Macro Battleship with Christopher Wood

The Donald is clearly having the time of his life. I have to admit I find it quite remarkable how world financial markets and the world media keep reacting to the tweets of the 45th American president and, of course, the occasional press conference. Whatever the view taken of Trump’s policies, it cannot be denied that he drives the news cycle, and he certainly does not need a public relations officer.

If the tweets keep coming, the most important Trump initiative of late was his press conference in Osaka in late June following the G20 Summit since it renewed hopes that some sort of trade deal could be agreed between America and China. Trump announced a resumption of negotiations on trade and a decision to delay the next increase in tariffs. Both the developments were not major surprises. But there was an unexpected positive for stock markets. That was a dilution of the ban on selling equipment to Huawei if that equipment did not conflict with national security concerns. Still, critical details remain lacking.

 

The U-Turn for North Korea

The Huawei U-turn, if it is indeed such a thing, is also a reminder that Trump has “form” on this since he did a complete U-turn on ZTE last year following a personal request from China’s President Xi Jinping. The same dynamic may well have occurred on this occasion.

What did the Donald get in return? The guess is that it probably relates to North Korea. As discussed here before, my view remains firmly that Trump wants to do a deal on North Korea during his presidency and he has no interest in regime change in Pyongyang. This means he wants essentially the same thing as Xi. That is modernization of the North Korean economy and the withdrawal of American troops from South Korea. Given that Xi visited Pyongyang seven days before the G20 Summit, it must be assumed that he played a role in facilitating Trump’s walk into the Korean Demilitarized Zone (DMZ) one day after the G20, which, it has to be said, was brilliant political theatre.

Why is Trump so obsessed with North Korea? First, he wants to solve a problem all previous American presidents have failed miserably at. Second, he wants to get the Nobel Peace Prize for doing something, whereas he would argue his predecessor Barack Obama got the same award for doing nothing. Third, he has taken the view, probably correctly, that the 35-year-old Kim Jong-un is serious about wanting to modernize the economy.

If all of the above is true, it also remains the case that Kim is not going to agree to any deal on the terms demanded by the Washington national security hardliners, namely that he shuts down all his nuclear capacities first before there can be any formal peace treaty ending the Korean War. For otherwise Kim loses all his leverage and faces the risk of meeting the same unfortunate end as former Libyan Leader Muammar Gaddafi, who gave up his nuclear protection.

The above is where Trump’s desire to do a deal on North Korea runs into tension with the national security lobby in Washington. This is why it is interesting that National Security Advisor and arch hawk, John Bolton, did not make the trip to Osaka or Seoul.

 

China’s Chances of Doing a Deal Are Better With Trump

I’m less confident than before that a trade deal will be done since, unlike earlier this year, the interminable U.S. presidential election season has now begun.

The same tension is, obviously, in play with the Huawei issue where there is now a bipartisan consensus in Washington that China represents a threat to U.S. hegemony. Thus, both the Democrat Senate Minority Leader Charles Schumer and Republican Senator Marco Rubio were quick to attack the Donald’s seeming U-turn on Huawei. This is why it remains in China’s interest to try and do a deal on trade with Trump since he is not personally antagonistic towards the country whereas many others in Washington are.

The above creates a confusing environment for investors since the Trump administration is clearly divided down the middle on the trade issue, as it is on national security. On the North Korea issue, the guess here is that the Hanoi summit in late February failed because the national security lobby showed Trump at the last minute evidence of the North Koreans rebuilding a dismantled nuclear facility. On the trade issue, Beijing seemingly miscalculated in April moving the goalposts at the last minute, which gave the hardliners in Washington the opportunity they were looking for anyway to scrap the deal and go ahead with the tariff increase.

What now? It is a cop out. But I’m less confident than before that a trade deal will be done since, unlike earlier this year, the interminable U.S. presidential election season has now begun. This means Trump will have to defend any deal with Beijing against Democrat criticism; though that will not stop him if he thinks he has a good deal. It also remains the case that the Fed, via its dovish language of late and its clear willingness to resume easing, has enabled Trump’s hardline on trade. For this is the main reason why the S&P500 has been making new highs of late (see following chart).

All of which means the Donald is in no hurry to come to terms with Beijing, though he will want to see the Fed cutting rates, as now widely expected, at the FOMC meeting on July 30-31.

S&P500

S&P 500 - July 21 2019

Source: Bloomberg

Fed Funds Futures Implied Probability of a 25bp Rate Cut at the July FOMC Meeting

Fed funds futures implied probability of a 25bp rate cut at the July FOMC meeting

Source: Bloomberg