Daily Comment (January 15, 2020)

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

[Posted: 9:30 AM EST] Good morning!  It was a very quiet overnight session as markets await the signing of the Phase One deal with China.  Here is what we are watching this morning:

BREAKING:  Russian PM Medvedev resigned this morning along with the entire Russian government.  This follows a speech from Putin in which he called on increasing the power of the PM and cabinet ministers.  It is suspected that Putin, facing term limits in 2024, may opt to repeat his earlier job swap, where he accepts a newly empowered PM position and makes the presidency a ceremonial post.

Trade:  Phase One will be signed this morning.  The White House indicated that current tariffs will remain in place until after the November vote.  That put a bit of a damper on equities yesterday; however, it also leaves open the possibility that the president could unilaterally reduce tariffs as the year progresses to reward compliance from China or to boost equities if we see weakness in the coming months.

However, it should be noted that trade relations are hardening outside this agreement.  In what could be an important long-term move, USTR Lighthizer is pushing Japan and the EU to target China on corporate subsidies.  This is a change in tenor; up until now, the U.S. has mostly engaged in bilateral actions.  Lighthizer seems to recognize that “teaming up” with the rest of the industrialized world will probably have a stronger impact on the problematic issue of subsidies.  This action won’t bear fruit for a long time; WTO actions are notoriously slow, which is part of the reason the Trump administration has mostly ignored the body.  Nevertheless, it does create a framework for cooperation, and if this group can eventually include India it could force China to reduce or eliminate market-distorting subsidies.

Another issue is that the U.S. is taking steps to further block sales of items from Huawei (002502, CNY 3.16).  These moves are pushing China to become more self-sufficient in technology.  Without Huawei, moving to 5G will be difficult; the Senate, recognizing this problem, has legislation under consideration that would offer $1.0 billion to U.S. firms to develop American 5G.

Finally, the Senate will move to pass USMCA before the impeachment trial begins.  We expect the bill to pass easily.

Britain:  A number of news items emerged overnight.  First, PM Johnson admitted that a comprehensive trade deal with the EU might not happen before year-end.  Although we do expect some progress to be made this year, it will almost certainly take more than a year for a full arrangement.  The EU is also indicating that goods entering Northern Ireland from the U.K. will be subject to customs, contradicting comments from Johnson.  This shows the degree of trade isolation that Northern Ireland faces in the wake of Brexit.  Scotland wants to hold a new separation referendum; Johnson rejected that request.  Although separation remains a threat, momentum for such a move is unlikely until after Scottish elections next year.

Iran:  We reported yesterday that Germany, France and the U.K. were planning to start the process of protesting Iran’s recent violations of the JCPOA.  The three nations made it official.  Iran warned that European soldiers in the region “could be in danger” after the move.

German slowdown:  Germany expanded at its slowest pace in six years in 2019, expanding only 0.6%.  As an export-promoter, Germany struggled to grow its economy as rising protectionism throughout the world led to a decrease in demand for exports.  Additionally, auto-manufacturing, which represents a large part of the country’s exports, has also been hurt by changing regulations and a declining market.  A reduction in the trade war may contribute to a more favorable environment for Germany, but it is worth noting that the president has the European Union in his sights as well.

Africa:  The U.S. has stationed troops in various regions of Africa as part of the war against insurgencies.  Europe, especially France, also has forces in its colonial areas.  The Pentagon has decided to reduce the force levels to redeploy soldiers to the great power confrontations with China and RussiaEurope isn’t happy about this development.

Data:  For years, the government’s data-releasing agencies (BLS, Commerce, USDA, etc.) would release its sensitive data to news organizations up to an hour before the official release.  This allowed these news feeds to prepare stories and make the data available at the release time.  There has always been a problem with this system; the government had to put elaborate security systems in place to prevent a journalist from leaking the reports.[1]  The USDA even took to guarding the Venetian blinds in the reporter room to prevent signaling.

The Obama administration, in a bid to reduce costs, tried to end the embargo practice and make the news organizations wait like everyone else to get the data.  However, the news bodies petitioned the administration and they retracted the decision.  Now the Trump administration is apparently taking another swing at this action.  If they follow through with this decision, government websites will be hammered with data requests as the release point nears.  It isn’t hard to imagine their sites freezing up due to the demand.  The bottom line is that if this path is taken there will invariably be some reports that won’t be disseminated in an orderly fashion.  The pressure on government employees will also rise; traders who would benefit from an early look at the data (cue the Dukes) would likely be willing to bribe such employees.  We will continue to monitor developments.

Odds and ends:  Tensions in Lebanon increase as the economy deteriorates.  President Trump is considering a trip to IndiaRepo demand remains robust; after adding $60.7 billion on Monday, the Fed sold another $82.0 billion yesterday.

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[1] Of course, the most famous movie about such things is Trading Places.