Research Viewpoint

Viewpoint : Trade agreement between the US and China

Viewpoint The Phase 1 economic and trade agreement between the US and China, signed on 15 January, ratifies the truce in the tariff war with China, …..

Abonnieren Sie unseren kostenloser Newsletter


Intesa Sanpaolo – Research Department


with modest US concessions (reduction of the tariff hike implemented in September) and China taking on the biggest commitments (lower trade barriers, higher imports from the US).

However, uncertainty on relations with China will remain high in the medium term, while a Phase 2 deal is negotiated and China’s compliance with its commitments is assessed, limiting positive fallout on US growth.

The commitment to step up imports from the US will probably result in a new disruption of global trade flows and in wider US trade deficits towards other partners.

Furthermore, the temporary closing of the Chinese front could prompt the US to take a more aggressive approach to disputes with other partners, and the EU in particular.

Finally, the agreement has negative implications for the international trade framework, with an arbitrary dispute resolution mechanism and a move away from a free trade framework.

– President Trump and Chinese Vice Premier Liu He signed the Phase 1 economic and trade agreement between the US and China.

The deal includes eight sections and puts in writing the guidelines announced in mid-December, with a modest reduction of US tariffs and China making the biggest commitments, geared to reducing barriers for US companies and boosting US exports (see below).

The assessment of the parties’ compliance and the resolution of disputes will occur through periodical meetings and provides the option of imposing penalties in case of breach by one of the two sides and of exiting from the deal.

– For the US, the agreement implies a reduction to 7.5% from 15% of the trade tariffs introduced in September on around 120 billion dollars’ worth of Chinese imports, as well as the freezing of any other tariff hikes. 

For China, the commitments are spread over several sections which include the commitment to protect intellectual property, to liberalise operations by US companies even without a Chinese majority shareholding, to allow the activity of US financial institutions and insurance companies, to lower trade barriers (with particular reference to food products), by reducing controls and bureaucratic constraints.

These commitments are in part generic and do not imply changes to existing legislation, as requested by the US, instead, during the Spring 2019 negotiations, from which China had temporarily pulled out as a result.

A section of the agreement covers exchange rate management, with a commitment to improve transparency and prevent exchange rate manipulation through competitive devaluations.

Section 6 provides targets for trade enhancement, with China committing to increase over two years (between January 2020 and December 2021) its purchases of US goods and services by at least 200 billion dollars, beyond the baseline of 2017 levels. The required increases are spelled out for four major categories:

a) Manufactured goods, by no less than 32.9 billion in 2020 and 44.8 billion in 2021;

b) Agricultural goods, by no less than 12.5 billion in 2020 and 19.5 billion in 2021;

c) Energy goods, by no less than 18.5 billion in 2020 and 33.9 billion in 2021;

d) Services, by no less 12.8 billion in 2020 and 25.1 billion in 2021.

For the time being, the sides have not specified how the agreed increases will be allocated across the sector sub-categories indicated in points (a)-(d), although the text includes a detailed list of goods and services which will be subject to the measures.

Based on the agreement, the increasing trends of purchases defined for 2020-21 will continue in the 202225 period.

Purchases will be made at market prices and it is accepted that market conditions, for agricultural products in particular, may determine the timing of the purchases.

The US will act so as to guarantee the availability of the goods and services to be purchased. In case of disputes over compliance, consultations will be held between the two parties.

The commitment to massively step up exports from the US to China within a set timeframe may prove hard to implement, due to lack of demand in China and/or availability on the US side.

On this point, it remains to be seen how much flexibility will be used in evaluating respect of the commitments.

The size of the change in US exports provided for may result in stronger investment in some sectors but will probably determine a “reshuffling” of trade flows in the initial phase.

The countries which in 2018-19 replaced the US in supplying to China agricultural products (Brazil), manufactured products (EU, Japan), and energy products (Russia) are likely to experience a decline in demand for their goods.

On the other hand, US exports of manufactured goods will be diverted towards China, to the detriment of the main trade partners (Canada, Mexico, the EU).

As a result, global production chains will again be upset, leading to higher production costs for businesses and greater uncertainty.

Furthermore, the United States’ trade deficits towards other regions will widen, potentially prompting punitive actions by the US.

Negotiations with the EU, currently stalling, could take a dangerous turn, with a threat of tariffs on car imports, kept in a limbo to date.

Other fronts are also open between the US and Europe: WTO tariffs tied to the dispute over Airbus, the Boeing affair, still awaiting a ruling from the WTO, and the dispute between the US and France over the taxation of digital activities.

Therefore, the truce with China in 2020 could allow the US to resume fights with other trade partners, and with the EU in particular.

– In conclusion, the new agreement does not introduce significant changes compared to the picture outlined before the publication of the text and the signing of the deal.

There are two main orders of implications, depending on the time horizon considered.

In the near term, uncertainty will decrease, tensions with China ease, and economic activity in the US should improve in some sectors (agriculture, civil aviation, insurance).

The truce in the tariff war with China will probably hold for the better part of 2020, although the difficulty of implementing an expansion of trade in line with the treaty, and the vagueness of the commitments made on the other issues, could lead to disputes breaking out in 2021 and to possible retorts by the US (tariff hikes) and/or a unilateral termination by China.

Furthermore, the end of hostilities with China, albeit temporary, paves the way for a possible resurgence of tensions with other trade partners, if not already in 2020, in 2021.

Therefore, the Phase 1 agreement does not remove uncertainty over trade policy in the medium term, but changes the timeline and context, pushing it forward to 2021.

– For what concerns US growth, positive fallout generated by larger exports to China could initially be modest and consist mostly of sales being diverted from other regions, in waiting for the implementation of the Phase 1 agreement and the Phase 2 negotiations to proceed.

Some sectors will be net beneficiaries of the deal (for instance agriculture, financial institutions, pharmaceuticals), although at the present stage it is too soon to tell whether the agreement will be sufficient to boost structural investment increases.

– A more general assessment of the agreement concerns the implications for the international trade framework and is unquestionably negative. First of all, the objectives of expanding trade to pre-set levels renege on the objective of free trade.

Second, the dispute resolution mechanism is “internal” and political. In the event of “irremediable” conflict, one country will be able to implement punitive measures and the other, if dissenting, could react only by abandoning the agreement.

This is another deadly blow to the WTO and multilateralism.


Appendix
Analyst Certification

The financial analysts who prepared this report, and whose names and roles appear on the first page, certify that: (1) The views expressed on companies mentioned herein accurately reflect independent, fair and balanced personal views; (2) No direct or indirect compensation has been or will be received in exchange for any views expressed. Specific disclosures: The analysts who prepared this report do not receive bonuses, salaries, or any other form of compensation that is based upon specific investment banking transactions.

Important Disclosures
This research has been prepared by Intesa Sanpaolo S.p.A. and distributed by Banca IMI S.p.A. Milan, Banca IMI SpA-London Branch (a member of the London Stock Exchange) and Banca IMI Securities Corp (a member of the NYSE and NASD). Intesa Sanpaolo S.p.A. accepts full responsibility for the contents of this report. Please also note that Intesa Sanpaolo S.p.A. reserves the right to issue this document to its own clients. Banca IMI S.p.A. and Intesa Sanpaolo S.p.A. are both part of the Gruppo Intesa Sanpaolo. Intesa Sanpaolo S.p.A. and Banca IMI S.p.A. are both authorised by the Banca d’Italia, are both regulated by the Financial Services Authority in the conduct of designated investment business in the UK and by the SEC for the conduct of US business.
Opinions and estimates in this research are as at the date of this material and are subject to change without notice to the recipient. Information and opinions have been obtained from sources believed to be reliable, but no representation or warranty is made as to their accuracy or correctness. Past performance is not a guarantee of future results. The investments and strategies discussed in this research may not be suitable for all investors. If you are in any doubt you should consult your investment advisor.
This report has been prepared solely for information purposes and is not intended as an offer or solicitation with respect to the purchase or sale of any financial products. It should not be regarded as a substitute for the exercise of the recipient’s own judgement.
No Intesa Sanpaolo S.p.A. or Banca IMI S.p.A. entities accept any liability whatsoever for any direct, consequential or indirect loss arising from any use of material contained in this report.
This document may only be reproduced or published together with the name of Intesa Sanpaolo S.p.A. and Banca IMI S.p.A.. Intesa Sanpaolo S.p.A. and Banca IMI S.p.A. have in place a Joint Conflicts Management Policy for managing effectively the conflicts of interest which might affect the impartiality of all investment research which is held out, or where it is reasonable for the user to rely on the research, as being an impartial assessment of the value or prospects of its subject matter. A copy of this Policy is available to the recipient of this research upon making a written request to the Compliance Officer, Intesa Sanpaolo S.p.A., 90 Queen Street, London EC4N 1SA.
Intesa Sanpaolo S.p.A. has formalised a set of principles and procedures for dealing with conflicts of interest (“Research Policy”). The Research Policy is clearly explained in the relevant section of Banca IMI’s web site (www.bancaimi.com).
Member companies of the Intesa Sanpaolo Group, or their directors and/or representatives and/or employees and/or members of their households, may have a long or short position in any securities mentioned at any time, and may make a purchase and/or sale, or offer to make a purchase and/or sale, of any of the securities from time to time in the open market or otherwise. Intesa Sanpaolo S.p.A. issues and circulates research to Qualified Institutional Investors in the USA only through Banca IMI Securities Corp., 245 Park Avenue, 35th floor, 10167 New York, NY,USA, Tel: (1) 212 326 1230. Residents in Italy: This document is intended for distribution only to professional investors as defined in art.31, Consob Regulation no. 11522 of 1.07.1998 either as a printed document and/or in electronic form. Person and residents in the UK: This document is not for distribution in the United Kingdom to persons who would be defined as private customers under rules of the FSA.
US persons: This document is intended for distribution in the United States only to Qualified Institutional Investors as defined in Rule 144a of the Securities Act of 1933. US Customers wishing to effect a transaction should do so only by contacting a representative at Banca IMI Securities Corp. in the US (see contact details above).

Valuation Methodology

Trading Ideas are based on the market’s expectations, investors’ positioning and technical, quantitative or qualitative aspects. They take into account the key macro and market events and to what extent they have already been discounted in yields and/or market spreads. They are also based on events which are expected to affect the market trend in terms of yields and/or spreads in the short-medium term. The Trading Ideas may refer to both cash and derivative instruments and indicate a precise target or yield range or a yield spread between different market curves or different maturities on the same curve. The relative valuations may be in terms of yield, asset swap spreads or benchmark spreads.

Coverage Policy And Frequency Of Research Reports

Intesa Sanpaolo S.p.A. trading ideas are made in both a very short time horizon (the current day or subsequent days) or in a horizon ranging from one week to three months, in conjunction with any exceptional event that affects the issuer’s operations. In the case of a short note, we advise investors to refer to the most recent report published by Intesa Sanpaolo S.p.A’s Research Department for a full analysis of valuation methodology, earnings assumptions and risks. Research is available on IMI’s web site (www.bancaimi.com) or by contacting your sales representative.

Source: BONDWorld