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The China Syndrome

One of the most famous Chinese proverbs is “may you live in interesting times”. Here in the western world we tend to find these proverbs cute when found in a fortune cookie. For obvious reasons, we don’t look for a deeper meaning. “May you live in interesting times” is actually meant as a curse, not an expression of goodwill. The connotation is that "uninteresting times" are periods of peace and tranquility whereas interesting times usually involve conflict and tension. Here at GreenPort, we have been spending considerable time discussing and researching the trade war with China. Depending on which pundit you listen to, China is either the number one or number two reason for market volatility. The Fed is the other. The S&P 500 sold off nearly 20% from its September 20th high on trade fears, it has now bounced about 10% over optimism of a trade deal.

We’ve consistently written that we believe this trade war, like the trade wars with Mexico, Canada, and Europe, will eventually work its way out. (https://www.greenportcapitaladvisors.com/insights-1). Our reasoning is that when both sides stand to lose, rational minds will find a compromise. (Granted we are assuming human beings are rational.) Why then have the trade disputes with every country but China been resolved or at least greatly improved upon, while the trade war with China continues to fester? The popular answer among economists and pollical pundits is that China can’t be bullied by the U.S. like those other countries. China has a “President for Life” in President Xi. He doesn’t need to worry about re-election or the short term economic impacts of a trade war. China is an economic superpower that can withstand U.S. tariffs. Generally speaking, the consensus is that China will not kowtow to our demands like those other countries. To the contrary, they will retaliate with their own tariffs. Indeed, that is what we have seen. We are starting to question our thinking on the trade war with China. More specifically, we’re not sure this is a trade war. It may be a war about who will be the global superpower of the future. President Trump may very well be saying “may you live in interesting times” to his good friend President Xi. It’s entirely plausible that the real strategy for the Trump administration is not to reach a trade deal. The U.S. may make the terms of any new deal so unpalatable that this trade war will never be resolved. Here’s our mosaic, perhaps conspiracist, theory; The entire western world, not just the United States, is extremely concerned about China. China has been spending enormous amounts of money to build out their military power. The extremely contentious man-made islands in the South China Sea have now been militarized despite President Xi’s 2015 promise, “no intention to militarize these islands”. Military bases on these islands now have anti-ship and anti-aircraft missiles. It takes money to do this. The Chinese economy must continue to be strong in order for China to pay for their ambitious military agenda. So, while it’s fair for the president to point to unfair trade practices and the impact on U.S. workers since China joined the World Trade organization (WTO) in 2001, Trump’s real agenda may well be to target the Chinese economy. The Chinese economy is weakening much quicker and much more sharply than anticipated. Chinese Stocks are were down 25% last year and economic numbers have fallen dramatically. China's Q3 GDP number was their lowest reading in over a decade, and it's quickly trending lower. It’s very reminiscent of how President Reagan took on the Soviets. He bankrupted them. Perhaps we are in more of a cold war than a trade war with China?

The “Made in China 2025” plan is to control 90% of the world’s most advanced industries. How do you that? You get your hands on the technology that’s already been developed. We have heard a lot about how unfair it is that U.S. companies have to sign over their intellectual property rights in order to do business in China. While this certainly harms U.S. companies, it’s becoming clear the bigger concern is China’s plans to control these industries and become the global superpower. By restricting trade, the U.S. restricts the ability of China to access this IP. We could go on. Recent articles claim the Chinese were secretly putting microscopic chips into supply chain products supplied to Apple and Google in an effort to steal information. They are definitely doing so in Africa. We believe there is a reason why reaching a trade deal with the Chinese will be much more difficult. It’s about much more than just economics. The U.S. doesn’t mind taking a mild short term hit to their economy if it means a more secure world in the future. The belief is that U.S. companies will shift their overseas suppliers from China to other countries that don’t carry 25% tariffs. Hence the reason why the U.S. made a favorable trade deal with Mexico. Let Mexico be our low cost labor technology supply chain instead of China. So what does this mean for markets? Definitely more volatility (as we are already experiencing) and a slightly slower economic growth rate in the short term. Here is the silver lining. The Fed seems to have finally paused their rate hikes. Like Don Quixote fighting windmills https://www.greenportcapitaladvisors.com/single-post/2018/12/04/Don-Quixote, perhaps Sancho pointed out to the Fed that an overheating economy and accelerating inflation is not the monster they perceive it to be. We wouldn’t be surprised by a pullback in stocks on news that trade talks with China aren’t going as well as rumored. Oddly enough, if this means the Fed holds off on further monetary tightening, it should be a net positive for markets. Have a great 2019, The GreenPort Team

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