Journal of Political Risk, Vol. 7, No. 5, May 2019
Ho-fung Hung
Johns Hopkins University
The US-China trade war has unfolded for nearly a year now. After some false hope of a quick deal, China’s backpedaling in May from earlier promises to stop requiring a technology transfer from US firms in China, and to do more to protect intellectual property, obliterated such hope. Trump’s reaction of raising new tariffs on Chinese goods, followed by China’s retaliation in kind, led to an escalation.
Bipartisan Support of Trade War with China
This escalation of the trade war, interestingly, has not unleashed criticism of President Trump in the US. Sources from the US negotiation team and those from its Chinese counterparts both verified China’s last-minute withdrawal of earlier commitments. There is little doubt that Beijing rather than Trump is to be blamed for this re-escalation. Trump’s strong response to the Chinese backpedaling instead got rare bipartisan support. Congress Democrats are on the same side with the President, judging by Senate Minority Leader Chuck Schumer tweet, “Hang tough on China, President @realDonaldTrump. Don’t back down. Strength is the only way to win with China.”[1]
Figure 1. China’s External Financial Position. (Source: World Bank)
Bernie Sanders only worried that Trump would not go far enough in pressuring China, remarking that, “The Trump administration is correct to put pressure on China to reform its practices, and I hope that some good comes from current trade negotiations.” He goes on to accuse Trump that he has:
done nothing to pressure China over its abhorrent treatment of the Uighur and Tibetan peoples. Future trade negotiations should, for example, target American corporations that contribute surveillance technologies that enable China’s authoritarian practices.[2]
Likewise, The US Chamber of Commerce showed its support of the President. The Chamber’s Vice President and Head of International Affairs issued a statement saying that:
The Chamber appreciates the Administration’s continuing focus on ensuring the U.S.-China negotiation results in verifiable and enforceable outcomes that address key issues in the commercial relationship, including market access restrictions, damaging industrial policies, intellectual property protection and theft, forced technology transfer and digital trade issues.… We have been encouraged by the President’s optimism and remain deeply concerned about recent suggestions that China is backing away from progress made to date.[3]
Despite this bipartisan support of the White House’s hardball negotiation tactic, when it comes to the long term impact of the trade war on the US and China, and predicting who will blink first, views are more diverse. The President, unsurprisingly, keeps bragging about the good that the trade war has done to the US, asserting the Chinese are paying the price of the elevated tariffs, and such tariffs constitute new sources of US government revenue. He assures us that even prolonging the trade war without a deal is good for America.
Many commentators and scholars disagree. Since the trade war started, some have argued that the tariffs amounted to a new tax on American consumers. Retailers in the US are going to be walloped. Manufacturers relying on Chinese components and inputs will see their production costs rise. China’s retaliation in kind will hurt American exporters like soybean farmers who count on the Chinese market. The trade war is hurting the US economy before it hurts the Chinese one. So the argument goes.
US Strength and Chinese Economic Vulnerabilities
However, if we take a look at US economic data, we will find an economy steaming in full speed a year after the trade war started. The negative impact of the trade war, if any, has not yet shown up. The May figure showed that the unemployment rate of the US has fallen to 3.6 percent, the lowest level since 1969. Wage growth rose continuously since 2018, reaching 3.4% earlier this year, and that was a ten-year high. Inflation continued to be low, below 2 percent. The current economic growth is entering its eleventh year, poised to be the longest economic expansion in US history. Some even worry that the US economy is overheating, and think that it needs to cool down a bit to stay healthy.[4] Viewed in this light, if the trade war can let some steam out of the US economy, the trade war can benefit the economy in the long run. After eleven years of continuous expansion, the US economy is facing a higher risk of recession. But such a recession will happen anyway and has little to do with the trade war.
On the China side, things are looking quite bad. Before the trade war started, the Chinese economy had been slowing down already. Besides the much-discussed problem of capital flight, currency devaluation pressure, and a domestic debt time bomb, China’s external financial position has also been deteriorating.
External debt, denominated in dollars, is a problem for many developing countries but has not been a problem for China until recently. China’s external debt is surging fast, as shown in Figure 1 below. China’s forex reserve as a percentage of foreign debt, a measure that international financial institutions use to gauge financial stability and the likelihood of a financial crisis, has fallen to 189% from the height of 548% in 2009. China’s level is about the same as Nepal (at 190%) today and lower than the level in China back in the early 1980s (205% in 1982).
Figure 1 also shows that net FDI inflow to China, composed of inflowing FDI less disinvestment and capital flight, is falling off a cliff. Capital flight and foreign investors leaving China are real. The data verify anecdotal reports about foreign investors leaving China for Southeast Asia, South Asia, or back to their home countries such as the US, Japan, and Taiwan. It confirms data coming from China, showing a continuous slowdown of the economy. There have been occasional small rebounds of China’s economy, but they are mostly results of surges in lending by state banks that the government painfully encouraged despite the worry about aggravating debt addiction of the economy. Figure 2 below juxtaposes the Purchasing Manager Index of China’s manufacturing. It is a leading economic indicator with a value above 50 indicating expansion, and a value below 50 showing contraction. The official reading and private reading compiled by Caixin are in line with each other. Both show the general stagnation of manufacturing. Smaller bumps after the ever larger monthly surge in loans show diminishing effectiveness of loan stimulus.
Figure 2. Diminishing effectiveness of loan stimulus on growth in China (Sources: Bureau of National Statistics of China; Caixin)
We do not need to give Trump any credit to realize that China needs a trade deal more than the US. Chinese economic troubles will worsen if the trade war drags on. Of course, the Chinese party-state could still easily survive the economic downturn through the radicalization of its control of society. After all, Putin, Maduro, and the Kims in North Korea all survived worse economic crises. Maybe Xi expects that if he drags on, the US is going to blink first, after all, thanks to all the misinformation about the US’s vulnerability and losses in a trade war.
The misconception about the US’s vulnerability in a trade war and the wrong prediction that the trade war would wreak havoc on the US economy is partially fed by the urge to discredit the current Administration no matter what. But it is more profound than this. For a long time, the corporate elite, who benefit hugely from global free trade, have been joining hands with liberal scholars to advocate the virtue of free trade in general and free trade with China in particular. The standard storyline is that the benefits of US-China free trade are mutual: while free trade allows China to enjoy export-led growth, as well as a rise in foreign exchange reserves that enables a debt-financed investment boom, the US benefits from low-cost manufacturers from China and the Chinese market for US-made high-tech equipment and farm products.
But more recently, some studies do point out that US gains in more than two decades of free trade with China is underwhelming. Some show that China’s impact on US employment and manufacturing is a net negative.
US’s Net Loss in its Embrace of Free Trade with China
To calculate how free trade with China shaped the US economy, economists David Author and his collaborators analyze the net impact of China trade on US employment.[5] They find that as far as working families are concerned, China trade brought a net loss. Communities hit hard by manufacturing outsourcing to China had not recovered from workers’ displacement more than a decade after the initial China shock. Such losses in some working-class communities have not been offset by gains in jobs elsewhere brought by the China market. A few other studies offer similar conclusions.[6]
Of course, free trade with China did benefit many US corporations by allowing them to cut costs by moving assembly lines to China. Apple is the prime example. Such benefits of China trade, however, only boost Apple’s profits but not the livelihoods of workers who used to work in Apple’s manufacturing facilities in California and Colorado, which were still expanding through the 1990s. Free trade in general and China trade, in particular, are good for corporate profit but bad for workers’ income.
Interestingly, when the media discussed these analyses about the negative impact of China trade, they tend to write off or balance it with studies showing workers’ displacement and downward mobility are not caused by China trade, but by some other factor, such as technological change.[7] One such study which has been widely cited in the media is the study by Hicks and Devaraj (2015).[8] It is noteworthy that this paper is a non-refereed study report sponsored by a corporate logistics and supply chain consultancy firm.
To be sure, it is unrealistic to expect that the trade war could reverse the loss of US manufacturing jobs to China in any significant way. Rather than relocating back to the US, more manufacturers will relocate to other low wage countries like Vietnam and Indonesia. This extends an already-existing trend, long before the trade war, of manufacturing flight from China due to rising wage costs there. After all, the global production network that was born in the 1970s has always been about its flexibility in constantly relocating to the lowest cost places.
That said, one thing that the trade war, and the plausible trade deal, could do is to prevent the further hemorrhage of manufacturing jobs, particularly high-tech jobs, to China. China has never been shy about its intention of seizing the helm of high-tech manufactures such as computer chips, electric cars, and airplanes under its “Made in China 2025” plan. Beijing’s open game plan is to obtain trade secrets and rise globally in these sectors through forced IP transfer or other means of technology harvesting from foreign firms. When China finally achieves this goal, today’s workers in the US facilities of Tesla, Boeing, and Qualcomm will be thrown out of work just like their predecessors in Apple, GE, and Ford.
The result of the US-China trade war is uncertain. The US has already had the worst of US-China free trade. Predicted devastation that the trade war could bring to the US has never come and probably will never come. Meanwhile, the trade war’s pressure on China’s economy is surfacing, and aggravating the economic troubles that China has already been trapped in for a while. Following current trends, the more the conflict drags on, the more disadvantageous China’s position will be. Beijing has sounded confident and aggressive in its trade war battle cries; its propaganda mouthpieces are feeding us with the prediction of America’s downfall and China’s triumph at the end of the trade war. However, if we listen carefully, we will find that it is just the sound of the howling wind blowing through a paper tiger.
Ho-fung Hung is Henry M. & Elizabeth P. Wiesenfeld Professor in Political Economy at the Department of Sociology & School of Advanced International Studies, The Johns Hopkins University. JPR Status: Opinion.
Notes:
[1] https://twitter.com/senschumer/status/1125143336837206016
[2] https://www.cnbc.com/2019/05/14/here-is-how-democratic-2020-contenders-will-negotiate-trade-with-china.html
[3] https://www.uschamber.com/press-release/us-chamber-statement-us-china-trade-negotiations
[4] https://www.cnbc.com/2018/11/05/goldman-economy-needs-to-slow-down-to-avoid-a-dangerous-overheating.html
[5] https://www.annualreviews.org/doi/abs/10.1146/annurev-economics-080315-015041
[6] E.g., https://www.epi.org/press/the-growing-trade-deficit-with-china-has-led-to-a-loss-of-3-4-million-u-s-jobs-between-2001-and-2017/
[7] E.g., https://www.nytimes.com/2016/12/21/upshot/the-long-term-jobs-killer-is-not-china-its-automation.html; https://www.ft.com/content/dec677c0-b7e6-11e6-ba85-95d1533d9a62