Macroscope | Investor relief at US-China trade war truce smacks of complacency

Have global investors already forgotten about “Liberation Day”? Since April 2 – the day US President Donald Trump unveiled sweeping “reciprocal” tariffs on nearly all US trading partners – the MSCI All-Country World Index, a gauge of global stocks, has risen 4.5 per cent, taking its gains since the start of this year to 3.8 per cent.

The steep decline in equity markets in the week following Trump’s tariff blitz feels like a distant memory. As Jim Reid of Deutsche Bank said on May 13, “as far as markets are concerned, there’s now a belief that the worst of the trade war has passed and that the trend is now towards de-escalation”.

Weeks before the decision by Washington and Beijing on May 12 to call a 90-day truce in their trade war, a rally in stock markets was gathering steam as investors viewed Trump’s announcement of a suspension of reciprocal tariffs on countries that had not retaliated against his levies as a repeat of a familiar pattern. Announcements of punitive tariffs have invariably been followed by climbdowns in the face of pressure from markets or concerns about the economy.

The US-China trade truce was a partial return to economic sanity. Neither side can afford a de facto trade embargo, especially the United States, which faces a supply shock and the prospect of stagflation. In the International Monetary Fund’s latest economic forecasts on April 22, the US suffered the sharpest downgrade to growth this year among the world’s leading economies.

For markets, the pause in the US-China trade war, averting “the most extreme scenarios” in the words of Societe Generale, is reason enough to be bullish. Yet there is another, more troubling factor at work. Trump’s tendency to back off has lulled markets into a false sense of security by reinforcing the perception among many investors that the president’s bark is worse than his bite. It has also underscored the extent to which Trump is able to exert influence over sentiment and manipulate markets.

First, investors’ willingness to buy into Trump’s portrayal of the move from an effective trade embargo to a partial decoupling as a “total reset” trivialises the consequences of the president’s actions. Trump’s retreat should not disguise the fact that he went too far in the first place. Nobel Prize-winning economist Paul Krugman said Trump’s concession was like “when an arsonist poses as a firefighter”.