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Commentary on financial markets – March 2018


  • US: imposition of import tariffs on steel and aluminium
  • Italy: Five Star Movement wins parliamentary elections


Selloffs and increased volatility hit markets in February. Also in March, all major stock markets continued to retreat from their values. Despite a modest decline in geopolitical tensions (improving relations between the rest of the world and North Korea and the calming of the situation in Syria), markets reacted negatively to rising trade tensions stemming from the protectionist behavior of the United States.

Following the imposition of import tariffs of 25% on steel and 10% on aluminium, China has been heard to take strong countermeasures. Similarly, the EU has stressed that it is ready to retaliate. Then, at the beginning of April, China actually introduced retaliatory measures. For the time being, it is just tariffs on imports of US frozen pork, wine, some fruit and nuts, among other things. Although these are marginal items for the time being, trade tensions are rising and a possible escalation of protectionist measures leading to a trade war could significantly damage world trade.

The parliamentary elections in another major European country, Italy, ended with the victory of the strongly nationalist Five Star Movement. However, the centre-right coalition of Lega and Forza Italia won, but even they do not have a parliamentary majority. Italy is therefore likely to face long and difficult negotiations on the shape of the future government. The bad news for European stock markets is that the best chances of winning the prime minister’s seat lie with Salvini of Lega or di Maio of the Five Star Movement, both of whom are strongly anti-EU.

Trade war risks:
The US has imposed tariffs on steel and aluminium imports and China has imposed taxes on imports of some agricultural commodities in retaliation. The EU has mentioned the possibility of imposing retaliatory tariffs on motorcycles, jeans or bourbon. This is more of a nudge, because these are items manufactured in those US states that are traditionally politically friendly to the Republicans. Much more important is the much-discussed sales tax on large digital companies (at 3%). This would affect US companies such as Google, Facebook and Amazon. The world’s superpowers are at loggerheads on trade and tensions are rising.

At a global level, trade wars benefit no one. In fact, world trade generally benefits all involved because it allows for a better division of labour when different parts of the world can focus on what they are best (most efficient) at. If the world exchange of goods were to fall because of protectionist measures, this would also lead to a fall in overall world GDP precisely because production could not be as efficient. The relationship between industrial production and international trade is beautifully illustrated in the graph.

Although in the graph we tend to see the effect of a fall in industrial production on international trade, the relationship can also work in reverse, where it is tariffs that will worsen international trade and this will lead to a fall in industrial production.

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