ANALYSIS: Phase One Signed (Eventually), Phase Two Ahead

Signing

• US President Trump and Chinese VP Liu He signed the Phase One deal after a very long ceremony. During the signing Trump made a commitment to a reciprocal visit to China in the not too distant future; additionally, stating that work on Phase Two as soon as Phase One begins (Note, VP Pence remarked that Phase Two work has already begun). Crucially, Trump agreed to remove all tariffs once Phase Two has been completed, which he believes will be the last phase, his justification for the retainment of tariffs is to have a stronger negotiating position.

Document Release

• As stated by US Officials prior to the signing, the documents of the deal were made available to the public. Desks noted that this release is neither better or worse than was anticipated, with it possible to make a case for both; as, the document itself is longer and contains more information than base-line expectations. However, the wording in the release is somewhat more vague than was anticipated. Overall, the deal is roughly in-line with expectations/source reports in the lead up to the release. Possibly the most pertinent line is regarding agricultural purchases, where it is agreed that purchases are to occur at market prices and dependent on market conditions; a point emphasised by Liu He’s remarks. ING highlight that the remarks from Liu He are slightly different to those within the text, the English version at least. Although, the agreement does not mention enforcement mechanism around agricultural purchases so it’s unclear as to how strict the US will be in judging if commitment to such purchases have been achieved; and, more importantly, if any actions will be taken if the purchases are not attained. Given the focus on the above purchases during negotiations such ambiguity in the language and views from either side increases the likelihood of a disagreement on whether purchases are compliant, and as such is a risk-factor in terms of sanction relief and the required Phase Two progress.

Purchase Breakdown

• Note, this is in USD terms with 2017 as the baseline.


• 200bln total additional purchases of US goods over 2020/21: 76.7bln in 2020 and 123.3bln in 2021


• 32.9bln additional purchases in manufacturing goods in 2020 and 44.8bln in 2021


• 12.5bln additional purchases in agricultural goods in 2020 and 19.5bln in 2021


• 18.5bln additional purchases in energy goods in 2020 and 33.9bln in 2021


• 12.8bln additional purchases in services in 2020 and 25.1bln in 2021


• In terms of the agricultural purchase amounts, in order to attain such high imports (and assuming demand does not significantly increase of its own accord) the Chinese government will need to subsidies the purchases undertaken by domestic importers. Alongside this, ING posit that they will have to substitute imports from other countries to the US, and thus may cause other countries to switch their demand from US products to other countries (e.g. Brazil). With such a switch occurring to take advantage of lower prices due to reduced Chinese demand from these 3rd party countries.

Attainability

• Post-release, the most significant concern for the deal is whether it is realistic for China to meet the purchase levels above. ING note this additional demand equates to USD 150/per citizen, a level which will be difficult to meet; especially as the Chinese Government have made it clear they wish for the long-term trend of import declines to continue.

Other Points

• The deal covers a multitude of other areas, such as: IP, enforcement, technology transfers, currency enforcement and financial services. Desks highlight that a number of these points (IP and financial services for instance) had already been addressed in earlier reforms, and so do not change the dial significantly.


• Enforcement – At the signing Trump stated that the agreement includes ‘full enforceability’, with the retention of tariffs and the promise of a Phase Two reduction the enforcement mechanism for the deal in its entirety. Specifically, for intellectual property, the deal specifies a number of measures which China must take, such as ‘recognising the importance of establishing and implementing a comprehensive legal system of IP protection and enforcement’.


• Currency Enforcement – Follows on from the US removing China from its currency manipulator list, due to steps having been taken to address their status as a currency manipulator. As such, the importance of this section is somewhat negated; nonetheless, enforcement around currency within the trade deal does provide the US with another tool in attempting to compel China to not interfere in currency manipulation.

Phase Two

• President Trump remarked that Phase Two discussion will commence once Phase One begins, while VP Pence said negotiations for Phase Two have already begun. However, in contrast to the US’ stance, Chinese VP Liu He believes it is unwise to rush into the Phase Two negotiations, stating Beijing has little interest in immediately doing so; adding, we may get nothing if we rush Part Two before completing Part One. (SCMP). It’s also worth highlighting that China do have the option to leave the Phase One deal, which would evidently derail any further talks and likely see a return to a all-out trade war between the two nations.


• Overall, the discrepancy on when Phase Two begins is not too pertinent at this stage, as Trump has made it clear that he is looking to wait until after the November US elections to begin the next Phase. With markets now expecting little to occur in terms of Phase Two until November; therefore, focus for the foreseeable future will be on determining China’s compliance to the deal alongside what, if any, enforceability measures are utilised.

16 Jan 2020 - 08:30- EquitiesImportant- Source: Newsquawk