A global trade war would hit financial markets hard, potentially wiping trillions of dollars off the value of stocks and other assets. So it's a wonder investors appear relaxed at the prospect which, ominously, is growing more likely by the day.
There's a surprising correlation developing between the newsflow and markets: the more tariffs and counter-measures are threatened and applied, the higher major stock markets go, and the lower volatility goes.
This is despite the fact that, according to Bank of America Merrill Lynch's latest fund manager poll, a global trade war is the biggest single tail risk facing investors since the euro debt crisis six years ago.
If the lessons of the past are heeded, however, like the 1930s when protectionism around the world was rampant, investors should be hunkering down and doing whatever they can to protect their portfolios. But they aren't.
Financial market volatility is low and inching lower, suggesting there's little demand from the investment or business community for protection from sizeable equity, bond or currency price swings via the options market.
Average volatility in U.S. bonds and major FX rates in the second quarter was lower than Q2 last year. Average Wall Street vol was higher, thanks to the residual effects of February's record surge in the VIX "fear index", but is falling once again.
The results of BAML's latest fund manager survey are instructive. Some 60 percent of those polled say a trade war is the biggest tail risk to markets right now. The last time there was a consensus that strong was in 2012.
Then, the euro zone was in existential crisis. Collapse was only averted by an unscripted, off-the-cuff remark from ECB President Mario Draghi in July that year that the central bank would do "whatever it takes" to save the single currency.
The euro crisis was the main market risk for 16 months in a row in 2011-12. A trade war has been the main risk for four months this year, and only this month did it really explode onto investors' horizons. It can get a lot worse before it gets better.
The deep complexities of world trade means "whatever it takes" and Draghi equivalents are impossible. Yes, President Trump could backtrack on everything he's said on trade and "making America great again", but there's not much evidence of that happening soon.
Adam Slater at Oxford Economics draws attention to the 1930s, which contributed to world exports collapsing 30 per cent from 1929-1932. Long term losses to global economic output weren't as heavy as feared because of economies' ability to adapt, but the spillover to financial and commodity markets was severe.
The world trade system fragmented and the damage lasted decades. Tariffs became entrenched and a feedback loop between financial markets and protection magnified the damage.
The current rise in protectionism is on a much smaller scale than the 1930s. On the other hand, the global economy is much more dependent on trade than it was then. Trade accounts for some 60 per cent of global GDP, three times more than the late 1920s.
"Once a trade dispute starts, escalation can be a lengthy process. Feedback effects connected to financial markets are potentially very significant," Slater said.
In its nine-page update on the global economic outlook this week, the IMF referenced "trade" 26 times. If current trade policy and threats are followed through, global GDP growth could be 0.5 percentage points less than forecast by 2020, it warned. The United States is "especially vulnerable".
But this is why markets have, on the whole, shrugged off the current trade spat. The United States may have imposed tariffs on Chinese imports and Beijing may be letting its currency fall, but there's been no discernible hit to growth. Yet.
Even the IMF, despite its warning, stuck to its forecast from April and predicted global GDP growth of 3.9 per cent this year and next. Growth and corporate profits have, so far, not suffered.
Julia Coronado, president and founder of research firm MacroPolicy Perspectives and a former economist at the Fed, believes we'll get a better idea of the impact on businesses in the coming weeks as the Q2 earnings season unfolds.
"Each company will know how they will respond to rising trade tensions through changes in prices, margins and other strategic investment and production decisions," she wrote in a blog last week.
"I suspect the risks to the current rosy outlook are to the downside," Coronado said, citing Reserve Bank of Australia Governor Philip Lowe, who said last month: "Can any of us think of a country that's made itself wealthier and boosted productivity growth by building walls? Probably not."
--by Jamie McGeever, Reuters columnist