China-US trade war: The story so far and the impact of tariff hikes

28 February 2019

What has happened?

US President Donald Trump’s confrontational stance towards China’s trading practices is now infamous. Trump claims US and international businesses have suffered intellectual property theft, due to China’s government undermining international trade laws.

Accusations focus on Chinese companies forcing international corporations into joint ventures, thereby allowing them to effectively steal international companies’ intellectual property, and most controversially, technologies. China’s low labour costs are also under critique, for moving production out of the US and Europe, into China, where it is cheaper to produce goods. This has fuelled accusations that China is stealing jobs from American citizens, and causing factory closures.

These accusations resulted in the US conducting investigations into China’s trading practices and policies in 2017, which found China guilty of the allegations. The US government have since imposed tariffs on billions of dollars-worth of Chinese goods. China’s President Xi Jinping has retaliated with tariffs on US products. This has made for increasing hostility between both the two contesting countries and uncertainty in global trade circles. 

On 1 December 2018 at the G20 summit, Trump and Xi agreed to a 90-day truce on their ‘trade war’. They had until the fast-approaching deadline of 1 March 2019 to form trade agreements.

On 24 February, Trump announced via Twitter that he has delayed the US’s scheduled tariff increase on Chinese goods, due to “substantial progress” having been made with regards to US-China trade relations, during weekend trade talks. Moreover, Trump and Xi have agreed to a summit in Florida to make further agreements.

However, this and US commitment to delaying tariff hikes were made explicitly conditional on sustained good relations by Trump, in the announcement. The existing tariffs are already sizeable, with the US alone having imposed three rounds of tariffs on more than USD 250 billion of Chinese goods. China’s retaliation has also been considerable, with tariffs on USD 110 billion of US goods.

US-imposed tariffs target a large range of industrial and consumer goods, presumably to ensure that the damage to the Chinese economy is wide-ranging. China’s retaliation however, has been noticeably more strategic, targeting US oil/chemicals and agriculture which generate the most significant portions of America’s export-based profit. 

Although the 90-day truce was initially a relief to international investors, it had increasingly been looking less like an indicator for permanent trade agreements between the two superpowers, and more like the calm before the storm. Little progress had been made towards future co-operation until the 24 February. Worldwide, there is anxious speculation surrounding future result of trade talks, particularly among stock-markets and investors. Meanwhile, by the admission of entities on both sides, existing tariffs are damaging economic growth in both countries and increasingly, globally.

China-US trade war: The story so far and the impact of tariff hikes - Infographic

What are the implications? 

TRADING & INVESTMENT ENVIRONMENT

January’s trade talks saw limited progress. Despite Xi conceding to purchase a significant number of US goods, China’s controversial trade practices will likely remain entrenched in the short term. As such, another increase in tensions over trade between China and the US cannot be eliminated as a possibility, despite more recent, positive developments.

In any event, existing trade restrictions are very unlikely to be removed or lowered, currently, and may increase if Trump was to follow through on threats to tariff another USD 267 billion worth of Chinese products. Although the current trade truce prevented Trump from increasing tariffs on Chinese goods from 10% to 25% in January 2019, if relations were to deteriorate once more this would likely be the US reaction.

International companies whose main workforce and production facilities are in China will continue to struggle to fully profit in 2019, due to declining Chinese exports. Similarly, international corporations based in the US – particularly in chemical and agricultural sectors – may find it difficult to attain sustainable profit margins. However, other countries are set to benefit from the tariffs, by filling the gaps they create in global trade. Studies show that European exports alone, could see a growth of USD 70 billion.

Countries within Asia in particular are likely to have the resources to gain from the gaps left by China in world trade. Japan and Viet Nam may particularly benefit from additional contribution to the textiles sector. Therefore, international companies and investors located in these areas may reap the benefits of the US-China trade war and see accelerated economic growth. 

Trade tariffs will continue to impact the economies of both China and the US in the coming months. However, China’s economy will continually suffer more than the US’s, as the US has historically been China’s biggest export market by significant margins. China will likely endure declining economic growth, due to a decrease in export demand. Real GDP growth is expected to drop to its slowest rate in 20 years and hit 6.2% in 2019, meaning that investors in many of China’s industrial sectors will feel some financial strain. 

Global growth is also predicted to decline between 2019 and 2020 – a forecast, linked, to the negative effects of the US-China trade war on global trade. This will largely be the product of universal uncertainty over trade policy, which is set to lower business investment and slow productivity due to the interruption of supply chains. If trade tensions remain unresolved and tariff barriers re-escalate, economies worldwide will also experience the strain of higher import costs, causing the price of consumer products to rise.

Increasing trade tensions may also mean firms operating globally experience a deceleration in growth, due to the decline expected in overall productivity from disrupted supply chains. International companies may suffer economic hardship due to decreased investment - borne of global uncertainty surrounding trade. Companies, who rely heavily on imported goods for production, may also face financial shortages if global import costs continue to rise.   

China’s crucial steel industry may see slowing growth next year in particular, as poor market sentiment borne of the trade dispute with the US, economic uncertainty and rising protectionism in the steel market occur. This combination is likely to ultimately drag both Chinese and global prices for steel lower in the next few years as the affected countries loosen the market. Direct investors in the Chinese steel industry are particularly likely to suffer as prices drop. 

China’s textile industry is also due to suffer slowing growth. However, trade disputes will only act as a catalyst to this, as for several years China’s apparel manufacture has been moving into Southern Asia and Europe, for manufacturing convenience. The US has used this trend to deepen the effect of their trade restrictions, on China’s textiles economy, by importing goods from these newly booming Asian countries, rather than China.

China’s weakening position as an apparel exporter will aid the downturn of the textiles industry in China, affecting corporations who still manufacture there. Such companies would now find it more profitable to produce their wares in Southern Asian textiles markets; in countries such as Viet Nam, which is seeing an increasingly prosperous textiles sector. 

The US economy is not unscathed however, particularly within agriculture. The US’s southern states have been hit particularly hard by China’s restrictions on US soybean exports. For much of 2018, China imposed a 25% tariff on US soybeans, which, despite agreements made during the current trade truce, has only been partially decreased. China’s tariffs have hugely inflated the price of US agricultural products to well above international market prices, making it hard for US farmers and their investors to retain economically profitable businesses.    
  
Additionally, the US normally sells 30 to 35 million metric tonnes of soybeans to China annually, meaning that China were responsible for well over half of all US soybean exports. Although the US has been able to sell some of its soybean output to other markets, including within the EU, this significant hole in US agricultural exports is impossible to fill.

As such, despite the Trump administration promised multimillion dollar bailouts for the farming sector, both farmers and shipping companies along the farming trade route of the Mississippi River, are experiencing declining business due to declining interest in hyper-inflated US products, worldwide. As a result, over 80 farms in the upper Midwest of America, alone, have become bankrupt. Therefore foreign investors and business owners in US agriculture, face uncertain economic futures. 

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SECURITY ENVIRONMENT

The risk of riots and civil commotion could potentially rise in both China and the US. There is growing social tension among farmers who are increasingly economically burdened by China’s trade restrictions. However, due to the southern states’ Republican majority, many farmers support Trump’s goal of rebalancing international trade and creating greater future economic prosperity in the US.

Therefore, resentment remains controlled. Additionally, despite some strikes having occurred among shipping companies along the Mississippi’s traditional agricultural trade route, the lack of orders to process meant that productivity in the shipping of agricultural goods was impacted very little by the strikes. 

Although resentment is unlikely to escalate into violence, government shutdowns have included the Farm Service Agency, which was releasing agricultural pay-outs - intended to soften the economic blow of Chinese trade restrictions on the soybean market. Therefore, the inability of farmers to receive this aid may increase social discontent, but as of yet no cause for concern of any civil commotion has been raised and negotiations with China have resulted in some limited purchase of US soybeans by China.

However, many farmers who were promised government pay-outs are still waiting for these to materialise, and if there was to be another government shutdown, the risk of active social discontent could not be ruled out. Nonetheless, any possible rioting would be unlikely to result in damage to property, due to the remote locations of the relevant farming areas. 

China’s government is generally successful in discouraging social dissent in the country. This makes the risk of protest over the economic impact of US trade restrictions, highly unlikely. Foreign nationals operating in China may however face higher risk of arbitrary detention or harsher punishment for business misdemeanours, with Canadian and US nationals making up the most frequent examples of these occurrences recently. 

The risk of war between China and the US is also slim, although there remains a risk of unintentional confrontation. This is due to the shadowing of trading vessels by Chinese destroyers in the South China Sea. This has already led to a near-collision between USS Decatur and a Chinese destroyer in late 2018 which could have sparked confrontation. However, while relations between the two superpowers remain tense and changeable, the risk of open confrontation between the US and China is minimal, as both world leaders are unlikely to risk international conflict. 

For further information, please contact Eleanor Smith, Senior Political Risk Analyst on +44 (0)121 626 7837

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