- China may effectively declare force majeure on U.S. goods purchases under trade deal
- U.S. stock market takes Chinese stock drop in stride due in part to Chinese stimulus measures
- U.S. factory orders expected to improve
China may effectively declare force majeure on U.S. goods purchases under trade deal — Bloomberg reported on Monday that Chinese officials are hoping to receive some flexibility from the U.S. regarding its obligations under the phase-one trade deal to buy an extra $200 billion of additional U.S. products through next year.
A spokesman for the U.S. Trade Representative’s office responded to that report on Monday by saying that U.S. officials have not yet received any request from China about delaying its purchases of U.S. goods. China’s Commerce Ministry had no official comment on the report.
The phase-one trade agreement contains a clause saying that the U.S. and China will consult “in the event that a natural disaster or other unforeseeable event” delays either party from complying with the agreement. This is essentially a force majeure clause whereby a party to a contract can be released from the legal requirements in the event of major unforeseeable circumstances.
The bottom line is that China essentially needs to declare force majeure on the phase-one trade deal before it even officially goes into effect next Friday (Feb 14), which is 30 days after it was signed on Jan 15.
There is little doubt that China needs to delay its purchases considering that about two-thirds of its economy is shutdown this week for an extended Lunar New Year holiday. In addition, ports and transportation systems across the country are seeing major disruptions. The extent of the disruptions from the virus can be seen by the fact that Bloomberg reported on Monday that Chinese crude oil demand has already plunged by 20%. China’s demand for products has not only dropped sharply, but there are major problems in simply ordering and delivering the products.
President Trump will not be pleased with any delay in Chinese purchases of U.S. products, but he doesn’t have much choice considering the extent of the virus disaster. Any new trade threats from Mr. Trump would only exacerbate the negative effect of the coronavirus on the Chinese and U.S. stock markets. As long as China says it is willing to make up for any delay in the purchases with larger purchases later, the Trump administration might quietly go along.
Yet any delay in the purchases makes the requirements seem even less realistic. China in the phase-one trade deal agreed to buy an extra $200 billion of U.S. products during 2020-21 over a 2017 baseline. In a breakdown of that figure, China agreed to buy at least $40 billion annually of U.S. agriculture and seafood products in 2020-21, more than the $29 billion record seen in 2013. China agreed to buy at least $30 billion of U.S. energy products (LNG, crude oil, coal) in 2020 and $46 billion in 2021. China agreed to buy at least $120 billion of U.S. manufactured products in 2020 and $132 billion in 2021. China agreed to buy at least $100 billion of U.S. services in 2020-21.
U.S. stock market takes Chinese stock drop in stride due in part to Chinese stimulus measures — The U.S. stock market was able to rebound higher on Monday since Monday’s sell-off in Chinese mainland stocks was within reasonable bounds and since the Chinese government announced a slew of support measures. The S&P 500 index on Monday closed +0.73% and is now up +0.6% on a year-to-date basis despite the Chinese coronavirus.
The Chinese central bank on Monday cut its reverse repo rates by -10 bp in what is likely to be the first of a series of interest rate cuts this year. The Chinese central bank also injected $22 billion of liquidity into the banking system and made clear that it will provide whatever additional liquidity the banking system needs.
The Shanghai Composite index on Monday closed sharply lower by -7.7%, which was 0.9 points worse than the -6.8% sell-off seen in the Hang Seng index during the 6-session mainland holiday. The Shanghai Composite index in early trading last night opened -2.2% lower but then quickly rebounded to unchanged levels.
Monday’s upward rebound in the U.S. stock market was at least a temporary relief. However, market fears about the virus cannot subside until the net number of new cases starts to show a sustained decline, suggesting that authorities are finally having some success in containing the virus. It will undoubtedly be a matter of months before the coronavirus can be brought fully under control since it took eight months for the SARS pandemic to be declared contained.
U.S. factory orders expected to improve — The consensus is for a Dec factory orders report today of +1.2% and +0.1% ex-transportation following Nov’s report of -0.7% and +0.3% ex-transportation. The markets will be watching for any sign of an improvement in Dec factory orders due to the US/Chinese phase-one trade deal that was reached on Dec 13. In a potential bright spot, factory orders ex-transportation showed a small +0.4% y/y increase in November, breaking the string of negative year-on-year reports seen during June-Oct. However, the Nov headline factory orders report fell by -1.5% y/y and extended the string of negative year-on-year reports seen since May.
There was some positive news for the manufacturing sector when Monday’s ISM manufacturing index unexpectedly rose by +3.1 points to 50.9, much stronger than expectations of +0.7 to 48.5. The ISM manufacturing index climbed back above the expansion/contraction level of 50.0 for the first time since July. Manufacturing confidence was boosted in December and January by the US/Chinese trade deal, which was reached on Dec 13 and signed on Jan 15. However, the U.S. manufacturing sector will now take a significant hit from the China coronavirus.
