Macro Factors and Their Impact on Monetary Policy, the Economy, and Financial Markets

From Trade War to Cold War

The expectation of a global rebound in the second half of 2019 was predicated on a positive resolution in the trade talks between the U.S. and China and the U.S. and the European Union. With a burst of stimulus from the Peoples Bank of China and Chinese fiscal stimulus since last summer, the global economy was beginning to show signs of improvement. A positive outcome on trade was likely to engender a pick-up in business investment in the U.S. and globally, as the uncertainty of the trade issue was removed. With solid job growth, the highest wage growth in ten years, and Consumer Confidence near 20 year highs, a trade deal would have provided a boost that was likely to lift core inflation above 2.0% and drive the unemployment rate lower. This outcome would have eliminated any chance the Federal Reserve would lower rates before the end of 2019 and potentially raise the specter of an increase. Since the majority of markets participants were expecting the Fed to lower rates, the prospect of an increase would have caught investors off balance. Much has changed since May 5 when President Trump indicated tariffs would increase form 10%to 25% on May 10. As I noted in a bit of understatement in the May 3 Macro Tides, “Should negotiations collapse with either China or the EU the outlook for the second half of 2019 would be negatively altered.”

During the Cold War between Russia and the U.S. the concept of mutually assured destruction established an uneasy balance since a full-scale use of nuclear weapons would cause the complete annihilation of both the attacker and the defender. In October 1962 the MAD doctrine was tested as the U.S. and Russia went toe-to-toe after Russia placed ballistic missiles in Cuba. After 13 days of intense negotiations Russia agreed to remove its missiles, if the U.S. removed its missiles from Turkey. For Baby Boomers born in the years after the end of World War II, the Cuban missile crisis was a point of passage as noted by Billy Joel in his song ‘Leningrad’.

A full-blown trade war between the two largest economies in the is an economic version of MAD, which is why it was assumed that a trade deal had to occur. Throughout history the folly of man has provided many examples of self inflicted suffering on a scale seemed unimaginable prior to the cascading of events. Whether the current Trade War will morph into a lasting Cold War will be determined by the willingness of China to make adjustments after 20 years of using almost any means to achieve growth.