The real reason behind the US-China trade skirmish
President Trump’s trade policies – which are sending shockwaves across the world’s markets – could backfire and instead spur China’s drive toward technological self-sufficiency
Ancient Chinese philosopher Sun Tzu wrote in The Art of War: “Know yourself and know your enemy, and you shall win a hundred battles without loss”. And perhaps this aptly sums up the attitude of Chinese officials as they engage with the increasingly hostile trade policies emanating from Washington.
The US initially imposed tariffs on $50 billion of Chinese imports – primarily on technology products and electrical machinery. Beijing’s response – which was to announce a retaliatory tariff of equal scale on almost 700 US products –provoked in turn threats from President Trump on a further $200 billion of imports.
Major stock markets, particularly in Asia, fell sharply following Mr Trump’s 19th June threats.
Analysts and businesses are scrambling to assess the likely consequences, not all of which are immediately apparent. Most agree it will hurt global growth. Car giant Daimler, parent of the Mercedes brand, which has manufacturing operations in the US, issued a profit warning on 20th June saying increased tariffs were a “decisive factor”.
Another scenario which is spooking the share prices of US multinationals is a fear that US businesses with large and successful Chinese subsidiaries could suffer “informal” retaliation in the form of consumer boycotts.
Starbucks, Nike and Ford are all major brands in China. Analysts warn that if the dispute escalates further, a rise of Chinese nationalist sentiment could hurt these firms. How severe could it become?
As it unfolds, the conflict appears to show the US position as being more about stopping Chinese technological dominance than reducing the trade deficit. This suggests the US will maintain a tough stance during future negotiations.
The US-China trade negotiations are likely to continue with multiple phases. There is a huge disparity between the two countries on core values, including intellectual property rights. Technological rivalry brings many of these differences into focus.
As a result, any “non-negotiable” issues are likely to lead to various stages of conflict escalation and deadlocks. History suggests that conflicts typically escalate until they reach a state of mutually destructive stalemate – where all the parties involved are suffering harm. One potential stalemate scenario, for example, could involve further sanctions on Chinese technology firms, followed by retaliation from China on US businesses operating in China.
An indication of how disputes might unfold in practice surfaced recently in the case of Chinese telecoms firm ZTE. The US banned American firms from exporting to ZTE, at a stroke threatening tens of thousands of Chinese jobs. Although US officials insisted the case was a law enforcement matter – due to ZTE’s breach of Iran sanctions - it was widely seen as relating more broadly to trade conflict. The export denial order risked forcing ZTE into bankruptcy, jeopardising the employment of nearly 80,000 workers in China.
Although President Trump attempted to settle with ZTE following the intervention of President Xi and the payment of a US$1 billion fine, US lawmakers voted to restore penalties. It is an example of what future potential skirmishes may look like. The political implications for President Xi would be even bigger if the US applied sanctions on a broader and bigger scale. It is likely that Xi is well aware of the potential for humiliation, something he would wish to avoid.
The problem of the US trade deficit
While at this stage it does not appear as though the trade deficit is the US’s prime concern, eventually any conflict may reach a point where both parties agree that the collateral harm on both sides is too great. From then on, the US and China may re-focus on the “negotiable” item which is the reduction in trade deficit. With China adopting a constructive stance on importing more American products and opening up its domestic market, President Trump may accept some form of settlement.
Our view is that China will continue to adopt a tit-for-tat stance wherever President Xi faces domestic pressure or risks losing face as the result of large-scale job losses. Although the direct economic impact is likely to be modest for both sides, market volatility and mutual hostility will be enough to dampen sentiment and defer investment.
The US will eventually realise that stopping China’s industrial upgrade programme will not bear fruit. It is likely then to claim victory on a trade settlement in nominal terms. Meanwhile, China will redouble its efforts to speed up research and development, reducing its
high-tech dependence on US suppliers and diversifying its technology export destinations. The US’s aggressive trade policies do not extend to China alone. Tariffs applying to other G7 countries have soured American relations with Canada and Europe, too. Brussels has said it would refer the dispute to the World Trade Organisation.
In retaliation to the US’s steel and aluminium tariffs, it has suggested targeting high-profile American products including bourbon and Harley-Davidson motorbikes. As the US gravitates inwards and imposes trade tariffs even on its allies, China is moving in the opposite direction: it decries protectionism and unilateralism. The “one belt, one road” initiative – in which infrastructure, energy and transport systems bring together swathes of Asia, Europe and Africa – is a stark illustration of China’s strategic vision: to build long-term diplomatic ties and develop future export markets.
The expansion in the Shanghai Cooperation Organisation and substantial foreign investment in Africa are other examples. Ironically, the US’s current protectionist approach may ultimately help bring about what it seeks to prevent. Rather than hindering China’s technology dominance, it has the potential to propel it.