Pro Perspectives 10/10/19

October 10, 2019

Early this year, we talked about the prospects of seeing the U.S./China trade dispute ultimately resolved through a grand currency agreement (i.e. a Plaza Accord 2.0).

Indeed, as we awaited the high level U.S./China trade talks to begin this morning, it was reported overnight that a currency pact is in the works.  

With that, let's revisit my May note for some background on why it makes sense, and what to expect …

Excerpt from Pro Perspectives, May 21, 2019 

"With the stalemate on U.S./China trade talks, let's take a look today at how this may end.

A lot of attention has been given to trade quotas, intellectual property theft and the challenges U.S. companies have accessing Chinese markets.  What hasn't been talked about as much is the currency issue.  Yet China's currency is at the core of it all. 

China has used a weak currency to leapfrog almost the entire world over the past 30+ years, capturing 15% of the global economic market share and rising to an economic power.  They've gone from a $350 billion economy in the early 80s, to a $13 trillion economy today (the second largest economy in the world). 

That's how they got here, and we've talked in recent weeks how they are attempting to stay here …. going back to what they know, weakening the currency, as a tool to fight the impact tariffs. 

With that, the trade war has been manufactured by more than three-decades of China's currency war.  It only makes sense that it can only be resolved with a primary focus on the currency.  We may find that if/when the U.S./China stalemate ends, it will be with a grand and coordinated currency agreement.

With that, a lot of comparisons have made between the U.S/China standoff and that of U.S. and Japan in the 80s.  That was ended with the 'Plaza Accord' — an agreement between the U.S., Japan, Germany, England and France.  The Plaza Accord was a plan to balance global trade, through a 50% depreciation of the dollar (vs the yen and d-mark).  

We may wake up one day and find a similar agreement has been made between the U.S. and major global trading partners (which may include China, or not)."  

So, what happened to stocks, following the '85 currency agreement?  Stocks rallied about 15% into the end of the year in 1985, following the deal.  Stocks were up 16% in 1986, and rose as much as 40% year-to-date in 1087, prior to the October crash. Gold rose close to 60% of the next two years.