Trade War: America and China Square Off

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Trade War

America and China Square Off

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As the turbulent summer of 2019 drew to an end in September, the world economy seemed to breathe a sigh of relief. The Chinese Ministry of Commerce signaled to U.S. trade negotiators a willingness for serious negotiations in October to resolve the growing trade war between the two nations.

To many observers, this might be the beginning of an end to the trade impasse that began in January 2018 when U.S. President Donald Trump’s administration set in place against Chinese imports the first of a series of tariffs—taxes that drive up the cost of imports.

The effect on the two nations was anything but positive. For a Chinese economy heavily dependent on exports to the United States (which remains the world’s largest economy with the largest market), import duties of up to 30 percent on hundreds of billions of products were strangling economic growth.

In the United States, stock markets saw a wave of volatility as investors worried that the tariffs might also choke off world economic growth. Consumers are wary of price increases on the thousands of Chinese-made consumer products. And such tariffs also increase the cost of many domestic products that use Chinese components.

What’s behind all this, and what does it mean for the future?

Struggle for supremacy

A quick look at the trading history of the two gigantic economies opens the door to understanding how and why this economic showdown came about. After the death of Communist China’s founder Mao Zedong in 1976, Chinese leaders began taking steps to modernize their state-run centralized economy. The 1980s saw a wave of economic reforms that included some increased free-market practices, modernization of industry and a desire to make life better for the Chinese people.

China has vowed to become the world’s largest economy, with access to U.S. markets being a critical part of its plan. The world’s most populous nation had long sought Most Favored Nation (MFN) trading status, which it finally attained with U.S. backing in late 2001. But while this status gained China access to markets and trade advantages it long coveted, it also required that China adhere to fair trade practices it has largely ignored.

Bloomberg News policy analyst Josh Rogin summed up the frustration of U.S. policy makers: “There was a belief that China would develop a private economy that would prove compatible with the WTO [World Trade Organization] system. Chinese leadership has made a political decision to do the opposite. So now we have to respond” (“The United States Is Finally Confronting China’s Economic Aggression,” The Washington Post, March 25, 2018).

With its new MFN trade status, seemingly overnight the Chinese economy began to look much more capitalistic. Official encouragement of Chinese investment by other nations led to thousands of manufacturing enterprises that took advantage of low Chinese pay scales and looser environmental regulations (China is by far the world’s biggest polluter).

Over the past quarter century, Chinese exports to the United States have skyrocketed. From just 1 percent of U.S. imports in 1991, they doubled from $51.5 billion in 1996 to $102 billion in 2001, and have grown prodigiously since then. America in 2018 saw a record $540 billion in Chinese imports, up nearly 7 percent from 2017 and up almost 60 percent from 2008.

By the mid-1990s billions of dollars of Chinese-made exports began to flow to America and Europe. China used its newfound wealth not only to improve the lot of its people, but also to build gleaming modern cities and infrastructure. Wealthy Chinese traveled to America, buying up billions in U.S. commercial real estate.

The dark side of Chinese economic growth

But this growth had a dark side, as the Chinese military made certain that much of the nation’s new wealth flowed into creating a modern army and world-class navy. China used that navy to threaten its neighbors and key trading routes. It has proclaimed an Exclusive Economic Zone that includes most of the South China Sea, to the dismay of neighbors Taiwan, Vietnam and the Philippines, all of which border the sea and use it extensively.

That dark side extended to the United States, which saw a tremendous loss of manufacturing jobs to China. American manufacturers closed hundreds of factories, putting millions out of work. Hit especially hard in America was the industrial Midwest, where entire towns, losing key manufacturing plants, became virtual ghost towns. U.S. manufacturing centers such as Detroit, Milwaukee, Chicago, Pittsburgh and Cleveland felt the impact.

By 2015 the situation had become critical. American manufacturing, reeling from the body blows of China’s trade abuses, had lost more than three million manufacturing jobs since 2000, and the situation was worsening. With China exporting $4 of goods to the United States for every dollar of U.S. exports to China, hundreds of billions of dollars were flowing out of America into China every year, with a much smaller amount flowing back into the United States.

Designed in part to protect domestic industries by taxing foreign imports, both nations have used tariffs over the years. However, China has long imposed much higher tariffs on U.S. products imported into China than the United States has lodged against Chinese goods.

Troubling as this has been, China’s international trade practices became the main issue generating friction with the United States. To sustain rapid economic growth of as much as 9 percent per year, China engaged in unsavory trade practices such as demanding technology sharing of U.S. firms as a price of doing business, intellectual property theft, dumping of Chinese goods in U.S. markets, large subsidies to Chinese firms and other practices that tilted the playing field heavily in China’s favor.

Hundreds of billions in economic losses

“Dumping” here refers to selling goods into foreign markets below production cost to gain market share. Coveting lucrative U.S. and European markets, China has unfairly dumped in them such products as steel tubing, machine parts, cast iron parts and aluminum, devastating U.S. manufacturers. The World Trade Organization, which China joined in 2001, has long made demands that China correct these practices—demands Chinese policy makers have largely ignored.

Particularly galling has been the theft of intellectual property, a practice that robs U.S. creative and innovative firms of billions of dollars a year. The U.S. Customs Service estimates that 87 percent of counterfeit goods seized at U.S. ports originate in China. A March 2018 CNN report cited losses of $225 to $600 billion annually from intellectual property losses to American technology and other firms.

These practices have led to the loss of nearly 3.4 million U.S. jobs from 2001 to 2017, according to an October 2018 report by the Economic Policy Institute (EPI). Certain industries, such as electronics, textiles, apparel and some heavier durable goods, have been especially hard hit. And while job losses have been heaviest in California, Texas and the industrial Midwest, they have occurred in nearly every U.S. state and congressional district.

Workers fortunate enough to hold on to their jobs saw their wage bargaining power diminished due to cheap Chinese competition. The EPI report found wage and salary stagnation to be a major contributing factor to lower living standards and a widening inequality gap, especially among older workers. Economic inequality is something American academia and the media have long railed against, but which globalism—advocated by the same media and academia—tends to promote.

War of tariffs begins

In the U.S. presidential campaign of 2016, Donald Trump lashed out at these abuses and promised to address the problem if elected. It brought him hundreds of thousands of votes in industrial states like Michigan, Ohio, Wisconsin and Pennsylvania, states particularly hard hit by the loss of manufacturing jobs.

The Trump administration followed through at the beginning of 2018 by slapping tariffs on Chinese-made washing machines and solar panels, products China has been accused of dumping. Tariffs on steel and aluminum followed in March. China responded with its own tariffs on U.S. goods, and since then the Trump administration and China’s leadership have imposed further tariffs tit for tat for more than a year. In the latest round as of this writing, new U.S. tariffs of up to 15 percent were imposed Sept. 1 on an additional $325 billion in Chinese imports.

Trump and his U.S. trade negotiators are counting on what they see as a simple reality—that the Chinese, benefiting four times as much as the United States in their exchange of goods, would feel the pressure of steep tariffs earlier and harder.

Washington wants a deal that would see China reduce industrial subsidies, cut production of commodities such as steel and aluminum where overproduction is depressing global prices, and stop pressuring U.S. firms to hand over proprietary technology as a cost of doing business in China. The administration would also like to see stepped-up purchases of U.S. goods and services, and a strengthening of China’s currency, the yuan, which China had devalued to give it an edge in international trade.

It seemed China was signaling a wish to de-escalate the trade stalemate this past summer by agreeing to restore some of its imports of American farm commodities and other U.S. goods. But when Chinese president Xi Jinping reneged on the agreement, President Trump announced the new round of tariffs on Chinese goods, affecting virtually all remaining Chinese imports not previously subject to tariffs. In response, Chinese central banking authorities took steps to weaken the yuan in an effort to stanch some of the slowdown in exports.

Now nearly two years since it began, the trade war has taken its toll. Since mid-2018 the Chinese economy has slowly contracted, with growth at its slowest pace since 1992. Hundreds of companies that set up shop in China to take advantage of low Chinese labor costs have left or are threatening to leave. Trying to gear up his nation for a long-term trade struggle, Xi Jinping called this past spring for a new “long march” reminiscent of Mao’s 1935 call for his people’s resistance to the invading Japanese. Chinese leaders have begun to worry.

The White House has signaled that it too is prepared for a long-term battle. “I’m like them; I have a long horizon,” President Trump told Reuters news agency, adding he had “no time frame” for ending the trade dispute. Though often criticized for what many consider to be the president’s back-and-forth approach to the trade war, others defend his stance as a strategy aimed at keeping China off balance, never knowing what the next U.S. move will be.

The Chinese government has ample reason to want the dispute settled quickly. China’s leaders know a protracted trade conflict would damage the country economically and complicate their plans to transform it from a low-wage manufacturing economy into a global leader in high technology. It’s been rumored that Xi has instructed his deputies to stabilize the relationship with the United States as soon as possible.

What lies ahead?

This battle of titans could turn worse. It goes without saying that the U.S. business community is not thrilled at the prospect of even more barriers to trade with China, a nation that supplies an astonishing array of raw materials and finished goods. And while U.S. importers largely absorbed the initial rounds of tariffs, they have signaled that most of the additional 10 to 15 percent tariffs will be passed on to U.S. consumers in the form of higher prices for clothing, electronics, toys and hundreds of other consumer products.

U.S. retailers, already under pressure from the growth of Internet shopping, will feel more pressure as business slows. Some will not survive, and most will be forced to cut back on staff and inventory. Either way, the result could be substantial job losses going into early 2020.

In China the situation will likely be worse. The latest round of tariffs on nearly $325 billion in Chinese imports, on top of tariffs already imposed on about $250 billion of Chinese goods, will cost millions of jobs, a situation that will only get worse if hundreds more factories decide to close their China operations and move to other nations such as Vietnam or the Philippines.

Could this result in long-term rearrangement of global supply chains that have taken decades to create? Many products, such as cell phones, digital cameras and laptops, are assembled in China with parts sourced around the world. Economists realize that a shift could disrupt supply chains spread across much of Asia and the world. The production of Apple’s iPhone, for example, involves nearly 200 major suppliers that deliver parts to China for final assembly.

To put this in perspective, the price to U.S. consumers of Apple’s iPhone XS could rise by $160 if tariffs of 25 percent go into effect. The U.S. would share the pain from slower iPhone sales as not only retailers but downstream support businesses are affected.

Consumers will of course feel the pain of higher prices on these items. While the U.S. Trade Representative’s office has excluded many products for which China is the main source, the new tariffs will apply more than 40 percent to consumer products, up from 25 percent from earlier tariffs that mainly target industrial goods. And since consumer spending accounts for nearly 70 percent of the U.S. economy, it is easy to see how higher prices could lead to a gradual slowing of U.S. economic activity.

Around the world it is hoped that both nations will back away as they approach the economic precipice. The United States hopes that China will eliminate or ease up on its restrictive and unfair trade policies. China hopes that U.S. consumers and manufacturers will feel the pain of higher prices enough to pressure Washington to ease off or eliminate the ever-mounting tariffs. In Beijing, Chinese leaders watch closely as the 2020 U.S. elections approach, hoping that Donald Trump will not be reelected and that a new administration will back off the hardline trade stance and return to the China-friendly agreements of previous years.

Yet even if a deal is reached, will Chinese economic leaders abide by its terms? China has often failed to keep its past trade agreements and has been evasive about commitments to curb intellectual property theft. Thus the United States would need to continue the threat of economic sanctions.

In any event, any deal reached would likely not deter China from its long-range goal of global economic supremacy. Chinese leaders will not accept what they consider economic humiliation, and Xi Jinping is not likely to bend over backwards to accept what he considers a harsh deal.

The end of 2019 approaches with the U.S. and China, like two huge sumo wrestlers, circling each other in the struggle for global economic supremacy. Perhaps only the ongoing potential for catastrophic events like nuclear warfare poses a greater threat to the well-being of millions. If Chinese and U.S. trade negotiators fail to arrive at an agreement soon, it is all but certain that both nations will feel widespread economic pain—pain that will spread to the rest of the global economy and lead to worsening conditions around the world.