Rate Cuts, Trade Wars, Currency Manipulation... Oh My!

It has been… well let’s just say it has been an interesting few weeks.  Last week we had our first rate cut since 2008 and this week trade war tensions have reached all time highs.  The combination of these events is creating an interesting narrative, so, don your tinfoil hats and join me in the conspiracy zone.

The escalation really started last Thursday when President Trump announced plans for a 10% tariff on $300 billion of Chinese imports starting September 1st.  As a result of this the Chinese yuan depreciated below a 7:1 exchange rate compared to the dollar.   While 7 may seem like an arbitrary number it does hold some significance as the exchange rate hasn’t been that low since the financial crisis in 2008.  Carl Mastroianni of Insight Investment said the level “seems to be an inflection point” and a violation of it would be seen running the risk of angering the Trump administration and undercutting China’s longstanding efforts to raise the status of its currency.  Alas that is exactly what happened.

On Monday the U.S. Treasury labeled China as a currency manipulator stating that China has had “a long history of facilitating an undervalued currency” and had taken “concrete steps to devalue its currency” in recent days to gain an unfair competitive advantage.  At first blush this might just seem like more posturing between the two largest economies in the midst of a trade war, but it does bring up some valid points.  First, if China is able to devalue their currency it can make their goods cheaper to sell internationally, potentially offsetting the impact of the tariffs. Second, seeing as China’s central bank isn’t independent, allowing the yuan to depreciate below the 7 level is something that would have likely needed approval from the government giving at least some credence to the notion of currency manipulation.

What I personally find interesting is that with last week’s rate cut we effectively weakened our currency, and that rate cut was seen as too small by President Trump.  Now I am not advocating that the recent rate cut was an attempt at currency manipulation because there are plenty of reasons why a cut was seen as necessary (we detailed some last week), but Trump’s continued public pressure on the Fed and specifically Jerome Powell is seemingly contradictory.  To take us further down the rabbit hole, Monday former Fed chairs Volcker, Greenspan, Bernanke and Yellen called for more central bank independence stating “It is critical to preserve the Federal Reserve’s ability to make decisions based on the best interests of the nation, not the interests of a small group of politicians,”.  Is this a case of the pot calling the kettle black?  I am not sure that we will ever truly know. 

What we do know is that despite all of the noise our government is more transparent and forthright with things like the rate cut, but it does make you wonder if we’re just better at hiding our tracks.  We are also pretty confident that these trade wars and their consequences (good or bad) aren’t going away anytime soon.  With the election season ramping up we expect to see Trump do his best to stay in office, while China is likely just trying to wait him out.