US-China Trade War

US-China Trade War

A dangerous game is on!

Magazine Desk

During the US-China trade talks in Washington D.C., Chinese and American trade negotiators could not reach a truce. Later, on May 10^th, the United States carried through on its threat to ratchet up tariffs on Chinese goods. China vowed to retaliate and impose similar tariffs on American goods. So, the world’s two biggest economies staggered a couple of steps closer to an all-out trade war. Such an outcome is still far from certain: talks are continuing and, until recently, had been making progress. But the risks are rising of economic damage in both countries, and of a rupture in their already strained relationship.

Since the United States and China were unable to reach a deal, they doubled down on their trade war. US President Donald Trump escalated tariffs already in place and threatened to impose them on all Chinese exports to his country. On 10^th of May, Trump did that and raised tariffs from 10 percent to 25 percent on $200 billion of Chinese goods after Washington and Beijing failed to reach a long-sought trade deal despite days of intense talks. China promised countermeasures and vowed to fight back. It and officially did so May 13, announcing it would increase its own tariffs on $60 billion of American products. Around 5,000 items will now have duties increased up to 25 percent; those penalties will go into effect on June 1, according to China’s finance ministry. However, both sides have misjudged the appetite of the other for a conflict and it is a virtual certainty that the situation will get worse before it gets better.

Trump is convinced that U.S. trade partners exploit American largesse and naivete to steal jobs and intellectual property. Many economists and business professionals agree. He is virtually alone, however, in the conviction that trade wars and tariffs are effective ways to level the playing field. He has been quick to use both against countries he believes are unfair traders — China, which sells over $500 billion of goods to the U.S. every year, among them.

Last year, Washington imposed billions of dollars of tariffs on Chinese products, prompting the Beijing government to impose its own levies against U.S. exports to China and to commence negotiations with the U.S. to avoid escalation. By all reports, those talks were going well; at a meeting last month with chief Chinese negotiator Liu He, Trump said that an “epic” deal was possible.

Last week, however, Trump reversed course, warning China that it had until Friday to agree to a deal or he would double tariffs. His about-face was prompted by allegations that China had reneged on commitments made in earlier rounds of talks, unravelling progress that had been made. The president dismissed Chinese denials, more than doubled tariffs Friday on $200 billion of Chinese goods, raising them from 10 percent to 25 percent, and threatened to impose 25 percent tariffs on an additional $325 billion worth of goods — essentially all remaining Chinese exports to the U.S. American officials said they would begin work on the new tariffs this week.

That did not have the desired effect. Two days of talks in Washington failed to close the gap, and the Chinese government promised that it “will have to take necessary countermeasures,” without providing details. U.S. officials said talks would continue although no meetings were planned. Chinese state media has said that the next round of talks is expected to take place in Beijing.

The U.S. seeks legally binding changes to Chinese policies to protect the intellectual property of foreign businesses, to end forced technology transfers along with currency manipulation and subsidies that Beijing provides to domestic businesses. It is a huge undertaking, one that would fundamentally transform the Chinese economy, which is why that government is digging in its heels. As Liu explained after the talks ended Friday, “Every country has important principles, and we cannot make concessions on principle issues.”

Both sides believe that it enjoys the upper hand. Trump insists that China is more vulnerable since it exports more to the U.S. and needs the U.S. market more as its economy slows, its stock markets contract and debt mounts. Meanwhile, the Chinese reportedly calculated that Trump’s recent comments about the Federal Reserve suggested that he is worried about the strength of the U.S. economy, especially as the 2020 election campaign approaches. Chinese spines are also stiffened by concern over any sign of weakness on the government’s part. May 4 marked the 100th anniversary of the student-led political movement against imperialism and is one of the touchstones of Chinese nationalism; any hint of irresolution on Beijing’s part at this time is unthinkable. Sensitivity is also increasing as the 30th anniversary of the Tiananmen Massacre draws near.

As the dispute is increasingly litigated in the press, the chances of a quick solution drop exponentially. Both sides are retreating to their corners and steeling for more pain. Agreement by the two governments to continue talking is important, but the U.S. commitment to unilateral acts of protectionism and China’s determination to build a world-class economy by tilting the domestic business landscape bodes ill for a solution anytime soon.

An Updated Overview of the US-China Trade War

What’s Happened?

• On May 10th 2019, the US increased tariffs from 10% to 25% on $200 billion of Chinese imports.
• The US introduced the tariffs in response to China backing away from commitments it made to change Chinese laws to solidify reforms that make it easier for US companies to do business in China.
• In response to the US tariff hikes, China announced it would also raise tariffs to 25% on $60 billion worth of imports, affecting 2,493 US products.

What’s Next?

• In retaliation to the Chinese retaliation, the US Trade Representatives office (USTR) have released a list containing a further $300 billion worth of tariffs on Chinese imports which would be subject to a 25% tariff. However, it could take several months to put together, which means negotiations may improve before they go into effect.
• If the US does proceed to implement the extra tariffs almost all Chinese imports would be subject to punitive import duties
• The new set of tariffs would cover products which would have a more direct impact on consumers which the USTR specifically attempted to avoid previously. US consumer goods are only 25% of the items targeted so far, as much as 60% of the remaining imports are from China.

What Could It Mean?

• Economists from MIT recently tested to see if Lerner’s theory worked in practice during 2018. They concluded it mostly does.
• Lerner’s theory suggests that when a nation raises duties on imports its currency will adjust to compensate.
• This means if there is lower demand for imports, this will shrink the value of the trading partner’s currency. However, the increased strength of the domestic currency will harm exporters.
• The IMF recently finished a huge study of free markets on 151 countries over 51 years. They concluded that “tariff increases lead, in the medium term, to economically and statistically significant declines in domestic output and productivity. Tariff increases also result in more unemployment, higher inequality, and real exchange rate appreciation, but only small effects on the trade balance.”

Why Does It Matter?

• Most economic studies have found that American businesses and consumers take a bigger hit from tariffs compared to China because importers respond by increasing prices to cover all or most of the tariff when the products land in the US. There has been no clear evidence that Chinese exporters have cut costs to compensate.
• The Retail Metrics Consultancy estimated the boost to 25% from 10% on the current tariffs could push up Chinese retail products by 3% to 8%.
• A recent study reported that when the prices on imported Chinese goods increased, US domestic producers noticeably increased prices for larger profits.
• Therefore, tariffs on Chinese goods lead to higher costs for Americans and reduced consumption.
• Federal Reserve officials such as John Williams are watching out for a boost in inflation due to higher consumer prices.
• There are also concerns that a worsening trade war could damage growth and reduce confidence from consumers, businesses and the financial markets.
• This could create a bit of a tough spot for the Federal Reserve which has currently put a halt to raising rates, as they may have to tackle increasing inflation and a slowing economy.
• Some economists have argued that a bigger problem for the Federal Reserve will be growth implications as tariff increases should, in principle, be removed from inflation numbers once they are put in place.
• A recent New York Federal Reserve study found that, so far, tariffs have fallen on domestic consumers, creating a drain on the economy of $1.4 billion per month at the end of 2018.
• The US decision to boost tariffs would see that number rise to $4.4 billion per month. If the new tariffs are implemented, that number is set to increase to $8.8 billion per month.

Some Useful Facts

• The US imported a record $539 billion in goods from China in 2018.
• The US exported $120.3 billion in goods to China in 2018.
• US exports to China declined in 2018 by just over $10 billion.
• US farm exports fell from $15.9 billion in 2017 to $5.9 billion in 2018 as buyers moved away from American soybean and corn.