US House Speaker Nancy Pelosi landed in Taiwan yesterday, against the wishes of Chinese authorities who have repeatedly warned against the visit and vowed to retaliate in the midst of volatile markets and economic uncertainty. What say the banks?
Late Tuesday, US House Speaker Nancy Pelosi landed in Taipei as part of an Asia tour that includes visits to Singapore, Malaysia, South Korea and Japan to discuss trade, the pandemic, climate change, security and «democratic governance». The move was publicly opposed by Beijing which has conducted military drills in the Taiwan Strait, jet flyovers and threatened further retaliation.
While the visit could help Washington improve the optics of its commitment to defending Taiwan against China, which regards the self-ruled island as a breakaway province, this could also spark a conflict during challenging times for the global economy and markets.
What say the banks?
Taiwanese Markets Tremble
Leading up to Pelosi’s landing in Taipei, Taiwan’s local currency and equity markets slid over fears about the potential reaction.
«The underperformance in the Taiwan dollar is reflecting heightened geopolitical risk, rather than fundamentals,» said OCBC rate strategist Frances Cheung. «Unfortunately this kind of sentiment appears to be self-fulfilling in that the resulting equity outflows are putting pressure on the local currency.»
Short-Term Rebound
While China is reportedly set to conduct live ammunition drills around Taiwan following Pelosi’s landing, there has fortunately been no military engagement thus far. And according to a note yesterday by J.P. Morgan analysts, the lack of an immediate «kinetic» response would drive up markets.
«While the Chinese response is unknown, the feeling yesterday among US investors was that an escalation that saw an immediate attack was unlikely and that parallels to RU/UKR may be off-base. Russia has been amassing troops and military vehicles for several months ahead of its February 24 incursion,» the note said.
«Also, over the last several years Russia had 'de-dollarized' its economy, selling its US Treasuries and moving that money to gold. China still holds about $1 [trillion] in US Treasuries and it is not thought that China has made similar moves with its military, relative to Taiwan. Pelosi’s plane is scheduled to land about an hour after the US opens; if there is no immediate reaction you may see markets move higher.»
Major US indices rose slightly immediately before and after Pelosi’s landing but the gains were later erased and markets closed lower for the day.
«Dire Straits»
While many may be breathing a sigh of relief over the lack of military action thus far, the risk of a conflict has not yet disappeared, according to Rabobank’s Hong Kong-based global strategist Michael Every. While some believe China’s current economic woes and the perceived posturing are signs that it is unlikely to act militarily, Every said that the former can also mean the «complete opposite» historically while foreign policy messaging from the latter matches the period before previous wars against India and Vietnam. He notes the US has also signaled willingness to engage in response, although it is not obligated to do so by any treaty or agreement.
«In short, much more volatility potentially lies ahead this week: yields will likely go lower; stocks may try to use that as an excuse to bounce higher – unless they have any direct or indirect China linkage, which means just about everyone in the US; safe haven FX will get more 'safe-haven-y'. And anyone using Chinese supply chains arguably has even more need to consider not doing so as soon as possible,» Every said in the research note titled «Dire Straits».
«Moreover, volatility will likely last far longer than this week, even if the attention span for many in markets won’t. Indeed, the Pelosi visit risks rapidly metastasizing into a Fourth Taiwan Strait crisis.»
