His most vitriolic tweets were aimed at manufacturers with international supply chains, most publically with automobile producers that had plans to expand facilities into Mexico. Questioned emerged on the immediate or eventual impact of such social media outpourings, as well as how major trade economies such as Asia would respond.
For the first week it appeared that concerns were fairly muted. The MSCI Asian Ex-Japan Index returned more than 2% during the five days of the new administration while also recovering all losses following the US election. Though analysts and political pundits normally place greater clout on the President’s first hundred days in office, the initial Executive Orders clearly reflect the President’s priorities. Trump’s decision to remove the US from the Trans Pacific Partnership (TPP) was a formality given that Congress was unlikely to ratify the deal during Obama’s final months. Additionally, his disapproval for the TPP was evident throughout the campaign, suggesting that withdrawal was not only well advertised but also fully priced into the market.
This decision does not suggest that Trump is anti-trade but reflects angst over the policy. The situation becomes sadly ironic as the pact he was so anxious to reject would actually have solved several problems his election campaign had promised to fix, including expanding the tradeable market for US goods and promoting international business standards. Trump’s administration is now scrambling to promote copious proposals which do little to spur exports but instead damage US consumers by reducing real incomes through efficiency losses. The proposed border tax and border adjustment aim to reduce the trade deficit by either imposing a tariff on countries deemed currency manipulators or removing import deductibles to subsidize exports. Proponents argue these policies would lower the national trade deficit and improve export competiveness, while a stronger dollar offsets the tariff placed on overseas imports.
For Asian exporters, these circumstances could provide dual near-term tailwinds at the expense of US manufacturers. On the value side, most trade contracts are negotiated in USD terms, which would negate any exchange rate savings from a stronger US dollar. For Asian exporters that report in local currency (non-USD) denomination, the appreciation of the USD translates to better sales. The downside for foreign exporters comes if supply quantities drop significantly. While this would lower the trade deficit for the US, weaker import growth would also suggest a waning US economy which Trump seeks to avoid. If the volume remains unchanged, the tariff is either absorbed by the manufacturer or passed on to the end consumer.
On the volume side, US import substitutions are not immediately available to fill the gap. According to the US Census Bureau, Asia accounts for roughly 50% of the US trade deficit. Using OECD’s estimates that US exports contain on average 20% of foreign content, US manufacturers would need to expand product capabilities that would equate to the 10% value loss. While subsidies and tax breaks offset the financial costs, most industries lack the raw materials in enough quantity and scale to meet the target of the new administration to generate the immediate growth.
The US withdrawal from the TPP could also provide a near-term catalyst for most of Asia. Though only five Asian countries were original signatories of the TPP (Japan, Singapore, Brunei, Malaysia and Vietnam), several others had pledged an interest to join (South Korea, Taiwan, Thailand, Indonesia and the Philippines). However, many demonstrated reluctance given that the pact would open competition between domestic small and medium enterprises against foreign companies. Given the possibility that the US or even China could join later, the delay provides the opportunity for capital expenditure and infrastructure spending to improve production efficiency. Even if China decides to follow through with its own trade pact, the Regional Comprehensive Economic Partnership (RECEP), this would indirectly reduce the role of state-owned enterprises to improve returns, which had been one of the objectives of TPP.
Much of the aforementioned assumes a no trade war scenario. Tariffs and import taxes not only violate World Trade Organization (WTO) rules but also galvanize quick retaliation which leads to uncertainty that delays private investments. Unlike other trading partners, Asia might be positioned to better counter Trump-led US trade hostility, possibly taking its script from the then real-estate mogul’s book The Art of the Deal. Both the US and China each appear to hold bargaining chips for better leverage negotiations that can counter threats. During the campaign, Trump’s challenge to the One China Policy as well as plans to label China a currency manipulator went uncalled during his first week, while the decision to withdraw the US from TPP falls in Beijing’s favour. It is an unlikely coincidence that China is also the largest buyer of agricultural products from the US, an industry employing a similar number of workers to the automotive industry. Just recognizing the other country’s threats could be enough to prevent a conflict.
Markets appear to have priced in a reflation trade in the US, which include tax reforms and infrastructure spending. But recent controversial orders could derail some of the campaign promises for the new administration. The other risk is the amount of political capital Trump will have left after his first hundred days. Amid low approval ratings and a split Republican backing, filibusters seem highly likely. However, if peaceful political compromise can be reached, this may add optimism for risk appetite. But markets should also be aware of the plethora of tweets and attacks, and ask at what point words become actions to give meaningful credibility to these threats. It is indeed a good thing that Asia still has plenty of chips left in its pocket.
Assistant Fund Manager - Asia