EIU global forecast - Trade war drags down global growth
The threats facing the global economy are growing. In mid-September drone attacks severely damaged a Saudi oilfield and its largest oil processing centre. Saudi and international officials estimate that this will take about half of Saudi Arabia's oil production offline for several weeks. Although both Saudi Arabia and the US promptly offered to increased supplies to the market from their reserves, the strikes have further inflamed tensions between the US and Iran (which Saudi Arabia blames for the attack) and exposed how vulnerable Saudi Arabia's energy infrastructure is to attack. If Saudi Arabia does manage to restore output within weeks (as we currently expect), and if geopolitical tensions die down, oil prices should ease back to an average of US$65/barrel in the final three months of the year (from about US$70/b just after the attack). If the repairs drag on longer than this, depleting available crude oil stocks, or if there were to be direct military engagement in the region (not our core forecast), prices could rise well above US$70/b. This seems unlikely, however, given that neither the US nor Iran stands to gain much from such a conflict, but the risk that a policy miscalculation will lead the US and Iran into conflict has risen.
The US government continues to flirt with trade war escalation
Meanwhile the US government continues to flirt with an escalation of the trade war with China. On August 23rd the US president, Donald Trump, announced that all tariffs on imports from China would be raised by an additional 5 percentage points. The resulting tariff of 15% (rather than 10%) was placed across targeted Chinese items worth US$125bn on September 1st; a second round of tariffs, also at 15%, will come into effect on another US$175bn worth of Chinese goods in December. The US also plans to increase existing tariffs on US$250bn worth of Chinese goods to 30% in October, after a period of public comment.
Despite this latest round of tariff increases, there are signs that both sides would prefer to avoid escalation. In a break from the tit-for-tat cycle of retaliation, China did not increase its tariff plans following the US's latest announcement. For his part, Mr Trump has indicated that both sides plan to resume trade negotiations in the US in September, although dates remain unconfirmed. Nonetheless, given the slim likelihood of a deal being reached before the US presidential election in November 2020, it cannot be ruled out that Mr Trump will raise tariffs further as his attempts to seek a win on trade are frustrated.
Trade policy risks are morphing into financial risks
Regardless of how the tariff war evolves, we expect the crux of the dispute to shift away from merchandise duties and on to technology, security, investment and finance. This will have a much longer-lasting negative effect on both the US and China, and will create additional risks for the global economy. The financial risks are a particular cause for concern. We believe that Chinese policymakers will refrain from purposefully weaponising the renminbi (by letting it depreciate sharply against the US dollar), as this would raise the risk of a financial crash in China's real estate sector. However, stemming the pace of depreciation of the renminbi will require China to offload a portion of its holdings of US Treasuries. There is a significant risk that Mr Trump will view this as justification for further punitive action.
One option open to the US would be to restrict Chinese access to the dollar-dominated global financial system. Voices in the US Congress are considering how to restrict US pension funds and venture capital (VC) firms from investing in Chinese technology companies, and US regulators have already moved to prevent Chinese VCs from investing in Silicon Valley. Meanwhile the US is also considering sanctions against Chinese banks that allegedly violate North Korea-related sanctions. This could set in motion steps to cut off the bank's access to the US financial system. Given the shocks that indiscriminate sanctions would send through the global financial system, we expect the US to avoid anything other than surgical strikes, as even targeted moves are likely to rattle global financial markets.
Consumer confidence is starting to buckle
Even if the worst-case scenarios are avoided (as we expect), these risks will continue to weigh on financial market and economic sentiment, dampening business investment and investor demand for risky assets. Even consumers are starting to feel nervous. Consumer confidence has eased markedly this year in Japan and parts of Europe, and even in the US the picture has become less rosy in recent months, with the University of Michigan's measure of consumer sentiment falling sharply in August and failing to recover in September. This will translate into a less positive outlook for the services sector, which has been propping up the global economy over much of 2019 as manufacturing has stalled.