G-20 Yields More Evidence Trump's Tariffs Aren't All About Trade

Editors’ Note: The discussion of politics that follows is intentionally nonpartisan. We favor no politician nor any party and assess political and geopolitical developments solely for their potential market impact.

Well whaddaya know! After an 80-minute lunch on the sidelines of the G-20 summit on Saturday, President Trump announced tariff threats and the ban on transacting with Chinese telecom giant Huawei were off—and trade talks were back on! As if that weren’t enough, Trump met up with South Korean President Moon Jae-in and North Korean … umm … Leader Kim Jong-un in Korea on Sunday and ambled over the Military Demarcation Line to become the first US president to set foot in North Korea since, well, ever. Even the birds were so excited, they flew over the border and fooled South Korea into scrambling fighter jets! In happier reactions, stocks greeted the trade truce with fresh all-time highs on Monday. We don’t doubt a trade truce is a positive for investor sentiment. However, nothing here strikes us as a whopping surprise. We saw this movie just last year, and we think investors would benefit from understanding how tariffs seemingly fit into Trump’s geopolitical playbook.

Most tariff coverage presumes Trump’s new (and threatened) tariffs are permanent economic policy. Yet reality shows little evidence of this. With China, Mexico and the EU, trade spats have gone largely like this.

1. Threaten tariffs.
2. Scare trade partner into commencing trade talks.
3. Use tariffs as leverage in those talks.
4. Walk away when it looks like you won’t get your way.
5. Make another big threat.
6. Scare trade partner into resuming trade talks.
7. Announce handshake “win” and remove tariff threat.
8. (China only) Talk to North Korea.

That eighth point has long made us suspect that, where China is concerned, Trump’s protectionist threats have less to do with trade negotiations. Yes, his administration is trying to convince China to be more open toward foreign firms and better protect their intellectual property, and tariffs do seem to be goading those negotiations. But there is a distinct pattern of tariff threats, North Korean progress and tariff climb-downs.

Far be it from us to try and delve into Trump’s mind. But take a trip with us in the way-back machine, if you will, to summer 2017. That is when North Korea launched an intercontinental ballistic missile capable of reaching Alaska and performed its largest nuclear test on record. Headlines were full of end-of-the-world-type sentiment, turning up the pressure on Trump to get Kim to play nice. Only problem is, any American president would very likely need China’s help to get a deal with Kim, and the status quo didn’t give China much incentive to go pester its client state.

Fast forward to early 2018, and Trump has started threatening Chinese imports with tariffs. What happens next? China maneuvers in the background, and soon Trump announces he will be meeting with Kim. As preparations for that summit progressed with China’s help in fits and starts, Trump ratcheted up tariff threats and banned US firms from transacting with that other Chinese telecom giant, ZTE. The summit with Kim happened in June, and the ZTE ban was dead a month later.

The tariffs remained, however—unsurprisingly, as that summit was only the first step, and a broader trade deal with China was unfinished business. Yet trade rhetoric stayed mostly tame until earlier this year, when tariffs were set to ratchet up on March 1. Trump kicked the can at the last minute, and on March 9, he was meeting with Kim in Hanoi. That summit failed, however, creating the need for more acute Chinese intervention if any progress was to be had. Therefore, we don’t think it is mere coincidence that Trump ratcheted up his threats again in May. Nor do we think it is a coincidence that his de facto deadline was the G-20, which was held in Osaka, Japan—just across the sea from the two Koreas. What better time and place to goad China into helping with one more go-round with Kim? Especially when Moon, a fellow G-20 leader, would be there too?

We won’t dare say this saga is finished. Like all politicians, Trump’s primary goal is winning re-election. A North Korean denuclearization agreement would be a big win to trumpet next November, but to get it now would be a political waste. Memories are short. So he has every incentive to string this along for another year or so. In the interim, with China’s help still required and those remaining tariffs still up his sleeve, it wouldn’t shock us if there was another round or two of trade war rhetoric and tough talk. Note, too, that we aren’t predicting the outcome of any nuclear talks. This might all prove to be for naught. But we think the pattern bears highlighting.

To us, the lesson here for investors is to avoid getting caught up in trade war hoopla. If you see tariffs as a political negotiating tool rather than permanent economic policy, we think it becomes much easier to tune out fearful headlines and avoid making knee-jerk portfolio moves. To see the danger of doing so, just think back to stocks’ awful May and awesome June—a V-shaped swing on trade tensions flaring and easing. The North Korean parallels aren’t the only evidence we have that tariffs are political. Trump flat-out said as much when threatening Mexico with new tariffs if President Andrés Manuel López Obrador and his government didn’t do more to secure Mexico’s southern and northern borders in order to stem the flow of migrants into the US. We are always skeptical of taking any politician at their word, but in this case, there are numerous actions to back it up.

So if and when the tariff dance resumes again, stay cool. Remember there is likely an ulterior motive, and protectionist threats are a means to that end.