Overview
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In the short term, the new tariffs would be another hit to China's equity market sentiment, as seen in the slump in global equities and weakness in China’s renminbi in the immediate aftermath of Trump’s comments. However, in contrast to last year’s heightening trade war concerns, tensions this time come as China has been stimulating its economy through both fiscal and monetary measures, which should help to limit downside in stocks.
Another key difference compared to 2018 is that China’s onshore corporate bond spreads have stabilised, while external funding costs have meaningfully eased. In other words, this time the negative trade war sentiment does not coincide with a credit crunch.
It is also worth noting that the renminbi has withstood the May deterioration of trade tensions, as China’s foreign-exchange outflows were muted, while FX reserves actually increased. Meanwhile, greater inclusion of Chinese stocks and bonds in widely tracked global indexes will provide a tailwind for foreign fund flows into China, which will also serve to support the currency.
The timing of the new tariffs is interesting, as they were announced the day after the US Federal Reserve’s first rate cut in 11 years.
On one hand, it appears that a more accommodative Fed stance has given President Trump some leeway to step up action against China, despite a weakening US economy. On the other hand, the Fed rate cut also gives the People’s Bank of China more flexibility to step up liquidity provisions and credit flow to support the local economy. China’s latest data on aggregate credit, measured by total social financing, already provided a positive upside surprise. A further reserve requirement ratio cut is also a distinct possibility, in our view.
In short, China’s economy appears better positioned to absorb the blow of Trump’s latest round of tariffs, and this should help to mitigate their downside impact.
