Understanding the tides: protectionist undercurrents

Feature | 24 August 2017

Geopolitical risks show no sign of receding and will force traders to swim carefully in almost every region, as protectionist rhetoric and its tidal waves continue to be felt, say Roddy Barnett and Emma Whiteacre

President Trump's 'America First' doctrine, with its focus on arresting the decline in US manufacturing jobs, could imply a dramatic shift in the global trading landscape. With politically sensitive bilateral trade deficits with China, Canada and Mexico widening, the momentum for reactive measures appears to be growing, yet clarity on US foreign and trade policy remains elusive.

For global exporters, the prospect of retaliatory action and trade wars is disheartening. The consequences for emerging markets and the companies that trade with them will be a hit to growth and increased political and credit risks.

Uncertain times

The global framework of trading norms and multilateral agreements is facing a catalogue of assaults, which are increasing operating challenges.

The World Trade Organization's (WTO) global trade growth forecast for 2017 is 2.4%, but US policy uncertainty has prompted it to couch its prediction within a range of 1.8-3.6%. Such uncertainty stems from the potential implications of recent US policy decisions such as the withdrawal from the 12-nation Trans-Pacific Partnership, the current renegotiation of the North America Free Trade Agreement (Nafta), the spurning of the Paris Climate Change agreement, mooted import tariffs on steel, and the Trump administration's position that US sovereignty supersedes the authority of global bodies, including the WTO.

These measures could raise the costs of doing business with the US, hit global supply chains, lower investor protections, and hamper economic growth and job creation in exporting nations. The corollary of this is the risk of heightened credit distress among emerging market counterparties, raising the potential for payment delays and defaults.

Foreign direct investment (FDI) flows could also be constrained. After falling by 13% globally last year - and by 20% to emerging markets - the UN Conference on Trade and Development (Unctad) said that although global economic fundamentals should point to a 10% growth in investment this year, "significant uncertainties about the shape of future economic policy developments could hamper FDI in the short-term1".

US trade with China

An obvious target of President Trump's protectionist instincts is China. His rhetoric has eased since coming to power and he has backtracked on his pledge to label China a currency manipulator, while trade negotiators have reached an agreement to restart stalled US beef and LNG exports to China. But Beijing's failure to rein in the North Korean regime appears to be souring the briefly harmonious relationship between the two countries.

A potentially explosive area of dispute is Beijing's case before the WTO, against the US and EU as it seeks the status of 'market economy'. Trump's trade representative Robert Lighthizer has said that a decision to shift China's designation would be "cataclysmic" for the WTO's standing.

The Trump administration continues to float the prospect of targeting steel and aluminum imports with additional tariffs outside the WTO structure, a move that seems designed to target the over capacity in China's steel industry. The consequences of such moves would be felt beyond the two countries' respective steelmakers. Goldman Sachs analysts estimate that a 10% tariff on Chinese steel imports into the US would cut them by up to 25% and possibly knock one percentage point off Chinese economic growth, which would dampen activity in countries dependent on Chinese trade demand. Retaliatory action on the part of the Chinese would compound this effect.

Encouragingly, China, alongside Japan and South Korea, recently pledged to resist all forms of protectionism, taking up the mantle of global protector of open economies, just as the US is threatening to abdicate it. However, Beijing seems unlikely to let trade restrictions go unanswered. As the US's largest creditor, it also has significant financial levers to pull and could start offloading some of its US Treasury holdings (which could further worsen global trading conditions).

Russian sanctions continue

Since the US and EU imposed sanctions on Russia, particularly on its banking sector after the latter's 2014 annexation of Crimea, these trading relationships have been difficult. President Obama extended sanctions and seized Russian-owned properties over Russia's suspected interference in the presidential election last year and Trump continues to face highly uncomfortable questions over his campaign's Russian dealings.

These sanctions look unlikely to be lifted any time soon. Russia has also extended its retaliatory sanctions on western food imports until the end of 2018. These measures have transformed domestic food production so when lifted, exporters will find it hard to regain access to this market.  

Trade and investment flows have been hard hit by the sanctions and the global oil price decline. US exports to Russia have reduced from US$10.7bn in 2014 to US$5.8bn in 2016, and FDI inflows have also fallen. Nevertheless the severe recession of 2015-16 is giving way to a reasonable recovery, and credit risks are reducing, but in the absence of a significant economic restructuring and diversification, Russia's economic outlook remains constrained.

China and Latin American trade

Although close to the US through trade and investment links, Latin America appears to be low on the US's policy agenda. This sense of abandonment is reinforced by the antagonism of Mexico with its renegotiation of Nafta and border wall plans. The region's economy contracted last year, but is now experiencing a moderate recovery.

Its heavy commodity mix is making it a prime target for China, which is investing heavily in infrastructure and companies. Beijing is promising to increase trade by US$500bn and FDI by US$250bn by 2025.  

Middle East trade risks

The Middle East is a region where geopolitics influences economic and trade outcomes most profoundly. The political risks of trading with, and investing in the region have been on the high side in recent years, but current US policy ambiguity doesn't help. The lower oil price is decimating public finances and external accounts among the oil exporters. The region's large structural current account surplus turned to a large deficit in 2015 and is not expected to recover in the near-term. The US's increasing energy independence and status as net exporter of refined petroleum products threatens the erosion of the region's key export markets, such as China.

President Trump's visit to Saudi Arabia and Israel in May 2017 was an important relationship-building exercise, particularly following the perceived slight over the administration's efforts to impose US travel restrictions on people from six mainly-Muslim countries.

But his apparent siding with the Sunni regime risks alienating not only Iran, but also the Iraqi government, the key regional actor in the fight against the Islamic State (IS). His voiced support for the Gulf Cooperation Council's embargo against Qatar, where the US has its largest regional military base and with whom it has lucrative defense contracts, was followed by a state department corrective and reveals a lack of understanding of regional sensitivities.  

Roddy Barnett is a political risk underwriter and Emma Whiteacre is country risk analyst at Beazley London  


1. See Unctad's report on 2016-17 FDI figures: http://bit.ly/2kR48lW

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