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Initial headlines coming out of the Trump-Xi dinner on Saturday, December 1, struck a positive tone. The official White House statement indicated that both sides viewed the meeting as “highly successful” and that tariffs on $200 billion of Chinese goods would remain at 10% during a 90-day negotiation period rather than increase to 25% as originally scheduled on January 1. Furthermore, it indicated that China would immediately start purchasing agricultural and other products from the U.S., and also begin negotiations on sticky issues such as non-tariff barriers, cyber theft, and forced technology transfers.
Official statements coming out of China, however, only contained vague mentions of the talks providing direction and both sides not imposing additional tariffs. Articles on the Communist Party mouthpiece, the People’s Daily, talked about “meeting halfway,” “mutual respect,” and “win-win.” In all, these communications out of China had little overlap with the White House statement. Perhaps this irked President Trump, because on Tuesday, December 4 he launched a Twitter offensive reiterating that “China is supposed to start buying agricultural product and more immediately.” And, if a deal does not happen in the next 90 days we should remember, “I am a Tariff Man . . . it will always be the best way to max out our economic power.”
A 90-day cloud of uncertainty, mixed messages, and tariffs ready on sidelines as global growth slows was enough discouragement to send the U.S. equity markets down over 3% on Tuesday. A flight to safety trade into Treasuries also pushed down the yield on the 10-year T-Note, which generated concerns about possible yield curve inversion. As of market close on December 4, the yield on the 10-year T-Note stood only 12 basis points above the 2-year T-Note and 50 basis points above the 3-month T-Bill.
We are following the yield curve developments, and possible implications, closely. First, it is important to note that the most important relationship to consider is that of the 10-year relative to the 3-month yield. This spread has shown to have the strongest predictive power and has given the fewest false signals for impending downturns. The current yield differential of 0.5% on this measure is unwelcome, but not alarming at present levels (Exhibit #1). Second, while we expect the Federal Reserve to raise rates again at its December meeting, we do not believe they will push up short-term rates to a level that forces an inversion of the curve. The yield on the 10-year Treasury could continue to fall, but this too should further soften the Fed’s position.
Exhibit1: Treasury Yield Curve Slope: 10-Year Less 3-Month Yield (%)
Source: Bloomberg, BMO Wealth Management Strategy
Going forward, we do expect the U.S. and China to get serious about trade negotiations in the coming months. Ninety days is potentially enough time to reach partial agreement or extend the negotiating deadline further. President Trump could nonetheless insist on more than China is willing to concede and ultimately resort to full-on tariffs. But, with the mutually damaging phase of tariffs still close at hand, both sides should have additional incentive to reach at least partial agreement.
Download Dinner Party Hangover – He said, Xi saidPDF (412.3 KB - PDF)
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