China and US tensions was already high

author blog

Multi-Asset Team

07 May 2020

COVID-19 may have made it worse.

Not so long ago, the trade war between the US and China was the greatest geopolitical risk facing the market. COVID-19 has now taken its place at the front of investors’ minds, but it hasn’t eased the underlying tensions.

As recently as December, markets were still jumping up and down about the latest headlines about tariffs. But that now seems a long time ago.

Another far more serious global crisis has understandably made the trade war between the US and China seem less important, but that does not mean the underlying issues have been resolved.

The rise of China, and how the US reacts to the perceived threat to its own hegemony, has interested me for many years now. In 2017, we wrote about the US falling into the ‘Thucydides trap’ – a theory of international politics taken from ancient Greece and how the rise of a newly empowered Athens meant war with the once-dominant Sparta became almost inevitable. Little has persuaded me that there will be a sustainable détente between these latest rivals, China and the US.

The unpredictable nature of people and events

At the start of 2020, many were optimistic about the ‘Phase One’ trade deal between the US and China, but we were sceptical. That agreement covered only a relatively small proportion of US imports and we know that President Donald Trump can be unpredictable – as can events, as sadly we all soon discovered.

We could have not seen COVID-19 coming, but we knew there was an unstable fault line between the US and China. Any number of issues could have provoked renewed hostilities, but we are seeing the gravity of the coronavirus risks is making the already strained relationship even worse.

Regrettably, some in the US have insisted upon referring to COVID-19 the ‘China virus’ and in recent days the administration has again spoken out on this. Even some moderate voices have accused China of being insufficiently forthcoming with information about the outbreak. Equally, some in China have tried to blame the origins of the pandemic on the US military.

The electoral campaign in the US this year is only likely to inflame matters further. Trump believes he can attack Democratic candidate Joe Biden for having been friendly to China as vice president, which means Trump could try to emphasise this point by taking an even tougher stance on China in the run-up to the election. Similarly, Trump’s rhetoric could force Biden to become more protectionist to fend off that line of criticism.

If Trump’s ratings drop or the economy remains weak, the president could double down on this strategy and impose even tougher tariffs on China.

Moreover, we don’t think these tensions will ease significantly after the US election. Mainstream opinion in both the US and China has hardened, and the stand-off has both eroded institutional trust and left long-term scars on global trade and supply lines.

This could easily lead to a new cold war between these two superpowers, creating an increasingly bipolar world and a race to get ahead in the technology and defence industries.

As investors, this is another reason we are remaining cautious, even amid short-term market rebounds, we believe in staying diversified and focused on risk management through scenario planning.

We know an epidemic played a major role in the Peloponnesian War between Athens and Sparta; a future Thucydides may pinpoint the coronavirus outbreak as such a pivotal moment, when a trade war between the US and China started to become another cold war.

Risk warning

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