Starting with China, its Commerce Ministry announced that due to the "US's unilateralism and protectionism" a tariff ranging from 5-10% will be levied on $75bn tranche of US-produced goods, including agricultural products such as soybeans and crude oil, which will have a two-stage phase-in starting on September 1 and then December 15 to match the dates of the latest US-implemented tariffs. It will also reinstate auto tariffs that had been suspended following constructive negotiations at last year's G20 Summit in Buenos Aires, with US-produced vehicles to be hit with a 25% tariff and auto parts to attract a 5% tariff, starting on December 15.
In the US, President Trump was quick in responding, stating via Twitter that the recently-announced 10% tariff on the $300bn list of consumer-related goods will be increased to 15%, starting from September 1. In addition, the 25% tariff currently applied to a $250bn tranche of Chinese-originated goods, mainly relating to industrial products, will rise to 30%, starting on October 1. This particular tariff initially started at 10% back in September last year, before rising to 25% in May after it was delayed from a planned January 1 increase following the progress made at the G20 Summit. President Trump also ordered US parcel companies to "search for and refuse all deliveries of Fentanyl from China".
This latest tit-for-tat caught markets completely by surprise, which had been setting themselves for a speech by US Federal Reserve Chair Jerome Powell at the Jackson Hole Symposium as the key event of the week. During his speech, Chair Powell outlined the new challenge that the Fed is faced with in terms of assessing the response of monetary policy settings to global trade tensions. Fundamentally, monetary policy is the tool at the Fed's disposal to help meet its goals of full employment and price stability based on its assessment of macroeconomic conditions, though it is of great uncertainty how trade tensions now interact within that framework. On this point, the divergence of views within the Fed's policy-setting committee was clearly evident in the minutes from July's meeting where it ultimately delivered a 25 basis point rate cut to "insure any further downside risks" to the economic outlook from "weak global growth" and "trade policy uncertainty". However, of the 10 voters to the decision, 2 had dissented against any cut at all, while another 2 had called for a larger reduction of 50 basis points.
Chair Powell acknowledged the greatly changed circumstances since the Committee's last meeting, including a further escalation in trade tensions, weak data from Germany and China, geopolitical uncertainties in the UK, Italy and in Hong Kong and volatile financial markets in which long-term bond yields have plunged. Despite all of that, Chair Powell still communicated a constructive view of US economic conditions highlighting strength in consumer spending and in the labour market. Importantly, Chair Powell avoided the "mid-cycle adjustment" statement used to describe the rate cut at the Committee's last meeting, which had unsettled markets given they hold aggressive expectations for easing, and instead opted for the less-committal commentary it has been using that it "will act as appropriate to sustain the expansion, with a strong labor market and inflation near its symmetric 2 percent objective".
Global risks are also a key focus at the European Central Bank (ECB) as highlighted in the Account of its July policy meeting. Notably, "softening global growth dynamics and weak international trade were still weighing on the euro area outlook". Furthermore, these downside risks were now seen to be "more pervasive" and could thus "necessitate a revision to the baseline growth scenario". There were also concerns expressed around inflation, in particular that a persistence of weak outcomes were weighing on inflationary expectations. That was evident again this week, with headline inflation slowing to a 1.0% pace over the year to July -- its softest since late 2016 -- while annual core inflation held at 0.9%, with both running well short of the ECB's target of below, but close to 2% (shown as chart of the week). As a result of a faltering growth and inflation outlook, the Governing Council is widely expected to unveil a package of stimulus measures at its next meeting in September, likely to include a rate cut, as well as potentially restarting quantitive easing and providing further details on a tiering structure to ease pressure on banks from negative deposit rates charged on excess reserves.
Chart of the week
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Domestically the Reserve Bank of Australia released its minutes from the August Board meeting, which was the highlight in an otherwise quiet week for local events. Following consecutive rates cuts of 25 basis points in June and July the Board held the cash rate steady at 1.0% in August, though it signaled that it is not only domestic economic conditions that are key for policy deliberations for the near term and will be taking an increased focus on developments in the global economy. Given the recency of its earlier rate cuts, the Board's stated position is that it is now "appropriate to assess developments in the global and domestic economies before considering further change to the setting of monetary policy". The Board retains an explicit easing bias, which it appears prepared to act on if its outlook for growth and inflation relative to the forecasts it presented in August's Statement on Monetary Policy were to falter, due either to headwinds generated domestically or from offshore influences.
Clearly notable was that concerns from the Board regarding the global economic growth outlook had risen, as "the escalation of the trade and technology disputes had increased the downside risks". In particular, the impact of the global trade tensions were noted as having "a negative effect on investment in many economies". However, its impact on financial conditions was also noted as being responsible for increasing volatility in markets, particularly for foreign exchange and equities, which had contributed to the shift to more accommodative stances from central banks across the globe sending long-term bond yields to historic lows. Staying with the global theme and with its own cash rate heading lower, the Board had discussed the various unconventional monetary policy measures used in other economies over recent years. While it was unable to reach a definitive analysis of particular approaches, it noted that effectiveness tended to increase when working as a package of measures rather than in isolation.
From a domestic standpoint, the Board anticipates output growth to slow further below trend in 2019 to 2.4%, down from its forecast of 2.6% back in May. However, it acknowledges that the risks over the near term indicate that growth could end up being softer than anticipated, mainly because considerable uncertainty exists in the outlook for household consumption, which is the largest component of the domestic economy. Growth in spending on goods and services by households has been slowing over recent years, weighed mostly by an enduring period of low wages growth and weak housing market conditions. A more recent headwind has come from the labour market, wherein conditions have softened highlighted by a rise in the unemployment rate and accordingly "there appeared to have been more spare capacity...than previously appreciated", meanwhile forward-looking indicators point towards employment growth moderating from its robust pace over the second half of 2019. That was largely the reason why the Board cut the cash rate in June and July, with stronger labour market conditions required to generate faster wages growth, underpin consumption, and in turn lift inflation back to target. On the other hand, the Board is clearly optimistic that some of the downside risks mentioned will dissipate next year helped by their earlier-than-expected rate cuts, tax relief for low-and middle-income earners, and improving housing market conditions.
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