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Foreign Policy

In Trade War, Will China be the Last Man Standing?

Sep 03 , 2019
  • Andy Mok

    Senior Research Fellow, Center for China and Globalization

The most recent tariffs the U.S. governmet imposed on Chinese goods are a sword at the throat of one of the world’s biggest economies. But that economy is the US, not China. As President Donald Trump discovers his threats against China have proven ineffective and as the pressure from the 2020 presidential campaign mounts, he sees few alternatives than to double down. To ensure his political survival Trump is risking the US economy in a last-ditch effort to shore up his political capital for the rapidly approaching election next year.

For many observers, the US economy appears robust. But it faces both cyclical and structural challenges that may be much more severe than generally appreciated. And it is currently at a tipping point. Growth has slowed from 3.2% in the first quarter to 2.1% in the second. Despite the rate cut by the Federal Reserve, it is expected to slow further to 1.8% this quarter, according to Moody’s Analytics.

Both business investment and housing suffered actual declines that are likely to accelerate but these drops have been masked by an increase in consumer spending. In the second quarter, gross private domestic investment fell 5.5%, the worst since the fourth quarter in 2015. According to Michelle Meyer, head of U.S. economics at Bank of America, “the fact the investment looks so weak reflects that global forces are creating challenges for business investment and those forces mostly owe to the trade war.” Meanwhile U.S. homebuilding fell for a third straight month in July with housing starts dipping 4% to an annual rate of 1.191 million units last month according to the US Department of Commerce.

The fresh tariffs of 15% took effect on September 1 and cover primarily consumer goods imported from China. China followed with a new round of retaliatory tariffs.These tariffs may knock out the last remaining pillar supporting the United States’ historic economic expansion and push the economy into recession or worse.

The damage to the US economy would be more than cyclical. At Osaka, President Trump and his Chinese counterpart Xi Jinping agreed to a truce while negotiations resumed to resolve the trade conflict. But with this threat President Trump has gone back on his word. By doing so, he is further demonstrating that the United States is not only “agreement incapable” across his administration but even within it. Without this modicum of credibility, it is difficult to see how other countries including China can engage productively with the United States.

Moreover, the implementation of these tariffs also represents the crossing of a psychological threshold since all imports from China to the US are now subject to some sort of tariff. This highly negative signal unnerved already jittery capital markets, further deepening the uncertainty that has dimmed prospects for strong global growth.

In addition, the tariff war has inflicted serious structural damage on the US’s agriculture sector that may be irreparable. As I’ve written previously, one thing American farmers could count on was the China market. According to the Minnesota Department of Agriculture from 2000 to 2017, U.S. agricultural exports to China increased by 700 percent, reaching US$23.8 billion in 2017, which made China the largest export market for the American agricultural sector. But this island of economic security has been blasted apart by Trump's disastrous trade war. Not only have American farm exports to China cratered but prices have also fallen with soybean prices at their lowest since 2008. Beyond the economic cost, many farmers are paying a personal price as they lose their farms.

What is especially unfortunate is that the U.S.'s agricultural sector is one of the few to consistently enjoy a trade surplus with China. And given the U.S.'s natural resource endowments this structural advantage would be an enduring one providing a stable and growing source of prosperity for American farmers as China's middle class rapidly expands and seeks a greater variety of high-quality consumption choices. Instead, President Trump has heedlessly sacrificed the livelihoods of American farmers while wrecking one of the most important competitive advantages the U.S. possesses. Indeed, his political epitaph may be “I killed the American farmer."

In the foreign policy arena, the administration’s words and actions have caused consternation and concern around the globe. The damage these tariffs would cause affects not only the United States but already wavering U.S. allies such as Germany, South Korea and Japan. Moreover, all these countries view China as an indispensable part of their global supply chains and as a vital market that will only continue to grow in importance.

As a result, both American allies and those it deems adversaries are actively looking to circumvent and cordon off the United States. For example, in response to the administration’s repudiation of the Iran Joint Comprehensive Plan of Action (JCPOA) deal, on June 28, France, Germany and the UK announced that an alternative payment system called Instex became operational. This payment balancing system permits companies in Europe to buy Iranian goods, and vice-versa, without accessing SWIFT. While a relatively narrow development, this is an important signal communicating the desire of some of the US’s closest allies to escape its financial hegemony. Similarly, the rapid growth of Shanghai oil futures provides an increasingly attractive alternative to the petrodollar. With Russia now China’s largest oil supplier, the role of the yuan in the global petroleum industry is gaining importance.

Meanwhile, the Belt and Road Initiative is rapidly transitioning from a focus on infrastructure investment to a phase of reaping the fruits of those investments. As this happens, more and more countries see alignment with an open multilateral approach as the only way to an inclusive, prosperous, peaceful and sustainable future. Escalation of the trade conflict by the US may damage short-term growth prospects for countries around the world. But new opportunities from the Belt and Road Initiative can and will offset these losses. For example, in 2018 China’s exports to Belt and Road countries increased 10.9 percent year-on-year to US$704.73 billion, while imports from this group of countries rose 23.9 percent to US$563.07 billion.

This latest round of tariffs may prevent the United States from benefiting from the community of shared future for mankind. It may also be the blow that knocks down an already wobbly American economy.

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