May 17, 2019 4 min read

The world has gotten a lot crazier over the last couple of weeks.

North Korea has launched more missiles after a lull. They were not intercontinental types, which is a good thing. Venezuela is in chaos and it is a major oil exporting country. Someone launched a drone strike against an oil-pumping station in Saudi Arabia, and the U.S. just deployed an aircraft carrier battle group near Iran. Washington is in total gridlock.

All are concerns, but are not the biggest things shaking financial markets.

There was great optimism that the U.S. was close to negotiating a new trade agreement with China. These are the two largest economies in the world. In 2018, we exported $180 billion in goods to China, about 0.9% of our gross domestic product. And we imported $559 billion in goods from that nation, roughly 4.6% of its GDP. China is more than three times the population we have.

There are two major elements of the trade dispute: we do not have access to sell to all of their people, and China often ignores our patents and trademarks. China knocks off inventions from America that cost our companies lots of money. China’s government also subsidizes products from its manufacturers, making it harder for U.S. companies to compete at home and overseas.

This trade war started last July, when President Donald Trump put tariffs on $34 billion in Chinese goods. Tariffs are surcharges that companies place on imported goods to punish another company or protect domestic industry from imports. Tariffs have been around in some form since the passage of the Smoot-Hawley Tariff bill in 1929. Some tariffs are always in place and some are used to try and gain a short-term advantage.

The stock market was very optimistic about the possible deal with China. It could have had a big impact on American business if it was a strong agreement. It would have opened new markets and made the playing field more level. When the trade deal became questionable, the stock market had a big reaction. Success had been priced into market valuations.

Tariffs do increase cost to consumers in many cases. Someone has to pay the higher prices, and higher prices lead to increased inflation. When it rises too fast, inflation causes the Fed to raise interest rates. We have seen what happens to market valuations every time there is a hint that the Fed will increase interest rates.

Historically, tariffs have been negative for the stock market. This started with the first tariffs. Almost 70 years later, George W. Bush put some tariffs on steel and lumber to try to protect American interest. The S&P lost more than $2 trillion of market capitalization, several thousands of points, and it did not recover until after those tariffs were removed.

As with everything in today’s complicated world economy, one change affects many other things. China is a major buyer of our government bonds. If it would refuse to buy more or dump its current holdings, that could affect our interest rates and the value of the dollar in world markets. This would help some industries and hurt others.

Right now, the dollar is the international reserve currency for the world. This means trade is valued with our money. If things become too disruptive, there could be a move to the yuan – China currency – to replace the dollar.

This current crisis brings us back to a point we discussed previously. Do not take on more risk than is right for your timeline and tolerance level. Do not automatically assume things will keep getting better. Markets do not move in only one direction.

Gary Boatman is a Monessen-based certified financial planner and the author of “Your Financial Compass: Safe passage through the turbulent waters of taxes, income planning and market volatility.”

To submit columns on financial planning or investing, email Rick Shrum at rshrum@observer-reporter.com.