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Full-Blown Trade War Is Quickly Shifting From Risk to ‘Baseline’

Enda Curran and Christopher Anstey
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Trump Says He'll Raise China Tariffs If Xi Won't Meet at G-20

Trump Says He'll Raise China Tariffs If Xi Won't Meet at G-20

(Bloomberg) -- After months of predicting a trade deal between the world’s two largest economies, economists at some of the biggest financial institutions are growing increasingly pessimistic.

Goldman Sachs Group Inc., Nomura Holdings Inc. and JPMorgan Chase and Co. are among those that have rewritten their forecasts as U.S. President Donald Trump threatens to impose a 25% tariffs on around $300 billion of additional Chinese imports.

Analysts at Nomura have made that hike in duties -- which would mean practically all of China’s exports to the U.S. are hit by tariff hikes -- their baseline forecast. They see it as a 65% probability before year-end, and most likely to come in the third quarter.

“The U.S.-China relationship has moved further off track over the past two weeks after a period of what appeared, on the surface, to be steady progress towards reaching an admittedly narrow agreement,” Nomura economists wrote in a note. “We do not think the two sides will be able to get back to where they seemed to be in late April.”

The effect of the conflict between the two nations is spreading from trade and investment flows to the technology sector and more. Shares in voice recognition company Iflytek Co. tumbled following news it is on a list of Chinese technology firms that may face U.S. restrictions. Surveillance companies Hangzhou Hikvision Digital Technology Co. and Zhejiang Dahua Technology Co. plunged on Wednesday on news that they were on the list.

Goldman Sachs economists warned that without signs of progress over coming weeks, implementation of the further tariffs could easily become their base case. “While we still think an agreement is more likely than not, it has become a close call,” they wrote.

Those duties would have a material hit to inflation and lift the core PCE price measure in the U.S. by 0.6 percentage point, on top of the 0.2 percentage point already felt from tariff hikes. It would also, combined with limited Chinese retaliation, hit U.S. GDP by 0.5% and Chinese GDP by 0.8% over a three-year period, Goldman’s team estimated.

For Bank of America Corp., there’s not enough admonishment from investors yet to force the two sides to a deal.

More Pain

“The tepid response of equity markets to the trade-war threats has increased the likelihood of an even longer period of more intense brinkmanship,’’ BofA economists led by Ethan Harris wrote May 17. “The lesson from the latest round of tariffs is that the pain threshold is higher than we earlier thought.’’

It’s not just Wall Street sounding more pessimistic. A senior Chinese government researcher said Wednesday China and the U.S. could be stuck in a cycle of "fighting and talking" until 2035. Zhang Yansheng, who previously worked at the nation’s top economic planning body and is now a prominent Beijing think tank, said none of the key American demands can be “realized in the short term.”

JPMorgan analysts on May 17 said their new baseline is for the status quo -- that is, all the rounds of tariff hikes to date from the two countries -- staying in place well into 2020.

“We also take seriously the alternative, more severe scenario of moving into a full-blown tariff war, i.e. 25% U.S. tariffs on the remaining $300 billion Chinese imports in the second half of 2019,” the JPMorgan team wrote.

Such a move would see the yuan slide through 7 per dollar, JPMorgan chief China economist Zhu Haibin said on a conference call on the new projections earlier this week.

What Bloomberg’s Economists Say

"In an extreme case, where the U.S. imposes 25% tariffs on all Chinese imports, and keeps them in place for an extended period, China’s growth could fall to 6% in 2019 and 5.4% in 2020, even assuming that the government steps up stimulus."-- Chang Shu, David Qu and Tom Orlik

Morgan Stanley is one bank that’s still clinging to the view that the latest increase in protectionism will prove temporary. But their economists say that view has a time limit.

“There is only a relatively short window left to address the trade-tensions risk such that global growth stays on the recovery path in line with our baseline,” Morgan Stanley economists including Chetan Ahya wrote Monday. “The impact on global growth is non-linear -- the risks are firmly skewed to the downside and the window for resolution is narrowing.”

Their time limit: about four weeks.

(Adds Bank of America comment under ‘more pain’ subheadline.)

To contact the reporters on this story: Enda Curran in Hong Kong at ecurran8@bloomberg.net;Christopher Anstey in Tokyo at canstey@bloomberg.net

To contact the editors responsible for this story: Malcolm Scott at mscott23@bloomberg.net, James Mayger

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