If Tariffs at 20-25% Begin Around the Globe, Global Recession will Follow

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World shares rose on Friday but were set to end a second week lower, amid intensifying fears that a trade dispute resulting from U.S. tariffs. The MSCI All-Country Index, which tracks stocks in 47 countries, was up 0.2% in the European morning but down 1.3% for the week, the worst showing since mid-March. Investor anxiety over a full blown trade was has deepened over the increasingly sharp rhetoric between the United States and China and the growing evidence of the economic damage such a conflict would produce. There is a risk of further deterioration in relations on June 30, when Washington is due to announce a plan to restrict Chinese imports into the United States and limit exports of U.S. tech products to China.


The Dow Jones Industrial Average slipped 2% last week, the worst week in three months. Within industries, trade is dividing stocks. Earnings expectations are still droving equity values. Investors are still betting that things will get resolved and that the trade impact is still a 3rd quarter impact, not a second quarter, so the market, while down is not in a freefall. In a week when Trump’s threat of tariffs on European car imports and $200 billion of Chinese goods and threats of retaliation, the S&P did not move more than 0.6% each day and ended the week only down 0.9%. The equity market has remained resilient despite rising trade tensions. Earnings fundamentals have trumped macro events so far this year. The scary headlines have been more hype than reality, as of now. However, the hardening rhetoric is starting to worry global officials.


Leaders of the world’s central banks warned that the escalating trade tensions could ricochet through financial markets and hurt the world economy. The rising tensions have made it more difficult to start moving away from the easy money policies introduced at the beginning of the Great Recession. Global stock markets sagged this week after U.S. President Donald Trump called a fresh round of tariffs on $200 billion worth of Chinese goods, upping the ante on the previously approved tariffs on $50 billion of goods. ECB President Mario Draghi warned that disputes over trade and created “considerable uncertainty” for the 19-nation euro-zone economy, which recently started slowing its growth path. In a statement reflecting a shift concerning trade, he warned that the bank could delay the plans to phase out its 2.5 trillion bond-buying program, and that the date of the first increase could be pushed back. Jerome Powell, Chairman of the U.S. Federal Reserve, warned that changes in trade policy “could cause us to question the outlook.” While the tensions haven’t dented U.S. economic growth yet, Mr. Powell said that businesses were expressing concerns to the Fed about how the conflict might affect their plans of investment and hiring. “While the tariffs themselves might not derail the global economic recovery, the fallout could be magnified through financial markets, said Australia’s central bank governor Philip Lowe. “ I believe this is happening and is incredibly worrying,” he said.


There is considerable uncertainty concerning trade politics. There is still a belief that Trump’s rhetoric is a negotiating ploy and cooler heads will prevail. However, there is also considerable alarm. President Trump has threatened an additional $200 billion in tariffs on Chinese goods. The EU, Mexico and Canada have lost their exemption from U.S. steel and aluminum tariffs and there is talk of tariffs on vehicle imports from all countries. The situation remains fluid on whether tensions escalate or calm down. China has proposed tariffs on goods only, but could include services, which would hurt the U.S. more. There are other ways of slowing U.S. business in China without tariffs. U.S. firms are already finding it difficult to obtain regulatory approval for various business activities. There is still that lingering fear that things could get worse, much worse. If tariffs at 20-25% sprout up around the globe, the most likely outcome is a global financial market sell-off, followed by a global recession. With all the stimulus underway, it would be hard to derail the U.S. economy, but a global recession would do it. Let us hope that cooler heads prevail in July, or the long expansion may be coming to an end.


Last week was light on economic data. The NAHB housing market sentiment index declined slightly from 70 to 68, but remains at an elevated level. Housing starts rose 5% to 1.35 million units, but permits fell 4.6%. Existing home sales fell 0.4% to 1.35 million units.  Next week will see a slightly stronger wave of economic data. New home sales will be featured and advance durable goods, as well as pending home sales. Personal income and spending and also advance international trade will be released. The Fed will be watching the PCE deflator.

Latest Data

The U.S. Economy:

Homebuilder sentiment decreased 2 points to 68 in June, according to the NAHB Housing Market Index. Despite the retreat, sentiment remains positive, as the index is 18 points above the 50-point threshold. All three subcomponents inched down by 1 point in June. Current sales came in at 75,buyer traffic was at 50 and sales expectations edged down to 76. The index continues to hover at just less than its December 2017 high of 72. Sentiment and building conditions are positive. Although housing demand has held steady, it still has room to run. Jobs are still positive and wages are rising, solid supports for housing. However, interest rates are climbing, which will slow activity in coming quarters.


Housing starts came in mixed in May. Housing starts increased 5.0%, equaling an annualized pace of 1.350 million units. Single-family starts rose 3.9%, while the multi-family sector saw a 7.5% increase. Permits were more downbeat, falling 4.6% to a 1.301 million units annualized pace. Total starts are still up 20.3% from a year earlier and permits are 8% higher. Despite the unevenness and the monthly decline in permits, residential construction continues to trend upwards. The main constraint on residential construction is not insufficient demand. New home sales are trending upward steadily and the rental vacancy rate is at a cyclical low point, Indications are that demand could be stronger without the constraints on production. The shortage of skilled labor is a major bottleneck. We still expect the housing market to trend upwards until 2020 when the economy slows and the higher interest rates start to cool demand.


Existing home sales fell 0.4% in May, equaling an annualized pace of 5.43 million units. Total sales were down 3% from a year earlier. Existing single-family home sales totaled 4.81 million, down 0.6% from April. Condo/co-op sales came in at 620,000, up.6% from April. The median single-family home price was $267,500, up 5.2% from May 2017. Despite the slight increase in listings in May, the market for existing homes is still very tight. The shortage of listings is the main reason sales have not increased over the past year and have slid slightly in the last two months. The tight market is driving higher price growth although mortgage rates are increase g upward. Also, the 2017 tax overhaul has reduced the deductibility for current purchases. Demographics are not helping sales. A larger percent of U.S. households are retirees, whom have already downsized and don’t want to sell their home. Other household are holding on to homes to build equity. At some point, higher rates will hit affordability and put downward pressure on prices. Home sales will pick up even as affordability starts to slow.

Important Data Releases This Week

May new home sales will be released on Monday, June 25 at 10:00 AM EDT. Beneath uneven monthly results is a solid upward trend for new home sales, which are expected to accelerate slightly from 662,000 in April to 665,000 in May. Housing completions are coming into the market which should help sales.


May advance durable goods orders will be released on Wednesday, June 27 at 8:30 AM EDT. We look for another month of underlying growth for durable goods. However, aircraft orders will hold total orders down 0.6%. Ex-transportation orders are projected to increase 0.4%. Strength in the core capital goods sector was a major plus in April and we look for a 0.2% gain for May.


May advance international trade in goods will be released on Wednesday, June 27 at 8:30 AM EDT.  The goods deficit is expected to widen to $69 billion in May from $67.3 billion in April.


May pending home sales will be released on Wednesday, June 27 at 10:00 AM EDT. What are flat results in the existing homes sales report .Pending home sales are projected to increase 0.7% in May.


May personal income and spending will be released on Friday, June 29 at 8:30 AM EDT. We expect personal income to rise 0.4% in May, up from 0.3% in April. Nominal spending will also rise 0.4%, following the strong 0.6% increase in April. The core GDP deflator is expected to rise 0.2%, bringing the y/y increase to 1.9%. Inflation is awakening, but still remains at subdued levels.

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