UBS On-Air: Paul Donovan Daily Audio 'Taxes, spending, and rate cuts'
As trade policy shifts under the Biden administration, recent commentary from UBS outlines a partial retreat from aggressive trade taxes, indicating that U.S. consumers and businesses bear the brunt of such measures with a potential easing in sight. Per the full note from UBS, the decision to grant U.S. car manufacturers a one-month exemption under the revised NAFTA points to rising lobbying pressures and market skepticism concerning policy coherence. Against the backdrop of this brief reprieve, market participants are likely weighing the implications for inflation and consumer spending as reflected in the broader economic outlook. The immediate future reveals no high-impact events scheduled, suggesting traders might respond predominately to evolving political narratives around trade rather than economic data releases.
What the desk is arguing
The desk believes that the initial retreat from trade taxes reflects growing domestic pressure on the Biden administration, which may encourage broader policy reevaluation. Per the UBS commentary, the one-month exemption for automotive parts could signal potential further adjustments as stakeholders advocate for more favorable terms, particularly affecting U.S. - Mexico trade dynamics.
Evidence suggests investor sentiment may be shifting toward optimism regarding trade relations, despite concerns about inconsistent policy frameworks. While UBS did not provide specific market numbers reflecting this sentiment, the response from traders indicates a cautious yet hopeful outlook regarding possible future reductions in tariffs.
Where it sits in our coverage
In our analysis, we see a consensus target of 1.075 against the USD with a range of 1.04 to 1.12. Notable firm projections include:
This view aligns with the broader market consensus, with our target sitting close to the upper bounds of the available forecasts, indicating an expectation of a gradual strengthening against the U.S. dollar.
How other firms see it
Several firms, including jpmorgan and anz, appear aligned with a bullish stance on the USD given the evolving trade scenario, while bofa presents a more cautious outlook, indicating potential risks if trade tensions escalate again.
Key pairs to observe include USD/MXN and USD/CAD as their values could directly reflect the implications of trade policy shifts, such as the evolving sentiment towards tariffs and their impact on regional economies.
How firms align with this view
Aligned with the desk view
Contrary positioning
Key takeaways
- 01UBS highlights a short-term easing of trade taxes, emphasizing domestic implications.
- 02Market sentiment suggests cautious optimism amidst political maneuvering.
- 03No high-impact events are scheduled in the immediate future.
- 04Potential for future adjustments depending on lobbying outcomes and trade policy coherence.
Market implications
Traders should watch the broader impact of trade policy shifts, particularly any developments regarding tariffs that could affect inflation rates. The USD/MXN trajectory is critical to monitor as any changes in trade agreements or a further easing of tariffs may lead to significant volatility.
Risks to this view
A reversal in this outlook could occur if trade tensions escalate again, triggering renewed tariffs or aggressive political responses. Additionally, unexpected economic indicators that imply weakening consumer sentiment could negate current market optimism.
Good morning, this is Paul Donovan, Chief Economist at GBS Global Wealth Management. It's 7 o'clock in the morning London time on Thursday the 6th of January. US President Trump has engaged in what is perhaps best considered a partial and slightly disorderly retreat on some of Monday's import taxes.
US car manufacturers do not have to pay taxes on car parts imported under the updated NAFTA agreements for a month. This does rather emphasise that it is indeed US companies and US consumers and not foreign companies that pay trade taxes. However, this exemption is only for a month.
It's not clear what US car companies can do in a month to avoid paying this tax in the future. There could, of course, be a rush to stockpile components and lobbying to avoid the tax seems to be certain. Financial markets seem to be at least partially focusing on the fact that there has been another retreat and that this may be a more optimistic signal for the wider trade tax story.
The limited reaction in the wider financial markets suggests that confidence in the coherence of the trade tax story is fading, however. Meanwhile in Europe, German bund yields rose dramatically and in a way calculated to gratify the media's demands for sensationalism in the wake of a move towards more defence spending. The increase in defence spending is not of itself a surprise, though the scale is perhaps somewhat higher and may pressure other European economies.
The longer term effects of this defence spending are likely to be more positive for the European and UK economies than has been the case in the past. European defence spending is now less likely to go on imported US equipment and more likely to go on locally produced equipment. While that shift is not likely to be immediate, it could be relatively rapid and so the marginal domestic economic boost of defence spending will increase over time.
The European Central Bank gathers against this rather interesting backdrop and is expected to lower interest rates again. The ECB regards its current policy stance as being restrictive and with headline consumer price inflation within a very reasonable range around 2%, a rate cut can be presented as moving towards a more neutral policy stance. The fiscal stimulus that is offered by defence spending is relevant, but it is taking place against an increase in spare capacity in economies like Germany and that means that the inflation impact should be considered muted.
To the extent that threats of higher US inflation come primarily from trade taxes on US consumers, there is no particular global concern, though the ECB may need to be mindful of the risks of second round deflation effects if Europe retaliates by taxing its own consumers. Yesterday's barrage of Bank of England speakers suggested that disinflation forces were in place and indeed goods prices, as measured by the British Retail Consortium's Shock Price Index, remain in outright deflation. As such, the direction of rates in the UK is also likely to be down.
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