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Tariffs to growth

9 March 2018

It has been one of those weeks where it is hard to decide where to start, where to end and what to leave out. Most welcome for investors were the ECB’s monthly announcement and the thawing of the relations between North Korea and the US. Least inspiring was Donald Trump’s introduction of import tariffs on steel and aluminium, Italy voting in majority for EU critical parties and the EU’s sobering post-Brexit free trade agreement draft.

The sudden and rapid improvement in diplomatic relations between North Korea and the US feels most relevant because it significantly lowers the main geopolitical risk of recent times. The probability of a regional nuclear showdown between North Korea and the US has, for the time being, been reduced from ‘not very likely’ to ‘highly unlikely’. Not that the simmering conflict had weighed down market valuations in the regions or globally. Nevertheless, a sudden flaring up of hostilities would have created formidable external shock potential for the global economy.

The ECB statement and Mario Draghi’s press conference comments were taken positively, as he reassured markets that the European central bank expects a continuation of the recently strong growth momentum across the Eurozone. Such reassurance was welcome, because the very latest economic data releases are pointing to a marked slowing of the recent upward momentum.

Turning to the negative news-flow, the EU’s Brexit opening gambit post Brexit stance was sobering for anybody who had hoped for leniency from the EU leadership. To me, Donald Tusk’s quote in the FT sums up the reality of the current negotiating positions:  Mr Tusk said at a press conference that he respected Mrs May’s political objective to demonstrate at any price that Brexit could be a success, but added: “sorry, it is not our objective”.

Unsurprisingly, there was plenty of wailing across the UK’s media channels and a call to adopt a more realistic and perhaps less rosy outlook for the UK’s economic conditions post Brexit.

It seems to me that the Commission in Brussels is not necessarily a true reflection of the various national government’s positions on the matter. It’s not surprising that politicians who have dedicated their lives to promoting the European ideal would find it near impossible to accept that a UK outside the EU that is not demonstrably worse than if it remained an EU member. On the other hand, there are economic interests and political pressures which should improve the UK’s position over the medium term. The election outcome of Italy’s election is one of those political pressure points. With the 5 Star movement and the Lega Nord winning a majority, the electorate showed that it is willing to support quite anti-European politicians as long as they promise they address the public discomfort about immigration pressures and government spending. The surprisingly high share of the German general election vote last year for the xenophobic AfD party points to the same conclusion.

National governments across the EU are therefore facing not dissimilar pressures to those that led to the Brexit majority in Britain. If and when the EU Commission and parliament have to recognise the growing anti-immigration sentiment through the – in my view – inevitable introduction of a European immigration management framework, the biggest ‘red lines’ of the UK over freedom of movement may no longer differ quite so much from the EU’s position.

The developments around Trump’s steel tariffs already appeared to move in a more pragmatic/deal-making direction when, on the actual announcement, Canada and Mexico were exempted and it was suggested that other strategic allies may be exempted.

Markets took the political news in their stride, as they have now done for a while and instead focused more on the economic data flow. Here, the surprisingly strong US job market numbers, combined once again with quite subdued wage growth figures, seemingly brought back the goldilocks conditions of last year’s stock market boom. Stock markets continued their recovery after the short sharp setback triggered by Trump’s surprise tariff announcement a week earlier.