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Investors Brace for Congressional Gridlock After Midterm Elections

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Monday, 05 November 2018 10:10 AM Current | Bio | Archive

Markets’ attention is likely to veer towards politics this week with U.S. midterm elections tomorrow.

One of the problems with predicting election outcomes is what might be called “The Taylor Swift effect.

People who do not normally vote are turning up to vote in various elections around the world. These people are not typically captured by opinion polls and this then creates surprises with the results. The evidence is that both Democrats and Republicans are more motivated to vote at these midterms than at the last set of midterms. Registration of voters has also increased.

Markets are probably positioned for the gridlock of a Democrat House with a Republican White House. That may raise risks on trade tensions because trade is an area that President Donald Trump can act on without congressional approval.

Continued Republican control of both Houses of Congress would raise questions about an increase of the deficit with tax cuts becoming permanent for instance.

U.S.-Sino Trade Tensions Remain

After last week’s optimism, this week brings us a distinct absence of optimism in the U.S.-Sino relations.

Chinese President Xi at the opening ceremony of the Shanghai International Import Expo today, which features more than 3,600 companies from 172 countries, regions and organizations and is China's big attempt to show the world, and especially the US, said that China’s economy is opening up more.

There was no doubt that Mr. Xi had President Trump in mind when in his speech he said: “In a world of deepening economic globalization, practices of the “law of the jungle” and the “winner takes all” only represent a dead end. An inclusive growth for all is surely the right way forward.”

The body of the speech was a promotion of Chinese trade with other parts of the world and the reiteration of the “well-established pledge” to cut import tariffs into China and make it easier for foreign firms to access the Chinese economy. President Xi did not make clear which countries' imports would benefit from the lower tariffs, and whether the U.S. was on this list.

Mr. Xi also said China would speed up negotiations on both a China-EU investment agreement and a regional China-Japan-South Korea free trade deal.

President Xi didn't address the core U.S. complaints about Chinese trade, including the alleged theft of intellectual property from U.S. firms and the special terms China gives to its state-run companies.

There was definitely no sign that China is about to cave in the escalating trade war with the U.S.

Mr. Xi said the Chinese economy was “a sea.” Storms can overturn a pond, he said, but never a sea.

On Sunday night, Trump also veered away from recent comments that a trade deal could be struck quickly, instead touting his hardline approach toward the country during a campaign rally in Tennessee that in fact came shortly before Xi’s speech. “We’ve taken the toughest-ever action to crack down on China’s abusive trade practices. We’re doing very well,” Trump said.

Christine Lagarde, managing director of the IMF who attended the Shanghai event, called on all parties to deescalate tensions and “fix the global trade system, not destroy it.”

So, markets are probably to focus back on the reality of U.S. trade policy ahead of the Trump-Xi dinner and discussions at the G20 Summit at the end of the month.

Italian Fiscal Policy Lingers On

Meanwhile, in the Euro area, Italian fiscal policy lingers on. The intellectual giants that are the credit agencies have given Italy some room by not downgrading Italy that much. The actions of the credit agencies are these days not that important as a “rule,” but a legacy of the days when they did make a difference, means that the barrier between investment and sub-investment grade still has some impact.

Italian Deputy Prime Minister Luigi Di Maio of the Five Star Movement, which is the Italian anti-establishment party, is urging the rest of Europe to follow Italy’s example and break the European fiscal rules, although one of course could argue that Italy is just following the earlier examples of Germany and France who broke the fiscal rules long before Italy did.

Italian bonds declined ahead of today’s meeting of Euro-area finance ministers, who are set to discuss how to deal with a government that is showing few signs of capitulating on its budget plans.

Italian 10-year bond yields rose 4 basis points to 3.36 percent.

For comparison, the U.S.10-year Treasury yields 3.20 percent

Etienne "Hans" Parisis is a bank economist who has advised investors on financial markets and international investments.

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Markets are probably positioned for the gridlock of a Democrat House with a Republican White House. That may raise risks on trade tensions because trade is an area that President Donald Trump can act on without congressional approval.
midterm, elections, voters, investors, trump, trade
Monday, 05 November 2018 10:10 AM
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