Tuesday, September 3, 2019

Tariffs are really beginning to hurt trade and manufacturing

It should not be surprising to learn that Trump's tariff war with China is having a negative impact on the US economy and global trade. Tariffs inhibit trade, and most of the tariff hikes to date have been directed at manufactured goods. The latest data show just how much this impact has been, and it is not insignificant.

Chart #1

Today's release of the August ISM manufacturing survey data showed a big drop in export orders (see Chart #1). The August reading of 43.3 was the second lowest in history of this data series, worse than the late 1998 reading, which was negatively impacted by the S.E. Asian currency devaluations in early 1998 and the Russia/LTCM implosion in late 1998. Only the Great Recession generated a weaker number, and that, in turn, reflected the worst collapse in global trade since the Depression. (As an aside, the collapse of trade that occurred in late 2008 was largely a function of the inability of exporters to get letters of credit from a global banking system that was in complete disarray.)
Chart #2

The overall ISM manufacturing survey began to weaken in late 2018, and by now, a slump in activity in the manufacturing sector has put considerable downward pressure on US GDP, as Chart #2 suggests. Though it's not likely enough to tip the economy into a recession, it is nevertheless of concern. The bond market has not been blind to this, however, as suggested by the significant decline in real yields since late last year. By my estimates, 0% real yields on TIPS most likely are priced to a slowdown in GDP growth to 2% or possibly less for the foreseeable future.

Chart #3

As Chart #3 shows, the volume of world trade has been declining since its Oct. '18 peak. (The latest datapoint is for June '19; undoubtedly the index has weakened more since then.)

Chart #4

Chart #4 reflects Chinese trade statistics through July of this year. China's exports to the US have not been greatly harmed by the imposition of tariffs, most likely because the yuan has fallen almost 13% since Trump first began slapping tariffs on Chinese imports. Chinese manufacturers effectively have absorbed the brunt of the US tariff costs by accepting a lower dollar price for their goods while receiving more yuan per dollar of sales. The decline in Chinese imports from the US can be attributed not only to China's imposition of retaliatory tariffs on US goods, but also to the fact that the weakness of the yuan has boosted the yuan cost of US imports by over 14%. 

Chinese imports from the US have suffered significantly of late. According to Chinese statistics, July'19 imports were 19% below the level of a year earlier. US statistics confirm this, showing that June '19 exports to China were down 17% from a year earlier.

Chart #5 

Tariff-related trade tensions have plagued the markets for most of the past month. 10-yr Treasury yields have fallen below 1.5%, driven by risk aversion (Treasuries are classic hedges against a weakening economy and they are the ultimate safe-haven asset) and declining growth expectations. Meanwhile, the Vix index has risen as fear and uncertainty drives demand for the risk-reducing properties of options in lieu of outright positions. 

UPDATE (9/5/19): The manufacturing sector is definitely hurting these days, but the much larger service sector—which accounts for over 70% of total private sector payroll employment—is doing just fine.


Chart #6 

Service sector business activity rebounded strongly in August (Chart #6). July's plunge was most likely a reflection of worried sentiment (this is all based on surveys of people's opinions) rather than an actual deterioration in business activity.

Chart #7 

The employment index (hiring intentions) softened a bit in August, but remains at a healthy level (Chart #7).

Chart #8

The Eurozone service sector survey reveals a continuing improvement, albeit modest, from the depressed levels of late last year. (Chart #8)

Chart #9

The service sector New Orders index rebounded in August from depressed July levels. Like Chart #6, this likely reflects improving sentiment (less worried sentiment) rather than any fundamental change in new order activity.

The service sector remains healthy, and that is a nice offset to obvious weakness in the manufacturing sector. The economy as a whole is thus likely to continue growing, albeit at a less-than-impressive pace (~2%). 

6 comments:

Fred said...

But Scott, according to JBD, this is all just part of Trump's brilliant strategy to bring the Chinese to their knees and sign a favorable trade agreement with the US. We just have to trust that a President who thinks Alabama borders on the Atlantic and is hence vulnerable to Hurricane Dorian is also capable of achieving great things with his trade war.

Scholar87 said...

Fred rarely wins at poker. But he's a geography genius.

The Cliff Claven of Finance said...

Mr. Grannis wrote:
"Tariff-related trade tensions have plagued the markets for most of the past month."

I would substitute "since early 2018"
for "for most of the last month".

I wrote my first article on the coming trade war in mid-March 2018, and it has been like a slow motion train wreck since then.

The S&P 500 index today closed only 1% higher than the January 2018 peak.

I knew we could be heading for trouble when Trump claimed the Chinese were "ripping us off for $500 billion a year" during the 2016 campaign.

In early 2018, I realized Trump would not even try to form a coalition with other nations, to fight as a team, against Chinese theft of intellectual property, and other trade barriers.

If Trump does not succeed in getting a meaningful agreement with China, and I don't think he will, his 2020 campaign is in trouble.

I'm still waiting for China to admit their theft of intellectual property is a problem, much less doing something about it.

Trump failed on closing the southern border, thanks to the Dumbocrats, and if he fails with China, that's two strikes.

While the Dumbocrat candidates may seem like socialist fools to us, when they are promising "free" stuff -- that can win elections.

And Dumbocrats have the advantage of 95% of the mass media trashing Trump since mid-2016.

Turn on CNN or MSDNC for five minutes to hear the repeated character attacks on Trump. Four years of that has to have some effect.

Benjamin Cole said...

Lots of excellent graphs, and a refreshing non-hysterical take om Sino-US trade.

That said, I think the ongoing global drop in interest rates is connected to the actions of global major central banks and not a trade dispute limited to just two nations. The Swiss 10-year bond now yields a negative 1.01%.

Also, keep in mind that global interest rates have been falling since about 1980 along with global inflation rates in most of the developed world.

People are confusing a headline event, that is the trade tariffs between China and the United States, with the more important results of central bank effective tightening. There is another argument, being put forth by BlackRock, Pimco, and Ray Dalio, that central banks are out of ammo, and need to move to helicopter drops in concert with national governments.

President Trump may in fact be the least pleasant personality to inhabit the White House ever, depending on your tastes. I think he has been right and laying blame for recent economic weakness on the Federal Reserve.

The issue of how to handle trade relations with China is incredibly complicated and involves national security, technological leadership, property rights, intellectual property rights, and even, sad to say, human rights. People who simply call for free trade with China are using a one-dimensional yardstick.

Perhaps Trump is not the best person to handle China. But certainly the multinationals are also the not the right group to seek guidance from on this particular issue.

Rich said...

It’s beyond obvious that if you want to confront China on some legitimate issues, like intellectual property theft and forced technology transfers, that you do it in concert with our allies, via TPP or some other joint mechanism. Doing it while confronting our allies on trade and other issues is stupid and counterproductive.

John said...

Corporations move factories to China to access cheap labor and somebody there steals intellectual property? Nobody saw that coming? Really?