% of all UK imports coming from the EU.
To offset this disappointment to UK business, the Conservative Manifesto announced other business-friendly measures, including a review of business rates, an increase in the R&D tax credit rate from 12% to 13% and an increase in the structures and buildings allowance from 2% to 3%. Yet none of this amounts to anything resembling dramatic reform. Indeed, this cautious approach rather suggests that the government is heeding the EU’s bottom line in terms of alignment, and that it does not intend to radically alter the UK’s taxation regime.
The idea of the UK becoming a giant Singapore-style tax-haven after Brexit also appears to be on hold. Indeed, the government is even promising additional anti-tax avoidance measures and a new digital services tax, showing a commitment to maintaining and even expanding the UK’s tax base.
The new digital services tax may yet be influenced by trade negotiations – this time those with the United States, as regards a US-UK trade deal. The Government’s plans to introduce a 2% digital services tax from April 2020 would disproportionately affect US tech companies such as Google and Facebook. The US treasury secretary Steven Mnuchin has warned of retaliation by new US taxes on UK car imports, saying “If people want to just arbitrarily put taxes on our digital companies we will consider arbitrarily putting taxes on car companies.” Downing Street replied in turn, saying that such tariffs would “harm consumers and businesses on both sides of the Atlantic. We feel [the digital tax] is a proportionate step to take in the absence of a global solution. We made our own decisions in relation to taxation and will continue to do so.”
Despite the Government’s declaration of independence in terms of taxation policy, this incident illustrates that any greater independence in trade and taxation policy brought by Brexit has limits. There will inevitably be trade-offs and constraints. UK decisions on taxation do not operate in isolation, but can have broader political and economic consequences. The UK exports some £8.4 billion worth of cars to the US each year. The early agreement of a UK-US trade is a priority for the government. US pressure may well yet influence the government’s digital taxation plans.
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Nobody can predict the future. When it comes to Brexit, events are notoriously unpredictable. However, the actions of the UK government have been moderate – even if the rhetoric is sometimes less so. Mr Johnson came to power with the promise of keeping the credible threat of no-deal on the table, as a negotiating tactic. However, his aim was not to end up with no deal, but with a more favourable one. Having made the compromises required to achieve a withdrawal agreement, we can hope that a similarly reasonable approach will prevail in the UK-EU trade negotiations. No doubt the threat of no-deal will also remain on the table, for tactical reasons, as before. Therefore, while it is possible that the talks will collapse, resulting in a no-deal Brexit at the end of 2020, that outcome appears unlikely.
Even in a no-deal scenario, the Government’s no-deal Brexit tariff regime means that 88% of imports would not be taxed. The Confederation of British Industry estimates that 90% of the UK’s goods exports to the EU, by value, would face tariffs averaging 4.3%.
While the UK could theoretically abolish VAT after Brexit, the technical guidance for a no-deal Brexit indicated that the current VAT system would continue. Since it raises around £125 billion per annum, it is inconceivable that it will be abolished let alone restructured to any significant degree.
While the UK could theoretically abolish VAT after Brexit, the technical guidance for a no-deal Brexit indicated that the current VAT system would continue.
A no-deal Brexit would disproportionately impact sectors such as agriculture and manufacturing. Likewise many EU sectors would be badly affected. Since a deal is in the interests of both sides, it’s reasonable to hope that one will be achieved, even if it is imperfect.
The broad shape of a UK-EU agreement that would facilitate market access is already known. It will require sufficient UK alignment on key matters, including taxation. While the detail is undecided, in broad terms it means little change to the UK’s taxation regime. Perhaps, the government may seek some wriggle-room on VAT or corporation tax. Yet the fact that the government has shown no appetite for radical change in taxation is telling. Maintaining the status quo on taxation helps to keep a UK-EU trade deal within the government’s sights.
Miles Dean is Head of International Tax at Andersen Tax in the United Kingdom. He advises privately held multinational companies, entrepreneurs and high net worth individuals on a wide range of cross border tax issues.
Andersen Tax provides a wide range of UK and US tax services to private clients and businesses, helping them achieve their personal and commercial objectives in a tax efficient manner.
With its strong influence on the multilateral trading system, the US is undoubtedly amongst the most powerful countries in the world when it comes to trade. Over the course of his presidency, Trump’s “America First” policy, however, has increasingly been undermining international trade laws. Over the past few years, the US president has been fighting numerous battles with some of America’s trading partners, using tariffs for leverage in negotiations. And although it may look like he’s done a lot, has this led to any progress? Let’s take a look at the main measures that Mr Trump has taken to protect American trade over the past four years.
The US vs. China trade war
The trade war with China which President Trump announced in 2018 is the most prominent trade conflict we’ve witnessed in recent years. The US President has been accusing China of unfair trading practices and intellectual property theft for years, whilst China has long believed that the US is attempting to curb its rise as an economic powerhouse.
The dispute has seen the two countries impose tariffs on hundreds of billions of dollars worth of one another's goods and although they recently signed a preliminary deal[1], some of the most complex issues remain unresolved and most of the tariffs are still in place. The US will maintain levies of up to 25% of approximately $360bn worth of Chinese products, whilst China is anticipated to keep tariffs on over $100bn of US goods.
United States-Mexico-Canada Agreement (USMCA)
Back in 2018, the US, Canada and Mexico signed a successor to The North American Free Trade Agreement (Nafta) which was renamed as the United States-Mexico-Canada Agreement or USMCA. The agreement governs over $1.1 trillion worth of trade between the three North American countries.
Renegotiating Nafta was one of Trump’s key goals for his presidency. "The terrible NAFTA will soon be gone. The USMCA will be fantastic for all!", he tweeted shortly after signing the new deal with America’s neighbouring countries.
However, despite the name change and the claims that the updated agreement would "change the trade landscape forever", a lot of the terms have remained the same[2]. Stronger labour provisions and tougher rules on the sourcing of auto parts were some of the most notable changes, however, analysts believe that their significance remains to be seen.
What’s more, a number of the other updates were discussed during negotiations which took place before Trump took office.
Tariffs on European cheese, wine & aircraft
There hasn’t been a trade deal agreed with the Europan Union as of yet. In 2018, after the US introduced tariffs of 25% on steel and 10% on aluminium imported into the country, the two sides went through a round of tit-for-tat tariffs with the EU announcing retaliatory tariffs on US goods such as bourbon whiskey, motorcycles and orange juice. A few months later, in October, the US imposed a new round of tariffs[3] on $7.5bn of EU goods, including French wine, Italian cheese and Scotch whisky. The US also imposed a 10% levy on EU-made airplanes which could hurt US airlines that have ordered billions of dollars of Airbus aircraft.
President Donald Trump has also repeatedly threatened to impose additional tariffs on European cars and although that hasn’t materialised yet, he has confirmed that he’s serious about it when he recently mentioned his plans again[4] during the World Economic Forum in Davos.
Trade deals with South Korea & Japan
One of Trump’s first moves as President of the US was to withdraw the country from the Trans-Pacific Partnership (TPP) – a proposed trade agreement between 12 countries, which eventually went ahead without America. Since then, Mr Trump has claimed two bilateral agreements with South Korea[5] and Japan[6]. However, the changes were so limited that Congressional researchers concluded that they barely qualified as trade deals.
With Japan, the US agreed on either levy cuts or full elimination on $7bn worth of agricultural goods, which is what it would have received under the Trans-Pacific Partnership too.
The most notable win that came from the agreement with South Korea is the extension of the 25% US tariffs against South Korean light-duty trucks to 2041. Previously, it was scheduled to expire in 2021.
Tariffs on steel and aluminium from Brazil and Argentina
In December last year, Mr Trump surprisingly announced on Twitter that he’s ‘restoring’ tariffs on steel and aluminium imports from Brazil and Argentina.
The two South American nations have been exempted from higher duty on both metals, but according to President Trump, both countries had been devaluating their currencies which he believes is ‘not good’ for American farmers.
There hasn’t been much progress since the initial announcement, but Brazil’s President Jair Bolsonaro said he had been assured by Trump that the tariffs won’t materialise.
[1] https://www.bbc.co.uk/news/business-51114425
[2] https://markets.businessinsider.com/news/stocks/us-canada-mexico-trade-deal-usmca-nafta-details-dairy-auto-dispute-resolution-2018-10-1027579947
[3] https://www.independent.co.uk/news/business/news/us-tariffs-trump-eu-goods-airbus-subsidies-wto-a9132001.html
[4] https://www.marketwatch.com/story/trump-doubles-down-on-threats-to-impose-tariffs-on-european-cars-at-davos-2020-01-21
[5] https://www.cnbc.com/2018/09/24/trump-signs-revised-trade-deal-with-south-korea.html
[6]https://www.bbc.co.uk/news/business-49834705
Trump’s escalation of the trade war is going to trigger a “chain reaction of negative events around the world,” says Nigel Green, the founder and CEO of deVere Group.
This warning comes as global markets are in turmoil as Donald Trump’s administration announced a long list of new products that tariffs on $200 billion worth of goods from China will be levied against.
Mr Green comments: “Trump’s escalation of the trade war between the world’s two largest economies is going to trigger a chain reaction of negative events around the world.
“It is going to lead to higher inflation in the U.S, as import tariffs raise the cost of imported goods while domestic producers find that they can increase their prices as foreign competition weakens. This means interest rates will be hiked and the dollar will go up.”
He explains: “China’s cheap goods have helped keep prices, and therefore US and global inflation, low.
“To counteract increasing inflation, the US Federal Reserve is even more likely to raise interest rates. A jump in rates will, of course, strengthen the dollar.
“A stronger dollar also increases stress in emerging markets, many of which have borrowed heavily in recent years in dollars and who now find interest and capital repayments on these loans have shot up in local currency terms. In addition, emerging markets are particularly vulnerable to a downturn in exports resulting from a rise in quotas and import by the US, given that exports are a key driver of growth for many under-developed countries with China the most obvious example’.
Mr Green goes on to say: “Trump’s trade war is a masterclass in self harm for the US and global economy.”
The deVere CEO stated last week that investors must now avoid complacency and ensure their portfolios are properly diversified to mitigate risks and take advantage of potential opportunities that all bouts of market volatility bring.
He said: “Investors need to brace themselves for months of heightened posturing from the different parties, which is likely to increase market turbulence.
“And as Trump potentially marches off to a trade war, a good fund manager will help investors sidestep the risks and embrace potential opportunities.”
(Source: deVere group)
In January this year, Trump slapped tariffs of up to 30% on imports. In March, he added tariffs of 25% and 10% on imported steel and aluminium respectively. China and the EU retaliated with actual or threatened tariffs on hundreds of imported US products, but Trump hit back with a threat of further taxes.
Companies and investors caught in the cross-fire between tit-for-tat trade wars are concerned because:
- The US and China appear to be taking a hard-line approach to recent trade hostilities and so, escalation is possible and the economic consequences could be worse.
- The warring parties (EU, US, and China especially) are dominant economic powerhouses and their actions affect global and domestic GDPs, as well as the fortunes of millions of companies and people around the world.
- History tells us that trade wars have few, if any, winners.
The Financial Times suggests that a global trade war could knock 1-3% off GDP over a few years. They also reported that whereas capital expenditure (capex) by some US companies had risen, a Credit Suisse survey suggested that many businesses remained more hesitant about investing. Some have opted to hold onto their mountains of cash because of the uncertain outlook caused by trade war and geo-political tensions.
Capex
With reduced capex comes reduced employment and reduced productivity gains. Inefficiency eats into profit margins and competitiveness, lowering company values and economic growth, which leads to less capex, and so the vicious downward spiral continues.
Some companies might manage the situation by shifting production overseas, but in the process losing exported jobs. Relocation would also consume investment and time to raise production and adjust to the new dynamic, and in the meantime, the profit margin would diminish.
Uncertainty
A great drag on companies’ profits and a disruptive influence on supply chains, is the uncertainty that trade wars create. When will they end? Will they escalate? Which sectors will be affected and to what extent?
Chinese parts, for example, relied upon by US manufacturers, could become unavailable, or they might not. Just a month later, the US is backpedalling on its April 2018 ban on selling US company parts to Chinese company ZTE, a reversal that will cause turmoil among exporters and importers that must now reverse their plans to circumvent the ban.
Governments might retaliate to their counterparts in other ways. In 2016, China shut down Korean companies operating in China in retaliation to South Korea's actions. Hyundai and Lotte (both Korean) were denied car parts from local suppliers and 100 Lotte shops were closed. Countries have been known to expropriate foreign companies’ assets.
In the aftermath of the 2007 global financial crisis, investors stood on the sidelines for years with their pockets full of cash until asset prices and markets stabilised from the shock. The same hesitation could occur during trade wars and other geopolitical crises.
Higher funding costs
We have already seen some shareholders switching out of volatile equity investments into safer havens such as government bonds. That is likely to raise yields for borrowers, especially for high-yield borrowers, increasing interest payments and lowering corporate profits.
Currency risk
Investors’ flight to safety could significantly impact exchange rates as they dump risky currencies (such as those of some emerging market countries) and buy safer ones (such as USD), causing currency losses for companies that have not hedged their currency risks. Conversely, companies with a depreciating currency could benefit – for example, from the increase in value of overseas earnings that are reported in the depreciating currency. Those gains could be offset more or less, by higher import costs.
The IMF reckons that (without trade retaliation) the USD could appreciate by 5%. Appreciation of the USD could accelerate, causing further rises in costs of USD-denominated commodities, such as oil.
Commodity prices
Higher oil prices would adversely affect heavy users of energy, such as aviation, motoring, and manufacturing sectors. For example, American Airlines’ share price went down 6% after it expected $2.3 billion in additional fuel costs.
Winners and losers are expected from conflicts, such as trade wars, but sometimes the outcome can be unexpected.
Unintended consequences
American company Metal Box International was going to shut down after its sales had been decimated by cheap imports, but Trump’s protectionist trade policies changed its mind.
Metal Box, and other US manufacturers of products slapped with US import duties, should have seen its market sales rise as it filled the market gap created by reduced imports.
Anti-subsidy and anti-dumping duties imposed by the US on Chinese imports did result in a pick-up in Metal Box’s sales, but it was short-lived, because, according to the company, consumers and retailers feared trade war disruption so they stocked up pre-emptively. The company increased its capex in anticipation of higher sales volumes, but the machinery now sits idle.
The company’s hopes for business success were set back further by tariffs imposed by Trump on imported steel, because the company will now probably have higher costs of steel raw material.
Stagflation and GDP
Moody’s notes that workers employed by US business sectors that use steel far outnumber those employed in its manufacture, by around 5:1. That is also the ratio of job losses: gains predicted by Trade Partnership as a consequence of US tariffs.
“Protectionist trade policies, including tariffs on raw-material imports, could exacerbate these inflationary pressures [caused by global economic growth], running the risk of tighter margins and possible supply-chain disruptions in the manufacturing sector,” said Moody’s. Inflation could necessitate faster monetary policy tightening, i.e., more interest rate hikes. That would raise companies’ costs, denting their profits.
Sustained high interest rates and inflation could stymie global economic growth and create stagflation. A March survey by BoAML found that 90% of investment managers thought protectionism would cause either inflation or stagflation, and protectionism was investors’ primary fear.
Whereas some steel users will have the ability to pass on rising metal costs (either contractually, or through their brute forces of negotiating or price-setting), smaller companies will have to absorb higher input costs to maintain market share. For the former, profit margins will be protected, for the latter, they will contract.
Where investors are concerned, borrowers also need to be concerned, because the fortunes of both are intertwined. When investors become risk-averse and hoard cash, borrowers lose access to capital or pay a higher cost. Reduced profits ultimately hurt workers’ incomes, the economy’s GDP, and investors’ return on investment.
Unchecked, stagflation could deteriorate into recession, leading to job losses, reduced investment and further corporate financial distress. With many companies and individuals already highly geared with debt, a recession or stagflation that reduces income and the ability to service debt interest obligations, could trigger a wave of personal bankruptcies or corporate insolvencies, reducing GDP further and leading potentially to recession.
Companies might have to lay off employees to remain profitable or in business. Where last-in-first-out stock valuation accounting policies are used, profits will be quickly dented, reflecting higher stock costs. Cashflow will fall because of more expensive stock, or else companies will try to stretch their trade creditors’ goodwill even farther. Companies that can control their working capital interactions are more likely to survive than those with poor credit, stock, and trade creditor management practices.
Credit insurance
Companies’ trade credit insurance premia might increase, or be stopped of their financial position deteriorates. Credit insurance providers stopped providing credit protection to Woolworths’ suppliers, meaning it had to pay in cash, exacerbating the strain of its debt pile and leading to its administration. Without credit insurance, factoring of invoices, and conventional credit from suppliers, Toys R Us had to buy its games and toys as they were delivered. Without cash, a company’s shelves soon begin to empty, payments become overdue, staff are not paid, and operations grind to a halt, i.e., bankruptcy or insolvency ensues.
Gearing
Companies that have low gearing or operate in strong cashflow sectors such as fast-moving consumer groups, might withstand a cash crisis by raising additional debt, but companies already creaking under a mountain of debt and/or debtors, are more likely to break under the strain, and relatively sooner.
Almost 2/3 of aluminium and 1/3 of steel are imported by the US. Caterpillar and Boeing were caught in the firing line between the US and its trading partners because of their heavy and critical reliance on metals, and their international operations. Investors realised the negative implications so both companies’ shares dumped, sending their prices down more than 5%.
Winners and losers
Shareholders in US steel makers made a mint from US tariffs, US Steel and AK Steel, for example, rose 6% and 10% respectively. In the longer-term, US steelmakers could lose out from trade wars, however, for example, if manufacturers relocate, cut back on domestic production volumes, or use alternatives materials.
Other winners in the latest trade spat are companies that are more inward-looking or resilient to tit-for-tat retaliation, such as healthcare and BioTech. For example, shareholders in Johnson & Johnson, Merck, and Pfizer were some of the biggest winners in March. Other defensive regions and sectors include: Australia, Brazil, parts of Europe and Japan, and sectors such as telecoms, utilities, insurance, and retail. Countries whose GDP depends heavily on exports to the US, such as Mexico and Canada, are likely to suffer most from US protectionism.
Conclusion
Companies are in the cross-fire between trading countries, so they need to, above all, pay close attention to their cash flow and their survival over the longer term, even at the expense of near-term profit and revenues. They also need to monitor a changing geopolitical landscape and adapt accordingly. At such times, a company is likely to soon find out how committed banks and other investors really are to the company’s survival.
Website: www.permjitsingh.com
Last week, stock markets fell globally in the wake of US President Trump's latest tariffs threats to China. Donald Trump threatened to put tariffs on an extra $200bn (£141bn) of Chinese goods, further fueling the prospects and worries of a trade war.
This week Finance Monthly set out to hear Your Thoughts on the potential for an international trade war, gaging the opinions of experts and professionals around the world.
We asked them: What do you think about this? How will this change things internationally? What might be the short-term reactions and impacts? What about the long term? How will you be affected? How will small businesses be affected? Who will benefit from what's to come? Is this a good strategy? What are the political and social repercussions?
Miles Eakers, Chief Market Analyst, Centtrip:
Investors are right to be concerned as Wall Street futures dropped by almost 2% following Trump’s threats to impose more tariffs. Any retaliation by Beijing is likely to fuel the escalating trade war with Washington, which will in turn have a negative impact on equities and increase risk aversion.
Investors are not the only ones troubled by the current situation. The world’s largest superpowers’ shift towards protectionism has global ramifications. International companies may grow less competitive due to tariffs and the cost of raw materials purchased overseas could rise by 10–20%. It’s highly possible that any further action from the US or China could put an end to the current 10-year bull market run.
Kasim Zafar, Portfolio Manager, EQ Investors:
An all-out trade war is unlikely and we believe this will be avoided in favour of mutually agreeable changes on both sides.
The world last entered trade wars on this scale early during the Great Depression. The Smoot-Hawley Tariff was entered into US law in June 1930, about 8 months after the “great crash”. There are mixed opinions on whether the tariffs added to the economic depression or only slowed down the ensuing recovery. But it is generally agreed the tariffs themselves were not the main cause of the Great Depression
Today there are few, if any, of the conditions that presaged the Great Depression. But the world is a different place today compared to the 1930’s. The most significant difference is the interconnected nature of global supply chains that have been built by companies in the post-War era. Abrupt changes along the supply chain in terms of physical supply or associated cost will have immediate impacts on the total costs of production. Companies are not charities, so if the cost of production goes up, so too will product prices on the shelf.
The impacts will differ between companies and across nations dependent upon:
- the specific tariffs enforced;
- the speed with which reciprocal tariffs are imposed, if at all; versus
- the speed with which companies can redirect their supply chains and adjust their customer demand bases; and
- the proportion of tariffs absorbed by companies within their profit margins to remain competitive against local and international peers
The UK runs a goods deficit of over £130 billion per annum of which about 10% is with the US directly. So for the average UK consumer, the direct implication of US originated tariffs on items we buy is fairly limited in scope. The impact of tariffs on things we sell is limited also with only about 10% of UK exports heading for the US directly. The bigger risk we face is the secondary impacts from companies and countries that are impacted to a higher degree:
- The tariffs would see a fall in global trade and excess production capacity around the world.
- This would undoubtedly be deflationary for the rest of the world and inflationary for the US.
- So in the short term, it could actually mean lower prices for UK consumers as companies try to boost demand for the excess capacity and high inventories by lowering prices.
- However, with the US representing about 20% of developed market trade, any significant drop in sales to this region will create severe negative economic effects elsewhere.
- This means companies would likely downsize in the face of lowered current and expected future demand. The interconnected nature of global trade means the impact of downsizing will ripple across countries.
- Jobs will be at risk and the UK will not be immune.
- Specific items that are the subject of reciprocal tariffs by the UK or EU towards the US would see price increases. Currently this appears to be focused on jewellery, whiskey and rear view mirrors, although orange juice, denim and motorcycles and are also in the firing line!
Carlo Alberto De Casa, Chief Analyst, ActivTrades:
The trade war escalation is unsurprisingly scaring the markets. The main reason for this is actually the belief that this is only the beginning of the escalation, as China has already clarified that it will reply to US tariffs with its own. Of course, this could have many impacts. In the short term, US companies which are importing will have to pay more, while advantages for US producers will be positive, even if that’s a much smaller proportion overall. But what is scaring markets is definitely the long-term scenario, that the trade war will grow to affect more economical sectors.
This won’t only affect the big companies, it could also have a serious impact on smaller ones and retail consumers. A typical example to explain this is something like the beer can, the cost of which will rise due to the aluminum tariffs. The implications can be far wider than what you might originally think.
It is difficult to say whether this is a good strategy; we can surely affirm that this is a risky strategy as you can’t completely predict or control the effects it will have, especially in the long term. The ball is now firmly in the court of those who trade with America.
There’s little certainty that this will help drive the US economy. If this is the effect wanted by Donald Trump, then you have to consider that the tariffs which will be decided by other countries are what will drive the results. It could at best create jobs in one sector, but the additional jobs generated will likely result in a loss in other sectors. Overall, it’s hard to see this policy accomplishing its goals.
Bodhi Ganguli, Chief Economist, Dun & Bradstreet:
Rising protectionist measures from the US government are creating significant uncertainty for global businesses and adding to cross-border risks. After some optimism that the US hardline stance on tariffs was softening a bit, new announcements from the administration have re-ignited fears that the ongoing skirmishes could blow up into a full-fledged trade war, particularly between the US and China. The latest announcement came from President Trump on 22nd June when he threatened to impose new tariffs of 20% on auto imports from the EU unless the EU removed tariffs on US goods. It should be noted that, some of these EU tariffs on US exports went into effect earlier the same day; these were retaliatory tariffs in response to US tariffs already implemented on steel and aluminum (most trading partners were exempted, except the EU, Canada and Mexico). Equity prices of major European automakers dropped immediately following the announcement, highlighting the intricacies of global supply chains and their dependence on smooth trade flows between nations. In fact, all major global stock markets have seen episodes of selloffs in the past few weeks in reaction to worries that trade restrictions are rising.
The latest round of proposed US barriers to free trade have come with a pronounced inclination by the US to move away from traditional norms of multilateralism based on the WTO principles, including measures specifically directed at longtime allies like the EU and Canada. This has the potential to spill over into other areas of geopolitical risk, and pose added headwinds to the global economy. While the extent of the EU retaliation is modest so far, other countries are stepping up or planning ‘tit-for-tat’ tariffs against the US. India just hiked tariffs on a selection of US goods, while similar Canadian tariffs are scheduled to come into effect on 1st July. Of course, the biggest risk of disruption comes from the US-China spat; earlier the same week, China threatened to hit back with a combination of quantitative and qualitative measures after President Trump ordered his team to identify USD200b in Chinese imports for additional tariffs of 10% with provision for another USD200b after that if China retaliates. The global economy is still expanding; although divergences in policy are signaling desynchronization in the near term, it can still withstand some fluctuations in equity indexes. But the bigger underlying risk is that if the trade rhetoric does not die down, or if it becomes a significant headwind, stock markets will face sustained downward trends as investor confidence is impaired, eventually leading to a spillover into the real economy.
We would also love to hear more of Your Thoughts on this, so feel free to comment below and tell us what you think!
US President Donald Trump and Canadian Prime Minister Justin Trudeau were all jokes and smiles for the media as they met at the Group of Seven leaders summit in Quebec on Friday, but neither budged on the serious trade dispute between them.
With the ongoing spat between the United States and China, which seems to be only getting uglier, Katina Hristova explores the history of trade wars and the lessons that they teach us.
Trade wars date back to, well, the beginning or international trade. From British King William of Orange putting steep tariffs on French wine in 1689 to encourage the British to drink their own alcohol, through to the Boston Tea Party protest when the Sons of Liberty organisation protested the Tea Act of May 10 1773, which allowed the British East India company to sell tea from China in American colonies without paying any taxes – 17th and 18th century saw their fair share of trade related arguments on an international level.
Boston Tea Party/Credit:Wikimedia Commons
Trade wars were by no means rare in the late 19th century. One of the most infamous examples of a trade conflict that closely relates to Donald Trump’s sense of self-defeating protectionism is the Smoot-Hawley Tariff Act (formally United States Tariff Act of 1930) which raised the US already high tariffs and along with similar measures around the globe helped torpedo world trade and, as economists argue, exacerbated the Great Depression. As a response to US’ protectionism, nations across the globe began striking each other with an-eye-for-an-eye tariffs – countries in Europe put taxes on American goods, which, understandably, slowed trade between the US and Europe. As we all know, the Depression had an impact on virtually every country in the world – resulting in drastic declines in output, widespread unemployment and acute deflation. Even though most countries began to recover between 1932 and 1933, the world was hit by World War II shortly after that. In 1947, once the war was over, the World Trade Organisation (WTO) was established - in an attempt to regulate international trade, strengthen economic development and hopefully, avoid a second global trade war after the one from the 1930s.
Schoolchildren line up for free issue of soup and a slice of bread in the Depression/Credit:Flickr
Another more recent analogy from the past that could be applied to the current conflict between two of world’s leading economies, is the so-called ‘Chicken War’ of 1963. The duel between the US and the Common Market began when European countries, feeling endangered by US’ new methods of factory farming, imposed tariffs on US chicken imports. For American poultry farmers, the Common Market tariffs virtually meant that they will lose their rich export market in West Germany and other European regions. Their retaliation? Tariffs targeting European potato farmers, Volkswagen campers and French cognac. 55 years later, as the Financial Times reports, the ‘chicken tax’ on light trucks is still in place, predominantly paid by Asian manufacturers, and has resulted in enduring distortions.
President Trump may claim that ‘trade wars are good’ and that ‘winning them is easy’, but history seems to indicate otherwise. In fact, a closer look at previous examples of trade conflicts seems to suggest that there are very few winners in this kind of fight.
For now, all we can do is wait and see if Trump’s extreme protectionism and China’s responses to it will destroy the post-World War II trading system and result in a global trade war; hoping that it won’t.
There has been a lot of recent news regarding trade tariffs, as America and China impose a number of greater tariffs on a wide range of each other’s goods. Is this all political showboating though, or do they actually have an impact?
Trade tariffs were introduced to increase the ease and competition, while decreasing the costs of shipping goods abroad. This has been a great source of growth for international business and globalisation, yet there are concerns that it isn’t always beneficial to everyone involved.
The Role of Trade Tariffs
According to the World Trade Organisation (WTO), trade tariffs are customs duties or taxes on merchandise imports. This provides an advantage to locally produced goods over those which are imported therefore, while those sourced from abroad help raise greater revenues for governments. Countries can set their own trade tariffs and change these when desired, though this can result in tense political situations when tariffs are called into question.
Trade tariffs are used to protect developing economies and their growing industries, while they can be used by advance nations too. These are a few common roles for trade tariffs:
- Protect jobs: Imported goods can threaten domestic jobs and industries, especially if they’re produced cheaply abroad. Domestic firms may then cut jobs to save on costs, with higher unemployment leading to political unrest. Trade tariffs can be used to create a more level playing field.
- Consumer concern: Especially when importing foodstuffs, if one country is worried certain products may be contaminated they can levy a tariff to reduce the risk.
- Political retaliation: When countries believe trading partners haven’t been fair, played by the rules or there are other political differences, they can increase tariffs. This could mean the other nation then retaliates by levying tariffs too. If tensions ease off, then it’s likely any increases will be reverted.
There are many examples throughout history where trade tariffs have been used in many such ways, and they’re still being implemented as political weapons today. That alone suggests that they do work.
Price Impact
In the simplest terms, trade tariffs increase the price of imported goods. It means that domestic companies don’t need to increase their prices to compete, though this does allow some businesses that wouldn’t exist in a more competitive market to continue running. Without trade tariffs it would be something of a free border for goods, that could see high levels of unemployment in some countries with low production levels.
Trade tariffs can also be used to help limit volume too, by raising them to tempt consumers to stick with domestic goods and slow down the amount being exported if businesses are priced out. The higher the tariffs the less likely businesses in overseas countries are likely to export.
Benefits of tariffs can help governments raise revenues, especially in times of need, while for domestic companies they benefit from less competition. When tariffs are levied many domestic businesses can really benefit in these times. However, for consumers and businesses that rely on importing certain materials or goods, such as steel for production, the price can become inflated due to tariffs. There are constant shifts in benefits, with consumer consumption often lowered with higher tariffs for the short term, for example.
America’s Trade War
The changing global economy means that businesses need to implement key strategies to deal with such shifts, as explained by RSM. A great example of how the global economy is changing is with a step towards deglobalisation, best demonstrated by President Trump’s ideas of protecting and improving US manufacturing by adapting tariffs and effectively starting a trade war with China.
This started in early March 2018 when the USA imposed a 25 per cent tariff on the imports of steel entering the country. Such a move was designed to protect the US steel industry but has impacted upon the stock market and China, along with over 1,000 more tariffs, which is the USA’s biggest trade partner.
However, history has shown that trade wars for the USA aren’t always successful, with one in the 1930s excelling the Great Depression to increase unemployment levels to 25 per cent of the country. Whether this latest attempt works or not remains to be seen. Either way, businesses need to employ flexible strategies to prepare for many of the globalisation issues which could affect or destabilise the world’s economy in the future.
“Strong global market sentiment for risky assets, a weakened dollar and geopolitical turmoil in the Middle East underline the need for a long-term multi-asset portfolio”, asserts a leading global analyst at one of the world’s largest international advisory organisations.
deVere Group’s International Investment Strategist Tom Elliot, is weighing in after the IMF upgraded its estimate of global GDP growth this year to 3.9%.
Mr Elliot comments: “We have seen an unusually strong start to the year for risk assets, as global investors appear confident that a period of non-inflationary, globally synchronised economic growth is underway.
“Equities and non-core bond markets have benefited from strong inflows in recent weeks, with a slow creep upwards in core government bond yields doing little to deter enthusiasm for risk.
“The MSCI World index of developed market shares is up 7.0% since the start of January, and up 5.5% in local currency terms. The Japanese economy grew at an annual rate of 1.4% in the third quarter 2017, despite a shrinking population. And the MSCI Emerging Market index is up 9.9% since January.
Mr Elliot details three major theories that are on offer for these developments: “Firstly, the ECB and the Bank of Japan look likely to end their quantitative easing programs earlier than had been anticipated, so bringing forward the date when those central banks might also start to raise interest rates.
“Secondly, Trump’s tax cuts announced in December are worth an estimated $1.5tr over the next five years, at a time when the labour market is already tight. This raises fears of wage inflation pushing up CPI inflation.
“And thirdly, a suspicion by many FX traders that the Trump administration wants a weaker dollar as a deliberate tool for narrowing the trade deficit, to be used alongside more overtly protectionist policies. Trump denied this while in Davos on Thursday, calling for a strong dollar… ‘ultimately’.”
Mr Elliot underlines how Sterling’s strength has contributed to a return on the MSCI U.K. index of -0.2%, as dollar-earning FTSE100 heavyweights have come under pressure, and to a return on the MSCI World index in sterling terms of just 2.0%.
He goes on to say that Trump’s ‘Make America Great Again’ policy poses only a modest attack on free trade, and that it should be contextualised.
Mr Elliot states: “Bush raised tariffs on European steel imports early in his first term, and massively expanded agricultural subsidies. The sky did not fall down. We must hope that Trump’s attacks on free trade remain relatively specific and do not become broad in scope.” At the same time, Central bank policy errors remain “a key risk to capital markets”, asserts Elliot.
He says: “Anything that produces a sudden rise in core government bond yields, or cash rates, are a threat to stock markets and high yield bonds.”
“Meanwhile, geopolitical turmoil in the Middle East should be observed closely”, says deVere’s top analyst.
Mr Elliot comments: “The Middle East is developing new themes that one needs to keep an eye on, partly because of the ongoing risk of a regional clash, but also due to the young populations who are less conservative and less inclined to tolerate the status quo.”
He concludes: “As such, I strongly advise a multi-asset portfolio for the long term to offset financial volatility, centred around 60% global equities and 40% global bonds.
“Such funds predicated on this principle are available in spades and differ according to the level of risk for suitable investors, who more often than not, value certain returns over high-risk gambles.”
(Source: deVere Group)
