Monday, 26 August 2019

US faces stagflation risk, “problem is in the president”

The S&P 500 fell 1.4 percent last week, its fourth consecutive weekly decline.

The S&P 500 ended the week with a 2.6 percent plunge on Friday after China announced new tariffs on US$75 billion worth of US goods in retaliation for US plans to institute tariffs on US$300 billion worth of Chinese imports.

The Chinese announcement was immediately followed by US President Donald Trump announcing that he was ordering US companies “to immediately start looking for an alternative to China”.

This was followed by another anouncement on Friday that the US will raise existing duties on US$250 billion in Chinese products to 30 percent from 25 percent on 1 October and the tariffs on another US$300 billion in Chinese goods, which are scheduled to take effect on 1 September, will now be 15 percent instead of 10 percent.

With the continuing escalation in the US-China trade war, investors will be increasingly looking at the Federal Reserve to cut interest rates to support the economy and asset markets.

However, Alan Blinder, former vice chair of the Federal Reserve board, warned that the trade war is likely to generate a supply shock for the US economy and thus be stagflationary, resulting in both slower economic growth and higher inflation.

In such an environment, central bankers attending the Federal Reserve’s central banking conference in Jackson Hole acknowledged that there is little they can do.

“We are experiencing a series of major political shocks,” said Reserve Bank of Australia Governor Philip Lowe.

“There’s only so much a monetary policy action can do,” said Cleveland Fed President Loretta Mester.

“The problem is in the president of the United States,” former Fed Vice Chair Stanley Fischer said bluntly. “How the system is going to get around some of the sorts of things that have been done lately, including trying to destroy the global trading system, is very unclear. I have no idea how to deal with this.”

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