The U.S.-China Trade War Has Boosted the Risk of a U.S. Recession

By | May 20, 2019

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World shares suffered a fresh round of risk aversion on Friday following tough words on trade from China. Meantime, bets on a pro-Brexit leader in Britain whipped the pound for its worst week since October. Shanghai stocks finished Friday 2.5% in the red amid growing fallout from President Donald rump’s move to block Huawei from buying American technology. MSCI’s broadest index of Pacific shares outside of Japan were at a 15-week low and down 2.6% for the week. On Friday, the Communist Party’s People’s Daily used a front-page commentary to evoke the patriotic of past wars, saying the trade war will never bring China down. In terms of trade, the next few weeks will be important. Chinese counter-tariffs are due June 1 and of those are effective, markets will price in the risk of the U.S. imposing its additional $300 billion in tariffs ahead of the G20 meeting near the end of June.

Wall Street ended lower on Friday as continuing trade tensions pulled industrial and tech shares down. Al three major indexes struggled for direction for much of Friday, then turned decisively negative when a report from CNBC surfaced that U.S.-China trade negotiations have stalled. The Dow Jones Industrial Average lost 0.4% on Friday and was down 0.7% for the week. The S&P lost 0.6% on Friday and ended up down 0.8% for the week. Elsewhere on the multi-front Trump trade war, the president confirmed he would delay imposing imported auto tariffs by as much as six months and agreed to lift metal tariffs on Canada and Mexico. Trade headlines over shadowed economic data on Friday. The University of Michigan’s consumer sentiment index jumped 5.3% in May to the highest level in 15 years.

Trade tensions were at the top of the list for many executives last week, with markets keeping a close eye on negotiations between the U.S. and China, as well as Trump’s decision to perhaps impose broad tariffs on auto-related imports. The decision was to delay the action for six months. Meantime, retail sales stumbled again in April, falling 0.2%. We still expect consumer spending to bounce back in Q2 after a paltry Q1. Near-term growth is not getting any help from manufacturing and industrial production fell 0.5% in April. Weak auto production helped manufacturing to also fall 0.5% in April. Output in the manufacturing sector has not increased since December and is down 1.6% since then. There were hints of a turnaround in manufacturing in the Philly and the Empire Fed survey. However, given the size of the inventory build in the first quarter, some slowdown in production was expected. If there is no more damage from trade, the industrial sector might perk up soon. Housing starts did surprise to the upside, rising 5.7% and building permits also improved. The pullback in mortgage rates, lower material costs and improved builder sentiment should help keep housing afloat.

Over the past month, the U.S.-China trade war has boosted the risk of a U.S. recession, according to a survey of economist polled by Reuters. Economists now place the possibility of a recession in the next two years at 40%, up rom 35% from last month’s poll. U.S. President Donald Trump has dismissed the ongoing trade war with China as a “little squabble” but there are clear signs the conflict is already having an impact on the economy and the stock market has become jittery again. Although most economists believe that a deal with China will be reached, analysts have become more pessimistic that this may take a prolonged period. In the meantime, the level of tariffs either imposed or threatened to be imposed over the next few weeks is quite high. The economy will see damage in terms of lower production, higher prices and strained supply chains. While only a single-digit of respondents say a U.S. recession is coming in the next year, more than one-quarter of economists polled see a greater probability of 50% there will be a recession within 2 years.

Next week, we will look at existing and new home sales, the Chicago Fed National Activity Index and durable goods orders.

Latest Data

The U.S. Economy:

The NFIB small business optimism index increased from 101.8 in March to 103.5 in April, the highest reading since December. Details were generally positive. Plans to increase employment rose from 18 to 20. Plans to raise compensation were unchanged at 20%. Capital expenditures were unchanged at 27%. Expectations for the economy to improve rose from 11% to 13%. Small business confidence has held up better in recent months than some other measurements of confidence. A large percentage of jobs in the economy are created by small businesses and their expectations are important. The biggest problem small businesses have is finding qualified workers.

Retail sales were weak in April, but that followed a strong March. Retail sales fell 0.2% in April, following a 1.7% surge in March. Gains were few, led by gasoline stations, general merchandise, foods services and sporting goods stores. Excluding autos, sales rose -0.1% and excluding autos and gas, sales fell 0.2%. Sales were up 3.1% year-over-year in April, down from 3.8% in March. Motor vehicle and parts sales fell 1.1% for the month and building material sales dropped 1.9%. Retail sales remain volatile, with large month-to-month swings. Several factors can be attributed to the sales slowdown, including the fact that the stock market hasn’t really made any gains in the past year. Energy prices are up and uncertainty has played a role in the spending slowdown. Late tax refunds and the government shutdown were temporary headwinds. Growth should improve modestly. Fundamentals remain positive and should support spending. Trade is a wild card. Consumers and businesses may “pull-forward” some spending, but time is short before the tariffs raise prices on a host of household goods. Energy is another wild card. Prices have been increasing all year, but the tariffs may slow overall economic activity and reduce spending.

Stockpile growth paused in March. Business inventories were unchanged in March, after rising 0.3% in February. Among the three categories, manufacturers added 0.4%, while wholesalers dipped 0.1% and retailers fell 0.3%. Business sales rose 1.6% in March, following a 0.2% increase in February. The inventory-to-sales ratio fell to 1.37 months from 1.39. Business inventories ended the first quarter on a softer note and sales were strong. The escalating trade war is a risk for an inventory build. The higher tariffs will hurt manufacturers and wholesalers. Increased tariffs will raise prices for wholesalers, who buy many imported products. Manufacturers rely on imported items for inputs for finished products and higher prices will cut into their bottom line.

Industrial production fell 0.5% in April, the third decrease in the last four months. March results were revised higher to a 0.2% advance. The April results were mixed across industries. Mining advanced 1.6%, but utility output fell 3.5%. Manufacturing decreased 0.5% and was down 0.2% from a year earlier. Motor vehicle production decreased 2.6% in April its second consecutive decline. Production in non-auto industries fell 0.3%. Durable goods output dropped 0.9%, while non-durable goods output dropped 0.1%. Industrial production failed to impress in April, the third decline in four months. Trade remains the biggest risk for manufacturing, as trade tensions with China are escalating. The U.S. auto industry has stepped back. The global economy is weakening and there an additional headwind from the strong dollar. If no deal with China is finished, there will be a sizable negative impact on both the U.S. and Chinese economies. A 10% tariff on Chines imports is navigable, but a 25% tariff is difficult. Prices will rise sharply and there will be additional disruptions in the supply chains.


China reported surprisingly weaker growth in retail sales and industrial output for April, adding pressure on Beijing to roll out more stimulus as the trade war with the United States escalates. Overall retail sales rose 7.2% from a year earlier in April, the slowest pace since May 2003. Sales in March were 8.7%. Clothing sales fell for the first time since 2009, suggesting Chinese consumers are growing more worried about the economy. Growth in industrial output slowed to 5.4% in April, pulling back from a four-and-a-half year high of 8.5% in March. Motor vehicle production dropped nearly 16% as demand weakened. Sedan production plunged 18.8, the steepest decline since September 2015. Auto sales fell 14.6% in April, the 10thconsecutive month of decline. Fixed asset growth slowed to 6.1% in the first four months of the year, dampening projections for a 6.4% increase. Private sector investment slowed sharply to 5.5% from 6.4%, suggesting the private sector continues to face difficulties. The private sector accounts for a majority f jobs in China and 60% of total investment. The trade war is having a negative effect on China and it could get worse. Economists at Citi estimate that the U.S. tariff increase could lop 50 basis points of China’s GDP growth, reduce exports by 2.7% and cost 2.1 million jobs, although they think a trade deal would be reached eventually. Analysts at BofA Merrill Lynch believe a prolonged period of brinkmanship would drag Chinese growth to 6.1% this year, down from a near 30-year low of 6.6% in 2018.

The German economy returned to growth in the first quarter as the householder spent more freely and construction activity picked up. However, the government warned that the outlook remains clouded by trade disputes. Real GDP grew 0.4% on a quarter-to-quarter basis. The economy contracted 0.2% in the third quarter and stagnated in the fourth. Growth was driven by construction and household spending. Corporate investments in machinery and equipment helped, while state spending was slightly negative. The trade development sent mixed signals as both imports and exports picked up for the quarter. Analysts say that any growth rebound this year will be modest. The massive threat to world trade is a clear negative as well as the uncertainty caused by Britain’s chaotic departure from the European Union. The government halved its 2019 growth projection to 0.5% last month, down from growth of 2.2% in 2017 and 1.4% in 2018.

Important Data Releases This Week

April Chicago Fed National Activity index will be released on Monday, May 20 at 8:30 AM EDT. The index is expected to improve only slightly in April to -0.08 from -0.15 in March. The index sowed broad weakness through the first quarter indicating subpar growth.

April existing home sales will be released on Tuesday, May 21 at 10:00 AM EDT. After giving back in March half of February’s surge, we expect sales to rise sharply from 5.210 million to 5.60 million. Existing home sales have rebounded from last year’s slump, as mortgage rates have retreated after peaking last November.

April new home sales will be released on Thursday, May 23 at 10:00 AM EDT. Low mortgage rates helped new home sales to beat expectation in March for the best showing in a year-and-a-half. November. We look for a small pullback from 692,000 to 678,000

April durable goods will be released on Friday, May 24 at 8:30 AM EDT. Boeing cancellations of the 737 Max is a wild card in April’s report, with speculation of a large decline in orders. We project orders will fall 2.0%, following last month’s 2.7% rise. Core capital goods orders will give back some ground after the 1.3% jump last month, falling 0.7%.

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About Steve Graham

Steve is one of the premier analysts in the transportation equipment industry. On a monthly basis Steve tracks and analyzes in detail the trailer and heavy-duty truck industry. Aside from following these two sectors he is also instrumental in helping our customers analyze the economy and its impact on transportation and transportation equipment.