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Asian Bond Watch: A hum of positivity beneath the rumbling US-China trade dispute

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This is a sponsored article from State Street Global Advisors.

Kheng-Siang Ng
Asia Pacific Head of Fixed Income
State Street Global Advisors

The ongoing trade dispute between the US and China has significantly influenced market movements. Officials have held multiple rounds of talks to try to end the months-long spat. Although Donald Trump says his team is “very close” to a deal with China, he warns he is considering maintaining tariffs for a substantial period of time until he decides China has enforced the terms of the deal. Trump’s vacillating stance on tariffs casts a shadow over the prospect of a tidy resolution and there may be more bumps along the road before we see a US-China deal. However, if a lasting resolution emerges, investor confidence and economic growth may improve.

Shrinking trade activities hamper growth
Heightened trade tensions have negatively affected global trading activity this year. The volume of trade between the US and China fell to US$76.50 billion between January and February 2019 — a 20% year-on-year (YoY) drop – according to China’s General Administration of Customs. 1 Chinese exports to the US declined by 14.1% to US$59.30 billion during the same period, while US exports to China totalled just US$17.18 billion, a significant 35% YoY decrease.1

While the trade dispute has undoubtedly impacted China’s economy, the slowdown in global growth has also affected its trade performance. China’s February data revealed a 20.7% YoY drop in exports, the biggest decline since February 2016.1 Imports also fell for the third straight month, sliding 5.2% since the end of 2018. 1 Meanwhile, China’s economic growth is experiencing a long-term slowdown.

China stimulus provides relief
From a short-term cyclical point of view, we expect China’s latest fiscal and monetary stimulus package to provide some support at home and across the region. Total social financing for January saw a sharp increase as accommodative policies began to play out, although February’s figure was lower than anticipated. Overall financing for the first two months of 2019 was RMB 1 trillion higher than in the same period in 2018. Much of 2019’s financing has gone into short-term loans for companies, so expansionary measures are unlikely to be prolonged given the already high levels of corporate leverage.

Recent comments by the Chinese premier also suggest the latest stimulus package is markedly different to that of 2015/2016 as it is designed to cushion the effects of slower growth on highly leveraged businesses and preserve jobs rather than boost overall economic growth. China recently lowered its expected growth rate for 2019 to 6.0-6.5%, so we do not expect further aggressive stimulus unless China finds itself having to defend the lower end of this range.2

Deal could unlock pent-up US demand
In the US, an inverted yield curve in the latter half of March following a “dovish surprise” from the Federal Reserve has triggered widespread fears of a recession, causing stock markets to retreat. We believe the picture appears more stable than some negative data might imply. While December data was unexpectedly weak, that was likely due to the government shutdown and seasonal factors. Meanwhile, jobs data suggests companies are still hiring, with manufacturing employment in particular remaining strong. Additionally, US retail sales showed signs of stability in January, while consumer prices rose for the first time in four months in February, albeit at a modest pace.

We interpret these factors to mean that while headline growth has decelerated in the US, the economy continues to hum beneath the surface, and we believe this pent-up demand could be unleashed by a permanent resolution to the US-China trade disagreement.

An encouraging outlook for emerging markets
With the Fed in a holding pattern on interest rates and the US-China trade differences inching towards resolution, improving liquidity is strengthening our case to be positive on emerging markets (EM), while remaining aware of both macro and country-specific risks such as the forthcoming elections in India. US economic expansion at 117 consecutive months has set records for being one of the longest ever so the Fed may bide its time before adjusting rates up or down, although the US consumption story appears intact for now. Increasingly accommodative policies bode well for EM foreign exchange against the dollar unless EM growth weakens substantially from current levels.

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1 Source: China’s General Administration of Customs, as at 28 February 2019.
2 Source: State Street Global Advisors, www.ssga.com/blog/2019/03/cautious-on-emerging-markets-until-fundamentals-pick-up.html

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