A nascent relief rally in markets is stalling out as hopes for a thaw in the US-China trade war unravel amid contradictory signals from officials. The dollar is coming under selling pressure once again, Treasury yields are inching lower, and equity futures are cruising toward renewed losses at the North American open.
Risk appetite improved enormously yesterday morning when the Wall Street Journal reported that the Trump administration was planning to reduce tariffs on China by roughly half — from 145 percent to somewhere between 50 and 65 percent — dovetailing with the president’s somewhat-conciliatory comments on Tuesday evening, when he suggested that overall levies “will come down substantially, even as he noted “It won’t be zero. It used to be zero.”
But the ebullience didn’t last. Speaking with reporters after a speech at the Institute of International Finance, Treasury Secretary Scott Bessent warned the president wouldn’t reduce tariffs unilaterally, saying “there would have to be a de-escalation by both sides”. He poured cold water on the idea that progress would be made imminently, acknowledging a lack of communication on trade, saying “Both sides are waiting to speak to the other,” and noting that it could take “two or three years” to rebalance the relationship. Beijing later confirmed this, with a spokesman saying “China and the United States have not held consultations or negotiations on the tariff issue, let alone reached an agreement.”
The Federal Reserve’s latest Beige Book survey showed policy unpredictability beginning to take a toll on business activity. The anecdotal report, compiled by staff across the central bank’s twelve districts, contained at least 80 mentions of the word “uncertainty,” and “tariffs” appeared 107 times, with both factors smashing any precedent in the 54 years since the survey began. Businesses reported suffering renewed price constraints – with most making plans to pass higher costs on to their customers – and a greater reluctance to invest, leading some districts to report a slowing in hiring activity. The Fed is scheduled to deliver its next rate decision on May 7, and most market participants think officials will stay on hold for now as they wait for economic conditions to evolve. Policymakers are seen delivering at least three cuts this year, suggesting that downside risks to growth are expected to outweigh inflation pressures at the end of the day.
President Trump again took aim at Canada in remarks delivered after the North American close from the Oval Office, repeating previous claims that the US is subsidising the country to the tune of $200 billion a year, suggesting that it should become the 51st state, and saying that levies on vehicle imports could rise further. “When I put tariffs on Canada – they’re paying 25 percent – but that could go up, in terms of cars,” he said. “All we’re doing is we’re saying, ‘We don’t want your cars’, in all due respect. We want, really, to make our own cars.”
In comparative terms, the Canadian economy is in better shape than we had feared a month ago. Effective tariff rates are currently set roughly five times lower than south of the border, so consumers aren’t facing a price shock on the same scale. The next government — Conservative or Liberal — is likely to increase spending substantially, helping to narrow the fiscal gap with the United States. Moves to reduce interprovincial trade barriers and recalibrate tax rates could help narrow competitiveness differentials.
But the economy is hardly in the clear. Unprecedented levels of uncertainty are crippling decisionmaking at the business, investor, and consumer levels, with the consequences — lower investment, slower hiring, and weaker consumption — likely to show up in hard data over the coming weeks and months. Weaker American demand will take a toll on exports once temporary front-loading effects are washed out, and oil prices are near four-year lows, meaning that investment in new production will remain almost non-existent. If the US doesn’t significantly water down its tariff regime, we expect the Bank of Canada to deliver at least two more rate cuts this year, keeping relative yields under pressure.
In our view, the Canadian dollar’s recent appreciation against the US dollar doesn’t reflect an improving domestic outlook – the currency has lost ground against all of its major-economy counterparts this year. In foreign exchange markets, everything is relative, and although traders remain bearish on Canada’s prospects, they have also revised expectations for the US economy down by an even greater degree, generating a modicum of outperformance in the trade-weighted loonie. Time will tell – and much can change – but the real verdict on Canada’s future hasn’t yet been pronounced in currency markets.
