A Coronavirus Contraction Or A Coronavirus Correction?

The Dow is down 1,000. Gold is up $30.30 intraday and $101.70 in the past 30 days. And oil is down $2.79 to $50.59, a drop of 5.2%. Are the markets simply in a correction or are they signaling a recession?

The market turmoil is linked to the deadly virus outbreak in China, where factories are struggling to resume production and ports are at a virtual standstill.

The People’s Republic of China just announced a ban on the export of medical masks—every mask is needed in China where Communist Party authorities have badly mismanaged the Novel Coronavirus outbreak.

Officially known as the COVID-19 virus, evidence suggests that Chinese authorities have waged a more aggressive war on truthful information than on the deadly virus itself. As a result, over the past week, the official count of infected persons in China grew by only 6.6%, or 4,800 cases to a total of 77,200. In the same span, the number of cases outside of China has almost tripled to 2,400. Something isn’t right.

Further, it doesn’t help that the United Nations’ World Health Organization (WHO) was only allowed to deploy a small team to China—and even then, WHO experts were prohibited from going to the outbreak’s epicenter in Hebei province. Yet WHO Director-General Tedros Adhanom Ghebreyesus incredulously said two weeks ago that, “China is actually setting a new standard for outbreak response.” Tedros then urged other nations not to restrict travel to China, likely under tremendous pressure from Chinese leaders. The delay in travel restrictions caused by this plea allowed more infected people to travel abroad with the potential for a significant loss of life globally.

Meanwhile, if the outbreak really is under control in China, why is it that economic output there is still slumping, with cargo ship rates and coal and iron ore prices in a “free fall” due to collapsing demand from China?

As China-linked supply chains for everything from phones to cars to clothing lurch into disarray, how might the U.S. economy react?

Whether the American economy weathers this China supply storm and emerges stronger, or withers into recession, was likely determined in December 2017 when President Trump signed the Tax Cuts and Jobs Act into law.

Before the major overhaul to the tax code, U.S. corporations with overseas operations had accumulated about $1 trillion in cash held abroad. This dollar hoard was kept overseas because American corporate profits earned internationally weren’t taxed until they were brought home. And with one of the highest corporate tax rates in the world, at 35%, few companies were willing to take the hit, being content to just rollover their profits overseas. The Trump tax cut changed the equation, encouraging the repatriation of earnings, with some $777 billion brought home in 2018, about 78% of the estimated total.

Aparna Mathur, an economist with the American Enterprise Institute, predicted that the Trump corporate tax cut,

“…would incentivize investment by increasing the after-tax profitability of marginal investment projects, which would then lead to a higher capital stock per worker, higher productivity, and subsequently higher wages.”

She goes on to note that these productivity enhancements begin to be seen in three to five years.

The tax cut was enacted in December 2017—so three years later is December 2020. In the intervening 26 months since then, the Trump Administration has confronted China on a number of trade issues, using tariffs on Chinese goods to pressure agreements on outstanding frictions such as intellectual property theft, non-tariff barriers, currency manipulation, and government support of industries. The net effect is that portions of the U.S. economy were already leaning away from China—the Coronavirus outbreak merely serves as an urgent catalyst to finish the job.

Of course, as the Chinese Communist Party is systematically lying about new COVID-19 cases and resultant deaths, it will inevitably lie and cheat on its trade agreements with the U.S.—that is integral to Chinese Communist Party’s ideological DNA. But China’s economic leverage over America is dwindling by the day and with it, U.S. tolerance for Chinese cheating diminishes.

Fortunately, the Trump tax cut in late December 2017 primed the U.S. economy to reduce its reliance on Chinese manufacturing, meaning any downturn is likely to be shorter and less steep than it otherwise would have been—and leaving America in a far stronger position by the end of the year than would have been the case had the tax cut not been signed into law.