With the latest round of the US-China trade war warming up due to the upcoming trade talks scheduled in October, reports have come that President Trump is looking for more cards to play during conversations. Specifically, the possibility of limiting US capital outflow to China and Chinese companies. This would be a major escalation of the trade war, which so far has only really seen the two countries impose tariffs on each other (though they amount to hundreds of billions of dollars). Everything else has remained largely the status quo.
Threats of Chinese yuan depreciation obviously crept in as we reported earlier (here) along with the possibility of rare earth exports being restricted by China as alternative measures since the US obviously has more Chinese imports it can tariff than the other way and can therefore impose higher tariffs than the Chinese can directly repay. As the US basically rates everything from China by the end of the year if no progress is made in trade talks before that, this phase of the trade war feels like it is nearing its peak and both sides need to find the tools and levers that will define the next stage if the situation cannot be brought to heel.
China tries to open up foreign investment – Trump considers slamming Door Shut
China is still deep in the transition to a modern economy. Much of the economy has been liberalized and it takes an extremely naive person to call it a communist state these days, but it is still far from being a free market economy. One of the areas it is trying to open up in has allowed foreign financial investment, which today is severely limited by a number of funds.
Hong Kong has long been seen as the gateway for the West to access China and recent bypasses at the Hong Kong Stock Exchange (HKG: 0388) to try to buy the London Stock Exchange (LON: LSE) (which is itself packed in the attempt to buy the former Thomson Reuters financial services business: Refinitive) has done nothing to dampen it even though the prospects are viewed with some suspicion in the West. In addition, China has passed legislation this year aimed at opening up the country to foreign investors, which is estimated to raise another $ 1.5 trillion over the next decade.
This, combined with Chinese companies listing on US markets such as Alibaba (NYSE): BABA), Baidu (NASDAQ: BIDU) and others, along with larger index companies that increasingly include Chinese companies in their indices, means that China has seen growth in foreign investment inflows in recent years as pension funds and others appear to capture some index benchmark performance and gain exposure to the key benchmark indices as well as the region that, up to the trade war, was viewed as a high growth economy.
That could all be changing, as President Trump is apparently investigating ways to stop US money from ending up in China and Chinese companies. This is said to include the possibility of:
- Forced delisting of Chinese companies from US stock exchanges.
- To stop US state pension funds from investing in the Chinese market.
- Stop US index companies such as MSCI (NYSE: MSCI) from including Chinese companies in their indexes.
It is not immediately clear how Trump would have done to achieve this, but the net effect will be evident as billions of dollars would no longer be available to Chinese companies. U.S. listed Chinese stocks such as Alibaba, Baidu, JD.Com (NASDAQ: JD) and Tencent (OTCMKTS: TCEHY), among others, went down on reports, with Alibaba losing over $ 20 billion in market capital and ending the day with over 5 %. In addition, Yuan slid toward the dollar beyond Level 7: 1.
It may be that this leads to nothing and is simply something President Trump wants to have as a card in his hand to throw on the table as a factor that must be taken into account in the trade talks that are about to start again. However, it would be naive to think that this is a bluff, the US needs a trade agreement, as does China, but both sides have repeatedly shown that they are willing to go to the next round and further hurt both their economies and the wider world.
China has largely maintained its holdings of US Treasuries (currently $ 1.1 trillion), but the federal government has borrowed like crazy, so China's stake as a share of the total outstanding US government debt has shrunk. A burnout policy with burnout would also hurt China by the value of the bonds would of course steer, but that is one factor to consider given that the US repo market is not in good shape as the Fed has had to intervene over the last week or so given the market currently being rampant in US T-notes, it may also be that there is a weak bank somewhere, but nothing has emerged yet. But this may be a last resort option to squeeze the cracks that are beginning to emerge in the US financial system.
The United States is more advanced from a financial services perspective than China obviously and has been pushing for China to open its economic markets to foreigners. These steps will reverse the progress made on that front and likely lead US fund managers currently holding holdings in Chinese companies / China to consider balancing their portfolios. This will obviously lead to an influx probably in domestic listed companies as well as potentially other asset classes.
However, there is another angle to this conversation. The United Kingdom is currently in the midst of its long-awaited attempt to leave the EU. Provided this goes further, the UK will no doubt rate both the US and China for trade deals and given that London is (although likely to be somewhat reduced after Brexit from a financial services perspective) still generally ranked 1st or 2nd place as it capital of the world economy, the crossings from Hong Kong to London begin to take on further context in this sense, and if President Trump does indeed end up implementing blocks of US money ending up in Chinese hands, Beijing could more than turn his eyes to London , especially as the United States becomes increasingly hostile to China and its companies (read our coverage of the Global Cyber Policy Watch lobby group's stance on Huawei and China here).