Risky game of chicken

In his typical disruptive diplomatic style, US President Donald Trump has started a virtual trade war with China, but with repercussions being felt around the world. The world’s two largest economies are at loggerheads after Trump imposed tariffs on Chinese goods. Beijing retaliated with tariffs on US goods, only to receive a warning from the White House of fresh tariffs. These tit-for-tat moves are affecting world stock markets as investors are jittery.

Is it a trade ‘skirmish’ or ‘war’? And who will get hurt and how much? In the run up to the presidency, Trump had threatened to upend the global trade system, but did not take any major steps in the first year in office. But after his summit meeting with the North Korean leader Kim Jong-un in Singapore on June 12, Trump moved swiftly with a 25% tariff on $50 billion worth of Chinese imports, weeks after he had imposed taxes on imported steel and aluminium, including from close allies like the European Union and Canada. Those actions themselves followed earlier measures on washing machines and solar panels.

The more worrying part is the economic consequences these actions would entail for the US, China and the world in general. A “trade war” refers to measures and countermeasures on import restrictions that escalate over time, causing trade between two countries to break down. What starts as a skirmish can easily become a war.

So, how can the current trade friction between the US and China be explained? Opinions could differ, depending on how one looks at it. One way to see it is that the Trump administration will meet Chinese retaliation with further retaliation and that the two sides are no longer engaged in productive talks to defuse trade tensions.

The other way to see is it is that it is not a trade war as yet. This view holds the position that a trade war starts when countries start responding unilaterally, and without respect to international rules in terms of levels of tariff retaliation that they engage in. In the current case, China, the European Union and other trading partners of the US have all responded within the confines of World Trade Organisation rules so far.

Trump is aware that American companies often complain of being treated shabbily while doing business with China. Many US companies are forced to partner with Chinese companies to be allowed to do business in the country. They frequently complain that their most advanced technologies have been stolen. There are other concerns as well. The Trump administration has identified the list of goods to be subjected to high tariffs in the high-tech sectors, including aerospace, telecommunications equipment and robotics.

Not one to remain quiet, China placed tariffs on $50 billion worth of American imports in retaliation. The Trump administration responded with an escalation by pulling another $100 billion worth of goods into the mix. This increased the possibility that the dispute will spiral to encompass a larger swathe of goods.

The escalating trade war between the world’s two largest economies reached a new crescendo after Trump threatened to impose tariffs on an additional $200 billion worth of Chinese goods unless Beijing ceases its “unfair practices”.

This threat came after China responded by saying it would hit 659 US products worth $50 billion after Trump applied tariffs on $50 billion in Chinese imports. Trump insists that China has been unfairly benefitting from a trade imbalance with the US for years and that China is determined to keep the US at a permanent and unfair disadvantage, as reflected in the massive $376 billion trade imbalance in goods between the two.

For China, its high-tech industries are core to its economic strategy for the future and it would not be willing to surrender the advantages so easily. On the other hand, as the balance of trade is unfavourable to the US, it implies that the US has more potential Chinese imports on which it could slap punitive tariffs than the Chinese could possibly do.

It was only in May that both sides seemed to have successfully reached an accord in which China agreed to buy more American agriculture and energy products. Had that been honoured, the US trade deficit with China could have been reduced somewhat. But since the accord did not address the longer-term issues around technology theft, it fell apart.

Had Trump taken US allies such as Canada, Japan and the European Union on board, he could have found himself in a stronger negotiating position. But Trump spoilt relations with Canada by publicly rebuking the Canadian Prime Minister at the G-7 summit, thereby leaving the issue of steel and aluminium tariffs unaddressed. This leaves Trump to deal with China all by himself.

Why has Trump chosen such an aggressive trade policy and is it going to severely impact the US economy? Given the US GDP of nearly $20 trillion, a new tax on $50 billion or on $200 billion worth of goods which Trump has threatened China with is unlikely to help the US economy much. The fear of Chinese retaliation damaging individual American industries is also likely to be minimal as most of the economic activity in the US is for domestic consumption and little for export, which constitutes only about 12% of GDP.

This is not to say that Chinese retaliation will leave no adverse impact at all. For example, soybean prices could fall dramatically as China would buy fewer soybeans in retaliation. Escalating prices of steel and aluminium could also make US products less competitive against global competitors. Trade disputes, if not handled carefully, could cause economic damage without triggering a recession. It’s a risky game of chicken.

(The writer was until recently ICCR Chair Professor at Reitaku University, Japan)