Here's why an escalation of Trump tariffs would be such a stunner: A wider China trade war could doom President Donald Trump's 2020 re-election chances. Trump has essentially bet his presidency on a China trade deal that rains $30 billion in Chinese purchases on U.S. farmers. Otherwise farmers will only feel the pain, not the gain of Trump tariffs. Trump's tax-cut-fueled economic record could quickly turn from his biggest selling point to a negative as the economy and Dow Jones both falter.
XDow Jones Thumping Offers A Preview
After Tuesday's 473-point, 1.8%, slide for the Dow Jones, the stock market resumed its slide on Thursday. In morning trade on the stock market today, the Dow Jones and S&P 500 fell another 1.2%, while the Nasdaq composite sank 1.6%. The S&P 500 index and Nasdaq undercut their 50-day moving averages, joining the Dow Jones.
This is likely a preview of what the stock market will do if Trump escalates the China trade war at midnight. Yet that's looking more likely by the minute. Trump railed that Beijing "broke the deal" at a Wednesday night Florida rally. While top U.S. trade officials will meet with Chinese Vice Premier Liu He in late-day talks, China isn't expected to give much ground.
Tariffs on $200 billion in Chinese imports are set to jump from 10% to 25%, and that might not be all. Trump tweeted on Sunday that he also would soon slap 25% tariffs on $325 billion in imports that remain untaxed.
China Trade Deal Deletions
Beijing confirmed that it plans to retaliate if Trump pulls the trigger. Meanwhile, news reports clarifying what precipitated Trump's weekend tweets indicated how far apart the two sides are. The escalation threat followed receipt of China's proposed edits to the draft trade deal that left Trump administration officials stunned. "China had deleted its commitments to change laws to resolve core complaints that caused the United States to launch a trade war: theft of U.S. intellectual property and trade secrets; forced technology transfers; competition policy; access to financial services; and currency manipulation," Reuters reported.
U.S. Trade Representative Robert Lighthizer said Monday that China had walked back "good, firm commitments on eliminating market-distorting subsidies."
China will likely give some ground at deadline talks. Yet Beijing may have drawn a line at writing structural economic changes into law. If so, here are Trump's two unappealing options. He can accept a China trade deal that boosts Chinese purchases but only includes superficial reforms that rely on Beijing's good faith. Or else, Trump can launch a wider China trade war that hits the economy, sinks the Dow Jones and slams Trump 2020 prospects.
China Trade War Economic Damage
There's little doubt that a divorce for the globe's most important economic couple would hit economic growth in the near term.
The value of the extra tariffs themselves wouldn't be great: just $30 billion a year (an extra 15% of $200 billion). Even if Trump slapped 25% tariffs on untaxed Chinese goods, the hit would amount to just 0.4% of GDP before Chinese retaliation. So what's the big deal?
The problem is that the tariffs would turn a wide swath of retail sales and manufactured goods from moderately profitable to roughly breakeven or unprofitable. A broad range of consumer goods produced in China, from laptops to leather furniture to bicycles, would face price increases. That could dampen sales when retailers already face intense competition and the highest wage inflation in a decade.
Small manufacturers relying on inputs from China would have to find new supplies or shift their manufacturing outside of the U.S. That would likely dampen business capital spending.
Dow Jones, Stock Market Effects Loom Large
While the U.S. economy has had a head of steam, it's already vulnerable to a slowdown now that tax-cut stimulus has faded. If a renewal of the China trade war sends the Dow Jones and broader stock market tumbling, the economic effects will be magnified.
UBS analyst Jay Sole wrote on Monday that soft-line retailers like Macy's (M), Kohl's (KSS) and Ross Stores (ROST) could see their stocks fall 40%, on average, as earnings and valuations both take a hit.
Lewis Alexander, chief U.S. economist at Nomura, wrote that a tariff escalation would have just a modest direct effect on U.S. growth. But, he added, "The more important effect will likely come from decreased business confidence impacting business investment and tighter financial conditions."
The Dow Jones and broader stock market also would price in a slower Chinese consumer, a hit to U.S. consumer confidence and spending, a dollar-boosting flight to safety from emerging markets, and more trouble for struggling European economies.
The Fed would surely cut interest rates if the China trade war escalates and the yield curve again inverts. Yet that's unlikely to be a game changer. Another fiscal stimulus on the heels of the Trump tax cuts and Democratic takeover of the House seems unlikely at the moment.
Trump Has No Plan B, If There's No China Trade Deal
Trump has put all his eggs in the China trade deal basket. That's odd, when you think about it, if the goal is to check China's power. If Trump gets his trade deal and China begins splurging on American-produced, agricultural and manufactured goods, that will give Beijing more influence over U.S. politics.
The risk for Trump is that he'll only have a China trade war — with no trade deal — to show for one of his signature campaign themes. He was supposed to be the tough negotiator that would finally assure America was treated fairly. Carrying on the trade war would prove his toughness, but Americans won't like the result.
Politicians of both parties support a tough stance against China. But tariffs are a clumsy weapon. President Obama had sought to make China play by the rules by building a broad international trading bloc, the Trans-Pacific Partnership. Ultimately, Trump dropped the effort, which never won the backing of left-wing Democrats.
Still, Trump's dependence on China's goodwill argues for a more strategic approach to trade policy. Trump's tariff-led America First plan has ruffled the feathers of allies and prevented a more coordinated approach.
Trump did get Mexico and Canada to sign on to the new Nafta, the USCMA. Yet Congress seems unlikely to approve it. Even if it did, the U.S. International Trade Commission found it would raise auto prices and have only a modest economic benefit.
Trump Re-Election Stakes Magnify China Trade War Risks
Trump has said over and over that he wants to be judged on GDP growth and the level of the Dow Jones. If a wider China trade war sandbags the economy and stock market, Trump re-election odds will slump also.
The risk is that business and investor uncertainty would mount for multiple reasons. The China trade conflict and its economic effects wouldn't be the only concerns. Businesses and investors might begin to worry that Trump's corporate tax cuts would be repealed by the next occupant of the White House. That could further rein in stock market valuations and business confidence.
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