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Economy

The US, China, and the Logic of Trade Confrontation

Sep 19 , 2018
  • Gideon Rachman

    Chief Foreign Affairs Columnist at the Financial Times

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They don’t call them trade wars for nothing. The latest round of tit-for-tat trade sanctions between the US and China is driven by the same emotions of fear and pride that lead real wars to break out. One country makes an aggressive move, so the other feels obliged to respond in kind. Both sides fear that if they back down, they will lose face in the eyes of the world and of their own people.

The Trump administration’s view is that China has been “cheating” on trade for decades. But instead of responding to the first round of US tariffs, imposed in July, with concessions, the Chinese reacted with tariffs of their own. So now President Donald Trump is imposing further tariffs of 10 per cent on an extra $200bn-worth of Chinese exports.

Predictably, rather than backing down, the Chinese have promised to respond to this latest round of measures with more tariffs on American goods. Following the logic of escalation, Mr Trump has pledged that will trigger yet more US tariffs — possibly at a higher rate of 25 per cent — covering essentially all Chinese exports to America.

Both sides are willing to risk a trade war because they think they have a good chance of winning. The US believes the Chinese economy is struggling and is therefore vulnerable to American economic pressure. Larry Kudlow, the senior White House economic adviser, said recently that “China’s economy is just heading south”. The Americans also know that China enjoys a massive trade surplus with the US and is more vulnerable in a tariff war.

The Chinese government, by contrast, believes that its authoritarian political system is much better placed to withstand a trade war than the American model, which is open to pressure and voter discontent. The regime in Beijing will have noted that the Trump administration has already had to promise to bail out soyabean farmers who have been adversely affected by Chinese tariffs.

As Jeremy Shapiro of the European Council on Foreign Relations puts it: “Both sides think they can win and so are willing to fight the war. War, in political science language, is almost always an argument over relative power, otherwise there would be no need to fight. In this case, a trade war is necessary to figure out who is right.”

So far the trade war has been fought out mainly using tariffs. But China will soon run out of American goods on which it can impose duties. So the Chinese government is going to have to look for other ways of fighting back.

Some changes are already visible. Diplomats say China has already eased the enforcement of trade sanctions on North Korea, which are important to US efforts to force the regime of Kim Jong Un to scrap its nuclear weapons. The Chinese are also likely to throw up new regulatory obstacles to American businesses operating inside China. And China may also manipulate its currency to drift down in value, which might easily offset the price effect of a 10 per cent tariff.

There is also new speculation about China’s role as a big buyer of American government debt. Some have long theorised that China could exert pressure on the US by simply refusing to buy Treasury bills, so making it harder to fund the US federal deficit. Hillary Clinton once argued that America would struggle to “get tough” on Beijing because China is “America’s banker”. In the Barack Obama years, however, the prevailing view was that China would never dump its holdings of American debt because that would drive down the value of China’s own savings. However, with the US deficit once again soaring after the Trump tax cuts, the Chinese will certainly be exploring the possible use of the debt threat as a retaliatory measure.

Once wars break out, all sorts of new weapons are developed. And that holds for trade wars as well as real wars.

Copyright The Financial Times Limited 2018

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