English (India)

Dow slips on escalating US-China geopolitical tension over Taiwan

calendar 02/08/2022 - 12:53 UTC

Wall Street Futures stumbled Monday after a report that the U.S. House Speaker may visit Taiwan Tuesday. China, which still officially denied Taiwan’s ‘independence’ and recognizes Taiwan as a part of greater China, warned about military action to fully liberate Taiwan, if U.S. House Speaker Pelosi indeed visits Taiwan. Although Pelosi did not include Taiwan on her official itinerary — which includes Japan, South Korea and Malaysia — over security concerns, there was a report that Pelosi would be the first U.S. Speaker to visit Taiwan in 25 years.  Although U.S. President Biden send some senior officials, including NSA Sullivan, to brief Pelosi on the risks of such a Taiwan visit, people familiar with the situation said she had decided to press ahead with the landmark trip.

Meanwhile, another report quoting a senior Chinese official said the atmosphere of last week’s Biden-Xi telephone conversation was the worst among the five talks between the leaders, and President Xi was said to have shown the toughest attitude he has ever shown to any world leader, while the most important topic in the conversation was China-US relations especially the 'Taiwan Question. Xi reportedly warned Biden not to play with ‘Taiwan fire’. The market is concerned that if further intimated by the U.S., China may launch a symbolic or even a real invasion attempt of Taiwan. The global market is already under threat of an all-out recession because of Russia-Ukraine/NATO geopolitical tensions.

But Taiwan tensions also diluted to some extent after U.S. NSA spokesman Kirby downplayed any significance of Pelosi’s ‘personal’ visit to Taiwan and said the U.S. policy towards Taiwan will not change as a result of such a visit. The U.S. does not recognize Taiwan's independence. Although Kirby said Pelosi has the right to visit any place on earth including Taiwan safely, till now she has not confirmed her travel plans. As per the latest report, early U.S. Tuesday Pelosi is en route to Taiwan and China sent war planes along Taiwan Strait, while Taiwan Government websites came under cyberattacks.

Earlier Dow Future was boosted on hopes of Powell put/pause as the market thought that Fed may take rest after the September hike. Also, upbeat report cards from Amazon, Apple, Chevron and Exxon Mobil (techs and energies) helped the risk-on sentiment despite elevated core PCE inflation. But the subdued GDP data for Q2CY22 also boosted the market on the perception that present technical recession or rather than outright stagflation may keep Fed from any jumbo hike

On late Friday, Fed’s Kashkari said markets had gotten ahead of themselves in anticipating that Fed would soon begin to back off. On 27th July, Fed Chair Powell said FOMC would now set rates meeting by meeting rather than committing to a broad plan well in advance. The market took that as a sign that the Fed is likely to slow rate moves sharply in the coming months as the economy slows. FFR suggests Fed may even begin to cut rates from early 2023.

On Friday, the Minneapolis Fed President Kashkari said:

“I’m surprised by markets’ interpretation. The committee is united in our determination to get inflation back down to 2 percent, and I think we’re going to continue to do what we need to do until we are convinced that inflation is well on its way back down to 2 percent — and we are a long way away from that. I don’t know what the bond market is looking at in reaching that conclusion--the bar would be very, very high to lower rates.

It’s too soon to know how big of a rate increase might be appropriate in September, but raising rates by half a point at coming Fed meetings seems reasonable to me---inflation data had been surprising in a bad way and that continued higher core inflation could push me to think a three-quarter-point move would be needed. How much are we going to have to do to break the cycle of inflation and get inflation well on its way back down?---Nobody knows that---We know we have a job to do, and we’re committed to doing it.”

On Sunday, Fed’s Kashkari said in another interview that Fed isn’t interested in whether or not the U.S. is in a recession right now as the Fed is focused solely on inflation management. Kashkari does see some encouraging signs that a recession, or at least a severe one, can still be avoided, citing the economy’s strong recent job numbers, which show that the high unemployment commonly seen during recessions has yet to hit the U.S. economy. But not all sectors have been able to retain jobs-Kashkari noted that the tech sector, in particular, has seen waves of layoffs over the past few months.

Kashkari said:

Whether we are technically in a recession or not doesn’t change my analysis---I’m focused on the inflation data---So far, inflation continues to surprise us to the upside---We are committed to bringing inflation down and we’re going to do what we need to do. And we’re a long way away from achieving an economy that is back at 2% inflation, and that’s where we need to get to---

We don’t want to see the economy overheating. We would love it if we can transition to a sustainable economy without tipping the economy into recession---but rising chances of a recession do little to change the fact that the Fed has its work to do---“

news banner

On Monday, Wall Street Futures were also buoyed as both S&P Global and ISM Manufacturing PMI indicate lower input cost pressure for July. The S&P Global final data shows U.S. manufacturing PMI was revised slightly lower to 52.2 in July from a preliminary of 52.3, pointing to the lowest factory growth since July’20. Output dropped for the first time since June of 2020, amid weaker demand conditions and challenges in finding suitable candidates for vacancies and raw material shortages.

Also, new orders fell at the fastest pace for over two years as further supply chain disruption and hikes in prices weighed on customer spending. The decrease in new order inflows was accompanied by a weakening of payroll growth to the lowest in six months, albeit with some firms continuing to hire additional staff to fill long-held vacancies. Meanwhile, cost inflation softened to the slowest since March’21 as some components reportedly fell and output inflation also eased. Finally, firms’ expectations regarding the outlook for output over the coming 12 months remained at their lowest since Oct’20.

The S&P Global said:

“With the exception of pandemic lockdown periods, July saw US manufacturers report the toughest business conditions since 2009. A growth spurt in the spring has quickly gone into reverse, with new orders for factory goods down for a second straight month in July, leading to the first drop in production for two years and sharply reduced employment growth. The rising cost of living is the most commonly cited cause of lower sales, as well as the worsening economic outlook.

Companies are also taking an increasingly cautious approach to purchasing and inventories amid the gloomier outlook, and likewise appear to be cutting back on investment, with new orders falling especially sharply for business equipment and machinery in July.

Supply chain problems remain a major concern but have eased, taking some pressure off prices for a variety of inputs. This has fed through to the smallest rise in the price of goods leaving the factory gate seen for nearly one and a half years, the rate of inflation cooling sharply to add to signs that inflation has peaked.”

Further, on Monday, another flash data by the Institute of Supply Management shows the ISM Manufacturing PMI for the U.S. edged lower to 52.8 in July sequentially from 53 (June), beating the market consensus of 52. The reading pointed to a 26th straight month of rising factory activity but the weakest rate since June’20, as new order rates continue to contract although supplier deliveries improved and prices softened to levels not seen in two years.

New orders (48 vs 49.2) and employment (49.9 vs 47.3) declined and production (53.5 vs 54.9) and supplier deliveries slowed (55.2 vs 57.3) while inventories rose faster (57.3 vs 56) and price pressures softened (60 vs 78.5). Meanwhile, sentiment remained optimistic regarding demand, with six positive growth comments for every cautious comment. Firms are now expressing concern about a softening in the economy, amid developing anxiety about excess inventory in the supply chain. The ISM Manufacturing Prices sub-index in the U.S. decreased to 60 points in July from 78.50 points in June. It is the lowest reading since August’20, well below forecasts of 75. Prices growth slowed thanks to energy-market volatility, metals markets softening, and cooling chemicals demand.

The ISM said about the July PMI reading:

“It was a strong month, similar to June. The fundamentals (of the data) say that we needed to get to a better equilibrium on the supply side versus demand. New order rates slowed, and suppliers improved their (delivery) performance---- But there is still a significant amount of inventory that supply managers don’t want to get stuck with---the improved supply chain efficiency was one of the stories of the July data. However, employment issues will continue to be an anchor---As long as employment remains sluggish, there won't be gains in production. (The index) is still below 55 percent, which is disappointing, but as companies have difficulty hiring, they’re not going to reach potential on the production—

The U.S. economy has slowed since the end of last year due to soaring inflation, rising interest rates, and the end of government stimulus. … While factories are still running close to full tilt, the business has slowed and it could get worse in the months ahead as a decline in orders suggests. New orders reflect future sales. In some cases, customers over-ordered and are waiting to sell the products they have on hand. They are also worried about a recession.”

Conclusion:

Overall, both S&P and ISM manufacturing PMI indicates slowing U.S. economy and also lowering input cost pressure-something which Fed is now desperately vowing to bring down inflation, still hovering around 40-years high. Thus Fed’s faster tightening may be working in curtailing demand & inflation, which may prevent Fed from further jumbo hikes after September. But Fed may be on the way for another +75/50 bps rate hike in September in a desperate attempt to lower inflation expectations/actual inflation before Nov’22 mid-term election. Then Fed may go for another 25/50 bps hike in November and December.

The materials contained on this document are not made by iFOREX but by an independent third party and should not in any way be construed, either explicitly or implicitly, directly or indirectly, as investment advice, recommendation or suggestion of an investment strategy with respect to a financial instrument, in any manner whatsoever. Any indication of past performance or simulated past performance included in this document is not a reliable indicator of future results. For the full disclaimer click here.