Trump's New Tariff Actions: A Wakeup Call to Global Markets
Adam S. Posen (PIIE)
President Donald Trump’s plan to impose a 5 percent tariff on all imported goods from Mexico beginning June 10 raises a danger to the US and global economies well beyond his tariff measures to date. This should be a wakeup call to financial markets.
Threatening Mexico with a tariff over the migration issue—despite the overall trade agreement in the United States-Mexico-Canada Agreement (USMCA)—marks a turning point. If tariffs can be raised by unilateral presidential decree, linked to border policy not the economic relationship, markets will realize that the president is not going to deliver a trade deal with either China or Mexico. By weaponizing tariffs, Trump makes evident that he is driven in trade policy by his ideological and perhaps political agenda rather than any tactics to improve US bargaining leverage.
Trump’s announcement of a 5 percent tariff hike, and a vow to “gradually increase” tariffs until the flow of undocumented immigrants across the border has stopped, has already led to a widespread selloff the day of his announcement (May 31, 2019). Yes, there have been multiple selloffs through the last couple of years on trade threats from the administration, usually promptly reversed. I believe this one is different. Juxtaposed with China’s announcement that it had made up a list of “unreliable” foreign companies potentially to be treated like the United States is treating Huawei, the latest tariff action by the White House tells markets that developments are not entirely under Trump’s control to pull back. Risk of escalation has become real.
One omen of the danger, suggesting that the latest selloff is different from previous cases, shows up in the flow of investments into German government securities (Bunds) and the rise of euro’s value in financial markets seen today. Safe-haven flows to government bonds when the US government threatens tariffs are normal, but usually they are primarily into US Treasuries and away from those economies exposed to trade risk. That even some of the safe-haven flows are going into Bunds and the euro, away from Treasuries/dollars, strongly suggests that concerns about the US economy are rising. This is more striking, given that the Trump migration-linked tariffs will particularly harm the auto sector, and similar tariffs could be weaponized against the European Union, too.
It also means that no government will want to make a deal with the United States at all. The Trump administration claims it still wants to reach a trade accord with China, for example. But if you are the Chinese negotiators, your logical reaction to this latest action would be: “Why should I even bother talking to this administration?” The idea that tariffs against Mexico driven by a rationale to stop immigration could be separated from trade negotiations in the minds of foreign governments is risible. Of course, Trump’s tariff announcement now largely wipes out the possibility of ratification of USMCA.
Until now, financial markets have been asleep to the consequences of Trump’s trade policies, despite warnings from experts in many places, including the Peterson Institute for International Economics (PIIE). Markets have been in denial, comforted by the thought that Trump’s protectionism was directed only against China, or was all just well-controlled negotiating tactics. They can no longer be so complacent.
The macroeconomic impact of the latest actions is likely to be much higher now than the direct effect of the tariffs themselves. First, I expect a significant persistent equity market drop, which will have wealth effects on consumption and investment. Second, the delay and diminishment of productive cross-border investment—including investments into the United States, which I have been warning about and tracking—will worsen. Companies will increasingly look for alternatives to locate their research and production activities—and erode the US tax base. Additionally, the direct impact on the auto industry is bound to be sharp and fast, given the 5 percent tariff, if implemented, will be multiplied back and forth across the border through the global supply chains in every North American auto produced.
By citing a national emergency over a long-term problem like immigration in order to punish an ally like Mexico, President Trump has abused his authority to invoke emergency measures in the face of a genuine national security threat. Please note, abuse of authority does not mean that Trump is doing something self-evidently illegal. Gary Clyde Hufbauer warned in PIIE’s 2016 publication on potential trade wars that a president so inclined could do this legally, though it could be contested in court over time.
But what Trump is doing is contrary to the spirit of the law and Congress’ role. If the Republican Senate Majority does not show backbone in standing up to President Trump on this abuse, and if it lets stand the administration’s usurpation of Congressional prerogatives in the trade and foreign policy areas, that alone will reinforce the markets’ correct perception that the world has become too uncertain for many investments.
Also, the Chinese will become (further) convinced that there is no point in negotiating with Trump. They might as well step back, and maybe retaliate, and see what happens in the 2020 elections. Trump had been telling them that he would be better to do a deal with than Democrats, which until now they were inclined to believe.
I am suggesting that markets are awakening to an overlooked or underpriced systemic risk, just as they did in 1998 in the wake of the East Asian financial crisis and in 2008 with the start of the global financial crisis. Market anxiety should spread as other countries start invoking Trump’s brand of national security excuse to engage in protectionism against the United States and others. Such actions could easily spiral into a global free-for-all of retaliation and protectionism. We are truly moving from the Art of the Deal into the Fog of War.
Weekly Market Update: Trade war opens on new front
The holiday shortened week opened amid light volumes and continued hand ringing by investors. The US/China trade war showed no signs of letting up with rhetoric on each side only amplifying a growing narrative that not much should be expected if and when Trump and Xi meet at the G20 in late June. Economic data continued to decelerate, particularly outside of the US. Chinese PMI data deteriorated for the first time in 3-months and German CPI figures weakened. A raft of US retail earnings were nothing to cheer about either, raising doubts about the health of what to this point has been a resilient US consumer. By Wednesday investors were fleeing risk assets like stocks and commodities resulting in continued flows into the relative safety of government bonds and gold. Major US indices dipped back below their 200-day moving averages and interest rates retreated further. WTI crude futures dropped below $55 for the first time since February.
Those investors who pared back on risk assets were rewarded on Friday when the Trump administration announced a surprise move to slap tariffs on Mexico. The White House emphasized the move was intended to prod the Mexican government to help fight an illegal immigration, but the President himself said he also aspired to see more jobs and business move back to the US. The Mexican peso dropped 3% on the news while stocks with perceived Mexico exposure like autos got drubbed. A number of prominent Republican politicians and business trade groups came out in opposition to the tariffs as the wrong policy for the task.
Interest rates continued to plumb lower this week. The US 10-year Treasury yield slid to a 2-year low below 2.15% and the German Bund to a new record negative rate below -0.20%. Copper and oil fell while Gold prices rose sharply after the Mexico tariff announcement. Wall Street forecasters began incorporating multiple Fed rate cuts into their models for later this year which mirrored movements seen across futures markets. The Nasdaq dropped 2.4%,the DJIA fell 3%, and the S&P lost 2.6%, its biggest weekly drop since December.
In corporate news this week, Global Payments and Total System Services confirmed they would combine in a $21B all-stock merger of equals, notching yet another deal within the busy fintech space. Cypress Semi shares rose on a report that the company is working with advisers to explore strategic options, including a sale, though the company had no comment. Beyond Meat shares extended their meteoric rise on reports that KFC has held meetings with plant-based meat producers over the launch of a potential vegan version of fried chicken. Friday saw press reports speculate that both Amazon and cable companies could have interest in wireless spectrum and or assets that are likely to become available from required divestitures needed to get regulatory approval of the Sprint/T-mobile deal.
Closing Stock Market SummaryU.S. stocks, Treasury yields, and oil prices all dropped on Friday after President Trump surprised the market by threatening to impose a 5% tariff rate on all goods imported from Mexico. Friday's 1.3% decline in the S&P 500 sent it below its 200-day moving average (2776) and extended its weekly decline to 2.6%.
The Dow Jones Industrial Average (-1.4%), the Nasdaq Composite (-1.5%), and the Russell 2000 (-1.4%) extended their weekly losses to 3.0%, 2.4%, and 3.2%.
The 5% tariff rate will go into effect on June 10 and will increase incrementally during the summer to reach 25% on Oct. 1. The White House could remove these tariffs altogether if Mexico makes a concerted effort to curb the flow of undocumented migrants entering the U.S.
The news catalyzed de-risking efforts, leading to eight of the 11 S&P 500 sectors finishing with losses over 1.0%. The utilities (+0.5%) and real estate (+0.8%) sectors finished higher amid a steep drop in U.S. Treasury yields.
Another trade dispute on top of a U.S.-China trade war with no clear end in sight fueled ongoing concerns that trade tensions will lower economic, and earnings, growth prospects.
China added to these fears after it announced that it is drafting a list of unreliable foreign entities that harm the interests of its firms, increasing speculation about Chinese retaliation against the U.S. On a related note, China's manufacturing sector slipped into contraction in May.
Global growth concerns were transparent by the 5.2% drop in WTI crude ($53.48/bbl, -$2.92) and by investors seeking safety in a crowded U.S. Treasury market. The 2-yr yield dropped 12 basis points to 1.94%, and the 10-yr yield dropped nine basis points to 2.14%. The U.S. Dollar Index fell 0.4% to 97.76.
In corporate news, shares of General Motors (GM 33.34, -1.48, -4.3%) underperformed on the Mexico tariff threat. Dell Technologies (DELL 59.55, -6.86, -10.3%), Gap (GPS 18.68, -1.92, -9.3%), and VMware (VMW 176.98, -14.11, -7.4%) disappointed investors with their earnings results, while Uber (UBER 40.41, +0.61, +1.5%) pleased investors with its results.
Reviewing Friday's economic data, which included Personal Income and Spending data for April, the PCE Price Index for April, the final University of Michigan Index of Consumer Sentiment for May, and the Chicago PMI for April:
- Personal income increased 0.5% in April (consensus 0.3%) on top of a 0.1% increase in March. Personal spending rose 0.3% (consensus 0.2%) on top of an upwardly revised 1.1% increase (from 0.9%) in March. The PCE Price Index was up 0.3% m/m, as expected, while the core PCE Price Index, which excludes food and energy, jumped 0.2%, as expected.
- The key takeaway from the report is that real PCE was unchanged in April. That will be another data point that leads to forecasts calling for much slower real GDP growth in the second quarter than the 3.1% real GDP growth seen in the first quarter.
- The final May reading for the University of Michigan Index of Consumer Sentiment checked in at 100.0 (consensus 101.5) versus the preliminary reading of 97.2.
- The key takeaway from the report was the acknowledgment that "confidence significantly eroded in the last two weeks of May" on account of concerns about the tariff actions.
- The Chicago PMI for May increased to 54.2 from 52.6 in April.
Looking ahead, investors will receive the ISM Manufacturing Index for May and Construction Spending for April on Monday.
- Nasdaq Composite +12.3% YTD
- S&P 500 +9.8% YTD
- Russell 2000 +8.7% YTD
- Dow Jones Industrial Average +6.4% YTD
Leap Motion, Once a Virtual-Reality High Flier, Sells Itself to U.K. Rival
San Francisco startup, which develops and licenses gesture-tracking technology, had in the past been eyed by Apple
Leap Motion Inc., a virtual-reality startup that helped pioneer gesture tracking technology, has agreed to sell itself to British rival UltraHaptics Ltd. for approximately $30 million, according to people familiar with the matter—about a 10th of its valuation just a few years ago.
Leap Motion, based in San Francisco, develops and licenses sensors that track hand movements for virtual-reality experiences. Over the past decade, firms have rushed into the nascent fields of augmented and virtual reality. Augmented reality overlays computerized images on the real world through glasses or a headset, like Microsoft Corp.’s HoloLens 2. Virtual reality aims to more fully immerse people in a digital world through a headset like the Oculus Rift, owned by Facebook Inc.
Leap Motion made an early splash in the VR field. Founded in 2010, the startup initially attracted an array of venture capitalists including Silicon Valley investor Andreessen Horowitz. By 2013, the company was valued at approximately $300 million, according to a person familiar with the matter.
But it struggled to take advantage of its early name-brand recognition in a field that was new, fast-changing and tied heavily to the AR and VR hardware market. A device Leap Motion rolled out to help control a computer with finger movements met mixed reviews.
Leap Motion also licensed its technology to virtual-reality headset makers.
Apple Inc. approached the company twice, including as recently as last year, according to people familiar with the matter. Business Insider first reported the 2018 approach. Apple declined to comment.
UltraHaptics will take on Leap Motion’s patents and staff, mostly engineers who now number close to a dozen people, including co-founder and Chief Technology Officer David Holz. Leap Motion’s chief executive and co-founder, Michael Buckwald, won’t stay at the company.
UltraHaptics, a 116-person company based in Bristol, England, has been licensing Leap Motion’s technology for the past six years for its own hardware technology: using focused sound waves to create the sensation of touch in midair.
One of the company’s recent contracts is a proof of concept project for a car maker that will allow drivers to control their entertainment system by “feeling” buttons in the air above a dashboard, said Chief Executive Steve Cliffe. “Humans generally interact by talking and gesturing,” he said. “It’s about human interfaces going forwards.”
Gapping down
In reaction to disappointing earnings/guidance:
- ZUO -29.2% (also Marc Diouane will transition from his current role of President to advisor to Zuora's Chief Executive Officer -- Zuora is conducting a search for his replacemen), NTNX -20.7%, GPS -13.9%, RRGB -12.6%, SCHL -9.7%, VMW -5.3%, ULTA -3.8%, DELL -3.6%, ZS -3.4%, CONN -2.2%, COST -1.9%
Select names impacted by news of tariffs on Mexican imports trading lower:
- KSU -7.3%, CX -5.9%, STZ -5.8%, FCAU -5.2%, GM -4.8%, BWA -4.4%, F -4%, UNP -3.5%, NUE -3.3%, MGA -2.6%, X -2.3%, CMG -1.8%, CLF -1.8%, TM -1.5%, DEO -1.3%, AKS -1.1%
Other news:
- ELTK -9.9% (modestly pulling back)
- XBIT -9% (announces public offering of common shares; terminates equity distribution agreement with Piper Jaffray & Co that was entered into on April 30, 2019)
- MYOV -5.7% (prices underwritten public offering of 15,151,516 of its common shares at a price to the public of $8.25 per share)
- GPRO -3.7% (D. E. Shaw increases passive stake)
- GME -3.2% (GameStop appoints James Bell as EVP/CFO effective June 3 and Chris Homeister to newly created role of EVP/Chief Merchandising Officer effective June 10)
- TWLO -2.4% (prices underwritten public offering of 7,012,622 shares of its Class A common stock at a price to the public of $124.00 per share) ES -1.1% (prices public offering of 15.6 mln of its common shares at a price per share of $72.50)
- ATHX -1.1% (entered into $250 mln Open Market Sale Agreement)
Analyst comments:
- NA.