ith two of the largest economies in the world, China and the U.S. have an indispensable, if unsettled, relationship. This rapport was further strained in March 2018 when US president Donald Trump initiated a number of tariffs on goods imported from China in an effort to rebalance perceived trade imbalances. This sparked a trade conflict that has since threatened to evolve into a full-blown currency war.
While things may have calmed down as of April 2019, the possibility of new tariffs still looms as both sides continue to negotiate. The impact of this standoff is being felt globally and the forex market is no exception.
Ramifications of Retaliation by China
Tariffs often trigger doubts for investors in both the county targeted and the country imposing the restriction. That’s because tariffs can have a significant effect on the economic stability of the one being sanctioned while opening the sanctioning country up to retaliatory actions.
Tariffs on goods imported from China, most notably steel and aluminum, applied by the US in early 2018 totaled $60 billion.
China responded by placing duties on products such as fruit, nuts, pork and wine originating in the US, equal to about $3 billion. It also devalued its currency in July 2018, dropping the value of the yuan by 9 percent in relation the US dollar. This helped to offset the cost China would incur due to the tariffs by making their own exports cheaper. Ultimately neither side won, as investors lost confidence in both parties, causing the dollar to fall more than one percent.
Diffused Forex Fallout
The impact of the US-China trade war goes beyond its primary players, resonating through the forex market. For example, when the two superpowers agreed to a temporary truce on Dec. 3, 2018, China’s yuan increased about one percent against the U.S. dollar while the Canadian dollar gained 0.61 percent, the New Zealand dollar went up 0.57 percent, the euro rose 0.2 percent and the Australian dollar grew 0.7 percent.
This phenomenon can likely be attributed to the collective sigh of relief that was felt throughout the forex market as a volatile situation was put to rest, albeit temporarily. An amiable relationship between the world’s biggest buyer and its biggest seller spells stability for the global economy and currency values respond in kind. The forex market can likely expect similar movement if the US and China come to a permanent trade agreement.
Extended trade wars can result in short-term positive effects, such as when the dollar index, which measures the US dollar against six other major currencies, experienced a 5 percent increase between the middle of April and the middle of September in 2018. In the longer term, however, continued conflict between the US and China can create fatigue in investors, who grow weary of extended trade wars and the related uncertainty. This is exactly how the US-China issue played out when — after six months of back and forth between the two countries — the dollar index started decreasing in September 2018.
Continued trade issues could have an effect on overall economic growth, requiring the Fed to step in and make adjustments to interest rates and currency values.
Predicting the impact this trade war will have on the domestic currency and the greater forex market is difficult, but TIOmarkets can help you navigate the forex world with ease.