Daily Comment (August 18, 2020)

by Bill O’Grady, Thomas Wash, and Patrick Fearon-Hernandez, CFA

[Posted: 9:30 AM EDT] | PDF

The modest uptick in risk assets so far today comes despite new U.S. moves to punish Chinese companies on national security and economic policy grounds, as well as the continued stalemate over a new U.S. coronavirus relief bill.  We review all the key news below.

United States: The Democratic Party opened its virtual convention last night with a theme of “We the People,” seeking to emphasize national unity while at the same time celebrating U.S. diversity.  The program included surprise appearances by several high-level Republicans, including former Governor John Kasich of Ohio and former Governor Christine Whitman of New Jersey, who argued for Republicans to support the presumptive Democratic candidate for president, Joe Biden.

United States-China: The Commerce Department issued new rules prohibiting non-U.S. firms from selling microprocessor chips made using U.S. technology to Chinese telecom equipment giant Huawei (002502.SZ, 3.00) without a special license. The rule even covers widely available, off-the-shelf chips made by overseas firms.  In addition, the department added 38 Huawei affiliates in 21 countries to its “Entity List,” which prevents companies from exporting U.S. technology to those entities without a license.

  • Given the dominance of U.S. technology in certain segments of chipmaking, the new rule reportedly amounts to a blanket ban on any chip sales to Huawei, hitting its 5G equipment and handset businesses.
  • By further crimping Huawei’s ability to operate, the moves will escalate the administration’s tough-on-China policy, highlighting the risk of even more bilateral tension and economic disruption down the road.  In fact, President Trump also signaled that his administration is considering similar moves against other Chinese firms on national security and economic policy concerns.

China:  According to a new study by law firm Baker McKenzie and economic consultancy Silk Road Associates, Chinese exports had already started losing global market share last year, before the coronavirus pandemic hit.  The study showed that Chinese exports of 1,200 products accounted for 22% of the world’s exports, 3 percentage points lower than in the previous year. For consumer goods, the country’s global market share fell by 4 percentage points to 42%.  The study found that the decline in China’s market share stemmed mostly from the U.S.-China trade dispute, the rise of new technologies, and corporate governance demands.

European Union: As EU member countries continue working to implement the bloc’s big, new coronavirus relief and mutualized debt program, the so-called “frugal four” countries that agreed to the program in return for higher rebates from the EU budget are now demanding that those rebates be increased by 2% per year to offset price inflation—despite expectations that inflation is likely to remain minimal in the EU for the foreseeable future.

Belarus: In a sign that President Lukashenko continues to lose support after the apparently fraudulent elections earlier this month, the autocrat was booed by workers at a major defense factory he was visiting.  The booing was notable because workers at the plant, which produces key components for Russia’s military, are probably among the best paid and highest privileged workers in the country.  It was also noteworthy because Lukashenko was using the occasion to announce he is preparing a referendum on a new constitution that could eventually lead to him handing over power.  Obviously, the workers weren’t buying it.

Canada: Finance Minister Morneau said he will step down, the biggest casualty to date from a scandal tying the Liberal government to a charity with close links to the family of Prime Minister Justin Trudeau.

COVID-19:  Official data show confirmed cases have risen to 21,916,639 worldwide, with 774,720 deaths and 13,908,270 recoveries.  In the United States, confirmed cases rose to 5,444,205, with 170,559 deaths and 1,865,580 recoveries.  Here is the interactive chart from the Financial Times that allows you to compare cases and deaths among countries, scaled by population.


Economic Impact

  • While the pandemic has hurt real estate properties of all types, it’s having an especially heavy impact on New York’s iconic Empire State Building as more companies embrace remote work or cheaper satellite offices outside city centers.  Some in the industry say the building is worse off than many peers because it relies on smaller office tenants, which tend to be more at risk during a downturn.
  • In the longer term, one little-discussed implication of the pandemic is that the disease and the associated economic disruption will likely push down birthrates and further slow population growth.  That’s starting to be an especially important concern for Japan, which already had one of the most rapidly aging societies even before the pandemic.
  • Even though China was able to minimize infections when the pandemic first broke out late last year, and has been staging an impressive economic recovery since then, it turns out that the recovery has widened income inequality, just as it has in many Western democracies.

Financial Market Impact

  • While the pandemic has helped touch off a sustained depreciation of the dollar versus other major currencies, key emerging market currencies continue to suffer even more.  The Brazilian real, the South African rand, and the Turkish lira have lost about 20% of their value against the dollar this year, putting the former two on course for their biggest annual declines since 2015. The Russian ruble and the Mexican peso have dropped roughly 15%.

U.S. Policy Response

  • Senate Majority Leader Mitch McConnell has warned that the ongoing discussions on a new coronavirus relief bill may not lead to a deal.  Media reports also say Republicans are considering further reducing their proposed stimulus amount.  Both developments are raising concerns that the fiscal rug could be pulled out from under the economy before a solid and sustainable recovery is in place.  Those concerns appear to be a key reason for the muted tenor of the risk markets so far today.

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