A US-China trade and tech war looms

After the exit polls on May 19 predicted a victory for the BJP/NDA, the stock market in Mumbai gave a euphoric salute, and the index broke its previous record. But across the Asia Pacific, from Hong Kong and Shanghai, to Singapore, Seoul and Sydney, the markets were down. Since mid-April, stocks in the Asia Pacific region have collectively lost $2.6 trillion in value (equivalent to India’s national income). Mumbai’s Sensex is still having a party, but it cannot remain immune from this Asiatic fear for too long. Of course, India’s domestic determinants, like the new government’s economic agenda, could partly offset the regional pessimism. What is the source of the Asian nervousness? It is the escalating US-China trade war.

It started more than a year ago when the US abruptly slapped import duties on Chinese steel, and aluminum from a bunch of countries, including allies. President Donald Trump alleged that China was artificially subsidising metal production to the detriment of American industry and jobs. China retaliated by slapping import duties on American imports like soybean and automobiles. Experts and analysts on the sidelines wrongly assumed that this was mere shadow boxing, and sanity would soon return. It has not.

The US has increased import duty from 10 to 25% on almost $200 billion worth of Chinese imports. It promises to extend the increased tariffs to another $350 billion worth of imports, or pretty much all of China’s exports to the US. President Trump had tweeted last year that “trade wars are good and easy to win.” The US has widened the ambit of action against China, by alleging that Chinese joint venture companies steal American intellectual property. Last year, the US blocked all technology and chip-making companies from doing business with ZTE. More recently, such action has been extended to another Chinese giant, Huawei. Its chief financial officer was arrested in Canada, presumably at US’ behest. The concern is the same, that Huawei can’t be trusted with protection of American patents, and it also poses a security threat to the Western world due to deliberate trapdoors in its 5G hardware.

Of course, none of these allegations are proven. One consequence of this is that Google has announced that it will no longer support the Android operating system on Huawei phones. China is contemplating removal of American GPS from all Chinese phones, to be replaced by China’s own satellite positioning system. The technology cold war has just begun.

There was hope that Chinese and American officials would sort things out amicably and announce some sort of a face-saving trade deal. But hopes of that are fast receding. Next month’s meeting between the presidents of the US and China now seems unlikely to take place. There is enough tit-for-tat material on both sides for this war of attrition to go on for some time. China-bashing plays well in domestic politics. Many of Trump’s advisers may be drawing the wrong lessons from the Plaza Accord of 1985, in which Japan was browbeaten to strengthen its currency, voluntarily reduce exports to the US and reduce the bilateral trade deficit. That was during the peak of Japan-bashing in America. It played well in domestic politics and earned President Reagan two terms.

But China is not Japan. It is a much bigger economy, with a very different political system, and is not dependent on the US for military aid and protection (unlike Japan). In any case, the Chinese are fully aware of the Japanese precedent, and will not fall into the same trap. Japan never fully recovered from the debacle of the Plaza Accord.

For its part, the Chinese know that they control 95% of the world’s production of rare earths, required for the production of high-end chips. It could simply block sale of rare earths to American companies. China has also developed its own chip design industry, which can be ready in a few years to take on the might of Intel, Qualcomm and others. For many years, it banned the use of Google, Facebook, Twitter, Gmail and the like, thereby ensuring the thriving growth of its own versions of social media (like Baidu and WeChat). Alibaba is a formidable rival to Amazon and is also a de facto bank. So, it is not as if the Chinese will be taking the technology cold war lying down, or lying low.

The other weapon in China’s hands is to flood the world bond market with the sale of American treasury bonds. It has a total foreign exchange pile of nearly $4 trillion, which are mostly in the form of US treasuries. A big sell-off will cause bond prices to plummet and can cause serious harm to the US fiscal situation. In doing so, it will also hurt the Chinese since the value of their holding will fall faster than their earnings in the sell-off.

Trade wars of this nature have no winners. American consumers will face higher prices since they would be shut out of cheap Chinese products. Taxpayers will hurt since they will have to bail out American farmers (like soya producers). Taxes may have to rise. Investors will lose since Wall Street may crash. The trade war may have short-term political benefits for the re-election of President Trump, but this is at great cost.

India has a substantial trade surplus with the US and cannot afford to lose that market. It may be forced to take sides in the US-China stand-off, much like it has had to do with Iran oil. Even when India and Iran agreed to a rupee trade to bypass dollars, it was not acceptable to the Americans. So, India also needs to brace for collateral damage from the technology and trade war.

(The writer is an economist and Senior Fellow, Takshashila Institution)

(Syndicate: The Billion Press)