Protectionism threatens the global upswing

Donald Trump is remaining true to his election pledges, however absurd they might be. The latest example: the one-sided introduction of so-called protective tariffs for the steel and aluminium industry. The countries particularly affected by this are already threatening counter-tariffs. Are we all now heading for a global trade war? Or will reason prevail in the end?

US President Donald Trump has announced that tariffs of 25 percent are to be imposed on steel and aluminium imports. The intention of these tariffs is to make products of foreign companies more expensive and thus less competitive. By extension, US companies should become more competitive in relative terms and gain market shares in the USA. As a consequence, the high current account deficit of the US economy should decline at the expense of countries with high surpluses, such as Germany or China.

So much for the theory. As always, the reality is somewhat more complex. In past years, the global economy has become reliant on a division of labour, enabling companies to use the country-specific differences in wage costs to their benefit. This realignment of the global economy also resulted in years of low inflation. A further effect is that many companies have undergone technological specialisation and become global market leaders with highly-developed products. Goods production relying solely on domestic primary products has become very rare today.

This also highlights the way in which global trade now forms the basis of the networked economies. Trade restrictions, such as tariffs, will weaken this overall construction over the long term, also at an extremely unfavourable point in time. After five meagre years in a row, only last year the accelerating momentum of world trade finally succeeded in nudging global economic growth visibly above the 3 percent mark. With the upswing currently still intact, global economic growth could pan out at around four percent this year. After all, global trade as a key growth driver accounts for one third of global growth viewed over a long-term average, and last year the growth contribution was even greater.

US punitive tariffs will also create sizeable upheavals in Germany in the medium term. Larger shares of the comparatively cheap global steel production will now presumable also make their way into the European and thus also into the German markets. Domestic producers will therefore find themselves under increasing competitive pressure.

Furthermore, the one-sided imposition of tariffs will also have consequences for other countries. It comes as no surprise to learn that retaliation measures were recently announced by Canada, China and the EU Commission if the US government were to impose further punitive tariffs. These will most likely impact the US agricultural sector which depends heavily on exports. Another questionable point is whether the renegotiations of the NAFTA agreement currently still taking place with Canada and Mexico will be continued at all if the USA were to announce further protectionist measures.

Global growth will clearly lose strength if this upward spiral continues and can be expected to fall back way below 4 percent. At the same time, inflation could edge upwards from time to time. However, the central banks will not respond to the higher inflation. It is far likelier that monetary conditions are loosened again in response to the weaker growth and more subdued economic outlook. The central banks will try to prevent a global recession. Whether this can be achieved or not will depend on the countries‘ sense of reason. If protectionism intensifies too much, a prolonged downswing will be unavoidable.

This is precisely the scenario being priced in on financial markets at the moment. The future direction of equity and bond markets will depend substantially on how the tariff dispute progresses. If further tariffs and growing protectionism come into play, global equity markets will experience a tangible correction and yields will fall again noticeably. If reason can triumph in the coming weeks and a strong economic policy be restored, the current phase of high uncertainty will quickly end and equity markets unfold their upside potential with the onset of spring.

It is still too early to expect the scenario to change entirely. We see greater chances of a degree of calm returning to the current stormy seas. Nevertheless, the danger that protectionism poses for the global economy has visibly risen.




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