China isn’t going to back down. Not only because it would be domestically and geopolitically embarrassing and humiliating for Xi Jinping to be seen to be cowed by Trump’s threats – but because China sees a unique opportunity in America’s self-destructive trade war against the rest of the world.
Until the tariff-loving Trump regained the White House, the Biden administration had done a relatively good job in co-opting its allies in Europe, Japan and South Korea into efforts to cut off China’s access to advanced semiconductors and other key technologies.
The EU was also in tune with the US in resisting a flood of Chinese electric vehicles, solar panels and wind turbines with tariffs of its own.
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As China’s domestic economy has spluttered and the spectre of deflation has darkened, China has experienced significant overcapacity within its industrial base, resulting in a flood of cheap exports that was creating an intensifying backlash within the Western economies. The foundations for a US-led Western alliance to push back against that tidal wave of exports were being laid.
Then along came the Tariff Man, who understands neither tariffs nor global trade. He doesn’t see trade as a complex mix of the varying natural resources and skills, comparative advantages, location, economic size and development, and technological advancement, but views it as a zero-sum game where a trade deficit means the US is getting ripped off.
He and his advisers believe a trade deficit is purely a result of protectionism – a combination of tariff and non-tariff barriers. Hence, his “reciprocal” tariffs.
No-one can have a rational and fair negotiation with him to lower those tariffs because his understanding of them is irrational. Any deal in those circumstances will therefore be unfair to America’s counterparty, albeit potentially less damaging than leaving the reciprocal tariffs in place.
Instead of strengthening what could have been an alliance to choke off China’s exports and protect America’s geopolitical supremacy, Trump has forced even its allies to reconsider their relationships with the US and consider their options for both retaliating and shifting their trade elsewhere.
Japan and South Korea have already engaged in trade discussions with China. Inevitably, the EU would also have to weigh up the risks (a deluge of exports from China and South-East Asia) and benefits of a stronger relationship with China. The Global South group of loosely affiliated economies might morph into something more formal and more directly aligned with China.
Trump, the self-proclaimed “stable genius,” might well liberate the US from its trade relationships with the world, but in the process leave it isolated and poorer while the rest of the world continues to globalise, with China at the centre of a new world trade order.
China will, of course, suffer some economic pain if it doesn’t surrender to Trump’s threats.
Then along came the Tariff Man, who understands neither tariffs nor global trade.
While it is less directly exposed to the US market than it was in 2018 – it has diverted its purchases of soybeans, for instance, from the US to Brazil and much of what was direct trade with the US has been re-routed via Vietnam, Thailand, Malaysia and Mexico – the steep tariffs Trump has slapped on it and those economies will damage its export-oriented economy.
It does have some economic buttons and levers it can push and pull. It could allow the yuan, which has weakened slightly over the past few weeks, to weaken further, blunting, to a degree, the tariffs. It can loosen monetary policy, pushing more credit capacity at lower interest rates into its economy.
It could – and is signalling that it will – do more to stimulate the domestic economy and consumption in particular. While Xi sees stimulus as wasteful, his public statements and China’s policies suggest his stance is shifting.
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There’s significant scope to increase domestic private consumption which, at about 39 per cent of GDP, according to the World Bank, compares with more than 52 per cent in the EU and roughly the same rate in Australia and other developed economies.
Private consumption in the US runs at about 70 per cent which, along with a low savings rate (around 3 or 4 per cent of disposable income against an OECD average of about 23 per cent and China’s near-50 per cent) might help explain why the US has a big trade deficit.
The shock from the trade war, which could cost China as much as 2.5 percentage points of GDP growth, halving the 5 per cent growth rate it is targeting, might also present Xi with an opportunity to restructure sectors like China’s car industry, where there is massive overcapacity.
Xi has a major advantage over Trump. He, the Communist Party and his policies can’t be challenged, regardless of how much pain the trade war generates. The Chinese president can outlast Trump, who is serving his final term (unless the US Constitution is torn up). Xi isn’t going to be thwarted by his party, as Trump could be.
Those Republicans who have been silent even as Trump has upended long-held Republican convictions about trade, will be increasingly conscious of the impact of his tariffs on the US economy and households as next year’s mid-term elections start to loom.
China has retaliated against Trump’s tariffs, not only with tariffs of its own but with bans on exports of strategic minerals (where it dominates) and other export restrictions, blacklists of some US companies and exporters, and a number of anti-dumping investigations.
It’s not China’s retaliation, however, that will hurt Americans most. It’s Trump’s own tariffs, which kicked in this week. The prices of everything the US imports will go up, increasing the cost of living, lifting the inflation rate and lowering growth.
It won’t be a one-off. There are things the US imports that it doesn’t or can’t produce that will now cost more, along with a lot of things where it isn’t self-sufficient or where it is so uncompetitive that it would never make sense to manufacture them domestically.
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It would take years, perhaps decades, trillions of dollars and the creation of an entirely new domestic supply chain to build the domestic capacity to produce what is currently imported from the rest of the world. In the meantime, the US is going to experience significant economic pain.
While China will also be hit hard, Xi’s invulnerability means he has the capacity and time to wait to see the Trump-induced economic shocks hit America, while trying to exploit the fracturing of the Western alliances in pursuit of China’s long-term geopolitical ambitions.
He will only get one Trump in his lifetime. It’s unlikely he will waste the opportunity.
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