US-China Trade Tensions Worsen

Originally published at The Diplomat, 1/27/18

President Trump’s Administration has begun acting on its tough trade rhetoric.This month, the US Trade Representative released a report outlining what it believes are China’s numerous violations of World Trade Organization (WTO) policies, including “the Chinese government’s prolific use of industrial policies that promote, guide and support domestic industries.” This is a direct reference to the “Made in China, 2025” policies that China hopes will transform its economy. The Administration also placed new tariffs on imported Chinese solar panels of 30%. Finally, wind turbine producer Sinovel was recently convicted of stealing trade secrets from American Superconductor Corps. While the case was initially brought by the Obama Administration, the conviction coincides with increased Congressional scrutiny of Chinese business partnerships with American corporations.

None of this is to say that a trade war is imminent. Economists and trade officials in the US have discussed the distorting effects of China’s trade and industrial policies before, and past administrations have slapped tariffs on other goods from China. Indeed, heads of global banks believe that a trade war would be so catastrophic to both sides that a trade version of “mutually assured destruction” will deter such an outcome. Moreover, many believe that because America would need Chinese cooperation to check North Korea, the Trump Administration cannot take too hard a stance. Of course, both of these beliefs rest on policymakers in both China and America seeing mutual gain from their cooperation on North Korea and being able to appease their increasingly nationalistic bases.

Yet a trade war is unnecessary to cause economic disruption. Senior Chinese officials have suggested stopping or slowing the country’s buying of US government debt. Again, while this is a proposal the Chinese have considered before, the timing of the suggestion is ominous: many of Trump’s policy plans, including the recent tax overhaul and planned infrastructure projects require an increase in the national debt.  The Trump Administration has more upcoming deadlines to act on Chinese trade policies, such as imposing restrictions on steel and aluminum imports or taking action on Chinese intellectual property theft. The Administration may claim that these actions are necessary to protect American national security, introducing security dynamics into trade conversations. Some believe and hope that even if the US takes a more confrontational approach to trade that China will avoid responding in kind, simply because it has more to lose.

However, this belief rests on the assumption that China also believes it would lose a trade war. Yet not everyone shares this belief. In fact, China has a number of ways to retaliate should the United States increase trade restrictions, such as restricting imports of agricultural products or automobiles. For now, however, Chinese officials appear to be pursuing a cautious course. It maintains that trade cooperation is the only way forward, that America’s trade protectionism will hurt it as well, and may pursue recourse through the WTO. Yet even if the WTO rules in favor of China, the Trump Administration may simply ignore it, leading China to take unilateral measures.

China’s practice of taking heavy state measures to favor its own industries is well known, and the United States is right to call out these practices and seek restitution. However, the unilateral nature of America’s actions coupled with the creeping influence of national security concerns makes its recent moves against China disconcerting. If China believes that it would lose a trade war, it might protest America’s actions but do little else, in which case this will be another example of America falling behind the global order. Yet if China believes that it could win, or that it must retaliate to preserve domestic and international standing, then America’s punitive measures may be what precipitates a global economic crisis.

Collapse of Huawei-AT&T Deal is a Double Blow to China

Originally published at The Diplomat on January 16, 2018.

Following on the heels of the collapse of Ant Financial’s acquisition of MoneyGram, the telecom company Huawei announced on January 9th that plans to sell its smartphones with AT&T in the U.S. have collapsed. Huawei, the world’s third largest smartphone brand behind Samsung and Apple and China’s market leader, had hoped to expand into the U.S. market by partnering with carrier AT&T. Carriers dominate the American smartphone market, being able to provide special subsidies and packages to customers. Without the deal, Huawei will need to continue selling its phones through open channels, such as Amazon, which only account for about ten percent of the U.S. market.

While AT&T and Huawei have so far declined to comment on the exact reasons for the deal’s collapse, there have been reports that AT&T was under political pressure to end the agreement. Huawei has been a subject of intense political scrutiny for years: in 2012, a U.S. Congressional panel stated that Huawei should be banned from any mergers with or acquisitions of American businesses because it posed a “security threat.” On December 20, 2017, members of the Senate and House intelligence committees informed the Federal Communications Commission that they again believed Huawei posed a security risk, specifically an espionage risk; this report is likely what caused the AT&T to pull out of the agreement.

The collapse of this deal is a double hit to China. First, it is a blow to Huawei, one of China’s leading “national champion” companies, with one of Huawei’s top executives saying “we have been harmed again.” Even though it is the third-largest seller of mobile phones, most of its customer base is in China or other developing countries. Huawei needs to increase its share of the American market if it hopes to overtake Apple and Samsung. The American market is “the largest goldmine” for smartphone companies as customers there are willing to pay a high price for performance and success in the U.S. market helps bolster global brands. To compete with Samsung and Apple globally, and with Apple in its home market, Huawei had shifted its strategy to produce more high-end, high-cost phones. Yet, with AT&T now backing out of the deal, Huawei will be forced to continue relying on online sales, which have not produced anywhere near the volume needed to compete in the U.S. market. Thus the deal’s end represents a significant blow to Huawei’s global expansion.

Second, the U.S. government’s role in the deal’s collapse is another example of America pushing back against the Made in China 2025 plan, the Chinese government’s industrial plan to turn the Chinese economy into a high-tech hub. The plan relies heavily on forced technology transfers from foreign companies for access to the Chinese market, a central plank of Chinese development for decades. In addition to forced transfers, American companies worry that intellectual property theft is also a key pillar of China’s planned technological transformation. Huawei has often been the target of American investigations regarding forced transfers and IP theft. By essentially denying the company access to the American market, Congress made it clear that it is tired of Chinese mercantilist practices towards American technology. This, of course, comes right after the U.S. government denied Ant Financial’s attempt to buy MoneyGram and as the Trump Administration has launched investigations into Chinese IP theft and dumping practices. By working to deny Chinese companies access to American technology and consumers, the U.S. government is also working to decrease Chinese companies’ innovation and collaboration with American businesses.

A double blow like this is sure to anger Chinese officials. Indeed, they have signaled that China is willing to retaliate if the United States continues to impose “unilateral protectionist trade practices.” These officials reject the American government’s claims as “so-called ‘national security.’” Yet such countermeasures as anti-dumping investigations and blocking mergers and acquisitions are a logical preventative step to take against heavily state-supported Chinese companies. Since China’s plans to upgrade its economy rely so heavily on foreign technology, the Chinese government should realize that foreign governments will not give that technology freely or easily. With protectionist economic sentiments towards China on the rise in both America and Europe, the Chinese government needs to take steps to ensure that its economic transformation is seen as universally beneficial and not as a threat.

Leader of the Economic Order?

Originally published as “For American business to thrive, bilateral trade deals aren’t enough” at Global Risk Insights on December 11, 2017

After November’s Asia-Pacific Economic Cooperation (APEC) Summit, it has become clear that the United States under President Trump is not interested in multilateral trade deals or policies. At the same time, others, such as the European Union, Japan, and China are forging ahead with multilateral deals. When the U.S. steps down and other nations and blocs step up, the American economy will find itself increasingly isolated as the global economy moves on without it.

America Stepping Down

During his speech to the APEC Summit, President Trump stated, “[W]e will no longer… enter into large trade agreements.” The President has consistently spoken against multilateral trade agreements, believing that they encroach on American sovereignty and unfairly allow other countries to take advantage of the American economy and consumers. In January 2017, he pulled the U.S. out of the Trans-Pacific Partnership (TPP), which would have eliminated over 18,000 tariffs on American goods, according to the U.S. Trade Representative. Trump’s comments on trade and Europe more generally prompted EU leaders to shelve the Transatlantic Trade and Investment Partnership (TTIP) negotiations, which would have brought in billions of dollars for the American agriculture sector. Under Trump, the U.S. will also be the only country in the world not party to the Paris Climate Accords, which would have positioned America to lead the $60 trillion clean energy market.

Instead, the Trump Administration is touting bilateral trade deals as the answer to America’s trade issues. The problem is that the major economies America needs to be trading with do not want bilateral deals. The Japanese Finance Minister refused the idea of a bilateral trade deal with America. As the Trump Administration attacks the South Korea-U.S. trade agreement, South Korea has signaled that it is willing to back out of the deal itself if American demands remain “irrational” and is making plans for a free trade agreement with the Eurasian Economic Union, led by Russia. Moreover, the Administration does not seem to be putting in the effort necessary to make bilateral deals work. Joshua Meltzer, a senior fellow at Brookings, says of the U.S., “There seems to be more of a focus on making a political point about trade deals vs. improving them.” And the political point, that the U.S. is the largest economy and needs to be treated with respect, often highlights the difficulty of bilateral trade deals. Lee Hsien Loong, Prime Minister of Singapore, stated, “ [America is] bigger than any other partner that comes along and so you get a better deal. As a result of which I think not that many partners will be keen to deal with you bilaterally.” Other countries are reluctant to deal one-on-one with America simply because of its sheer size.

Japan and Europe Stepping Up

As America is pulling back from multilateral trade deals, Japan and Europe are stepping up to fill the void. Japan’s Prime Minister Shinzo Abe, having spent significant political capital on the TPP, has spent the past months reviving it in the wake of America’s withdrawal.With Japan now at the helm, the TPP has been recreated as the Comprehensive and Progressive Trans-Pacific Partnership (CPTPP). Japan needs the CPTPP to revitalize its economy and serve as a hedge against China, so Abe will not discard the deal as easily as Trump did.

While Japan is focused on rewriting trade in the Pacific, the EU is attempting to cement a deal with MERCOSUR, a South American bloc consisting of Argentina, Brazil, Paraguay, and Uruguay (and a suspended Venezuela). The EU hopes that the deal will position it as the leader of global free trade in the age of Trump.

Equally important to both is their own Japan-EU free trade agreement. The two parties are seeking to sign a deal before 2018. A successful deal would create the largest industrialized free trade area in the world, accounting for 19% of global GDP. Together, the EU and Japan are driving trade agreements in the most economically important and vibrant markets, trade agreements to which the United States could have been party.

Enter the Dragon

In his own speech to the APEC Summit, Chinese President Xi Jinping offered a direct rebuke to Trump’s bilateral stance. He called for Asian countries to enhance “interconnected development” instead of going their “separate ways.” Xi’s speech highlighted how China is forgoing the old maxim of “biding its time and hiding its capabilities” in favor of acting as a leader of the global economy.

The most obvious manifestation of China’s new role is the Belt and Road Initiative (BRI),  an ambitious plan to reorient global trade through China. Through the BRI, China would pump nearly $1 trillion into global infrastructure projects that will facilitate increased trade, such as new ports and railways. Directly on trade, Premier Li Keqiang has called to advance the China-Korea-Japan free trade talks as tensions between the countries cool and trade reaches unprecedented levels. In addition, days after the APEC Summit, leaders from sixteen Asian countries met in Manila to discuss the Regional Comprehensive Economic Partnership (RCEP) a Chinese-led regional free trade agreement. If completed, the RCEP would decrease tariffs and increase trade across a quarter of the global economy and would allow China to rewrite the rules of trade.

America Left Behind

The Trump Administration’s unwillingness to engage with multilateral trade agreements will have negative effects for the American economy. By shunning multilateral agreements, American businesses will need to pay for access to key markets through high tariffs while their foreign competitors gain that access for significantly less. For instance, the TPP should have produced $10 billion in output for the U.S. agriculture sector, largely from access to food-import dependent countries like Japan and Vietnam. Notably, American beef exports to Japan would have seen a tariff of only 9%, far lower than the current 50%. Instead, New Zealand and Australia are likely to claim that prize with the CPTPP, as will the EU with its agreement with Japan. Pulling out of these deals gives other countries’ economies clear advantages over the United States in trade.

Backing out of the TPP, and its subsequent revival as the CPTPP, has another, indirect consequence. It gives Mexico and Canada increased leverage during NAFTA renegotiations. With America’s absence, the CPTPP acts as an alternative to the American market for Mexican and Canadian exporters. If CPTPP is successful, America’s neighbors will be less reliant on the American economy and therefore less willing to give concessions during negotiations.

Backing out of the Paris Climate Accords and stalling negotiations on TTIP also hurt America’s economy. Yet these kinds of deals are the only way that the American economy will move forward on trade in the future. Just as Trump wants a favorable deal for America, other countries’ negotiators want a good deal for their home country, and they just will not get one negotiating alone with the United States. Until the American government recognizes this, American businesses will lose out to their foreign competitors.


The Next Decade: Manufacturing and Infrastructure

Two major sectors will outperform in emerging markets over the next decade: manufacturing and infrastructure. As Chinese and Indian workers become more expensive and Chinese and Indian factories seek to move up the value-chain manufacturing will once again spread out across countries. As they cede their “world’s workshops” title China will drive infrastructure spending and construction with its Belt and Road Initiative. While risks abound for both, we should expect these two sectors to outperform others.

For decades, China, and to a lesser extent India, has dominated global manufacturing. Yet Chinese and Indian wages have seen a drastic increase in recent years, pushing manufacturers to look elsewhere for cheap labor. According to a former World Bank Chief Economist, 100-million low skilled manufacturing jobs will leave China soon. Many of these jobs will go to Africa, which is in the early stages of a population boom, though other countries, such as Vietnam and Sri Lanka, will also benefit. China’s and India’s move into mid- and high-technology manufacturing will put them in competition with the developed economies. While their workers may be too expensive for low-skilled factories, they will be perfectly priced to attract mid- and high-technology manufacturers from the developed world, further bolstering emerging market manufacturing.

China has paired its manufacturing shift with an ambitious global infrastructure plan, the Belt and Road Initiative (BRI). The Chinese government has planned over $900 billion of investment in global infrastructure projects, such as railways through Central Asia and ports along the African coasts. While the goal is to facilitate trade, the building process will spark an infrastructure boom. As investment attracts investment, we should further expect other countries and businesses to add to the original $900 billion.

While risks such as corruption and war present significant obstacles to both these sectors, we should expect that market forces will ensure that low-technology manufacturing shifts to non-Chinese and Indian markets and that the Chinese government will see through at least a significant part of its BRI plan. Both will ensure that these two sectors outperform others over the coming decade.