iFund- The Potential Impact of Latest Tariff and IEEPA

2019-08-28 09:28
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Invoking the IEEPA is no different from declaring China as the top enemy of the US, and its impacts to the two countries, or the global economies would be more substantial than any policy we have ever seen. Investors should stay cautious despite we still believe the IEEPA risk is minimum at current stage.

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Financial markets are having a roller coaster ride over the past few trading days as news flow regarding US-China trade developments continues to dominate the market. First, the Trump administration announced last Friday that it would increase the existing and planned Section 301 tariffs by an additional 5% on almost all US imports from China in response to Chinese Government’s plan to impose additional tariffs on approximately $75 billion in annual U.S. imports. What’s more, the President Trump then threatened to invoke the US International Emergency Economic Powers Act (IEEPA) to curtail US companies’ transaction with Chinese entities. However, to calm things down, the President made some conciliatory statement on Monday that suggested the US and China are poised to head back to the table.

Figure 1. Latest US Tariffs details

Source: Noble Apex/iFund

What would be the Impacts to US and China growth?

The most recent tariff escalation adds more uncertainty to the US-China trade talks and bilateral economic relations, and obviously it will hurt the two economies more. According to UBS, the additional 5% tariff will likely lead to another 20bps and 30bps drag on US and China’s GDP growth respectively over a 12 months period, but not including the secondary effect of the uncertainty on business confidence and supply chain shifts. Overall, China’s real GDP growth may slow to 5.5% in 2020F, despite accounting that the Chinese Government is likely to provide more easing support this and next year, e.g. 100bp of RRR cuts by end-2019 and another 50bp of RRR cuts in 1H2020.

Is IEEPA be the next feasible tool for Trump to threaten China?

IEEPA is a 1977 federal law that allows the US President to declare a national emergency, and to use that context to regulate economic transactions with foreign countries. The law permits a president to “deal with any unusual and extraordinary threat, which has its source in whole or substantial part outside the United States, to the national security, foreign policy or economy of the United States”. IEEPA has been used 54 times since its passage, generally to block financial transactions, freeze foreign-held assets, and limit exports. Indeed, Trump had threatened to invoke IEEPA in May this year when he said illegal immigration was an emergency and threatened to put tariffs on all Mexican imports.

In theory, the IEEPA does not give the President’s the authority to force US companies to exit China and move back to US to manufacture their products. However, the US President Trump has the authority to treat China more like Iran and order sanctions, which would involve declaring a national emergency under the IEEPA, and then prohibit transfer or credit of payment to any banking institution if such transfers or payments involve any interest of China. The IEEPA also allows the President to regulate, direct and compel any acquisition or holding any property in which China has an interest. Eventually, the IEEPA will prevent future US funds from being transferred to China and makes US companies so difficult to do business with China.

All in all, invoking the IEEPA is no different from declaring China as the top enemy of the US, and its impacts to the two countries, or the global economies would be more substantial than any policy we have ever seen. Investors should stay cautious despite we still believe the IEEPA risk is minimum at current stage.

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