eco TV

Eco TV: October 2019

10/7/2019

TRANSCRIPT // Eco TV: October 2019 : October 2019

Hello and welcome to the October 2019 edition of EcoTV, the video magazine of BNP Paribas economists.

In this edition, we will look at the US-China trade war. We will talk with Jean-Luc Proutat about its economic impact.

For the Chart of the Month, William De Vijlder will examine the risks of a US recession. What are the early warning signals? Is the inversion of the yield curve alone enough of a signal?

We will conclude this edition with Three Questions on Argentina with François Faure. General elections are slated for 27 October and the economic situation seems to be worse than ever.

Enjoy the show.

 

FOCUS

François Doux:

It was long thought that China and the US would manage to avoid a conflict, but here we are in the midst of a trade war.

Jean-Luc Proutat, hello.

Jean-Luc Proutat:

Hello François.

François Doux:

In one episode after another, tariffs keep rising. Where do things stand now in fall 2019?

Jean-Luc Proutat:

It has been about two years since the United States first launched its trade offensive by raising tariffs. It began by targeting just about everyone, with tariffs on aluminium and steel.

Thereafter, the US has increasingly focused on China, its number one trading partner. Initially, only a limited number of products were targeted, but the list has gradually expanded, and little by little, tariffs were raised.

Today, they apply to roughly USD 250 billion worth of Chinese goods imported annually into the US, at an average tariff of 25%. This figure could rise to 30% as of October. President Trump announced that he wanted to apply tariffs to the rest of imports from China as well. This would account for another 250 to 300 billion dollars in Chinese products. In the end, all US-China trade would be hit by tariffs.

François Doux:

How has China reacted?

Jean-Luc Proutat:

Tit for tat. They have raised tariffs and are mainly targeting US farm products, like soya beans. They are also curbing purchases and redirecting their supply chains to other countries like Australia, for example. Finally, they have also cautiously depreciated their currency.

François Doux:

The US-China trade war has clearly intensified. What are the economic consequences for the two countries?

Jean-Luc Proutat:

The Chinese economy is slowing, but this not a new phenomenon. What is true is that the drop-off in Chinese exports has made the slowdown worse. As a consequence, China is buying less, too. In the end, world trade has slumped across the board. This has hit the big export countries that are highly focused on the Asian markets, like Germany, which is on the verge of recession. Survey indicators have deteriorated even for the United States, as we saw this summer. US manufacturing output is down and the Federal Reserve had to step in to boost the economy by lowering key rates. The eurozone is also seeing greater monetary support.

All in all, we can say that we are beginning to feel the first negative effects of the trade war, and almost no one has been spared.

François Doux:

Hardly anyone. But when it comes to the US budget, President Trump welcomes the inflow of tax and tariff revenues.

Jean-Luc Proutat:

Yes, but who is paying for them? US companies and consumers. By raising tariffs, President Trump is taking away with one hand what he gave with the other, i.e. tax cuts. And if he goes all the way with his reasoning, then higher tariffs at the borders will eventually win the upper hand, without any particularly good consequences for the Federal budget.

François Doux:

If the trade war is only creating losers, why shouldn’t we expect President Trump to tone things down a bit or even to back track at one point or another?

Jean-Luc Proutat:

First, protectionist tendencies are not limited to Donald Trump and the United States. President Trump can be seen as a symptom more than the cause.

If we take a closer look, the rise of US protectionism pre-dates Trump. Over the past decade, protectionism can be seen primarily in the increase in non-tariff barriers, quotas, sanitary and phytosanitary protective measures and technical standards.

François Doux:

Trade wars have broken out in other parts of the planet, too.

Jean-Luc Proutat:

Yes, that’s right. The trade war between Japan and South Korea does not receive as much media coverage, but it is just as fierce as the one between the US and China.

Moreover, it is not just the deficit that is at play. There is also the battle for technological, political and cultural leadership. China is making this increasingly clear.

To better understand the ins and outs of the US-China trade war, we can look at how the nature of trade has changed between the two countries. Today, US-China trade is totally different than when China first joined the World Trade Organisation (WTO) in 2001. Currently, the United States essentially imports mechanical engineering goods, as well as electrical and electronic products from China. Communications equipment is the US’s biggest import item from China. It is no longer textiles, shoes and household appliances. All that has largely evaporated. As a result, the stakes are no longer the same. Chinese equipment is now present virtually everywhere throughout the value added chain of US companies, for both civil and military purposes. When Beijing and Washington sit down for trade talks, the trade deficit is of almost secondary importance relative to the questions of cyber security and defence.

François Doux:

Does that mean that trade tensions are bound to escalate?

Jean-Luc Proutat:

Not necessarily. But to prevent things from going too far, we must not forget the advantages of a multilateral approach. Supranational and international institutions were created precisely to prevent conflicts between neighbouring states from getting out of hand. In other words, they are there to make sure that “every man for himself” doesn’t end up hurting everybody.

François Doux:

Jean-Luc Proutat, thanks.

We will continue to monitor the trade war.

We will be back in a moment with William De Vijlder and the Chart of the Month.

 

CHART OF THE MONTH

François Doux:

Is it possible to predict a recession, especially in the United States? That is the subject of our Chart of the Month, with William De Vijlder.

Hello.

William De Vijlder:

Hello François

François Doux:

William, in our economic textbooks, I remember that the inversion of the yield curve was always presented as an early warning sign of recession.

Your chart confirms this somewhat, but today we are beginning to have doubts.

William De Vijlder:

That’s right. Economic history has been marked by a series of inversions and recessions, the one following the other. Today, or rather this summer, we have seen an inversion. So now what?

The problem with this analysis is that the “yield curve” signal is biased. It is biased by the very accommodative monetary policies of the central banks, in particular the Fed and the ECB. This has pushed down long-term rates worldwide. It has triggered a pre-mature flattening of the yield curve. As a result, the signal is now a bit biased.

François Doux:

Can other indicators help us?

William De Vijlder:

If the signal seems to be biased somewhat, then we must look at other factors. Topping the list is the Conference Board index of leading indicators. This composite indicator can be broken down into 10 individual series.

François Doux:

It comprises 10 individual series, one of which is the inversion of the yield curve. This is a rather broad indicator, but how well does it function in retrospect?

William De Vijlder:

It functions well. This can be attributed to the fact that it covers a broad range of indicators. Certain series are taken from the financial markets, such as the slope of the yield curve or the equity markets. It also incorporates the real sphere: household confidence, corporate order books, and the job market. This is what makes the indicator so robust.

In the past, it has never given a wrong signal. What is a wrong signal? It is when a series declines, but recession does not follow. That’s a problem.

François Doux:

And where do things stand today, William?

William De Vijlder:

So far, the series has not declined. In the past, a cyclical downturn was followed by recession. We are not there at all.

As long as we see opposing signals, between this indicator – which is still “going strong” – and the yield curve inversion, we can remain rather calm, although we must still be vigilant. When the indicator does decline, of course, the yield curve will already be inverted. At that moment, things will not be looking good for the US economy. But we are not there yet.

François Doux:

We will continue to monitor the Conference Board’s index of leading economic indicators.

Thank you, William De Vijlder. We will be back in a moment with François Faure and Three Questions on Argentina, which is not doing so well.

 

3 QUESTIONS

François Doux:

With the approach of general elections on 27 October, we have Three Questions on Argentina.

François Faure, hello.

François Faure:

Hello.

François Doux:

First question: how is Argentina’s macroeconomic situation? Are things very tense?

François Faure:

It’s worse than that. The situation is extremely difficult. First, this summer’s primary elections were won by Cristina Kirchner and Alberto Fernández, the underdogs.

François Doux:

That was an upset.

François Faure:

It was surprising that they could gain such a big lead over Mauricio Macri. That created a real buzz in the financial markets. Since mid-August, the exchange rate has fallen by 20%, and the currency has lost a third of its value since the beginning of the year. Inflation has accelerated again and is now expected to hit 55% by year end. All of this is occurring against a very tough macroeconomic background: the economy is in recession and has contracted nearly 7% over the past 12 months. Given all the financial stress, economists have further downgraded their growth forecasts.

François Doux:

Second question: has the current government responded quickly to the economic and social crisis?

François Faure:

It has, by launching emergency measures to counter the financial shock waves. It began with a plan to reduce debt servicing charges, which are very heavy. This includes measures to extend the repayment of very short-term local debt held by resident investors in 2019-2020. The government will then present a debt restructuring proposal, which is mandatory under Argentine law, to investors, mainly local residents.

The government has also contacted investors, notably non-resident investors, to restructure its international bonds.

Lastly, the government will approach the IMF to delay repayment of its loans with the international institution.

We’ve covered the debt situation. Meanwhile, the foreign exchange situation continues to deteriorate, notably due to the decline in foreign reserves triggered by capital flight, as well as by the dollarization of deposits. The government has responded by reintroducing and tightening foreign exchange controls.

François Doux:

To conclude, although we cannot predict the election’s results, Mr. Macri’s chances of getting re-elected are small. What are the main challenges facing the next government?

François Faure:

For the next government, the big challenge will be to choose between a potentially explosive economic and social situation, aggravated by high inflation, as we have already mentioned, but also by a 10% decline in social welfare benefits in real terms. People are suffering. At the same time, it will need to control inflation and stabilise the exchange rate in order to stabilise the debt, 80% of which is denominated in foreign currencies.

One would hope that Argentina could restructure its debt without defaulting. For the government, the big pitfall is to avoid setting unreasonable monetary policy targets, notably in terms of inflation. All of this would help boost its monetary policy credibility and stabilise the currency.

Of course, the IMF risks demanding greater fiscal efforts simply to stabilise the debt. This would make things extremely tricky for the government.

François Doux:

That gives us a lot of things for which to watch out.

Thank you, François Faure, for this update on Argentina’s economy.

Tune in next month for a new edition of EcoTV.

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