Macro Freestyle: Trade wars and stagflation risks
The desk posits that recent US tariffs are amplifying stagflation risks, which could lead to a stronger US dollar and increased volatility in emerging market currencies. Per the full note from Standard Chartered, the implications of these tariffs extend beyond immediate trade balances, influencing global growth and inflation dynamics. The desk highlights that the US dollar's strength may be underpinned by these developments, particularly as inflationary pressures mount. With the Fed's cautious stance on rate hikes, the interplay between tariffs and monetary policy will be crucial for traders to monitor.
What the desk is arguing
The desk argues that the recent imposition of US tariffs is exacerbating stagflation risks, which could lead to a stronger US dollar and heightened volatility in emerging market currencies. Per the full note from Standard Chartered, these tariffs are not merely trade barriers but are reshaping global economic dynamics, influencing both growth and inflation trajectories.
Supporting this thesis, Standard Chartered indicates that the tariffs could lead to a significant slowdown in global growth, with potential inflationary effects that may compel the Federal Reserve to reconsider its current monetary policy stance. The desk notes that the US dollar has historically benefited in such environments, where inflation outpaces growth, leading to a flight to safety among investors.
Where it sits in our coverage
Our consensus target for the USD is 1.075, with a range of 1.04 to 1.12. This aligns with targets from several firms, including: - jpmorgan: 1.10 (Mar26) - citi: 1.08 (Mar26) - db: 1.06 (Mar26)
This view is consistent with the broader market sentiment, particularly from jpmorgan, which is also aligned with our target at the upper end of the range. The desk's position reflects a cautious optimism about the dollar's strength amid ongoing stagflation concerns.
How other firms see it
Several firms, including bofa and gs, are more skeptical about the dollar's strength, suggesting that the tariffs may not have as pronounced an effect on inflation as anticipated. In contrast, jpmorgan and citi support the desk's view, emphasizing the potential for a stronger dollar amid rising inflation.
Traders should keep an eye on the USD/JPY pair as it may reflect the broader implications of US monetary policy and tariff impacts. Additionally, the trajectory of US inflation data will be crucial in shaping market expectations moving forward.
What the calendar says
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Hello, I'm Eric Robertson, Global Head of Research and Chief Strategist at Standard Chartered. And I'm Madhur Jha, Global Economist and Head of Thematic Research, also here at Standard Chartered. Welcome to Macro Freestyle, our monthly podcast series where Madhur and I will identify and explore topics that are likely to be most impactful and relevant for financial markets and the global economy.
We are here again with another episode of our podcast, and this time we will be discussing trade wars and stagflation risk. But before I begin, can I just take a moment, Eric, to congratulate you on an incredible personal achievement, a 30-kilometer swim around Dubai World Islands. How impressive is that?
How did that feel? Exhausting is the first thing that comes to mind, and waterlogged. I'm still getting the water and everything out of my ears.
But it was a great adventure, 30 kilometers in the ocean with my swimming partner, all for good causes to raising awareness for autism and juvenile arthritis. It's really, really impressive. And I guess having been in choppy waters, the current market volatility should feel fairly familiar to you.
So Eric, we're recording this podcast on 4th of April. This is just 48 hours after the Liberation Day announcements and just a few days into the second quarter. What has surprised you about the event so far and what has been in line with your expectations?
Madhur, look, I think it's important to break this up into two buckets. The first is pre-announcement and then, obviously, the 48 hours afterwards. Going into the announcement, I think Q1 was really a story of the counter-consensus trade.
We had an unwind of kind of U.S. exceptionalism, and we've had a resurgence in optimism towards the euro area and, to a lesser degree, towards China. And I think what's interesting about that is it suggests that there are some really important title shifts that could potentially happen this year, both for the euro area and for China. In terms of the response post-Liberation Day, I think there's a few things that are worth highlighting.
Number one, the tariff announcements were bigger than expected, and I think the market had been a little bit complacent going into this. We've seen a big response in risky assets. They've traded very poorly, whether it's equities or credit, on the idea that global growth is now more vulnerable than it was, and I think that makes sense.
We've seen global interest rates come down on that global growth concern. The biggest surprise, I think, has been the decline of the dollar. The dollar has gone down, which is not your typical response when risky assets are performing poorly.
And clearly, I think there are some concerns that even though global growth may be vulnerable, U.S. growth may be even more vulnerable. And that's what's causing a shift of flow out of the dollar. So those are the two things I would highlight.
Staying with the theme of the Liberation Day and tariff announcements, how do you think markets have interpreted Liberation Day, and which markets have responded as you would have expected, and which have surprised you? I think markets had almost been lulled into a little bit of a false sense of security going into the announcement, thinking that maybe the tariff announcement wouldn't be so bad. I think we would all agree that actually for many of the targeted countries and economies, the tariff number, per se, was much stronger than expected.
And I think the key point to make is that that is unequivocally going to have a negative impact on global trade and global growth. Now, what I think is interesting is that the equity markets, and let's call it risky assets in general, have responded very poorly. And I think that's almost stating the obvious.
We've seen a big decline in global interest rates around the world. Now, in some ways, that makes sense because of the hit to global growth that people are now expecting. But we also have to consider that there was a lot of talk of stagflation, especially for the U.S. economy, going into tariff announcements.
And the market seems to have ignored that for now. In other words, they've put aside the inflation concerns and focused almost exclusively on growth concerns. Now, for emerging economies, that's not necessarily a bad thing.
Slightly stronger currencies, a decline in rates, that gives their central banks room to cut interest rates. But I think this tension between the impact on the U.S. versus the impact on E.M. is going to stay with us for a while. Madhur, these tariff announcements have been pretty explosive.
I don't think there's any disputing that. But what do you see as sort of the immediate impact on the global trade landscape? And what are some of the subtle differences that you think maybe people are not paying enough attention to?
I think using the word explosive is a very good characterization of what's happened over the last week. If you remember, on the last podcast, I had been suggesting that people shouldn't assume that there would be no universal tariffs, that there could be universal tariffs again. And what President Trump has done is that he has imposed not just a universal baseline tariff, but also reciprocal.
And as you already mentioned, the scale of the tariffs has been way higher than anything you can imagine, not only in terms of the rate of the tariffs being higher, but also how broad-based the tariffs are and how quickly they are being implemented. There really is no gap between the announcement and the implementation dates. So clearly, the U.S. is trying to change the rules of the trading game.
This is going to have significant implications for global trade, but also for global growth. Our estimates suggest that there'll be about 50 basis points hit to global growth over the next year. This is without taking into account any retaliation from trade partners.
So if you do have retaliation, then the hit is actually going to be even higher. When you're looking at the numbers and you're also taking into account the exemptions that have been given on goods that are excluded from these tariffs, a few countries look worse hit and Asia particularly looks pretty badly hit. Some countries in ASEAN actually have a hit of about one and a half percentage points to their growth.
And other countries, for example, in the Latin American region, look slightly better placed. So clearly, there are going to be implications for monetary policy, for fiscal policy in these economies. The one source of comfort is that the U.S. administration officials have been talking about this as a cap and that these could be negotiated downwards.
So it opens the scope for negotiations, but it also implies that there's a long period of uncertainty ahead of us. I want to dig deeper into that because one of the things that we have all talked about in the months leading up to this announcement was the possibility for major economies like China to redirect their exports as a way of saying, well, we're not going to be able to benefit from U.S. demand as much as we used to, so we need to find a new market to sell our goods to. But the nature of these tariffs is they're so all-encompassing in terms of the global economy that there's really no place to hide.
And I guess that gets me to the second follow-up point, which is this issue of retaliation, because if countries can't avoid or evade tariffs by redirecting their exports, then they may actually be forced to try and retaliate. That brings us to the issue of trade uncertainty, and I wondered if you could elaborate on that a little bit. Sure.
I think it's a really important point that you bring up. There's clearly a desire and a willingness to try and find some sort of a negotiated settlement, and that's positive for the global economy. However, I think you're very right to say that some of the bigger economies might be forced to take a more aggressive stance against the U.S., given the fact that there is very few other destinations for the exports.
I mean, the Europe area is very weak. China's domestic demand story is very weak. You really need to find some sort of a solution.
The risk is that if there is an escalation, something like services trade, which is so far excluded, starts being included into the response. The EU could very well target the U.S. on the services side, and that's really quite a key theme. So, you're very right to say that trade uncertainty is going to remain elevated.
Our own estimates suggest that it's enough to keep worries and concerns about the global growth story in place, because trade uncertainty impacts and lowers growth and inflation through the impact on lowering business confidence, consumer confidence, reducing capital and trade flows. So, clearly, there's a lot of uncertainty in play, and that will itself have a negative impact. So, Eric, you were surprised by how people are focusing on just the growth risks and not on the stagflation or the inflation risks.
But do you think that it's just growth, or do you think that the real risk is stagflation? I guess what I should do is put my hand up and say that, you know, since the start of the year, I have assumed that the question of stagflation was really a question of sequencing. And what I mean by that is I thought that as a result of tariffs, you would first see inflation and inflation expectations in the United States go up.
And then in response to that, you would see the hit to consumer demand and business demand. The hit to growth would come in a reaction to a higher price level. Now, what's really interesting, and I'm speaking just about the U.S. still, is the markets have done this in reverse, or if anything, they've looked through the inflation impact and gone straight to the growth impact.
So we're not seeing stagflation risk here, we're seeing risk around growth. And that's affecting U.S. Treasury yields, it's affecting credit spreads, it's affecting the U.S. dollar, all in the same direction.
Now, maybe what's happening, and this is, you know, impossible to know until we see more evidence of it, is when the tariffs actually are implemented and you start to see the spillover into consumer prices, maybe you will see an increase in the price level and an increase in inflation expectations later. And we have to remember that if the Trump administration responds to weak growth with more fiscal stimulus, that may just exacerbate the inflation expectations story. So look, I still think stagflation is a major risk for the U.S. economy, but maybe the sequencing is happening in the reverse order that I had originally assumed.
And I think this is going to be a key theme that plays out in terms of the divergence that you might see on a global basis, right? Well, this is 100 percent the issue, right? Because, you know, in some ways we assumed that inflation risk would be to the upside for the U.S., but to the downside for the rest of the world, certainly for emerging economies.
And one of those themes was around the idea that China would be forced to redirect exports to other markets. And they would do so by using the price lever to try and keep their goods competitive. And that would effectively export China's deflation to the rest of the world.
And you get this big inflation divergence. What we may be seeing is that actually inflation is going to diverge significantly, but later in the year. It's not a first half story.
It's a second half story. And I guess that brings me to my next question for you, Madhur, which is, is there a risk of a deflationary spiral in the rest of the world, ignoring the U.S. for a second? I think there's definitely going to be disinflationary pressures, as you've already mentioned.
Growth is fairly weak in the euro area in China. There is an overcapacity problem in China. China has to find a home for its products elsewhere.
Our analysis has shown over the last two years, they have very aggressively cut prices to be able to export. And to be able to match Chinese exports and stay competitive, other Asian economies have also had to lower their prices quite significantly. And that might persist over the coming quarters, because we are going to see this escalation in deflationary pressures within China itself, which will then spill over to disinflationary pressures in Europe and other parts of Asia.
And this, together with concerns about growth, made us change our expectations for how central banks might react. We are already looking for the monetary easing profiles of central banks in Asia to be longer for them to bring forward some of the monetary easing or to even extend the monetary easing that we were expecting. And there are also risks being raised about how much other central banks can do, whether they need to go further in terms of monetary easing.
So you might see this divergence where there are questions raised on how much the Fed can do because there's stagflation, but then for the other central banks, whether they need to do a lot more because there's this disinflation and weak growth story. And maybe staying with China and the disinflation and the deflation issues there, Eric, you were in China recently for client meetings. What's the thing that surprised you most while you were there?
I guess there's two themes that are worth highlighting to our audience. The first is that every time I go to China, I am surprised on the upside by the scale of the technology innovation and the technology sophistication. So it's really extraordinary what is being produced and the scale at which it is being produced and the quality of the products that are being produced.
But this goes hand in hand with the excess capacity story, the ability to produce so much high quality goods at scale is exacerbating this deflation story. But the tech resurgence, if you will, and we're seeing this in equity prices, but this revival of sentiment towards the technology sector is, in my opinion, very, very real. Whether that can be monetized in a way that is profitable and overcomes the deflation is the second question.
And that's my second theme, which is the cost of living, the cost of goods and services, the deflation is very much well entrenched in China. And so I don't think further monetary stimulus, which we actually expect will happen, but I'm not convinced it solves the problem, which gets to the point of fiscal stimulus. And I think we all agree that if China really is going to jumpstart its economy, you need to see renewed focus on consumer demand and private sector demand and included in that a demand for credit, which helps to resolve the deflation story.
So there's some very positive tailwinds, but also some deeply entrenched headwinds that are still unresolved in China's economy, in my opinion. Maybe, Eric, staying with this theme of headwinds and tailwinds, maybe looking in particular with respect to tariff announcements and all the doom and gloom around that, are there any opportunities that we might be ignoring? There are one or two that really spring to mind, and I don't know if they're opportunities, but just topics that maybe need to receive more attention.
One of them is the significant redirection of trade flows, because if economies around the world start to feel like the U.S. is an unreliable trade partner, you're going to see them redirecting their supply chains, redirecting their investment. And I think what we will see is an exacerbation of some of these new trade corridors that we've seen, whether it's between the Middle East and Asia, Asia and Eastern Europe, Asia and Latin America. And so one of the things that I think we need to watch very carefully is the shift in trade patterns that we may see over the next six to 12 months on the assumption that people can't negotiate a better solution or settlement with the U.S.
That I think is the most interesting one. The second one, which we've talked about extensively already today, so I won't go too much into it, is this issue of inflation divergence and what it means for the U.S. versus rest of the world. And are there any other things that you think markets are not focusing on yet that should be getting a little bit more attention?
There is one, which is that, as I mentioned at the start of our discussion, we've seen the U.S. dollar go down along with risky assets. And that is a break from historical correlations. Usually when risky assets perform very poorly, you see a flight to the dollar as a safe haven story.
We're not seeing that this time. And so if it continues, maybe it suggests that there's a structural or a tidal shift in the way people think about the dollar as a reflection of U.S. policy and the U.S. economy. It could also just be a very temporary position unwind.
But this change in correlation, you know, is something I believe we have to pay close attention to. Usually the correlations change before the fundamental change is obvious. And I think that's a narrative worth paying attention to.
So in terms of the second quarter, how the dollar behaves and how the relationship with other asset classes evolves, I think is going to be the key story for us. Okay, thank you so much, Eric, for a very interesting discussion. And thank you to all our listeners for tuning in.
We hope you will be able to join us again in a month's time for the next episode of our podcast, where I think we'll have so many more things to discuss and analyze. Thank you for listening to Macro Freestyle, our monthly podcast series on all things macro. Please do join us again for next month's edition.
This podcast is provided for informational purposes only. It does not constitute a personal offer, recommendation or solicitation to enter into any transaction or adopt any hedging, trading or investment strategy, nor does it constitute any prediction of likely future movements in rates or prices. All related disclosures and disclaimers can be viewed in the link in the description accompanying this podcast.
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