Source : THE AGE NEWS
The US Federal Reserve Board, as expected, is sitting on its hands as it waits to see the effects of Donald Trump’s trade wars on the US economy. Its Chinese counterpart, the People’s Bank of China, however, has responded to the damage already occurring within China’s economy.
The differences in stance don’t reflect calm in the US and panic in China, but the leads and lags within the trade wars that Trump launched.
The impact of Trump’s 145 per cent tariff is already starting to show up in China.Credit: Getty Images
The Fed’s stance, holding US interest rates steady for the third meeting in a row, wasn’t a surprise. While the US economy did contract in the March quarter as businesses and consumers rushed to get in ahead of Trump’s tariffs, the impact of the April 2 “Liberation Day” tariffs will take time to show up in economic data.
Meanwhile, the underlying economy is in reasonable shape, with low unemployment, strong corporate profits and the inflation rate, while inching down, still above the Fed’s target.
As Fed chairman Jerome Powell said on Wednesday: “The risks of higher unemployment and higher inflation have risen, but they haven’t materialised yet.”
In China, the impact of Trump’s 145 per cent tariff on its exports is already starting to show up, as US importers defer or cancel orders that would otherwise face prohibitive duties. Imports arriving at the key port of Los Angeles are forecast to be 35 per cent lower this week than they were a year ago.
As US Treasury Secretary Scott Bessent has said, with a tariff rate of 145 per cent on imports from China and China’s 125 per cent retaliatory tariffs, there is effectively a trade embargo in place between the two economies.
That will show up initially in China, with shrunken demand for its goods and therefore reduced activity and employment in its factories and significantly lower demand for its container ships, with the impact on the US – higher prices and empty shelves in stores – yet to come and delayed by the massive front-loading of orders in the March quarter, before the tariffs were imposed.
Given the lags in impacts, it was logical that the PBOC should be the first of the two central banks to move. On Tuesday, it unveiled a package of monetary policy support, including a 10-basis-point cut in its key short-term interest rate, a 50-basis-point reduction in the required reserve ratio for its banks, more credit available for consumption, aged care and the tech industries, and cheaper credit for mortgages.
Jerome Powell and the Fed are in wait-and-see mode. Credit: Bloomberg
In effect, it is making more liquidity and credit available within its financial system although, in the continuing absence of fiscal stimulus from Beijing, it is an open question whether there will be any demand for that credit from Chinese businesses and consumers that were in a defensive mode even before Trump’s assault on global trade.
The PBOC’s announcement might also have been designed to send a message to the Trump administration ahead of this weekend’s meeting of Chinese and US officials in Geneva: that China has levers to pull to blunt the effects of the trade war. The absence of fiscal stimulus could be interpreted as a sign that Beijing isn’t panicking – it has its “bazooka” in reserve.
The meeting between Bessent and China’s Vice Premier He Lifeng isn’t going to produce a trade truce. As Bessent told Fox News, they will be initial talks to “agree what we’re going to talk about”.
“My sense is that this will be about de-escalation, not about the big trade deal,” he said.
Any actual trade deal between the US and China could take months, if not years, to thrash out, and it is unlikely that, during the remainder of Trump’s term, they will be reduced to anything close to the average of about 20 per cent rate they were before Trump began ratcheting them up this year. (The 20 per cent rate was a legacy of Trump’s first trade war in 2018-19 which Joe Biden retained.)
During his election campaign last year, Trump promised a 60 per cent duty on all imports from China, which is probably the US’ final position in any negotiation. Trump has said Americans will need to accept higher prices and reduced choices if his attempt to return manufacturing investment and employment to the US is to succeed.
Before April 2, the average US tariff on imports was only 2.5 per cent. The best outcome now appears likely to be a minimum average tariff on all imports to the US of at least 25 per cent, although with Trump dreaming up new tariffs and forms of tariffs – the “Hollywood” tariff on offshore film production, the first tariff mooted on services rather than goods, is the most recent example – it’s anyone’s guess where the final imposts will land or what their eventual impact on the US economy will be, other than that it won’t be positive.
That explains why the Fed is frozen in “wait and see” mode.
In its formal statement, the Fed said that uncertainty about the economic outlook had increased further and the risks of higher unemployment and higher inflation had risen.
Given the lags in impacts, it was logical that the PBOC should be the first of the two central banks to move.Credit: Bloomberg
Powell told a news conference that “it’s not really clear what it is that we should do” and that he could not yet say “which way this will shake out” in terms of being more worried about inflation or growth. The costs of waiting, he said, were still low.
The Fed couldn’t act pre-emptively to head off the inflationary impacts of the tariffs “because we actually don’t know what the right response to the data will be until we see the data”, he said.
“If the large increases in tariffs that have been announced are sustained, they’re likely to generate a rise in inflation, a slowdown in economic growth and an increase in unemployment,” Powell said.
“The effects on inflation could be short-lived, reflecting a one-time shift in the price level,” he added.
It was also possible, however, that the inflationary effects could be more persistent, he said.
Powell said it was premature to declare which side of the Fed’s dual mandate – inflation and employment – would be prioritised.
That’s the Fed’s dilemma. If the inflationary effects of Trump’s tariffs are transitory, it would cut rates to protect growth and employment.
The differences in stance don’t reflect calm in the US and panic in China, but the leads and lags within the trade wars that Trump launched.
The Fed is acutely aware, however, that when it declared the impact on inflation of the pandemic to be transitory and lowered rates further than, with hindsight, it should have, it unleashed a wave of inflation it is still battling to contain. It can’t afford to make the same mistake again.
The Fed prides itself on being data-driven. It will wait for the data, which means it will be reacting to the effects of the tariffs after they have already emerged, rather than trying to pre-empt them.
There are big risks in either course of action, but the damage that would be done by another big outbreak of inflation would probably outweigh the costs associated with higher interest rates and unemployment.
Financial markets, after the initial violent response to the Liberation Day announcements, have calmed, anticipating that the wiser heads (Bessent and Commerce Secretary Howard Lutnick) within the Trump administration will ensure that Trump’s trade deals end up generating positive headlines for Trump without inflicting significant economic damage and that US rates will be falling, not rising, in the second half of the year.
Given the level of uncertainty about the outcomes of the trade negotiations already underway, the difficult ones with China that, despite the weekend discussions, aren’t guaranteed to eventuate, and the time it will take for the effects of the final tariffs to show up in the economic data, that might be overly optimistic.
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