Risk level: Yellow
RED: Severe (+/- 4%) ORANGE: High (+/- 3%) YELLOW: Elevated (+/- 2%) BLUE: Guarded (+/- 1%)
THE BOOSTER SHOT
-China is well short of its US energy purchase commitments
-US policy makers look to history, wrongly, for support
In June, US congressional leaders pleaded with Robert Lighthizer, the top trade advisor in the Trump administration, to pressure China to import more US energy products as part of the so-called Phase 1 trade arrangement brokered early this year. That same month, China imported some 2.16 million barrels of oil per day from Saudi Arabia, some 14% more than it did during June of last year. Russian oil imports were up by about the same rate. From the United States, however, China has only purchased some 18% of the energy products that it needs to in order to meet its commitments to US trade arrangements. Though political and economic problems in the United States are obvious, Lighthizer is suggesting US trade policy is working. US Secretary of State Mike Pompeo, meanwhile, is hinting that patience with China is thin. With US elections coming up, the rhetoric could escalate toward disaster.
The price for Brent crude oil was range-bound again last week, fluctuating by only a half percent to finish trading Friday at $43.78. A 2% gain on Tuesday was offset by a 2% drop on Thursday, though the market structure continues to paint a picture of an oversupply situation. That will only become more pronounced in the next few days when OPEC restraint eases.
China is loading up its storage facilities with cheap oil, taking in 2.16 million barrels of Saudi oil per day and 1.95 million bpd of Russian crude last month. China as part of the so-called Phase 1 trade agreement with the United States agreed to some $60 billion in US energy purchases over the next two years. In April, a few short months after the deal was signed, the American Exploration and Production Council expressed concern in a letter to US Trade Representative Robert Lighthizer that China was far short of its obligations. Data from the Peterson Institute for International Economics finds China imported some $780 million in US energy products through May, compared with its target-to-date of $10.5 million. At current prices, China might need to take in more than half of total US exports on a weekly basis to catch up. Even if China is taking advantage of a weak price structure, it’s not doing so with US crude. Imports of US crude oil in April, when prices collapsed into negativity, came in only at around 370,000 bpd.
“Whether there will be a Phase 2 depends on whether China complies with the terms of Phase 1 and whether it is willing to fundamentally change its model of state-run capitalism,” Lighthizer wrote in the most recent issue of Foreign Affairs. “Regardless, the policy in place today protects American jobs, blunts China’s unfair advantages, and minimizes the pain to U.S. exporters and consumers.”
Last week, US Secretary of State Mike Pompeo adopted a similar line on the foreign policy approach to China, saying that US patience with containment had run its course. Against charges of fascism at home, Pompeo said it’s time for a “new alliance of democracies” to stem the ascendancy of Communist China, arguing that Beijing has set the rules of engagement for too long.
“If the free world doesn’t change, Communist China will surely change us,” he said.
That speech, delivered from the Richard Nixon Presidential Library and Museum in California, was seen as the demarcation of a new cold war with China. Pompeo said it was time to abandon the belief that engagement with China would change its behavior. The argument for the liberal word order is that overlapping economic links limit the options for those powers moving against the grain. After 50 years of hoping for a change in Chinese behavior, Pompeo said the US government has nothing to show for it.
Richard Haas, a vocal critic of President Trump, but a veteran diplomat, suggested Pompeo has his history wrong. Nixonian (or Kissingerian) engagement with China was part of the Cold War strategy to contain the Soviet Union, Haas argues, not to change Chinese behavior. Lighthizer too deserves a fact check. Defending a tough trade policy that uses stiff tariffs as a tool of economic warfare, Lighthizer argues that interdependence does not always lead to the perpetual peace advocated by Kantian liberals. In the United States, he said, interdependent trade relations between the free and Confederate states did nothing to prevent the American Civil War. What he leaves out is that tariffs imposed by the US government to protect domestic manufacturing from foreign competition, namely the dumping of British goods, helped fuel domestic conflict. For the southern states, the tariff was little more than a transfer of wealth from them to the north through the higher prices for manufactured goods, both foreign and domestic. The south tried to nullify the tariff, which was seen as a threat to sovereignty, the situation evolved into other matters like slave labor and, what started as an economic disparity – a non-military issue –, turned into civil war. Later, Lighthizer states that Japan’s dependence on raw materials from the United States is what “motivated its attack on Pearl Harbor” in 1941. While technically accurate, storied political analysts Robert Keohane and Joseph Nye observed in their seminal Power and Independence that it was the US exploitation of that dependency by way of an embargo that forced Japan to react. Later, Jack S. Levy, now at Rutgers, observed near the end of the Cold War that “there is always the possibility that states may transform non-military issues into military ones and attempt to resolve them through the use of force.” Both cases, the American Civil War and Japan’s attack on Pearl Harbor, are examples of that observation.
Lighthizer later holds up the revamped North American Free Trade Agreement as the recipe for the future. Gone are the loopholes, he said of a deal the White House sees as part of a broader effort to, as the president says, make America great again. But just as with China, the arrangement pegs success on the actions of others. Unless the Mexican government, for example, addresses corruption in its own economy, the deal won’t work. Elsewhere, the promise of the liberal economic order has not been fulfilled for the American worker, Lighthizer says. Lighthizer looks to Pope Leo XIII who in his Rerum Novarum encyclical from 1891 address social inequalities and the dignity of the working class to support ”a balanced, worker-focused trade policy.”
“Doing honest work for a decent wage instills feelings of self-worth that come from being needed and contributing to society,” Lighthizer wrote.
The Trump administration, however, has done little to support wage growth and leaders from the president’s own political party have shown no sense of urgency in extending fiscal support to the 19 million workers left off the payrolls this year. Frustrations in the United States are boiling over, and the Trump administration stands accused of taking an authoritarian stance on the myriad of challenges it faces. Through the lens of the pandemic, it’s easy to find fault, though the US economy was already weakening by the fourth quarter. Echoing Haas, the president of the Council on Foreign Relations, this administration seems to be using the wrong history to tackle its problems.
Much of the economic tone for the week will be set by US policymaker’s ability to extend a social relief package to offset the damage inflicted during the quarantine economy. With liberalism in focus, market watchers would do well to monitor the balance of trade in Mexico and durable goods orders in the United States. On Tuesday, we get an indication of recovery in the continental economy when Spain reports unemployment figures for the second quarter. Wednesday brings the usually marker-movers from the US Energy Information Administration, but don’t ignore GDP data from Hong Kong or consumer confidence in the French economy. But it may be decisions from the US Federal Reserve that steal the show on Wednesday. Unemployment rates in Germany, as well as GDP estimates for the second quarter, are out on Thursday. Germany’s economy is expected to show an 11% contraction, but that will look good compared to the forecast for a 34% contraction in the United States. The Islamic holiday of Eid Al-Adha falls on Friday in the Gregorian calendar this year. Broad economic snapshots of the European economy finish the week.
Several economic indicators point to a correction of some sorts, be it in the US dollar or in crude. A 2% swing, a Yellow alert on the GERM Report’s scale, is certainly not out of question for the week, though the trend may be toward the negative.