U.S.-Chinese trade talks could easily result in market disappointment
Markets fully expect FOMC rate hike at its next meeting in June
ADP employment report expected to show a solid increase
Weekly EIA report
U.S.-Chinese trade talks could easily result in market disappointment — There seems to be little chance of any major breakthrough at U.S.-Chinese trade talks in Beijing on Thursday-Friday. The two sides may seize upon some mildly positive announcements in an attempt to prevent a global stock market rout that could arise if the market fears that an all-out U.S.-Chinese trade war is imminent.
However, any major breakthrough agreement seems unlikely regarding the reciprocal threats for tariffs on $50 billion worth of goods and Mr. Trump’s threat for tariffs on an additional $100 billion of Chinese goods (which has yet to draw a Chinese response). The U.S. tariff on $50 billion of Chinese goods is currently in the 60-day public comment period, after which time the U.S. Trade Representative can announce the administration’s final decision on the tariffs.
The fundamental problem is that the U.S. seems to be demanding more than the Chinese are likely to give. The Trump administration is reportedly demanding a $100 billion reduction in the U.S.-Chinese trade deficit and curbs on the “Made in China 2025” program, which is China’s $300 billion industrial policy blueprint for launching China into more advanced technological industries of the future.
China also has bargaining power since it has the cudgel of slapping tariffs on nearly the entire U.S. agriculture sector including the all-important soybean trade. China last year bought a hefty one-third of the U.S. soybean crop. China has already slapped retaliatory tariffs on U.S. sorghum, pork, and ethanol exports as initial live fire on the U.S. agriculture sector.
Mr. Trump is sending his full team to China including Treasury Secretary Mnuchin, USTR Lighthizer, Commerce Secretary Ross, White House trade advisor Navarro, and White House economic advisor Kudlow, along with other U.S. officials.
Treasury Secretary Mnuchin on Tuesday reiterated the usual phrase that he uses to try to keep investors calm by saying that he is “cautiously optimistic” about the talks. Commerce Secretary Wilbur Ross gave a more realistic assessment by saying, “If they gave in on most of the things that we wanted, for sure there are some things that perhaps are not totally satisfactory, so this is going to go back to the President. This won’t be, suddenly in Beijing, a breathtaking release (that) everything is solved.”
Markets fully expect FOMC rate hike at its next meeting in June — The FOMC at its 2-day meeting that ends today will almost certainly leave its policy unchanged since the FOMC just raised the funds rate by +25 bp to 1.50%/1.75% at its last meeting on March 20-21. The market is discounting only a 34% chance of a rate hike today. There will be no Powell press conference following today’s meeting and no update of the Fed’s forecasts.
By contrast, the market is discounting the chances at 100% for another +25 bp rate hike at the FOMC’s next meeting on June 12-13. The market is then fully discounting the Fed’s third rate hike of the year by its Sep 25-26 meeting. The market is currently discounting the odds for a fourth rate hike of the year at the Dec 18-19 meeting at only about 50%.
If the Fed proceeds with its Fed-dot forecast for two more rate hikes this year (adding to the one rate hike already seen), then the funds rate will be at 2.00-2.25% by year-end. That would put the funds rate slightly above the Fed’s 2.0% inflation target and push the real fed funds rate into positive territory for the first time in more than a decade.
Once the Fed has done away with a negative real funds rate, then the Fed can raise interest rates on a slower trajectory. Indeed, the market is currently discounting only 44 bp of rate hikes in 2019, representing 1.8 rate hikes, according to the pricing on the Dec 2019 federal funds futures contract.
ADP employment report expected to show a solid increase — The market consensus is for today’s Apr ADP employment report to show a solid increase of +198,000. That would be well below the strong March report of +241,000 and the 3-month average of 243,000, but would be slightly above the 12-month average of 194,000.
On the labor front, the market is mainly looking ahead to Friday’s April unemployment report. April payrolls are expected to show a solid increase of +191,000, rebounding upward from March’s weak report of +103,000. March’s weak report was weak due to temporary factors such as weather and payback from Feb’s strong report of +326,000.
Meanwhile, the consensus is for the April unemployment report to fall by -0.1 point to a new 17-year low of 4.0% from the 4.1% level seen in the last six months. The expected unemployment rate of 4.0% would be just above the Fed’s forecast of 3.8% by year-end and 3.6% during 2019-2020. The expected unemployment rate of 4.0% in any case would be below the Fed’s estimate of a long-term natural unemployment rate of 4.5%, indicating that the FOMC currently views the U.S. labor market as being fairly tight.
Weekly EIA report — The market consensus is for today’s weekly EIA report to show a +1.25 million bbl rise in U.S. crude oil inventories, a -500,000 bbl drop in gasoline inventories, a -1.5 million bbl drop in distillate inventories, and a +0.5 point increase in the refinery utilization rate. U.S. crude oil inventories are currently -3.3% below the 5-year average, the tightest such level in 9-1/2 years. U.S. crude oil production in last week’s report rose by +0.4% w/w to a new record high of 10.586 million bpd.