Commodity Capital's Kenneth Stein Investigates
Hehmeyer Trading + Investments is home to a plethora of experienced and knowledgeable managers. One of the reasons we launched this blog was to create a space to share their expert insight and observations. This week we feature commentary from Kenneth Stein at Commodity Capital. The opinions and views expressed in this commentary are that of the author. Hehmeyer Trading + Investments may not neccessarily agree with the opinions of the author.
Building apprehension over a round of tariff threats between the U.S. and China, to take effect in a few months, dominated CME trade late in the month and came to the fore in early April as they were announced. In reaction to the Trump administrations opening salvo of potential taxes on imports from China, it countered by threatening import levies including big-ticket agricultural items soybeans and pork. Grains and soybeans prices broke but recovered some, as did equities, but hardest-hit were meat markets.
Chinese soy processors immediately responded by redirecting soy purchases toward Brazil, which exacted a premium over U.S. Beijing offset the price rise by reducing its VAT tax on soy processing. In the U.S., the Secretary of Agriculture stated that Pres. Trump assured him farmers would not bear the full brunt should negotiations fail. Farmers have already sold most of the 2017 crop, and the revenue-insurance prices for 2018 have already been fixed under the government-subsidized program. So U.S. farmers are pretty secure for a year. The livestock industry received neither relief nor consideration.
Grain trade between the U.S. and China is of paramount importance to both: One, the largest grower of soybeans, the other accounting for 60% of world imports. More than any other single product, huge soybean imports have been instrumental in the vastly improved Chinese diet. Soybean trade between the U.S. and China can serve any classroom as the textbook example of freed-up trade's mutual benefits, with the imposition of tariffs as an equally instructive opposite.
After a millenia of being largely closed to the world, with the impoverished lives that produces, China's opening to the West has btought its billion-plus citizens - 20% of world population - the same meteoric rate of improvement experienced by the "Asian Tigers." The average Chinese now enjoys a richness and choice of diet on par with other functioning economies.
It’s not controversial to state that China violates intellectual property protections of the World Trade Organization it struggled to join, built military fortifications far offshore in threat to navigation and neighbors, and recently reversed several decades of regular leadership succession in a move reminiscent of Chairman Mao. Mr. Trump seeks to limit China’s adversarial commercial behavior, but the aims of Mr. Xi, now the unchallenged supremo, have no historical precedent by which to judge. We do know that he suffered through the 70’s Cultural Revolution so understands how ruinous, and murderous, central planning can be.
The U.S will complete shipment of the large volume of soybeans China has already contracted, and Chinese concerns would be able to continue livestock production satisfactorily for a few more months even if subsequent soybean purchases were restricted to South America - but only as long as supplies last. To avoid major food-cost increase it would have to return to the U.S. market by September. Contracting for September vessels would need to begin by early July, so the scheduled late-May intergovernmental negotiations represent an important deadline for China.
Were China to carry out its threatened 25% tariffs on wheat, corn, soybeans, meats and other items, impact on the day-to-day life of the average citizen could create unrest. Its per-capita income is just over $8,000 equivalent, but with hundreds of millions far below that. Even those citizens who subside on less have enjoyed improvement and optimism never experienced in the country’s long history. Given the dramatic extent of progress, could public unrest be so easily suppressed even by a Communist dictatorship?
A leading editorial Wall Street Jounral recently opined that, should trade talks fail, "Chinese leaders will justify any consumer pain as neccessary to stand up to U.S. trade bullying." On the clearn 20th-century examples of the Soviet Union and its satellites, Mao's China, North Korea, etc, the answer is that repression can be very effective. But can it in among China's middle class, educated and more numerous than the U.S. population, in today's interconnected world?
Negotiations over agricultural subsidies and tariffs have been the outstanding stumbling blocks in every major round of trade talks under WTO and the GATT rounds before it. The upcoming talks will certainly be characterized by brinksmanship: Threatening public statements from both sides, Trumpian hyperbole, Communist agitprop hearkening back to the Cold War, which can temporarily weaken grain prices. For success to occur, Messrs. Trump and Xi will each insist on winning legitimate concessions with which to boast for domestic political consumption.
In the case of soybeans and pork, the U.S. and China are not adversaries but mutual beneficiaries. Commerce between nations is far more than just a plus for both, it is the key to human economic progress and the ultimate enforcer of peaceful relations. Trade agreements can indeed be struck within a few months - allowing both leaders to puff out their chests.