Markets shrug off Trump trade war

Stock markets have brushed off President Trump’s contentious performance at the Group of Seven summit, continuing to climb despite increased concerns about an escalating trade war.

Trump on Saturday refused to sign a joint communiqué with six of America’s closest economic allies and trade partners after sparring with leaders over steel and aluminum tariffs.

He and two aides singled out Canadian Prime Minister Justin Trudeau in particular, while a photo of the other leaders circled around Trump in apparent frustration was released by the German government in what looked like an effort to highlight Trump’s isolation.

{mosads}So what, the markets seemed to say in reaction.

Both the Dow Jones industrial average and S&P 500 index were up 0.5 percent at the opening of trading on Monday compared to the opening on Friday, when the summit began.

Analysts say markets aren’t freaking out for several reasons, first and foremost among them that traders were not expecting a better outcome.

“I think to a large degree, the U.S. not being in the official communiqué just maintained the status quo that was already priced into the market,” said Jeff Mills, co-chief investment strategist at PNC Financial Services Group.

Trump had already imposed the 25 percent steel tariffs and 10 percent aluminum tariffs on U.S. allies ahead of the summit, and traders may have already assumed that nothing constructive would come of the summit.

Another possible reason for the tame reaction is that the tariffs that have been imposed are still relatively minor in comparison to the U.S. economy.

“I think there is a realization in the market right now is that the tariffs as they stand today are relatively small, especially next to the fiscal stimulus from the tax bill,” Mills said.

Almost 76 percent of respondents to the National Association of Business Economics (NABE) survey in May said that current trade policies will have a negative effect on the economy, but 58 percent said the effect would be nonexistent or marginal.

Moreover, 18 months into the Trump presidency, investors may be suffering from the onset of “Trump fatigue.”

There was a time when the dramatic policy pronouncements from the president and the angry messages on Twitter could rattle investors. Now people on Wall Street are getting more used to them, and acting accordingly.

“They’re putting very little weight on any piece of information that comes out on a given day, because they know it can turn 180 degrees in an instant,” said Mark Zandi, chief economist at Moody’s Analytics.

Another central reason stocks probably won’t come crashing down in the coming months is that the fundamentals of the American economy are strong. The economy added 223,000 jobs in May, dropping the unemployment rate to 3.8 percent, its lowest level in 18 years.

The economy is enjoying a boost from the combined fiscal stimulus from the GOP tax cut and the bipartisan budget act that increased spending, plus an extra push from hearty global economic growth.

Still, there are some potential dangers ahead. 

For one, the same stimulus currently pushing up the economy could cause it to overheat, leading to inflation. That could cause more aggressive action from the Federal Reserve.

On Wednesday, the Fed increased rates, as expected, to 1.75 percent – 2 percent. But it also surprised market watchers by signaling that it expects to raise rates twice more this year, rather than just once.

Another concern is that a further escalation of the trade battles could impact growth.

Europe, Canada and Mexico are already ramping up retaliatory tariffs against the U.S.

Trump has talked of imposing tariffs on foreign autos and could move ahead with that plan. He is also threatening China with billions in tariffs. If a tit-for-tat trade war continues to escalate, it could have a more meaningful effect on U.S. economic activity.

“We are going down a rabbit hole with trade. I think it could easily go off the rails,” said Zandi. “Trade potentially is a very serious threat to equity investors.”

As much as the current boost in markets bodes well for Republicans ahead of November’s midterm elections, economists are increasingly predicting that it will lose steam ahead of the 2020 elections.

Two-thirds of the economists surveyed by NABE in May predicted a downturn around 2020.

“The panelists’ views about the onset of the next recession are mixed, with 82 percent believing it will start after 2019,” noted NABE survey analyst Steven Cochrane.

By that point, economists say, the effects of the tax-and-spend stimulus will have worn off.

“By the end of the decade, it’s all going to run out,” said Zandi. “As you move into 2020, there’s going to be a void and the economy is going to weaken very sharply.”