Why The Phase One ‘Trade Deal’ Was Much Bigger Than Anyone Realized

(New feature, still in beta form: Audio version of article)

On Friday it was announced there was agreement on the once never-ending story for agreement known as “Phase One” of a trade deal between the U.S. and China. Consequently, before the imaginary ink was dry, there were more calls for questioning of the details than soybeans in a metric ton. The issue here is: If you’re weighing this agreement from a purely business transaction lens – you’re going to miss the bigger picture. “Bigly.”

Let me start off stating my own thoughts so you know precisely where I stand in all of this.

First: I do not believe a trade deal of any consequence that benefits both the U.S. and China (i.e., equal trading partners) will ever be agreed to, let alone a mutually agreed, formally signed one.

Second: I do believe China is at the precipice of an all out economic free-fall into the abyss much like the former Soviet Union was before the 1991 collapse. The only unknown today is precisely when and what will be the commensurate damage not just to China, but globally.

So with the above said I can hear you shouting through my screens “Then why did they both agree to anything then?!” It’s a good question, so let’s look at it through a different prism and see if we can gain a better view than the monocular most are trying to use.

There was a reason I used the phrase “never-ending story” in the opening paragraph, because this “agreement” has been argued to have been all but agreed to for some 18 months. During this time we’ve had both sides play with tariffs placed, increased, lifted, reinstated, etc., etc., etc. However, it’s surmised this last round of increases that was suppose to be imposed today (Sunday) that gave the Chinese pause.

I think that’s part of it, but not all of it.

What I believe changed the calculations for China was the impeachment vote. Why? Because this was a negotiation leverage point too good to not let play out. The problems began happening for China when there was no early wavering on the tariff debate up to, during, and after the impeachment vote.

The problem with all this? The President appeared to now be in an even stronger position politically, because of the watering down of the charges (remember: bribery?) and the newest revelations via the Horowitz report. In other words: the most useful tactic and beneficial reason for stalling had now become moot, where the now firmly visible Sword of Damocles tariff increases had to be calculated with a near 100% certainty for implementation.

Although both political leaders could ill-afford the potential damage economically and politically if imposed, it was China that suddenly found itself in a much more compromised position. And it is here where everything changes for those trying to calculate what’s coming next over the horizon.

When it comes to this so called “agreement” there’s already a very vocal chorus throughout the mainstream business/financial media questioning the validity of its claims. Personally, it is here I believe many are missing the bigger point.

Regardless of what the “deal” has in it or not. What it does have is precisely what the President wants and needs: a get out of trade-jail card to use whenever he needs from this day going forward, through the election cycle, and maybe, even further.

And I believe China not only knew it – but couldn’t do anything about it. If they could? They would not have publicly agreed via the people ultimately responsible, with the politically approved power to do so. Again: publicly.

Although there is much coyness emanating from both sides as to what precisely the definition of “is” is. All one needs to extrapolate for clues are what both sides are really doing – and why.

President Trump is now hailing this as a “great victory.” President Xi has to now politically massage, as to tap down, any and all assumptions that it was his team that caved from what I can only presume was thought of as a “sure thing” calculation for gaining the upper hand.

And it is here where I am going to predict that much like the old sage “Hell hath no fury like a woman scorned.” I will submit “No trade deal will ever be consummated by a communist leader appearing to have lost face.” I see this temporary stay (e.g., Phase One) of “agreement” only as that – temporary, while the plotting for revenge simmers and boils.

Currently China is facing internal battles of massive economic upheaval not only from within China proper, but also in one of world’s most prosperous and very visible enclaves: Hong Kong.

Ever since China regained full control over it that “control” has been questioned as to just, how much? Now “how much?” has reached the stage of: how long before that once perceived velvet glove rule for “One country, two systems” morphs into “One China, one iron fist?” Hint: Chinese military are an ever-increasing, very visible presence just across the bridge in Shenzhen.

Here’s another: China’s state owned enterprises (SOE) are showing immediate signs of distress with just the latest (and largest!) bond default in over two decades. e.g., Tewoo Group. Here’s a sample as reported by Bloomberg News™. To wit:

The one-time Fortune Global 500 company from the northern port city of Tianjin said dollar bond investors representing 57% of the the total $1.25 billion have agreed to be paid just 37 to 67 cents on the dollar, depending on the maturity of the debt. Bondholders representing 22.6% of these bonds voted to exchange their debt for new bonds with sharply lower coupons to be issued by Tewoo’s offshore debt manager, a state asset manager from Tianjin.

“China Suffers Biggest Dollar Bond Default By State-Owned Company In Two decades” 12/11/2019

When it comes to the agricultural agreements put forth in the “Phase One” deal, I have no doubt they may never reach any of the implied targets. e.g., $50 Billion in agriculture alone.

What I believe will happen is China will use whatever time this deal allows to procure whatever they need for the time being as they finalize their agreements with Brazil and others to replace U.S. imports in the future.

But just like the calculations likely applied to waiting out the impeachment vote and more – this will also end (again, my conjecture) in a grave miscalculation. Here’s the reasoning…

Every-time China either questions, reneges, stalls, _________(fill in your own here) on either buying ag products, or stalling of intellectual property rights – the President will have the “political cloak of righteousness” to hammer the point of “We had a deal! They’re not living up to it! Tariffs are back on!” And will, with impunity.

Again, regardless if there really was anything of merit in this so-called “deal,” it does not matter. The “get out of trade-jail card” is all that did. Period. It’s a political win and loss of enormous proportions. And China has lost much. Again, period.

“So what about American farmers, do they lose?” Good question, so let me state it this way:

If (and this really is conjecture, but it’s what I would do, so there you go) I was trying to sell this to America’s farmers, I would say this: Look, I have a very strong gut-feeling China will not live up to their end of this agreement. As a matter of fact, I think as soon as possible they’ll dump us. But we, as in you, will have to plant accordingly in the case that this really does work out, which I’m hopeful, but not naive, much like I believe you are of the same. So here’s the deal…

Plant what you need to to live up to our end, and if they do not buy? We”ll guarantee to subsidize you by buying it ourselves – then – we’ll dump it onto the global market forcing those that are making the deals with China now, such as Brazil and others, hoping to supplant us in a backdoor move. And it’ll crush their prices, profits and market. That way you won’t be hurt if they renege. Then you’re back to what makes sense to you depending on market forces.

“Doesn’t China benefit from lower prices if that happens?” Another good question, here’s my answer: No. Why?

Who’s going to make the next deal?

Now some of you may be saying “But Mark, China is the one really in control here, not the other way around.” To which I’ll argue:

Maybe, but that’s what the all the Ivory Towered academics, occupants of the Federal Reserve, and entirety of the mainstream media and opposing political class thought also…

How’s that all working out?

© 2019 Mark St.Cyr