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What I Care About This Week | 2021 Dec 13

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by Franklin J. Parker, CFA

The Summary

The Details

A friend of mine, Victor Xing, pushed out a piece last week talking through some points that are often overlooked in discussions of the US-China relationship. When it comes to Taiwan, Victor says, it meets all the criteria for a significant tail-risk event.

The key variable that is often overlooked is the Chinese cultural concern with saving face. Individuals will do seemingly irrational things (like worsen their financial position) to retain their honor and save face. US defense policy, however, tends to overlook this fact. So, by pursuing policy that makes the CCP look bad with regards to Taiwan, US policymakers tend to provoke a reaction that they would not otherwise expect because the CCP is very concerned with saving face, even to their own detriment.

It is my personal and comparably uniformed view that the US lacks the political will to pursue a hot war with our largest trading partner over Taiwan, despite the rhetoric. The economic costs and pain would be significant—for both sides—and “victory” would be about who can tolerate the most economic pain. In that respect, China has significantly more political will than the US. Taiwan is a nice-to-have to the US, but hardly worth losing a presidential election. To China, by contrast, Taiwan is of great strategic importance.

At any rate, investors would do well to watch the decaying US-Chinese relationship closely. With every subsequent erosion in relations, the cost of acquiring Taiwan becomes lower to the CCP. For investors, beyond the standard concerns of war, a Chinese acquisition of Taiwan would turn the supply chains of many of our high-tech goods on their heads.

Chart of the Week

Inflation is a phenomenon with some interesting quirks. One of those quirks is that consumer’s expectations for inflation can influence inflation itself. As this week’s chart shows, when inflation is low, consumers tend to hold a constant view of what future inflation will be. However, when inflation turns higher, consumers tend to assume that higher inflation dominate in the future. This is a big challenge for policymakers because expectation is a variable they cannot control.

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