September has started badly for the global economy. The step up in tariffs on US imports from China at the beginning of the month and the deepening of manufacturing weakness in the US heightened concerns over the health of the world’s two largest economies. Service sectors globally remain resilient in the face of the manufacturing malaise, with the gap remaining at an unprecedented high in August. But with no imminent end to the trade war it is only a matter of time before the trade-related weakness in investment spills over into consumption.
Global economic momentum is set to get worse before it gets better. The persistent strength of the US dollar in this low-growth, low-confidence environment adds to the sense of unease given the potential for US action to reverse the appreciation.
The manufacturing surveys released over the past week confirmed entrenched weakness. The JPMorgan global index saw its fourth month of contraction — the longest decline since 2012. It is also the most severe. More than half of the 30 countries tracked have manufacturing sectors in decline. Europe is hurting the most, with industry-intensive Germany in freefall. The export-dependent economies in Asia have also seen sharp declines.
The less trade-dependent US manufacturing sector is now also in contraction. The official US index from the Institute for Supply Management contracted for the first time in three years in August. Forward-looking components on new orders contributed significantly to the decline. This bodes badly for any imminent pick-up. Another measure of factory output for the US remained expansionary but dropped to the lowest level in almost a decade.
The new tariffs effective from Monday will only make things worse. US president Donald Trump’s decision to increase existing tariffs on Chinese goods to 30 per cent — on top of the announcement of new 15 per cent tariffs on previously exempt, mostly consumer, goods — are not yet captured in the data. Once the new tariffs are fully implemented in December, average tariffs will stand at around 24 per cent versus just over 12 per cent at the start of the year — and just 3 per cent before Mr Trump imposed the first round of tariffs in early 2018.
This is an increase of more than four-fifths in the dollar amount of tariffs US businesses need to pay for Chinese imports since July. The jump will be increasingly felt by US consumers over the final four months of this year. Tariffs were already cited as a factor in the drop in US consumer confidence in August, the largest drop since 2012. The US Federal Reserve’s latest Beige Book — surveying activity across the central bank’s 12 districts — also cites increasing concern over tariffs.
Falling US demand for Chinese goods will continue to reverberate through global supply chains and may well spill over into the wider economy. Now is not the time for caution, and central banks globally are rightly shifting to damage limitation. The Fed is expected to cut rates again this month. The European Central Bank is also expected to ease policy next week marking the first loosening since 2016.
Lower borrowing costs can provide support to demand but cannot fully offset the supply shock from the trade war. Governments must also step in with fiscal support. This idea is finally gaining traction in Europe, particularly with Germany on the brink of recession. Christine Lagarde, the ECB president-elect, this week added her voice to the call for EU governments to launch fiscal stimulus. Given the increase in tariffs due in coming months, such support can hardly come too quickly.