Investors nervous as trade war flares up again

Financial markets will start the week on a knife’s edge as the US and China engage in counterattacks over tariffs.

US Federal Reserve chairman Jerome Powell. Picture: AFP

Financial markets will start the week on a knife’s edge as the US and China engage in counterattacks over tariffs, reigniting the trade stoush and rattling investor nerves as central bankers reel over any fallout in the global economy.

The escalation in trade tensions at the weekend came as a G7 leaders summit was held in France and central bankers shared views at a monetary policy retreat in Jackson Hole, Wyoming.

Treasury yield inversions and the risk of a global recession have been top of mind for policymakers and investors.

They were exacerbated by China saying it will impose new tariffs of $US75 billion on US goods, and President Donald Trump responding on Friday with a string of punitive measures, including raising tariffs on $US250bn in imports from China to 30 per cent.

This sparked a savage selldown in Wall Street with the Dow Jones Industrial Average falling by 2.4 per cent on Friday. At the same time the “yield curve” for 10-year and two-year US government bonds inverted again, signalling that recession is close.

“Unfortunately the tone has now reached a level where it feels impossible,” Escala Partners’ chief investment officer Giselle Roux said of reaching a US-China trade resolution. “It would appear that the Chinese are going to attack rather than play defence.”

Ms Roux said the current situation didn’t bode well for central bankers who were caught between politics and monetary policy and didn’t have “a lot of ammunition left”.

Federal Reserve chairman Jerome Powell gave a strident warning about the risks to the US economy from the latest trade tensions in a key speech on Friday.

“Trade policy uncertainty seems to be playing a role in the global slowdown and in weak manufacturing and capital spending in the United States,” he said.

“We have seen further evidence of a global slowdown, notably in Germany and China. Geopolitical events have been much in the news, including the growing possibility of a hard Brexit, rising tensions in Hong Kong and the dissolution of the Italian government.”

Mr Powell flagged that the central bank stood ready to make an additional interest rate reduction soon following last month’s cut, the first in more than a decade.

Reserve Bank governor Philip Lowe also highlighted the threat of political shocks to economic growth and cautioned against a reliance on aggressive monetary policy that risked creating asset price bubbles.

“Political shocks are turning into economic shocks,” Dr Lowe said at the Jackson Hole conference. “Monetary policy cannot deliver medium-term growth.”

Dr Lowe reiterated the need for governments to boost infrastructure spending and pursue structural reforms to help buoy the global economy.

The latest bout of trade blows rattled investors, with the S&P 500 Wall Street benchmark tumbling 2.6 per cent and the tech-focused Nasdaq off 3 per cent. Local futures markets are pointing to the Australian bourse opening 1.3 per cent lower, with the US markets tipped for even sharper falls.

“When you look at where the markets are and the levels they are, they are not pricing in the potential volatility and downside,” said Concentrated Leaders Fund chief executive David Sokulsky. “There is a lot of risk.”

Mr Sokulsky said while Australia still had fiscal and monetary policy levers at its disposal, policymakers would tread cautiously.

“I find it hard to see how there is a trade resolution in the near term,” he said.

“The RBA will cut rates to try and get the Aussie dollar down to 60c.”

The trade ructions at the weekend saw Citigroup global economists change their “base case” scenario to no US-China trade deal being reached before the 2020 presidential elections. They left open a 40 per cent prospect of some agreement being reached.

“Worsening re-election prospects, weaker activity data and/or equity market performance could trigger a ‘veneer of a deal”, they said. “We stress, however, that the US’s most extreme retaliation, if the administration invokes IEEPA (International Emergency Economic Powers Act), could include restricting or taxing Chinese purchases or holdings of US assets and restricting China’s access to US financial markets.”

Bank of England governor Mark Carney told Dow Jones the trade war being pursued by the US would weigh on global economic growth and risked putting a dent in business investment. “The pick-up that we’ve been expecting in global growth has not transpired,” he said, noting the latest trade tensions could spur an investment slump in the US and global economies like the UK during Brexit.

With Agencies