Morgan Stanley IM: (Trade) War – What is it good for?

At the time of writing (31 October 2018), the MSCI World Index experienced its first more than 10% correction since early 2016. Market commentators attribute the correction to a range of factors, including rising interest rates, rising energy costs due to supply constraints and environmental regulation, political upheavals in Italy, and the escalation of trade tensions between the U.S. and China. As usual, we have no edge in determining whether or not this is the start of a more persistent market slowdown or just a temporary blip.

However, it may be helpful to lay out in a bit more detail why we believe our portfolios are positioned to better navigate these challenges, using the trade tensions as an example:

How this affects the bottom line depends on the degree of pricing power a company has

How to assess the impact of rising protectionism

Most analyses we see on the trade tensions attempt to estimate the impact of import barriers on gross domestic product (GDP). There seems to be no consensus on the extent of the impact, but the European Central Bank estimates a -0.75% direct and indirect impact on global GDP relative to baseline for the first year.1

GDP can be a useful tool in forecasting demand for individual products but, in this specific case, it may actually be quite misleading. Trade wars have a direct impact on GDP through two channels: On the one hand, higher import tariffs reduce the purchasing power of households, resulting in lower consumption. This negative impact on GDP is partially offset by higher prices for imported goods inducing consumers and firms to switch to domestically produced goods, which in turn increases domestic demand and reduces exports. To put it simply, applying an import tariff on, say, cars may reduce the demand for foreign-produced cars, but that negative effect is partially offset by an increase in demand for domestically produced cars. So, the GDP impact is partially mitigated.

Click here for the full article.