Tariff Standoff Intensifies Near-Term Risks in Asia

Global equities tumbled nearly 8% last week following the announcement of US tariffs on April 2, with the rout continuing into Monday, April 7. Key Asian markets have declined 3%–13% on Monday, partly reflecting the delayed reaction from markets that were closed on Friday, while US and European markets experienced wild swings after opening sharply lower. These volatile moves underscore growing fears of a broader escalation in the global trade war, particularly after China announced a set of retaliatory measures over the weekend. These measures include commensurate levies on US imports alongside targeted measures, such as bans on critical minerals exports to the United States. Despite the negative market reaction, President Donald Trump has signaled his willingness to escalate further, including threatening an additional 50% tariff on China, and to tolerate short-term economic pain in pursuit of his objectives.

China’s rhetoric also suggests a near-term breakthrough may not occur. Indeed, an article published Monday in the People’s Daily (the official newspaper of the Chinese Communist Party) indicates the government is prepared for macro shocks and is willing to take “extraordinary efforts” to support its economy and financial markets, including further fiscal and monetary stimulus. Markets were also spooked by the People’s Bank of China setting the daily fix for the RMB to its lowest level since December, hinting China may be willing to use RMB depreciation as a weapon in the trade war. Indeed, China has been reluctant to aggressively stimulate despite a slowing economy, in part given its focus on currency stability, but also to retain firepower should the Trump administration follow through on tariff threats. Meanwhile, China has been reducing its reliance on the United States since the previous 2018 trade war. Although the United States remains the single largest destination for Chinese exports, around 70% of Chinese exports go to non-US and non-European markets. Thus, while US tariffs will still have a negative impact to China’s economic growth, China’s leadership may feel better prepared for a protracted trade war.

The key difference between now and 2018 is the rest of Asia is also facing significant tariffs, which will have a material impact, given the region’s dependency on trade. Key markets, such as Japan and Taiwan, are facing tariff rates of 24% and 32%, respectively, while Vietnam (a previous beneficiary of US-China supply chain decoupling) is now subject to a 46% tariff. The eventual levy that each individual country faces may be less severe, particularly as countries such as India, Vietnam, and other Southeast Asian economies have signaled a willingness to negotiate. However, second-order effects of tariffs on US and global demand will dampen Asian exports and the region’s growth outlook.

Overall, it seems that China is prepared for a protracted negotiation with the United States, raising the possibility that a near-term deal may not be imminent. This would increase the negative impact on global growth, particularly for export-oriented Asian economies, especially if China decides to allow the RMB to depreciate meaningfully. However, China has also signaled its intention to further stimulate its domestic economy via monetary and fiscal easing, which could help support growth and sentiments in the region. At the same time, smaller economies in Asia are actively trying to strike deals with the United States and may also be forced to aggressively ease policy to support growth. Given that Chinese and Asian equity valuations were reasonable before the recent sell-off, these markets may soon find a floor if China aggressively stimulates and/or the Trump administration starts to reach deals with individual Asian economies. But until then, Asia will bear the brunt of tariff and growth uncertainty.

Aaron Costello, Head of Asia

Vivian Gan, Investment Director, Capital Markets Research