President Trump’s “Liberation Day” creates a placeholder for a summit with President Xi

Just over 40 years ago, the Liverpudlian band Frankie Goes to Hollywood hit the pop charts with the anti-cold war song called Two Tribes. The accompanying video was controversial as it included doppelgangers of Soviet leader Konstantin Chernenko and President Ronald Reagan in a wrestling match. It wasn’t known at the time, but the song came at a pivotal moment when the Cold War had intensified and fears about nuclear warfare were peaking. 

Today, China is challenging the US for supremacy. President Donald Trump’s “Liberation Day” of raising import tariffs on 2 April is deeply intertwined with China-US trade and could lead to a sea change moment in relations between the world’s largest economies. It is difficult to know what Trump’s tariff hike objective is, but it could be viewed as an opportunity for the US to negotiate concessions from China, such as reducing mainland trade barriers for American goods, ahead of a potential meeting with President Xi. 

Should Trump go to Beijing then it presents an opportunity to find a solution that supports both the US and China. A broad trade deal seems unlikely, but it could reveal the direction of future relations between these two superpowers. The outcome of such a meeting would surely impact financial markets.

Trump has plenty to talk about with Xi when they finally meet. We think the following three issues will be on his agenda:

1. Persuading China to buy more US Treasuries. Even at full employment, the US budget deficit was historically wide at 6.4% of gross domestic product (GDP) in 2024.¹ It is likely to remain deep in the red under Trump’s plan to make permanent the individual income tax cuts that are due to expire from the Tax Cuts and Jobs Act passed in Congress during his first term. Given the expected increased treasury supply coming onto the market and the uncertainty caused by the confiscation of Russian holdings in Western government bonds post its invasion of Ukraine, the Chinese are apprehensive in buying US public debt. Indeed, Chinese official holdings of treasuries, as a share of their foreign currency reserves, has fallen to a record low of 24%, down from a peak of 46% in 2000.² 
   
   To ease Chinese concerns, Trump may be using Elon Musk, Head of the Department of Government Efficiency, to show that his administration is serious about cutting back on wasteful government spending. Trump might also use a possible truce in the Ukraine war to scale back financial sanctions against Russia, including allowing it access to its treasury holdings, signalling a friendlier regime toward foreign treasury holders. 
   
   Trump’s expansionary fiscal policies are reliant on keeping the cost of government borrowing down, which would also benefit business via loans and consumers via new mortgages. The quid pro quo may be that China needs to agree to buy more treasuries to avoid further tariff increases.
   
   
2. Attracting Chinese capital to selected US manufacturing. Trump set out his intention to get the Chinese to invest in US manufacturing in his Republican nomination acceptance speech in July 2024. He called for China to invest in US automobile plants and hire US workers. This may not be as outlandish as it seems. Back in the 1980s, President Reagan used economic coercion and pressure on the Japanese to set up factories in the US to ensure continued access to the US market. China may have to do the same as Japan did 40 years ago. This may be a price that China is willing to pay.
   
   
3. Revaluing the renminbi. If Trump’s ambition is to grow the US manufacturing base, then he likely needs the US dollar to weaken to make US products internationally competitive and the US a more attractive investment destination for foreign investors, like China. The problem is that the real effective exchange rate (a weighted average of several foreign currencies adjusted for prices) of the US dollar is at its highest level for 40 years, while the value of China’s currency, the renminbi, is close to record lows. 
   
   Even though interest rates, growth differentials and capital flows typically drive currency movements, the messaging from the leaders of both the US and China can have a powerful effect on exchange rates. For example, before his first term inauguration in January 2017, Trump said that the US dollar was “too strong”. The US dollar subsequently depreciated against most major currencies for the next year.
    
   However, China will be wary about renminbi appreciation against the US dollar, as it would make its exports less competitive, particularly as manufacturing rival Japan is benefiting from a historically low yen exchange rate versus the US dollar.
   
   Furthermore, China is also aware of what happened to Japan in the second half of the 1980s after the Plaza Accord on 22 September 1985. The US forced Japan to accept material yen appreciation, along with the Deutsche mark gains, to address trade imbalances. To offset the negative economic impact at home, the Japanese authorities allowed their money supply to increase, providing an incentive for banks to raise lending. This led to a boom and bust in land, real estate and equity prices, which the Japanese economy has since struggled to escape from due to deflation. 
   
   Trump may not get Xi’s backing to allow a significant increase in the value of the renminbi. Nonetheless, given China’s ambition to internationalise its currency as a store of value and alternative to the dollar, there is room for some appreciation.   

Investors need to consider which assets are sensitive to the build-up and outcome from a potential Trump-Xi summit. The US dollar and stocks in trade sensitive economies like the European Union (EU) and China are prime candidates. 

Simply put, if Trump and Xi finish the meeting on friendly terms and find common ground to work together (without the need for large trade tariff hikes), then the US dollar could weaken and the valuations of stocks in the EU and China could rise further. 

Conversely, if Trump and Xi fail to agree then the US can be expected to impose higher trade tariffs, with potentially a protectionist response from Beijing. Under that scenario, the value of the US dollar could remain elevated to reflect trade uncertainty. Export-led EU and Chinese stocks could lose their recent lustre with investors. 

If the summit is a success, it could ease China-US tensions a little during Trump’s second term. In the not-too-distant future, it could be Xi goes to Mar-a-Lago to strike an accord with Trump!

1. LSEG/Evelyn Partners
2. LSEG/Evelyn Partners