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Today’s Points:

• Boing: Rebounding US stocks had their best day since May.
• On tariffs, the key is that everyone else chickened out, not Trump.
• Fixing US economic statistics looks truly daunting.  
• Emerging markets, particularly India, look like tariff losers.
• AND: Some strange sporting anthems (Mull of Kintyre, anyone?)

Tariff Assumptions

We are about to discover whether Reed Smoot and Willis Hawley were right all along. Donald Trump said he was a protectionist, and he has delivered effective levies to match the infamous tariffs named for the Depression-era US legislators. That’s illustrated by Capital Economics:

That is also the shape of the new Trump trade policy, which now looks likely to stay in place at least for a matter of months, and possibly much longer. If we are indeed at the new trade normal, conventional wisdom has been proved wrong on at least three important points:

• Tariffs are far higher than expected in January (or after the April 8 delay).
• They have had very little effect on inflation or unemployment to date.
• Virtually nobody has retaliated.

The latter two have counteracted any damage that might have been done for the first. Judged by his ability to get what he wants, the story so far is of a crushing success for Trump. Others are not fighting back. Neither the markets nor the macroeconomic data to date place any limit on his freedom of action — the US stock market, fortified by Monday’s bounce, remains very close to its all-time high. Tariffs are also producing helpful revenue for the government.

In all, things are going far better than they did for Smoot and Hawley, who passed their levies in 1930 and were both ejected from Congress in 1932. That protectionist episode came when the US had a trade surplus, and was bedeviled by widespread retaliation as the Depression deepened. This time, the conditions are better.

This is a policy in which Trump deeply believes, and it has taken no little political skill to enact it. Now we need to find out if it works. Economic logic is remorseless, but it’s not like physics; it operates through the decisions of millions of people and can take years to play out. Markets follow the economy in the long term, but in the shorter term they can get things wildly wrong. Exhibit A is the Global Financial Crisis, caused largely by great overinvestment in US housing. The bubble in homebuilders’ stocks peaked in 2005, and in house prices a year later. The stock market surged on for another year, and the crash wasn’t until 2008:

This time around, the new system should be inflationary for the US, which effectively has a new consumption tax, and deflationary for everyone else, as their industries have just been rendered less competitive. And it should slow economic activity for everyone. If it does bring back manufacturing, that will take time and reduce tariff revenues. That isn’t to say that the shock will be anything like as bad as the disaster of 2008 — but the experience to date, with companies bringing imports forward to avoid tariffs, doesn’t prove that protectionism will work out better than it did for Smoot and Hawley. 

Jonathan Pingle, chief US economist at UBS, estimates the effective tariff rate has just risen from 16% to 19%, roughly where it was under Smoot-Hawley, and cautions that uncertainty hasn’t disappeared. Most significant is the threat of sectoral tariffs on pharmaceuticals. The president has suggested a 200% levy. In the unlikely event that this came to fruition, it would on its own raise the overall US effective tariff rate by another 13 percentage points.

As it stands, the latest increment should slow US economic growth by a further 0.2 percentage points; the tariff hikes to date had already brought the UBS estimate down to 1.6% from 2.5%. So, how to explain a market rally after this? Lower growth expectations bolster the case for rate cuts, while US company profits are rising, likely to benefit from a cheaper dollar and unhindered by retaliatory tariffs. All of that suggests that US equities can endure in a Smoot-Hawley world — at least until the logic has played out in full. 

To appreciate the absurdity of what is happening, look only to Switzerland, due to suffer a 39% tariff — the highest on any developed nation — as punishment for its big trade surplus with the US. First, note that the surplus is relatively new, and entirely driven by a sudden boom in Swiss exports (largely gold bullion to the US earlier this year). It has nothing to do with any great limitation on US exports to Switzerland, and the Swiss have little to offer because tariffs are already minimal:

Further, the Swiss franc’s safe-haven status makes it one of the world’s most highly valued currencies. The dollar has depreciated by 20% over the last decade, making imports from the US far more competitive. The US has widely complained about non-tariff barriers, and particularly about artificially weak currencies. There is no way this charge can stick to the Swiss:

Switzerland is now scurrying to find something to offer. It’s hard to imagine what this will be, and even harder to envision how anyone will benefit. 

Weakening BRICS

The threat to impose additional tariffs on India for buying oil from Russia is unsurprising. Brazil, now the subject of a 50% tariff, incurred Washington’s wrath for its “unfair” treatment of former president and Trump ally Jair Bolsonaro (who is now under house arrest, so it hasn’t helped him). Before that, a frivolous accusation of white genocide in South Africa put the Rainbow Nation in the president’s crosshairs and left a 30% tariff on its exports to the US. 

Given Washington’s newfound skepticism toward BRICS (Brazil, Russia, India, China and South Africa), it’s unlikely that they will receive any clemency. Regarding Brazil, Signum Global Advisors’ Rafael Ch notes that, judging by Trump’s tough stance even toward Indian Prime Minister Narendra Modi — a supposed ally — he is likely to set a high bar for any concession from President Luiz Inacio Lula da Silva. This antagonism threatens to erode confidence in emerging markets and potentially unravel a trade that had gained traction as a viable alternative to the increasingly vulnerable US exceptionalism narrative. Particularly for Lula and Modi, under domestic pressure not to look weak, there is also a real risk of retaliation.

The performance of the MSCI Emerging Markets index relative to the S&P 500 suggests this hypothesis has much to it:

JPMorgan’s index of emerging market currencies posted its worst monthly performance since November, snapping a rally that had survived months of tariff turmoil and rising US rates:

FX’s weakness was partly driven by resilient US economic data. Citi’s Alex Saunders also blames regional idiosyncratic factors such as copper’s collapse in Latin America and spillovers from the euro for Central and Eastern Europe, Middle East and Africa currencies. It’s hard to tell if the weakness will be sustained. Bank of America’s David Hauner urges caution as “we think risk premia are low relative to the major uncertainty about post-summer data, which may finally show a bigger impact of tariffs on global growth and inflation.”

Hauner also notes that questions around credibility have turned the relationship between Treasury yields and EM upside down. Usually, rising yields are a bigger problem for emerging markets than they have been this year. This dynamic could persist as long as US real interest rates (relative to inflation) stay low. Since the election, the divergence between inflation breakevens and term premiums on one side, and real yields on the other, has become increasingly pronounced:

While tariffs create a headwind for all emerging markets, some countries will have particular problems. BCA Research’s Rajeeb Pramanik points out that an effective embargo on purchasing Russian crude oil will hit India’s balance of payments and currency. This likely makes Indian fiscal and monetary policy more restrictive, and shrinks corporate profits. Which is a problem, as it’s the only global stock market that is arguably even more expensive than the US:

Meanwhile, OPEC+’s decision to boost supply, just as Trump intensifies diplomatic pressure on Russia, is a potential double-edged sword. Since May, the cartel has agreed to add more than 2 million barrels per day, in addition to non-OPEC+ producers’ capacity, to absorb all the new demand this year and next. Bloomberg Economics’ Ziad Daoud estimates that this has knocked $13 off oil prices since April, a relief for consumers, and for central bankers and protectionist politicians hoping to avoid renewed inflation. Daoud adds that:

For the global economy, an abundant supply is a blessing. Yes, it only shifts incomes from producers to consumers, but that transfer tends to fuel higher spending and activity. If demand weakens, that tells a darker story — not of a future boom, but an economic slowdown.

On the other hand, public finances of oil-exporting nations face a budget squeeze from lower prices. That could spill over into credit risk premiums if producers struggle to rake in enough to meet their debt obligations — and could push companies to scale back expansion plans. 

—Richard Abbey

Survival Tips

OK, sports anthems. Nobody seems able to explain quite why Freed From Desire and Sweet Caroline have become universal, even though they have nothing to do with sport, but there are plenty of others. Clubs love to adopt anthems by famous fans: in Manchester, City march out to Oasis, and United to the Stone Roses; in Aston Villa, they get excited by Black Sabbath; in Brighton they warm up to Fatboy Slim. Some are just plain weird: Arsenal enter to Go West by the Village People because it’s the tune for the old chant “One-Nil to the Arsenal”; Nottingham Forest enter to Wings’ Mull of Kintyre, the biggest hit of the season they won the championship (1977-78); the Washington Nationals won the 2019 World Series to the strains of Baby Shark after a hitter chose it for his walk-up music to please his two-year-old daughter. 

Non-sporting anthems that are close to universal in sports include Blur’s Song 2; Whoomp There It Is (after a home run), Who Let the Dogs Out by the Baha-men; White Stripes’ Seven Nation Army (which also found its way into politics), The Killers’ Mr. Brightside, Gary Glitter’s Rock and Roll Part 2 (less popular since the singer’s convictions for pedophilia), Na Na Hey Hey Goodbye, most famously by Bananarama, Jock Jams’ Let’s Get Ready to Rumble (featuring Michael Buffer), “Who Ate All the Pies?” to the tune of Knees Up Mother Brown (hurled by British fans at anyone deemed overweight), or Welcome to the Jungle by Guns n’ Roses. Nothing beats Queen’s We Are the Champions (particularly as We Will Rock You was on the other A-side), but the relevance of that one is a bit clearer. Any more?

More From Bloomberg Opinion

• Bill Dudley: The Fed’s Under Siege. It’ll Be Just Fine
• Matthew Brooker: The Doom-Mongering About Britain Is Overdone
• Conor Sen: The Stock Market Just Got a Sobering Reality Check

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