Paul Diggle
Hello and welcome to Macro Bytes, the economics and politics podcast from Aberdeen, with me, Paul Diggle.
Luke Bartholomew
And me, Luke Bartholomew.
Paul Diggle
The US and China have agreed a temporary reduction in tariffs, which previously spiralled to astronomical levels well north of 100% -- representing an effective embargo on trade between the two countries, back down into the 10 to 30% range. Meanwhile, the US and the UK have done the first [of] what may become many bilateral trade deals with other trade partners. Treasury Secretary Scott Bessent, who appears to be one of the adults in the room on US economic policy, is in attendance. Congress is making some progress on [a] tax cutting bill. And equity markets are up on this more positive news flow. So, was the trade war all just a fever dream? Is Trump's economic agenda really focused on tax cuts, deregulation after all? Or are there still tariff risks? Is economic decoupling between the US and China still a long-term structural trend? And should investors over interpret the ‘Trump put’ at their peril? Well, that is what we are going to talk about on the podcast today. Luke and I are delighted to be joined by Bob Gilhooly, our senior emerging markets economist, and Lizzy Galbraith, our senior political economist. Welcome, Bob. Welcome, Lizzy.
Bob Gilhooly
Hi, Paul. Hi, Luke.
Lizzy Galbraith
Hi, everyone.
Paul Diggle
So, Bob, let's start with you. Why don't you just quickly tell us what the US and China have agreed on trade?
Bob Gilhooly
Yep, so we've got significantly lower tariffs for 90 days. China's reducing tariffs on US goods from 125% to 10%; US taking them down from 145 to round about 30% for most products. There are a few wrinkles there. US sector-specific tariffs still apply, as does the lower 20% rate for consumer electronics. So actually it means, all told, we think average US tariffs on China is down to around about 27%. Now of course, that is still around about 11 percentage points higher than when we started this year. And the US weighted average tariff rate across all its partners, you know, is still around about 11.5% [unclear] down from 23% with this cut. Of course, you know, this is a, I guess, another pause of sorts. Admittedly, we've still reasonably high tariffs, in place. Good news, though, trade talks are beginning in earnest. This pause could potentially be extended [if] discussions aren't completed by the end of the 90 days, which seems quite likely given there's an awful lot to go through. I mean, aside from trade balance, US complaints about market access, the US administration also said it wants supply-chain independence for sort of five to six strategic industries, such as pharma. Not really clear, I think, what this means in practice -- could imply some very high tariffs are reimposed; or maybe we see something a bit more new and novel, maybe something along the lines of phased voluntary export restrictions. We're just going to have to wait and see on this front.
Paul Diggle
And we'll get into some of those risks of, of possible re-escalation after this. But I think it's fair to say, Bob, that the initial agreement, the lowering of tariffs to 10 or 30%, is bigger than had widely been expected or perhaps was right at the top end of positive expectations going into US-China initial trade talks. Why do we think it was such a quick and significant, albeit temporary, reduction in tariffs? And is it worth, is there a sense in which one side blinked? Was that the US? Was that China? And why?
Bob Gilhooly
Yeah, look I think probably the risk of significant economic pain given how high the tariffs had got to probably did provide, a bit of urgency here. You know, we don’t have a lot of hard data yet on this, but Chinese exports to the US had fallen almost 25% month- on-month, in April. There's some risk, of course. You know, when you've got tariffs as high as, 145%, you know, [unclear] effectively declared an economic embargo. And this kind of pain is still to largely come through. You know, that said, still looks to me very much like the US, blinked on this. I mean, ‘the art of the deal’ might suggest, you know, putting pressure on your opposition. I don't think it really says much about suddenly removing it ahead of actually striking a deal. Also notable that, you know, the around 30% tariffs we have now are lower than if China hadn't done anything, had gone mute to the reciprocal tariffs proposed on Liberation Day. And I think kind of what it really boils down to is the Chinese Communist Party, you know, doesn't face the same political or market pressure that Trump does. US administration, of course, you know, we think had been reacting to pressure from the bond market. Comments about the falling stock market not really mattering, I think were ringing very, very hollow. And on the kind of political side, you know, tariffs on China, of this sort of magnitude, were going to become very highly visible very, very quickly. Could potentially, you know, expose a bit of a, kind of, key contradiction, if you will, within kind of, Trump's political setup. You know, his base might say they like tariffs. But their hatred of inflation also helped Trump to beat Biden. You add to that the risk of empty shelves, accusations of cancelling Christmas and I think the kind of political pressure on the US side, was rising. We also had a fairly large fall in, in one of the kind of more closely-watched polls -- a New York Times CNN opinion poll did fall very sharply. It is the case, of course, Trump has governed with large net disapproval ratings in the past, but there's a decent chance, you know, these polls would have fallen quite a bit further as the tariff shock unfolded, if they just, kind of, let things play out. And I think that would have opened up some risk that Congress might have felt, you know, more emboldened to push back against some of the presidential actions. So, you know, maybe there's a, kind of, read across here to, kind of, the implications for kind of Trump being able to kind of, drive through or, kind of, deliver kind of other aspects of his agenda that weren't, kind of, tariff related, particularly ahead of the 2026 mid-terms.
Luke Bartholomew
And at the risk of engaging in some amateur ‘Kremlinology’, one of the things that's quite striking, to me at least, is the very important role that Treasury Secretary Scott Bessent has played in all of these negotiations. Paul, you called him the adult in the room here. Certainly, to coin a phrase, always it seems in the room where it happens. He's the only person the administration is allowing to talk in public at the moment. There has been some quite interesting event studies showing how, when Bessent’s speaking, those tend to be up days for markets, and when it's other administration officials, those are less pleasant days for equity markets. So clearly for financial market participants, Bessent has become a bit of a key man. I mean, we've talked before in this podcast about the importance of Fed Chair Jay Powell as being a key man, but perhaps Bessent himself also has some of that key person risk around him as well. But one of the things that Bessent was talking about in Geneva, around these talks, was the need for balanced trade with China, and it's far from obvious how that would happen. But putting that aside, I mean, is that pivot rhetorically towards balanced trade, a shift away from some of this talk of US-China decoupling that had been talked about before? Was that ever, a key theme, a key objective for the administration? Or is it still going on, just not in the form of very high tariffs? How to think about this sort of decoupling theme in the context of these latest talks?
Bob Gilhooly
Yeah, look, it's always very hard to kind of distil the signal from the noise here. I do think the idea of, kind of, balanced trade is a bit ridiculous when you kind of think of the, the economic fundamentals. We know, that kind of trade balances are determined by fundamentals such as national savings. And the US maybe has a chance to kind of redirect trade, if you will, and decouple to some extent. But, but the idea of having fully balanced trade with China seems very much like, a pipe dream. I suppose, you know, unlike, if we kind of do a bit of compare and contrast, unlike Biden's ‘small yard high fence’ strategy, which did have, you know, very clear national security aims, you know, suggested a more targeted decoupling, probably never super clear whether Trump was really is focused on decoupling for national security per se. You know, I'd argue some of his bombastic rhetoric tend to focus a bit more on kind of just bringing manufacturing back, crude protectionism and also this kind of potential for tariffs to raise tax. And as you know, we were discussing before, not really super clear whether Trump had the stomach for the pain of very high tariffs. We’ve seen that crystallise a bit more, bringing back manufacturers to take a very long time to engineer in practice. That said, you know, maybe this kind of more medium but still-higher-than-we-were, level of tariffs is still significant. Still, [unclear] maybe one of just of slower decoupling rather than a kind of sudden, sharp shock that it looked like it was, it was kind of being set up to be. I mean, maybe there's a bit of a risk of kind of, here of, of downplaying the tariff shock and the current pause. Even if tariffs settle around 30%, you know, that's still a fairly sharp rise. It's not that far off the increase that we saw during Trump's first trade war when he was last in office. Clear risks that tariffs are actually going to settle higher than they are during this pause. And I’d also say, you know, it's not just about Trump here. Tough line on China still has very, you know, strong bipartisan support in the US too. So you know, I don't think really decoupling is going away as a kind of key, key theme. Maybe it's just kind of been, down weighted within this kind of uncertain mix of policy aims that we seem to, kind of, circle around when trying to, to rationalise everything that's coming out of the US.
Paul Diggle
Yeah, there's still a great power rivalry between the US and China absolutely in place. That's, of course, a sort of a structural trend which will continue to shape the global economy away from the to-ing and fro-ing of tariff levels [at] any one point in time. But maybe we'll get into that question about quite where tariffs between the US-China may ultimately settle at. This is, of course, just [a 90-day] pause. You spoke about the US weighted average tariff rate, both on China but on the world as a whole. And that latter number, currently 11, 12% or so, is I think, the best single summary statistic of where the trade war is at. We've spoken on the podcast before about, a sort of, a rule of thumb being that every 10 percentage point increase in the US weighted average tariff rate on the rest of the world could, as a first approximation, translate to something like a percentage point onto the price level, a percentage point, or so, off GDP. So, if we've gone from two to 12, let's say at the moment, so a 10 percentage point increase, it's still a reasonable economic shock. But, of course, a lot of uncertainty about where that's going to settle in the long run. We're going to get Lizzie into talking about some of the other sector-specific tariffs that might come on, but what is your expectation, Bob, about where the US-China tariff rate settles at after this 90-day pause?
Bob Gilhooly
Yeah, I think it's really difficult to say at the moment. I think my best guess is still that tariffs might settle around about the, sort of, 60% mark. You know, that was the level that Trump kind of promised on the campaign trail. You know, we discussed some of those, kind of, structural reasons why tariffs are still likely to be in place. I do think it's going to be, you know, difficult for China and US to come to some sort of agreement, balanced or not, as Bessent said, there's still lots of very difficult sticking points around US market access, Chinese state subsidies, just the sheer size of the bilateral deficit itself. So, yes, we've had this kind of, a reduction now, but it doesn't mean we won't be, we won't be talking about higher tariffs in the future. I suppose I have taken maybe some signal, from the kind of speed of this turnaround over the weekend, over the last week or so. So that could probably suggest a risk that, you know, tariffs might not settle at 60%. But, you know, we could still easily be talking about a sort of 45, 50% number, in a few months’ time.
Luke Bartholomew
So just following on from some of that trade arithmetic that you were talking about there, Paul. I mean, it was pretty easy when it looked like the US effective tariff rate was going up 20 percentage points to think of a shock that could be putting the US economy pretty close to a recession, which is why we previously talked about something like a 50/50 chance of a recession. Now, with perhaps something closer to a 10 percentage point increase in the effective tariff rate. It's still material, but maybe not such a big shock that the chances of recession look quite so elevated. So maybe recession risks for the US are perhaps closer to one-in-three now. Still, you know, elevated compared to, you know, unconditional probability of recession in any given year, but certainly not up to that, it's a knife edge 50/50 that we were before and in the immediate aftermath of the Liberation Day announcement. So how are you thinking about how this might affect the China forecast, Bob? For the US, probably a little bit less recessionary, is the dilemma for the Fed not quite as bad? The market’s now looking at two cuts this year -- that’s in line with our forecast. But for China, where does this leave the economy?
Bob Gilhooly
Yeah, I mean, look a lot of this still depends on where we settle. There is some risk of kind of taking some false confidence into this current reduction. You know, we could still end up with as I’ve said tariffs [that] are much higher. If we are kind of more settling around about the 60% mark, you know, best guess is that it probably still implies around about a 2% hit to the level of Chinese GDP. Albeit, you know, the pause probably pushes out and delays some of the kind of timing of this shock. If I was kind of being forced to mark to market this, right now as we speak, that might put me somewhere around the kind of 4.5% growth rate mark for this year, as that kind of some of that immediate sting, is avoided. But it probably still puts, you know, the Chinese growth target of around about 5%, in some kind of jeopardy of being missed. I mean, the other point to me, of course, you know, if we're kind of wrong for being too pessimistic on tariffs, well, if that's the case, you know, I'd probably be also be toning down my Chinese policy support assumptions, too. As a kind of less, first tariff scenario comes in, I still think they're probably going to have to do more, it’s really just, kind of, this like scale of easing that's kind of the key question, I think, for China.
Luke Bartholomew
And then Lizzie, turning to you, the other trade deal that's been announced over the last week or so, indeed the first one, was the UK-US deal. Now my sense is it's a much smaller deal, so to speak, than the China one, certainly in terms of its global macro consequences. But do you want to talk a little bit about what the terms of that deal were? What's been agreed? Am I right to think that it isn't especially a big deal?
Lizzy Galbraith
Well, I think certainly in terms of the actual tariff reduction that we saw in the deal, it was really quite limited, as you said. So what we got was confirmation that the 10% baseline tariff is, in fact, a pretty hard floor, that has remained in place for the UK. So really no change actually, to the overall tariff rate that the UK was subject to, as it was 10% prior to those negotiations. But where the changes come for the UK is actually on the sector-specific tariffs that it was most exposed to. So, it has received a lower tariff quota for auto exports -- so 10% down from the 25 for the first 10,000 cars. Sorry, for the first 100,000 cars that are exported on an annual basis. That's a decent chunk of what the UK currently exports to the US. And then we also have a full tariff carve out for steel and aluminium, subject to negotiating some sort of unspecified alternative arrangement. And that's another big, a big thing about this deal. A lot of the detail has actually yet to be worked out. So clearly we have a US administration very keen to announce it has made deals, but not necessarily one that's particularly concerned with all of the detail being in place before it makes those announcements. So, there are still some uncertainties for the UK around what it means for future tariffs. We're still pretty confident that some additional sector-specific tariffs are going to be announced. How those work for the UK is not particularly clear. How it works for auto parts is also not particularly clear -- whether or not that tariff quota applies to parts, as well as finished vehicles, appears to be slightly unclear. And as I said, you still have that uncertainty over the steel portion as well. And all-in-all, that has taken the US average tariff rate on the UK from something like 13% to something like 11%. And as Bob said earlier, the global US average tariff is something like 11%. So actually, although Trump has been very keen to emphasise that the UK is one of the US's closest allies and that he has a great relationship with Starmer, the UK has actually been left in a position where it's pretty much bang average, when it comes to its tariff rate. So, it's not necessarily come off with a particular trade advantage for all of that, sort of, positive rhetoric.
Paul Diggle
Well let's dwell on a few of the points you made there, Lizzie. So one is that obviously the 10% base line very much remains in place for the UK. So, to the extent we can then read across what other bilateral deals might look like, that's an important lesson, isn't it -- that 10% is some sort of absolute minimum; Trump sees it as an important revenue raiser, as part of his overall fiscal and tariff approach. The other one, as you say, is that while there's this partial autos-tariff carve out, it's not yet clear what will happen on other possible future US sectoral tariffs – on pharmaceuticals, which will be very important in the UK case, on semiconductors, there are others. So, what are we expecting from those additional sector-specific tariff investigations and announcements. Is that a possible source of tariff bad news to come from the US, in amongst all the recent flow which seems to be more positive news.
Lizzy Galbraith
Yeah, so I think it is important to remember that the US does have outstanding trade investigations that are still ongoing, that we are expecting will result in tariffs. And the administration has effectively said as much. Particularly when it comes to pharmaceutical tariffs, they have repeatedly hinted at an announcement coming in the future regarding that. We are working under the assumption that any future sector-specific tariffs, copper is another ongoing investigation, we're working under the assumption that any of those tariffs will be introduced at 25%. That just seems to be the number that the administration goes to for its sector-specific tariffs. So, we work under the assumption that those trade investigations will result in 25% tariffs. And as you've said, those pharmaceutical tariffs, in particular, would hurt the UK if they are implemented. As you've said, we don't actually know how it would affect the UK. Trump sort of mentioned that there might be some sort of preferential arrangements on future tariffs. But again, we have no detail of what that actually means. And it also would really hurt the EU as well, particularly countries like Ireland, where they're really quite dependent on pharmaceutical exports to the US -- the EU potentially having a far more difficult trade negotiation with the US, when it comes to their turn in the queue. So, there are still potential increases to be seen going forward, still potential announcements that involve tariffs going up. So, I wouldn't necessarily be assuming that, just because we've had a few positive announcements, that the trajectory from here is exclusively going to be down. There is still scope for lots of moving around in both directions going forward.
Paul Diggle
Why have the talks with the EU proved a little bit more difficult? Because progress seems to be made with the likes of Japan and India, as well as maybe more announcements to come from the administration of bilateral deals with the likes of those countries. What is it about the European negotiations, which seems to make them much stickier?
Lizzy Galbraith
So Bessent has sort of hinted that one of the issues that they have, with the EU is, is that you're negotiating necessarily as a block. And that means that it's a slower process, there are more people in the room, or more people that you need to have buy in from. And that just makes it more difficult for the US to go for its preferred approach of, sort of, slightly broad brush announcements that don't necessarily cover a lot of detail. We also know that, relative to the UK as an example, the US has more issues with the way that its trading relationship with the EU functions. So not only is the EU exposed to quite a few of those sector-specific tariffs, both announced and potentially to be announced, but there are also other issues that the US has repeatedly highlighted with the EU. So particularly on the non-tariff barrier side of the equation -- so food standard regulations, VAT, the trade balance itself. In the UK, the trade balance with the US is pretty much neutral, ever so slightly positive. In the EU there is a significant trade deficit. So, there are differences to just the starting point in those negotiations. They are far more complex. And also, unlike the UK or really any other country, at least until recently, the EU has threatened to retaliate. They are starting from a slightly different position in that they're not coming to these talks from the position of: ‘Okay, we get you have a point. We want to do a deal’. It's all, kind of, it's coming from a slightly different position. And that means it's likely to be a more drawn-out process. For what it's worth, since we have the China announcement, we have seen some countries currently engaged in negotiations, actually start to toughen up their negotiating position slightly. So there could be a bit of a change if other countries start seeing that maybe the Trump administration is actually prioritising deals, and maybe they can push a bit harder. So, yesterday, at the time of recording, we had India threaten to introduce reciprocal tariffs on steel if a deal isn't done to carve out those tariffs. We also had Japan earlier say that they wouldn't be signing any deal that didn't come with carve outs for its auto sector. So there is starting to be some more, kind of, public pushback even from some of those countries that we thought were having a smoother negotiating process with the US. And it's going to be very interesting, I think, to see exactly how the US responds to that -- whether it is just prioritising making deals, making sort of quick wins that smooth over those, kind of, rough edges; or whether actually it's going to start pushing back against those new demands that countries are making, as the process starts moving back towards the end of that 90-day pause.
Luke Bartholomew
And notwithstanding those issues and those questions that are still hanging, I think it is fair to say there has been a definite pivot towards softer rhetoric on trade policy. Do you think it's fair to locate this within a broader pivot by the administration to try and improve the narrative, both in public opinion polls and in the market? I mean, there's been a lot of headlines recently around tax policy, which, you know, the intricacies of the congressional parliamentary procedure seem to be extremely difficult to follow. So it would be good to say concretely where things are on that front and where you expect things to ultimately land in terms of the tax package. And is there anything else the administration can do to, sort of, follow through on this broader narrative shift as well?
Lizzy Galbraith
Yeah, so I think we had got to the point where, you know, the very sharp drop in opinion polls, business confidence, consumer confidence was beginning to sort of play on the minds of the administration. And as you said, they have, at least rhetorically tried to pivot to, some more positive stories about the, sort of, the future of the US economy. It won't be too long before politically in the US, kind of, minds start to turn to the mid-terms, which will be next year. And the Republicans are wanting to retain their majorities in both the House and the Senate. To do that, they will probably need to improve on public perceptions of their policymaking. So, I think there is more of an emphasis on trying to demonstrate not just progress on Trump's agenda, which was relatively popular when he was elected, but also that the economy is not in an uncertain place – that there are, sort of, reasons to be optimistic about the future, and that the tariff focus had meant that that looked a little bit less clear for a lot of consumers, at least in surveys. So, I think, yeah, pivoting to fiscal is part of that strategy. Deregulation is another part of that strategy for Republicans, sort of, generally improving business confidence, making more of a show of progressing those bits of the agenda that Republicans, both in terms of the big donors that supported Trump, but also his voter base, both of those different, kind of, parties really liked when they were thinking about why they were voting for Trump in the first place. So, in terms of where we are with that, it's actually all really being wrapped up into one bill. If you've heard Trump talk about his big beautiful bill, that is because he's really wrapping up almost all of his legislative priorities into one very, very large package, which will contain not only tax cuts, but also some of this deregulation agenda as well. So, we're starting to move into, sort of, the business end of that process now. We are starting to get different committees in the House publishing their own, sort of, chapters of what that bill is going to look like. It's a bit of an iterative process. It's a bit difficult to see how it all comes together until we get the final package, which we're expecting will be voted on by the end of May in the House at least. The upshot of that is that, at the moment, we're going to see tax provisions totalling about $3.7 trillion over ten years -- so roughly 1.1% of GDP. The vast majority of that is extensions and expansions of the Tax Cuts and Jobs Act that was passed in Trump's first term. So only about 660 billion of that is new tax breaks. The rest of that is either continuing existing tax cuts that were due to expire or bringing back elements of that bill that had already expired previously under Biden. So, we've got the Child Tax Credit that expired under Biden, returning as well. So, it's a relatively big bill. It's not, kind of, it’s within our expectations of what this would look like. Particularly, it furthers some of Trump's campaign priorities. So, it includes elements of some of the tax breaks that he was calling for -- so no tax on overtime, or tips; a deduction for car loan interest; and some additional tax deductions on social security as well, although it does fall short of a full tax exemption [unclear] social security. So there are lots of different elements of Trump's agenda that have been wound into this bill. But very time limited and very income dependent to try and contain the cost of those. But this is very much a first step. Going forward, we are waiting for other committees to provide details of savings that will be made. We're expecting at least 1 trillion in saving offsets, to be made to bring the total deficit impact of the bill down to something like 2.8 trillion. And we're also expecting the Senate to be making changes to this bill as well. So, we're far from done. But we're expecting that that by, sort of, the middle of July, there should be a bill passed, through both houses that will further some of this political agenda that Trump has outside of tariffs.
Luke Bartholomew
Well, much like the tax package, we are also very time limited. And that is all the time we have this week. So as ever, please forgive me if I ask you once again to like and subscribe wherever you get your podcasts, if you've not already done so. And then all that remains is for me to thank Lizzy and Bob for joining us today and to thank you all for listening. So, thanks very much and speak again soon.
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