Quote of the Week
“Long-range planning does not deal with future decisions, but with the future of present decisions.” – Peter Drucker
Last week ended at about the same place it started. The markets rallied at the beginning of the week and sold off at the end of the week. So far since the market high at the end of January, the market has experienced lower highs and lower lows. This is indicative of a weakening market. Anything can happen, but it appears a downward trend is in place.
It is the start of earnings reporting season. Earnings should be much higher than the same time last year. The major banks reported last week that the tax cut had saved them over three billion dollars in taxes. This scenario should play out with the rest of the corporations reporting much higher earnings. The issue will be if these increased earnings are a result of the tax cut or an improvement in growth. I don’t think the market will be fooled if the increased earnings are just the result of the tax cut.
Last week the Dow was up 0.42%, the S&P 500 was up 0.52%, and the Nasdaq was up 0.56%. For the year the Dow is down 1.04%, the S&P 500 is down 0.13%, and the Nasdaq is up 3.52%
Tariffs and Trade Wars
On April 12th President Trump indicated he might be open to reentering the Trans-Pacific Partnership at an agriculture roundtable.
President Trump ordered top administration officials to look at rejoining the sprawling trade pact he rejected three days after taking office. The move would mark a stunning reversal for Trump who sharply criticized the pact as a “disaster” and made opposition to global trade deals a centerpiece of his economic agenda as a candidate. Then a week later he changed his mind.
Back on Wednesday, March 7th, Gary Cohn resigned as the top economic advisor to the president. David Rosenberg was quoted as saying “I think Cohn resigning was basically telling us that the trade protectionists have taken over the economic thought process at the White House. And I think that’s really disturbing”.
Here are a few things to consider:
Nearly 20% of China’s total export went to the US in 2017 or roughly $506 billion. The US exported roughly $130 billion in goods and services to China in 2017. The US sits in a better barging position.
If there were a trade war using tariffs, certain US industries would be impacted more than others. For example, US auto exports to China were 20% of exports. Civilian aircraft, engines, equipment, and parts to China was 13% of exports. Other industries, especially agriculture would be affected much greater. 55% of the soybeans, 75% of sorghum, barley and oats, 50% of logs and lumber, 22% of fish and shellfish, 20.5% of crude oil, and 17% of cotton and raw material were exported to China.
So, it is clear some industries would be more affected than others. While the US appears to sit in an advantageous position, China is smart and has a degree of leverage targeting industries more aligned to Trump’s political base. Both countries should not underestimate the degree of national pride. Made in America or Made in China? It will depend on just how upset each country’s consumer might be.
When you buy something at a store, you hand over money and get a product in return. You end up with fewer dollars, but it doesn’t matter, because you voluntarily paid for something you wanted. The transaction works for both sides.
The same thing happens in international trade. Americans bought $506 billion worth of goods and services from China in 2017, and China bought $130 billion worth of goods and services from the United States. They got stuff they wanted. We got stuff we wanted. Buyers and seller made transactions on terms they all agreed to.
President Trump sees it differently. He tweeted recently that the United State is “down” $500 billion in its economic relationship with China, and he insists the United States is “losing” hundreds of billions of dollars per year to China. He wants to close the gap between what China buys from us and what we buy from them by at least $100 billion per year. As we have seen in the last few weeks, he seems willing to roil the financial markets with tariffs and other protectionist measures he thinks will get the job done.
But Trump’s logic is faulty. Donald Boudreaux of George Mason University says “It is economically ignorant. We are not giving foreigners anything. We are buying things from them that we think are good deals. It’s a total myth to think the trade deficit is somehow a drain on our assets or a drain aggregate demand from the US economy”.
Trade is complicated, and Trump’s real interest seems to be protecting jobs in industries where production has shifted to China and other countries during the last several decades. The idea behind tariffs is that taxing imports will make them more expensive, thus making domestically produced goods more affordable by comparison. So consumers will buy more domestic stuff, in theory, which should boost the number of jobs for workers who make that stuff.
Reality is messier. In response to the tariffs Trump wants to levy on Chinese imports, China has said it will impose similar tariffs on US imports to China. So products will get more expensive in both counties thus will lead millions of consumers and thousands of businesses to change what they buy. The potential upheaval has pushed stock prices down and triggered fears of escalating protectionism. David Kotok, chairman of financial firm Cumberland Investors, stated “The China-US tariffs war is alarming. Trump’s trade policy is failing and harming the United States”.
Trump seems fixated on the dollar value of America’s trade deficits with China, Mexico and other countries in which we transact business. But there is no such thing as the “right” amount of trade deficit, or surplus because money Americans spend on foreign goods gets circulated throughout the global economy and often ends up back in the United States. China, for instance, buys US government debt, which keeps interest rates lower than they’d be if China weren’t a purchaser and demand was weaker. Chinese consumers buy real estate in the United States and shares of US companies. Some Chinese firms invest directly in the United States, like Foxconn, for instance, will do when it builds a new factory in Wisconsin.
There are some legitimate problems in America’s trade relationship with China. There is a convincing amount of evidence that China does cheat on trade by subsidizing homegrown industries which allows them to “dump” products on the global market at prices that don’t cover the cost of production. China also aggressively seeks Western trade secrets, in ways that are sometimes illicit. But there are also established ways to address these problems, such as seeking remediation at the World Trade Organization. The United States also has the right to impose tariffs on a product-by-product basis when it determines that foreign producers are engaged in unfair trade practices.
It is also true that global trade does hurt some workers, as production gets moved to places where it can be done more efficiently. But free-market economies constantly change, with jobs continuously destroyed and created. Economists are skeptical of policies meant to protect certain types of jobs because they depress growth and inhibit the creation of new jobs.
That doesn’t mean workers have to become obsolete once their jobs do. Policies that promote job retraining, relocation aid and stronger connections with local employers can help workers stay relevant, without the damaging effects of tariffs or other types of protectionism. But Trump has shown little interest in such policies, preferring high profile moves more likely to generate headlines even if they at negative.
By the Numbers
CONSISTENTLY UPSIDE DOWN – Projections by the Congressional Budget Office (CBO) on 4/09/18 forecast annual deficits of at least $1 trillion for 9 consecutive years beginning in fiscal year 2020. The US has recorded a “trillion-dollar deficit” in just 4 fiscal years in our nation’s history (source: CBO). – Michael A. Higley, BTN 04-23-2018
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These are the opinions of Larry Lof and Stephanie Mayoral and not necessarily those of Cambridge, are for informational purposes only, and should not be construed or acted upon as individualized investment advice. Past performance is not indicative of future results. Due to our compliance review process, delayed dissemination of this commentary occurs. The S&P 500 is an index of stocks compiled by Standard & Poor’s, a division of The McGraw-Hill Companies, Inc. The index includes a representative sample of 500 leading companies in leading industries of the U.S. economy. Indices mentioned are unmanaged and cannot be invested into directly. Technical analysis represents an observation of past performance and trend, and past performance and trend are no guarantee of future performance, price, or trend. The price movements within capital markets cannot be guaranteed and always remain uncertain. The allocation discussed herein is not designed based on the individual needs of any one specific client or investor. In other words, it is not a customized strategy designed on the specific financial circumstances of the client. Please consult an advisor to discuss your individual situation before making any investments decision. Investing in securities involves risk of loss. Further, depending on the different types of investments, there may be varying degrees of risk including loss of original principal.