Weekly Macro Update: Investors Beware! Trump & Biden Agree On Something!
As Americans split into increasingly hostile camps on everything from taxes and climate to race and masks, the growing consensus on China looks remarkable. Nearly three-quarters of Americans have an “unfavorable view” of the world’s second-largest economy, up from about a third in 2005. Candidates Donald Trump and Joe Biden, who agree on almost nothing, both call for tougher measures against a country they believe has behaved badly during its rise to global prominence.
Trump decries the “China virus.” Biden calls Chinese President Xi Jinping a “thug.” They both run ads painting the other as soft on Beijing.
This does not mean a straight line to war as China’s military power grows. Nor will it lead to complete disengagement from a country that remains America’s largest goods supplier. But for investors watching forecasts that China will grow faster than any other major economy this year and next, it means finding opportunity in the shadows of the mounting political firestorm.
Next year may, in fact, deliver a brief window for progress on the trading relationship as political interests temporarily align. In a second term, President Trump will want to explore how he might build out his narrow Phase One deal into something he can plausibly call Phase Two. China remains far behind in its promised purchases under the current agreement, but neither side has walked away from the document signed in January even as other parts of the relationship unravel.
“With the global economy still on the ropes, Trump, Biden and Xi all have an incentive to ratchet down uncertainty around trade, creating a brief opening for a new deal that curtails Chinese domestic subsidies in return for tariff relief.”
A Biden administration will want to show that a more methodical approach that rallies allies can deliver better results than Trump’s unilateral confrontation. Xi will look at hardening U.S. public opinion and see a brief opportunity for progress before the launch of the mid-term Congressional campaigns.
With the global economy still on the ropes, Trump, Biden and Xi all have an incentive to ratchet down uncertainty around trade, creating a brief opening for a new deal that curtails Chinese domestic subsidies in return for tariff relief.
But the overall trajectory of the relationship is still headed for tougher times as the consensus in both countries rallies around a view that the other is irreconcilably hostile. (Accurately measuring Chinese public opinion is tricky, but the official line has clearly turned.)
While Trump’s barehanded tactics mark a change from his predecessors, America’s policy since China’s accession to the World Trade Organization in 2001 has been remarkably consistent through Republican and Democratic presidents. The logic was that managing China’s integration into the global economy would accelerate its own growth, open mouth-watering business opportunities and give a giant nudge to political reform.
These were the heady days of globalization, prompting President Bill Clinton to compare Chinese attempts to control domestic access to the internet with “nailing Jell-O to a wall.” It is testament to Chinese ingenuity that they managed to do just that.
These expectations were always doomed for disappointment. A country that claims a 3,000-year history was inevitably going to follow its own political path. Meanwhile, a billion new additions to the global workforce could not avoid delivering a substantial jolt—with or without WTO membership. And even if it falls short of Jeffersonian democracy, today’s China boasts a thriving private sector, a creative entrepreneurial class and increasingly sophisticated financial markets.
If the last 20 years have been a story of engaging China, however, we are headed for a period of relative disengagement. Both Biden and Trump are pressing for tax changes that will give incentives to create more jobs in the U.S. and build more resilience into critical supply chains. U.S. tariffs and technology sanctions have triggered a clear message to Chinese businesses: they cannot depend on America for broad market access or crucial supplies.
FOREIGN DIRECT INVESTMENT BETWEEN U.S. AND CHINA (YOY, $ MILLIONS)
Source: BEA. As of December 31, 2019.
For investors, the delicate part will be to shape a strategy amid the five dimensions of mounting risk.
- Trade in goods and services may actually suffer the least. Most current tariffs may not be repealed any time soon, but a fresh escalation looks unlikely.
- Most financial flows look relatively safe as well. America is always happy to find a buyer for its debt, and China has been gradually opening its financial markets. U.S. measures against Chinese companies that fail to report accurate financials may sour the mood slightly, but it’s hard to imagine broad sanctions against China in spite of some of the president’s casual threats.
- Direct investment looks riskier than ever amid escalating political tensions. The U.S. and Europe have already tightened their security-review regimes, but the simple fact is that every project becomes a potential hostage amid rising political tensions. It’s little wonder recent flows have collapsed.
- Development finance has always created challenges in poor countries where China has deployed its “Belt and Road Initiative,” often overbidding for investment projects and sidelining Western competitors. More recently, China has backed G-20 efforts to help restructure troubled debts in the wake of the pandemic, but the broader geopolitical friction will likely remain.
- Technology investments will pose the most challenging risks amid U.S. efforts to cripple China’s tech giants. If Chinese equipment and software are broadly deemed untrustworthy, then we may well be headed to a world of two very separate and incompatible supply chains. Picking the winners and losers amid those rapidly moving targets looks as reliable as roulette.
U.S. EXPORTS TO CHINA
Source: Census Bureau. As of December 31, 2019.
CHINA EXPORTS TO THE U.S.
Source: Census Bureau. As of December 31, 2019.
It’s the curse of many investments that the risks rise sharply just as they look most tempting. In a world of low growth and low returns, China seems more attractive than ever and will still deliver returns. But it is going to take some deft strategy to avoid the risks of a souring relationship with a United States that stands uniquely united.
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