U.S. – China trade is one of the lynch-pins of the global economy

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Coffee and Economic Review

European shares fell on Friday after President Trump’s latest threat to target Chinese imports. Carmakers and miners were the biggest losers in the Stocks Europe 600 Index after Donald Trump ordered his administration to consider tariffs on an additional $100 billion of Chinese imports. Trump’s latest move threatens the optimism in stock markets that the U.S. and China could negotiate a solution to avoid tariff proposals. The MSCI World Index slipped 0.15% on Friday. The S&P 500 dropped more than 2% on Friday and all 30 members of the Dow Jones Average retreated after Trump’s announcement. The S&P ended 1.4% lower for the week and the Cboe Volatility Index spiked above 20, nearly double the level for the past year. President Trump is shaking global markets. After getting good marks for the tax cuts and budget stimulus, President Trump ranking for equity returns has slipped to 8th place among presidents for his time in office.


The trade tensions overshadowed the latest U.S. jobs report, which showed hiring cooled more than forecast in March. Only 103,000 jobs were created in March, but that did follow an upward revision to 326,000 in February, from 313,000. Weather-related industries such as construction and retail saw the largest reversals. The 3-month average of 202,000 jobs gives a more clear picture of labor trends. Average hourly earnings rose by 2.7% y/y. in line with the recent trend. Both ISM indexes edged back in March, with the manufacturing index falling 1.5 points to a still lofty 59.3. A reading above 60 is extraordinary and some pullback from February was expected. The non-manufacturing index fell 0.7 percentage points to 58.8. The indexes suggest economic growth has broadened, lifting business activity across the nation.


Vehicle sales surged to 17.5 million in March, the best reading since December. Incentive spending was strong and American love their light trucks, which reached 68% of sales for the first time ever The 17.2 million average will likely be the sales total for the year. In another sign the factory sector is doing well, factory orders increased 1.2% in February, exceeding expectations. The important core capital goods orders segment increased 1.4%. It appears the slow start of the year in manufacturing is temporary. Barring trade restrictions, the outlook for manufacturing is fairly strong this year.


Next week, we get a peek at the NFIB survey and two major indexes of inflation, import prices and consumer confidence. The outlook for the economy remains sound. Trade tensions have rattled financial markets but the immediate implications for the economy are still small. Both the U.S. and Chinese tariffs are proposals. The state of the economy and policies by the Trump administration will widen the trade deficit. A stronger economy means more imports. There is danger if things start to slip towards tariff walls. The Chinese are the biggest global holder of U.S. Treasuries, some $1.3 trillion. Our debt is growing. With tax cuts of $1.5 trillion over the next ten years and another $300 billion in spending increases by a reckless Congress, our deficit problem may become a large problem. On the other hand, the U.S. is China’s biggest customer. If trade barriers go up with the U.S, China could lose half a percent of growth. If global supply chains are disrupted, there is little doubt that inflation may soar. U.S.-China trade is one of the lynch-pins of the global economy. This all could be saber rattling and let’s hope cooler heads will prevail. This also could be the beginning of a slide to global recession.

Latest Data

The U.S. Economy:

Total U.S. construction spending inched higher by 0.1% in February, after remaining unchanged in January. Construction spending has been positive five out of the last six months. Private construction spending increased 0.7% in February, up 3.4% year-over-year. Residential construction rose 0.1% and 1.0% excluding home improvement. Single-family construction increased 0.9% and was 95% higher than a year ago. Nonresidential construction increased 15% in February. Of the larger components of private nonresidential construction, spending on manufacturing facilities rose 1.2% m/m, but is down 5.6% y/y. Spending on commercial structures increased 1.2% and is now up 7.6% y/y. Public construction fell 2.1% from January, but is up 1.7% from February 2017. The outlook calls for construction spending to rise modestly in 2018, but we don’t think an infrastructure package will pass through Congress in its current form.


Growth in manufacturing slowed in March but there is little cause for concern. The ISM manufacturing index fell from 60.8 in February to 59.3. The decline is not concerning since an index reading historically north of 60 has not stayed for long. New orders fell from 64.2 to 61.9. This was the third consecutive month new orders declined. Fifteen out of eighteen industries reported growth, including nonmetallic mineral products, computer/electronics and paper products. The only industry reporting a decline was apparel/leather. Production fell from 62 to 61. Inventories fell by 1.2 percentage points to 55.5. Supplier deliveries fell from 61.1 to 60.6 and was the 18th consecutive month of slowing deliveries. The ISM noted that lead-time extensions in many sectors, including steel, supplier labor shortages and transportation delays, will restrict production for the foreseeable future. The employment index fell 2.4 percentage points to 57.3, reversing some of February’s gain. New export orders slipped from 62.8 to 58.7. Import orders fell from 60.5 to 59.7. Prices paid rose 3.9 percentage points to 78.1. Among the commodities up in prices were aluminum, caustic soda, copper, cobalt and steel. No commodity was listed down in price.


Manufacturing is doing well, but capacity restraints are developing. Supply issues were mentioned in transportation and equipment, food/tobacco products and machinery. There were discussions on tariffs that show concern, but global demand is not slowing. Imports are critical to the supply chain and any disruption will have negative implications for factory production. Moody’s reports that between 1974 to 2016, the correlation coefficient between growth in real goods imports and industrial production is 0.91. The correlation between growth in real goods exports and industrial production is 0.57. A Granger causality test reveals that both imports and exports cause changes in industrial production. Policies that reduce imports are likely to damage domestic manufacturing.


U.S. vehicle sales surged to 17.49 million units in March, up from 17.0 million in February. Light trucks led most of the increase, representing nearly 68% of total vehicle sales Incentive spending was strong, and as a result retail sales led the increase. Fleet sales declined modestly. Light truck sales were up 13.6% y/y, while passenger sales were down 12%. Consumer demand for light trucks remains strong. Vehicle sales will have cross winds going forward. The economy is strong and job creation is healthy. Wages are rising. However, there is little pent-up demand, Interest rates are going up and credit is becoming tighter. Steel and aluminum tariffs will make vehicles more expensive. Sales will track near 17 million this year.


Factory orders increased 1.2% in February, following a 1.3% decline in January. Durable goods orders were strong, rising 3.0%, but nondurable goods lagged, dropping 0.5%. Total orders were up 7.9% y/y. Core capital goods orders increased 1.4% in February, offsetting the 0.3% and 0.5% declines the previous two months. Shipments rose 0.2% in February and are up 6.1 higher than in February 2017. Shipments have been trending up over the past year. Transportation orders were positive and the auto sector advanced 1.7% in February and are up 7.6% y/y. The report suggests that the slow start to the year was temporary. Factory data has improved and capital spending is picking up as capacity restraints are starting to emerge. Tariffs remain a threat to future production as the price of inputs will go up, affecting the consumer. Trade wars do not help anyone, but it is becoming increasingly apparent that Trump has started one.


The trade deficit widened for a fifth month and is at more than a nine-year high. The deficit increased from $56.7 billion in January to $57.6 billion in February. The increase was boosted by both an increase in the goods deficit and a decline in the service surplus. The decline in the services surplus was largely because of an increase in imported royalties and broadcast license fees associated with the Winter Olympics. Total nominal exports and imports both gained 1.7% from the previous month. Protectionist trade measures would likely reduce the volume of total trade, but they will also depress U.S. economic growth. As proposed, with the measures and counter-measures totaling $50 billion in tariffs on U.S. goods, real GDP would be reduced by 0.1% to 0.2% of a percentage point per year. The final scope of the tariffs and the timing of the implementation are unclear. Tariffs disrupt the movement of goods and lead to a misallocation of resources and translate into higher prices needed by producers and final consumer goods.


A gauge of factory activity at China’s manufacturers posted its first gain since November. The manufacturing PMI rose to 51.5 in March, up from 50.3 in February. February’s reading was the lowest in one-and-a-half years, but the slowness was partly attributed to the Lunar New Year. The findings suggest that China’s economy continues to carry momentum, which should help keep the synchronized global growth on track despite trade tensions caused by the U.S. The service sector also picked some strength in March, rising to 54.6 from 54.4. China is aiming for growth of around 6.5% this year. China increased tariffs on 128 U.S. products to match the $3 billion on tariffs by Trump on steel and aluminum. Trump has promised tariffs on more than $50 billion on Chinese goods over U.S. accusations that China has systematically misappropriated American intellectual property. China is preparing additional tariffs equal to that amount when the American list is revealed.


Euro-area economic momentum weakened to the lowest level in a year in March but still remains elevated. The composite PMI dropped to 55.2 in March from 57.1 in February. The gauge still points to a strong 0.6% rate of growth for the first quarter. The slowdown generally reflects fewer companies reporting improvements in business. The euro-area’s broad economic upturn has steered policy makers at the European Central Bank toward discussing when and how to withdraw stimulus. Official are expected to wind down the bond-buying program after September as growth is expected to translate into higher price pressures. While weather and capacity constraints can affect demand, officials at the central bank will try and ascertain trend growth. Lately, economic reports suggest growth has slipped as industrial production and construction have declined.

Important Data Releases This Week

March NFIB will be released on Tuesday, April 10 at 6:00 AM EDT. The survey increased from 106.9 in January to 107.6 in February. The survey is tracking at a fairly elevated level. Views of the economy will likely lift confidence to 107.8 in March, but trade tensions may weaken confidence a little.


March PPI index will be released on Tuesday, April 10 at 8:30 AM EDT. The PPI rose 0.2% in February, as energy prices subsided. We expect the recent trend to continue.


March CPI index will be released on Wednesday, April 11 at 8:30 AM EDT. Inflation followed trend in February, increasing 0.2%. The core rate also rose 0.2%. Inflation is alive, but only increasing at a gradual rate. This may keep the Fed confined to only three increases this year.

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