“Protectionism will do little to create jobs and if foreigners retaliate, we will surely lose jobs”, Alan Greenspan.
The global world is now moving back to those times where the country’s domestic industries were protected from foreign competition by taxing imports. Maybe the globalization era is coming to a halt. “Protectionism is the ‘quick fix’ that is more common among the politicians for its short-term political benefits, while its longer-term costs are significantly high,” Deutsche Bank wrote in March.
Trade wars have been in discussion lately, and no one can predict what will happen next. The thriving US-China trade war isn’t impossible to keep on hold; it’s just that there’s no clear way of stopping it, especially because it’s not clear what both the sides want. Adding to the complexities Coronavirus pandemic worked as gasoline in the fire. Leading to restrictions, lost confidence, supply chain disruptions, and reduced trade volume.
But we still are exposed to few risks and are not sure which asset classes would outperform the market and which asset classes would suffer. In Q2, the recession commenced with full effect and the economy shrank 31.4%. The economy in Q3 will improve as per Congressional Budget Office (CBO) but not enough to cover the losses. Also, as per CBO, the economy might take up to the year 2022 to return to its pre-pandemic level.
Our retirement savings are at risk. Uncertainty leads to losses, and we must be well protected when we are thinking of retirement. The important thing to make sure during this time of uncertainty is that the portfolio is well-diversified and is better suited to withstand the risks faced due to a rise in volatility. Diversification helps in reducing unsystematic risks (Diversifiable) and helps in generating stable returns during times of stress.
During a period of stress & uncertainty the money shifts from emerging markets to developed markets that leads to a fall in domestic currencies, falling equity premiums and rising bond yields. But if one asset class falls the others usually appreciates: so in this case, the currencies of developed economies tend to appreciate, money starts flowing into safer assets. This is the benefit of diversification; the portfolio becomes well protected from shocks as some assets perform well while making up the losses suffered in other assets.
Diversification can protect us from having a domestic country bias and holding a concentrated portfolio in a single market. International diversification is a risk management tool. Even if it doesn’t increase returns, it’s hard to put a price on the protection it provides from being invested in a wrong country/asset at the wrong time.
Let us understand how this trade war affects us and our savings- Due to higher import duties; the costs are bound to increase for those products whose inputs are purchased from a foreign country. This rise in the cost of materials would lead to higher prices of products. This rise would be passed on to the customers at the end and it would increase the cost of living within the economy. If prices rise and wages don’t keep up with it, workers lose purchasing power and are unable to afford the basic amenities of life.
Inflation is bad for the economy if it becomes too high as it happened in the case of Venezuela, Iran, Argentina and others. If one country imposes the tariffs over others, the second country may retaliate by imposing similar tariffs. This may create a vicious circle reducing the overall demand & supply and may lead to layoffs in both domestic and foreign countries. In the long run, trade wars typically slowdown overall economic growth. These wars create more layoffs, not fewer, as foreign countries reciprocate the acts of other countries.
U-Shaped Recovery
The U.S. economy is expected to follow in a U-shaped path for recovery marked by a relatively sharp decline and recovery.
This positive bias is based on key economic indicators, including gross domestic product (GDP), unemployment, and inflation. Analysts also review interest rates, jobs, oil and gas prices, and the impact of climate change.
The most important economic indicator is GDP, which measures the nation’s production of goods and services.
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Authors:
- Sunil Gangwani, Co-Founder, Plootus
- Pranay Loya, Financial analyst, Plootus
