If the Trump Presidency can be summed up in one word, perhaps that word is transactional. Every step is viewed as a transaction, not just monetary. But there is always a winner and a loser. Win-win isn’t normally in his playbook. Obviously, the Presidency is multi-faceted. And because of that fact, often various steps can be in conflict with each other. A simple example is the Ukraine war. In dollar and cents terms, Trump wants to either spend less or have Ukraine or its allies finance our support. But dollars and cents don’t address the implications to the world order of a truce, stalemate or ongoing war.
Last week, I talked about the need to focus on economic items of strategic importance. Keeping technological superiority. Not being beholden to China for rare earth materials key to the production of motors and everything powered by them, especially automobiles. Maintaining leadership in pharmaceutical research. Being energy self-sufficient. And, of course, keeping our military superiority. But, as noted last week and punctuated by steps taken or threatened over the past seven days, tariffs and export controls get in the way. Last week’s talk between Trump and Xi set the process in motion. Over the past couple of months, tariffs on Chinese goods of 30-145% have been threatened. But tariffs alone won’t be on the table this week or in future discussions. Two weeks ago, when Nvidia# reported earnings, it noted that export bans on chips to China would cut forecasted 2026 revenues of close to $50 billion. If you want to improve balance of payments, preventing your top manufacturer of semiconductors to withhold sales to China of that amount is clearly counterproductive. While a case can be made to withhold the most sophisticated and powerful chips, a total ban contradicts any strategy to elevate U.S. technological leadership.
Nor is the notion of banning all Chinese students from obtaining visas to matriculate at our universities. Putting Trump’s spat with Harvard aside, why would you want many of the world’s smartest minds to learn and work somewhere else? Studies show that over 80% of Chinese who obtain PhDs in the U.S. in science and/or engineering stay in this country at least 5 years after they graduate. Over three quarters of AI firms funded in the last decade have immigrant founders.
Thus, when China and the U.S. begin discussions, it won’t be simply about an agreed level of tariffs. Among the topics to be discussed are:
1. Fentanyl – This comes up every time as justification for higher tariffs. Not to mitigate the fentanyl issue, but other than getting China to take certain steps to stem the flow to the U.S., it will be hard to put what our administration wants into transactional terms. It’s an important issue but hardly the key one.
2. Rare Earths – China is not only the leading producer of rare earths but totally dominates their processing. It is critical that the U.S. find alternative sources and develop a domestic ability to process them. But that will take years. Thus, this is one trump card in China’s favor
3. Intellectual Property theft – This is important but less critical over time. China files as many patents as we do. Yes, it reverse engineers a lot of American products. But that doesn’t mean it straight up copies everything we create. As China builds upon its own long-term plan to achieve dominance in critical industries similar to what we should be doing, copying what we make will become less and less important.
4. Dumping – China produces more than any other country. We buy more than anyone else. That’s why there is a big balance of payments deficit in the first place. China also subsidizes key industries. We can and maybe should be using the tax code. China would produce more if it could dump excess production on the world at or below cost. We need to build and enforce barriers. Tariffs are an important tool. This is clearly a trump card in our favor.
5. Export controls – When we prohibit American companies from selling into China, we may provide some protection to our leadership in the long run. But look at the situation in reverse. Putting 50% tariffs on steel and aluminum imports will give U.S. manufacturers a competitive advantage. But the gap exists because our plants aren’t modern or cost efficient. It means, even if American consumers of aluminum and steel could steer more orders to American manufacturers, the costs will be higher. Ditto trying to force Apple to assemble all iPhones here. Even if one could find the facilities and workers to do the work, the costs to Apple# and consumers would be prohibitively higher. When we put export bans on chips, what we do, besides creating lost sales for the American companies, is strip the Chinese companies of their toughest competition. If Chinese chips were hypothetically 50% less efficient than the American counterpart, that deficiency could be offset by incorporating 3x the number of chips into a device. Cumbersome? Yes. Requires more power? Yes. But China is building its electrical capacity at 3x the rate of the U.S. In other words, we can create roadblocks but Chinese creativity will create workarounds.
6. Barriers to U.S. companies working in China – These have to be broken down.
7. TikTok – Trump wants to keep it alive. Given his feud with Musk and the limited audience of his own Truth Social platform, he needs TikTok to reach broader audiences, especially if X is less available.
Thus, we can see that these trade negotiations are multi-faceted and very complicated.
With all that said, the stock market marches forward. It certainly isn’t because the world’s problems, economic or otherwise have been resolved. The wars in Ukraine and the Middle East are no closer to resolution today than they were six months ago. Tariff uncertainty has left managements in a state of confusion freezing many capital spending plans. Overall numbers don’t show much change yet largely because of the immense amount of money being spent on data centers and expenditures needed to support explosive AI growth. On the positive side, consumers are still spending, employment is still solid, and both profits and GDP are still rising. 10-year Treasury yields have remained in a 4-5% range for two years. Right now, they are smack in the middle of the range. While the dollar’s value fell sharply before and immediately after Liberation Day, it has held steady for the past two months. Hot IPOs are starting to ignite speculative fever, and bitcoin stays near all-time highs. The rise in speculative fever can be concerning but it isn’t quite at a crescendo level yet.
While a march to all-time highs could continue (we aren’t very far away), stocks aren’t cheap and markets seem to slough off the warning signs related to an expanding deficit. Trump never worried about rising deficits in his first term and he has always believed in leverage and the use of debt. Conservative hawks will undoubtedly extract an ounce of flesh from the House big beautiful bill that the Senate now inherits but they are unlikely to derail it. Trump wants to sign it by July 4. That may prove aggressive. But if Congress dilly dallies too long, it may be forced to deal with the debt ceiling separately, something neither party wants to do. Nor does full expiration of the 2017 tax cuts make sense either. So, something will pass and it is unlikely to be far different than the core package sent from the House to the Senate.
The obvious question is whether adding $20-25 trillion to our national debt over the next decade will make a difference. The answer is clearly yes. How that evidences itself (e.g. higher interest rates; escalating inflation, etc.) is an open question. Rising inflation would result in higher asset prices, and a devalued currency. It would likely extend the bifurcation between rich and poor (who don’t own a home or a stock portfolio). But that’s a topic for another day.
Right now, Wall Street’s clear focus will be on how the Big Beautiful Bill gets across the finish line as well as the progress, if any, in trade negotiations with China. Wall Street wants to hear friendly words on both issues this week. If it does, the rally continues, at least in the short-run.
Today, Natalie Portman is 44. Johnny Depp is 62. Michael J. Fox turns 64.
Thus, tariffs will be only a small
James M. Meyer, CFA 610-260-2220