Strap yourselves in for another rough day, folks.
US markets plunged on Friday following yet another escalation in the US-China trade war. The Dow fell 2.4%, the S&P 500 sank 2.6%, while the NASDAQ plunged 3%.
Gold, on the other hand, rallied strongly. The HUI gold stock index surged more than 4.5%. Some of the larger Aussie gold stocks have corrected sharply over the past week or so. But today should see a strong bounce given the performance of US gold stocks on Friday.
If you’re looking for ideas in the precious metals space, you can check out my free report on the sector.
Or if you’re the more social type, I encourage you to check out the Gold and Alternative Investments Conference, put on by good friend Kerry Stevenson.
Held in Sydney from October 24–26, you can hear keynote speakers from around the world (including colleague Shae Russell from The Daily Reckoning), as well as see presentations from more than 35 companies. There are bound to be a few hidden gems in that lot.
[As an aside, this is not a Port Phillip Publishing event, nor do we make any money from endorsing it. But I’ve attended (and spoken at) the event before, and the ticket prices are dirt cheap for what you get. So I encourage you to go along if you can make it.]
Getting back to the markets…
The US-China Trade War
I told you Trump wasn’t mucking around with China. Following his recent conciliatory move to delay imposing planned tariff increases, China saw it as a sign of weakness. As a result, China said it would raise tariffs on US$75 billion of US goods.
Trump responded by doubling down. From the Wall Street Journal:
‘President Trump said he “hereby ordered” U.S. companies doing business in China to explore relocating their operations and stiffened tariffs on Chinese imports after Beijing unveiled its own new levies on American goods, the latest twists in a trade war rattling investors and confounding central bankers.
‘Mr. Trump tweeted late Friday afternoon he would raise the tariff rate on existing and planned tariffs by 5 percentage points. Tariffs already in place on about $250 billion of Chinese goods will rise to 30% Oct. 1. Tariffs planned to take effect Sept. 1 and Dec. 15 on a further roughly $300 billion will rise to 15%, officials said.
‘“We don’t need China and, frankly, would be far better off without them,” Mr. Trump tweeted midmorning Friday after Beijing said it would place added tariffs of 5% and 10% on $75 billion of U.S. imports, phased in from Sept. 1. “Our great American companies are hereby ordered to immediately start looking for an alternative to China, including bringing your companies HOME.”’
The magnitude of what is going on here cannot be overstated. This is a reshaping of the international economic order.
Following the Second World War, the US was the world’s largest creditor nation. It helped its former enemies, Germany and Japan, to rebuild their economies. This helped both countries become export powerhouses.
While the rise of Europe and Japan caused tensions over the years, notably in currency markets, it never threatened to blow up the global trading system.
The rise of China is fundamentally different. An authoritarian dictatorship, it plays by different rules to the West. When it joined the World Trade Organisation in 2000, it did so on the proviso that it would liberalise trade and join the liberal economic order.
It didn’t do any of this. Instead of the US benefitting from accessing China’s markets, as Bill Clinton promised at the time, the US manufacturing sector was ‘hollowed out’. Thanks to a weak currency, low wages, and non-existent labour and environmental laws, China provided a cost advantage that the US just couldn’t compete with.
Nor did they try. It was more profitable for US corporates to shift operations to China. US politicians barely raised an objection. It was too profitable for everyone in positions of power to object.
And anyway, the global financial system had no way of correcting the US-China trade balance that quickly developed. The US dollar became the world’s reserve currency back in the early 1970s after severing its link with gold. As a result, the discipline imposed by gold disappeared.
What do I mean by that?
Under a gold standard, countries generating a large trade surplus (like China) would see their currencies rise and interest rates fall, to encourage consumption over production.
But China’s currency peg with the US dollar meant that this adjustment couldn’t occur. To maintain the peg, it printed its own currency and accumulated US dollar reserves. It then used these reserves to inflate credit in its domestic banking system.
This enabled China to create its own credit boom over the past decade. Now, it has a huge debt pile which poses a grave problem for the Chinese economy, and by extension, Australia.
And with Trump ramping up the trade war, China’s economy is increasingly at risk.
I’ll explain just how in tomorrow’s Rum Rebellion.
Editor, The Rum Rebellion
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