More than 2 months ago in “TARIFF WARS: A NEW HOPE” and “TARIFF WARS: THE EMPIRE STRIKES BACK” I correctly made sense of the overall tariffs mess at the time, but I made a mistake too: I overestimated President Trump’s commitment to do the right thing in the interest of the US economy even if that would have resulted in a good deal of pain to be endured by financial markets.
While the first “TACO” was delivered pretty quickly on the 9th of April with the US administration announcing a tariffs pause to anyone but China till the 8th of July, it took over a month for Donald to realize a second “TACO” couldn’t be avoided with China (“DEAR DONALD, THIS BATTLE IS LOST“) in order to soothe investors’ concerns.
Today, we are exactly 2 weeks away from the first “pause” lapsing, and the total number of trade agreements the US administration has successfully signed is a grand total of: ONE.
What are the chances that Donald will successfully sign a significant number of trade agreements with all major US trading partners in the next 2 weeks? Virtually zero. Why? For one simple yet very important reason: all US commercial partners are fighting the same battle together against the US. Here is the strategic mistake made by the president back in April: any individual country against the US doesn’t have much bargaining power, but uniting all of them on a common front effectively created a balance at the large negotiating table that has resulted in a 3-months-long standstill.
This is a very important concept to understand how the US strategy is surely going to shift on the tariffs matter in the next week and likely last for months. First of all, I expect US negotiators to proactively “divide” the common front currently in place among US commercial partners. As a consequence, the first ones willing to come to terms with the administration will be granted not only very advantageous terms on their own but will surely receive support to gain commercial market share with the US at the expense of other countries.
Secondly, I expect US negotiators to start bringing financial weapons to the negotiating table, especially against the EU and Japan. What does this mean? As I warned about in “SECTION 899: THE NUCLEAR TARIFF” the US can decide to start hitting where it hurts: capital investments. Right now, many major US commercial partners have a big weakness: a lot of financial capital of their institutions and private households is invested in the US, especially in the US stock market and US treasuries. Imagine the panic among foreign investors if all of a sudden, on top of any local capital gains and investment income tax, they have to start paying taxes to the US too. Some might argue they can simply sell their US investments and repatriate their capital locally, but the reality is that they don’t have many alternatives to deploy their capital locally. Why? Think about Europe, for example, where the local economy has been effectively stagnating for years and all “national champions” like Volkswagen, UBS, or LVMH are facing significant headwinds, unlike the US Mag7.
Thirdly, in order to tilt the balance even more in its favor, expect the US to shift strategy from slapping blanket tariffs on whole countries to targeting specific business sectors if not companies. For example, unlike China, no car company in Europe or Japan can survive without access to the US market. If the US starts threatening their business, don’t you expect these companies to start lobbying hard with their respective governments to find a broader compromise with the US and reach a deal that will keep them in business?
EU, Canada, and other countries have already threatened retaliation against US businesses operating in their regions if the US carries on with its willingness to impose tariffs and change the status quo in place for many years. Now tell me, what’s going to be the damage to the US economy if Europe decides to go after Google, compared to the damage to the German economy if the US decides to go after Volkswagen?
The negotiation between China and the US is a whole different story, and we are even seeing a massive shift in the narrative there too, with the US president openly stating that China won’t be bothered about its oil purchases from Iran. As a consequence, anyone who thought China could represent a fallback alternative in case of commercial strains with the US might end up finding themselves empty-handed since China won’t be willing to jeopardize any progress with the US by lending support to anybody else.
What’s going to be the impact on markets, especially stocks, of all I described above? The US and likely China, along with them, will be the winners, while Japan and Europe risk becoming the biggest losers. Everyone else will be in between. Furthermore, if the US successfully convinces companies to reshore industrial production, that will result in a strong bid for the USD, currently at multi-year lows, simply due to the need to shift all the capital required to build factories and supply chains from abroad into the US. Furthermore, goods produced in the US will be sold in the country, keeping the currency onshore and strengthening the US from a capital flows perspective further.
The latest events regarding the Iran-Israel crisis are a strong sign that Trump is not only learning from his mistakes but is also considering again the stock market performance as a barometer of his administration’s work. Consequently, he won’t take any move that will put the US bull market at risk, and he will care little if others bear the consequences instead.
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