Trade

Global Economy Will Pay the Price of Escalating US-China Trade War

With the US on the offensive and a retaliatory China, the trade war goes beyond just trade and tariffs. A prolonged conflict and the disruption of global supply chains could have a massive ripple effect on the global economy.

The trade war has begun. The US began implementing 25% tariffs on $34 billion worth of goods from the morning of July 6. US tariffs on Chinese imports include semi-conductor chips assembled in China, plastics, dairy equipment, motor vehicles, electrical  equipment, oil and gas drilling platform parts, chemicals and lubricants. Earlier, it had put tariffs on washing machines, solar panels, steel and aluminum.

In retaliation, Beijing has hit the US with retaliatory tariffs on 545 products, targeting goods produced in states that voted for Donald Trump in 2016 – products like soybean, beef, fish, fruits, vegetables, dairy products, bourbon, cotton, tobacco and motor vehicles.

This is said to be the biggest tariff application by the US since the Smoot-Hawley tariffs which deepened the Great Depression and led to a collapse of world trade, which declined by 66% between 1929 and 1934.

The immediate situation is not alarming. But the tit-for-tat tariffs could get out of hand. The US is also involved in a tariff war with the European Union. In June, the EU put $3.2 billion tariff on US goods in retaliation for the Trump administration’s steel and aluminum tariffs that came into effect on June 1, targeting products like bourbon, orange juice and motor cycles. India, which is also affected, says it will  increased tariffs on 29 US products, including walnuts, chickpeas and almonds from August on. Canada and Mexico have slapped retaliatory tariffs on US exports as well.

Shipping containers being loaded onto Xin Da Yang Zhou ship from Shanghai, China, at Pier J at the Port of Long Beach, California, US, April 4, 2018. Credit: Reuters/Bob Riha Jr./File Photo

Now, the US plans to hike tariffs on another $16 billion worth of Chinese goods. After that, the sky is the limit. Trump has threatened that he could impose  tariffs on all Chinese imports into the US totalling more than $500 billion. Beijing does not export that much to retaliate in kind, but respond it will.

The fallout

According to analysts, the direct impact of the tariffs, even if 25% were to be imposed on everything the US imports from China, will only reduce Chinese growth by 0.5%. But the warfare could spread to other countries and to areas beyond trade. Already in June, the Trump administration had curbed visas for Chinese students and the administration and Congress are making plans to restrict Chinese investments and technology exports to China. As the ZTE instance revealed, this could be devastating for some of the Chinese giants.

However, the Chinese have sought to calm fears among US businesses that they would take recourse to unnecessary inspections, product quarantines, administrative punishments and regulatory delays to harass them. But there is no saying what direction the future could take. The “qualitative” measures that the Chinese threatened to take would not be easy to pin down.

Chinese vulnerabilities are manifest. These became evident when the US shut down ZTE in April, an act that brought the telecom giant to the brink of collapse because it cut off the supply of micro-chips needed for its products which are imported from the US. Essentially, while China may make phones, telecom equipment, computers which account for  a third of its exports, it requires to import chips from abroad.

Aware of this vulnerability, Beijing is trying to develop a chip industry by hook or by crook. It has invested $150 billion to build the industry through its Made in China programmes. As a part of this, it has been seeking to buy established manufacturers abroad, as well as putting in a great deal of R&D effort at home.

The US is well positioned in its offensive. Its economy had grown at a brisk pace and the jobless rate has declined even further and wages and incomes are on the rise. So, for the present, the Trump administration does not have to worry too much. In this perspective, it could prove to be an electorally useful tool. This means that from the US point of view, it can stretch its fight to the coming year. On the other hand, China has been in the midst of trying to reduce the debt levels of its economy, leading to a slowdown of growth.

The rest of the world and India should not be particularly happy at the turn of events. A prolonged conflict and the disruption of global supply chains can have a ripple effect on the global economy. Many of the products facing American tariffs have components and assemblies that are made in third countries which would be affected as well. Indeed, given the way supply chains work, the US consumer could well end up paying higher costs for consumer products. An all-out trade war could lead to a collapse of global trade and shove the world economy towards a recession.

US President Donald Trump holds a signed memorandum on intellectual property tariffs on high-tech goods from China, at the White House in Washington on March 22, 2018. Credit: Reuters/Jonathan Ernst/Files

The bigger picture

There is no doubt that the two principals see the issues as going beyond just trade and tariffs.

A strong section of the Trump administration sees the struggle as one of primacy where China is seeking to craft a new industrial policy under the rubric of Made in China, to become the number one country in the area of artificial intelligence, robotics, aerospace applications, electrical vehicles and biotechnology. They have made no bones about their desire to promote their companies in these areas. The Made in China programme was outlined in a public document by China’s Cabinet, the State Council. Equally, the Trump administration now says that China has all along been cheating the US by illegally acquiring technology worth hundreds of billions of dollars and tilting the playing field against foreign companies in China.

A larger struggle that has been unleashed ever since the US came up with its new National Security Strategy document that has depicted China, along with Russia, as strategic competitors. For decades, western countries believed that China would eventually become a market economy, but what China has been saying and doing is to make it clear that while the market is used to allocate some resources, the state led by the Communist Party of China runs the economy.

Despite everything, the Chinese still see this era as one of strategic opportunity. In his address to the important Central Conference on Work Relating to foreign Affairs that was held in June Xi noted that the world was “undergoing the most profound and unprecedented changes in a century” but that the period between now and the next Party Congress in 2022 was “a historical juncture for realising the two centenary goals of China”.

Whether all this presages a new Cold War only the future will tell. But many specialists are arguing that this need not be seen in apocalyptic terms. Given the scale of their engagement and their global footprint, engagement between China and the US remains important for the world. There are many steps that can be taken before a total breakdown. The US could, for example, enhance its scrutiny of China’s investments. Beijing, for its part needs to do much more to provide a level playing field for foreign investors. It has already signalled its desire to open up important sectors of its economy. However, China is unlikely to abandon its Made in China plans which can be slowed by the new US policy, but cannot be stopped.

Manoj Joshi is a Distinguished Fellow, Observer Research Foundation, New Delhi.

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