Once again, I chose a good week to be on holiday so missed a fair bit of the violent swings in markets having booked a stay in a part of France where phone signal turned out to be patchy at best. I’m not sure if this was a blessing or not!
The market focus remains firmly on tariffs and while some relative calm has been restored, the week before last was dominated by wild swings in equities and a dramatic sell off in US Treasuries and the US dollar.
The tariffs proposed by the Trump administration were swiftly adjusted in the middle of last week with the announcement of a 90-day pause of the reciprocal tariffs for countries that chose not to retaliate. This meant that the retaliatory tariffs were actually only in place for 13 hours before being paused. The 10% baseline tariff applied to all countries remains in place. However, one country that notably did retaliate was China and after various escalations we’re now at the point where there is a de facto blockade on trade between the two biggest trading partners in the world with the US applying a total tariff of 145% and China applying a tariff of 125%. Combined trade between the two countries was $585 billion last year and the US imported around 13% of their total imports from China.
The pause in the implementation of reciprocal tariffs appears to be a considerable climbdown from the rhetoric of 10 days ago. The Trump administration appeared comfortable with the pullback in equity markets, but cracks in the Treasury market were more unsettling and combined with a further slump in the US dollar suggested that investor faith in the US was being unsettled. The issues in Treasury markets appear technical in that hedge funds were rapidly unwinding positions amid higher volatility and indeed as recently as January US 10-year Treasury yields had been higher, but the speed of the move higher last week set alarm bells ringing. The loss of confidence in the US was also reflected in a much weaker US dollar and it does seem we are seeing something of a regime change taking place in the sense that traditional safe havens in US assets are no longer seen as such given the unpredictability in US government policy. Investors have been seeking alternatives and despite prospects for much a looser fiscal regime German government bonds have performed particularly well, and the gold price has made new record highs.
There does not appear to be any underlying shift in the protectionist ideology from the US, but countries can use this 90-day window to negotiate. That said, the simplistic calculation of the reciprocal tariffs which were based on the size of the trade deficit rather than actual tariffs in place the obvious negotiating tool for other countries is to promise to buy more US goods. This tactic worked for China during the previous Trump administration where they managed to seal a trade deal that they never really followed through on in terms of increasing imports from the US. Over last weekend we learnt that exemptions from the China tariffs would be made for mobile phones, chip making equipment and certain computers which make up about 20% of all US imports from China. On the face of it, this is good news in the short term for companies such as apple who make about 80% of iPhones in China but is likely to be only a brief reprieve because the White House has made clear that these goods will be included in a tariff package on semiconductors to be announced in the coming months. The Chinese government has said it is open to talks with the US, if it “shows more respect” and has a point person to negotiate on behalf of President Trump so that a deal could be ultimately signed in a meeting between Presidents Xi and Trump.
In other news, we have seen the ‘data dump’ from China, which surprised to the upside. GDP numbers showed first quarter growth of 5.4% year on year, ahead of expectations. We also saw Industrial Production, Retail sales, Fixed Asset Investment and export data ahead of expectations, with retail sales boosted by domestic subsidies and production and export data boosted by the ‘front running’ of orders ahead of tariffs. This raises a question over distortions in the data from China and elsewhere as companies and consumers try to get ahead of the tariffs, leaving a potential ‘air pocket’ ahead when demand slows as tariffs take effect. Closer to home, the UK reported employment and inflation data. UK CPI eased more than expected, to 2.6% year-on-year in March, with core CPI at 3.4% and services CPI easing to 4.7%. The real test for CPI comes in the next few months as the national insurance, minimum wage and other tax increases are set to push CPI higher. All the same, markets are fully pricing a Bank of England rate cut in May, with two further cuts by year end. The UK unemployment data showed the headline rate unchanged at 4.4% but the payrolls figure showed a decline of 78,467 workers in March, the fastest pace of decline since the pandemic.
So, what comes next? Financial market volatility is set to continue, with further headline risk likely and markets likely to remain unsettled given how quickly we’ve moved between complacency and hysteria in a fortnight. The situation we now face is that the two economic superpowers have polices in place that on the face of it put a halt to trading with each other while the rest of the world faces up to ninety days of uncertainty, which will be negative for consumer sentiment and business confidence posing the risk that consumer spending and business investment could be put on hold and weigh on economic growth until such time as there is more clarity.
We are now seeing the start of quarterly earnings season which may give some insight as to the fallout as companies assess the impact of tariffs and attempt to give forward guidance through the fog of a trade war. The downside risks to economic growth and corporate earnings are clear, but actually putting figures on forward estimates is incredibly difficult given the lack of policy certainty. Irrespective of the tariff polices themselves, the persistent uncertainty alone will detract from economic growth given the hiatus in spending and investment decisions that it will cause.
A positive take is that we now know the high watermark for tariffs. Also, there is a limit to the pain threshold of this Administration whereby too many dislocations in financial markets will pressure them to change tack. For the US’s trading partners, the path of least resistance is to negotiate rather than to retaliate as China has done. The US and Chinese positions are becoming more entrenched but there is an opportunity for other countries to attempt to limit the impact firstly though negotiations with the US and/or by softening the domestic blow through fiscal measures – something that looks likely in China for example.
Ultimately, we are now in a position that is far worse than most expected in terms of the tariff regime. Even if reciprocal tariffs are negotiated lower, we are set to face the backdrop of a 10% global tariff plus specific levies on sectors such as autos (already announced) along with pharmaceuticals and semiconductors (yet to be announced). While the effective US tariff rate is likely to be lower than the 20 to 25% range I noted previously, it will still be well over 10% and given this was only 2.5% last year this is significant move higher. It’s worth noting that the tariff rate has never moved more than one percentage point in twelve months in the period between 1970 and 2025 so there needs to be a significant adjustment in supply chains and international trade all of which will be detrimental to global growth.
Financial markets are in something of a nervous holding pattern until we have answers to two questions, neither of which are on the horizon. Firstly, the ultimate level of the tariff regime, once negotiations are concluded and exemptions in place. Secondly, the status of the US dollar as the reserve currency and US Treasuries as a ‘safe haven’ asset. The tentative signs of a loss of trust in US assets marks a huge regime shift, and dwarves the ‘Liz Truss’ and Brexit experiences we have witnessed in the UK. The inconsistent policies of the US administration have unsettled financial markets, and it will take some time for calm and confidence to be restored.
Source: Columbia Threadneedle Investments as at 17 April 2025.
