Trade War from the Trenches: everything you need to know about the 3 big battles ahead

In the past few months, the US imposed a tariff of 25% on steel imports and 10% on aluminum imports on various countries and threatened to do a lot more if countries would retaliate. Each time the bears sold of stocks in response, bulls remain strong with the "buy the dip mentality.

The relatively sanguine approach by markets allowed US President Donald Trump and his Administration to move forward with new tariffs. Only a stock market crash can stop the battles, but so far, this has not happened. US Commerce Secretary Wilbur Ross went forward and said that ongoing falls in equities would not change Trump's mind. This is still to be seen.

But tensions are rising, and words are turning into deeds, and trade skirmishes into full-scale battles. Here are updates on three fronts.

1) The European Front: From small steel to big cars

The early clashes: The EU imposed explicitly targeted retaliatory tariffs on June 22nd. This included the highly sensitive duties on motorbikes, targeting Harley Davidson, a famous American icon. When Harley said they would shift some production to Europe, Trump responded angrily. 

The outright war: As a retaliation to the European retaliation, the US is now contemplating slapping a major mobilization: hitting the EU with tariffs of some 20% on cars and car parts. This would be a crucial escalation that could hit markets hard.

Currencies affected: The Euro is already suffering due to the trade wars, but mostly because of the damp market mood. Moving forward with duties on autos would serve as a direct bombardment on the euro-zone economies. It could certainly change the trajectory of the European Central Bank in its inch by inch steps to exit the stimulus plan. 

2) The North American Front: Canada strikes back in fear

The early clashes: Mexico was first to retaliate against the American metals tariffs with duties on some US food imports. And over the weekend, Canada took its first step, announcing tit-for-tat measures against the US. Canadian Foreign Minister Chrystia Freeland said that Canada had no choice and is responding in sorrow. What happens if Trump sees this as weakness?

The NAFTA front was relatively quiet of late, partly due to the Mexican Presidential Elections. The expected victory of Andres Manuel Lopez Obrador (AMLO) will now clear the way for negotiations. Will this lead to a truce? 

The outright war: Not necessarily. The last meeting between Canadian PM Justin Trudeau and Trump resulted in an outright clash. Trump decided not to sign the communique in the last moment. We could be seeing the calm before the storm, and the US has the Canadian counter-tariffs as a reason to impose a heavier blow.

Currencies affected: The Canadian Dollar and Mexican Peso are the apparent victims. These economies are much smaller than the American one and are entirely dependent on demand from the US.

3) The Chinese Front: Friday is Tariff Day

The early clashes: When the US imposed the metals tariffs, China mostly shrugged it off. The Chinese press has not been too adamant against the US, at least for now. Chinese stock markets suffered more than any other ones but also had their "buy the dip moments."

The outright war which could go global: The big battle is due on Friday, July 6th. This is the date that the US will officially exercise the tariffs on $50 billion worth of Chinese goods. China has prepared its own list.

Many thought that the time between the announcement and the actual move would allow time for negotiations. But as time passed by, it seems there is no turning back. It is easier reaching a truce before the heavy artillery is shot.

When the cannons fire on July 6th, the world will enter a new phase. The US is the world's No. 1 economy, and China is No. 2. They have extensive trade ties between them, and it will be harder to undo the tariffs after they are slapped. 

Markets will likely crash, and currencies could move in a more violent manner.

All currencies are affected: In a global war, nobody is left unscathed. The Chinese Yuan has already lost ground and China's central bank, the PBOC, could further devalue the currency as part of the retaliation.

All risk currencies will be affected on a stock market crash. The most sensitive one is the Australian Dollar. Australia heavily depends on China and is a trading nation in general. Canada and New Zealand also trade with both countries and are always sensitive to stocks. 

The Euro and the Pound are set to suffer as well, due to the mood. The safe haven Japanese Yen has recently dropped alongside other currencies but in a limited manner. An outright market downfall may finally trigger substantial safe-haven flows that will boost the Yen.

More opinions on trade wars and currencies

Matt Meller, CFA, CMT says in his analysis:

In the end, we believe that the current tensions will eventually subside as the US midterm elections in November approach. That said, if the current tough talk on trade translates into thorough tariffs, the US dollar could ultimately benefit as traders seek out the perceived safety of the world’s reserve currency, even if US economic growth takes a hit.

Peter D. Schiff noted that a trade war would not be good for the US Dollar

But a bigger problem for the dollar may be that all of this trade tension may threaten the dollar's reserve currency status. China seems to be working feverishly to prepare for a world in which the dollar is not at the center. That would be the biggest blow the dollar could receive. While this is unlikely in the near term, if a trade war really gets ugly, anything is possible.

More: Trump tariff plan explained: What are trade wars and how do they affect currencies