This week, the talk among market participants has been about trade and the ongoing trade conflict between the United States and China. The two are the biggest economies in the world with their combining GDP being almost $30 trillion. Every year, the countries do trade worth almost $1 trillion. In this trade, China usually imports raw materials like agricultural products and energy resources. On the other hand, US usually imports finished products like apparel and televisions.
However, it is complicated to quantify the amount of trade that happens between these countries. This is because of the nature of how the nature of the business between them is. For example, Apple is an American company which designs its products in California. However, their products are usually manufactured in China by a company called Foxconn. Apple does this because the labor in China is usually less expensive than in the United States. Further, the supply chains for this manufacture are well-established. When the finished phones are shipped back to the United States, they are viewed as imports.
Another complicated issue in this conflict is how the success of trade is being viewed by the two countries. The United States side views the success of trade in terms of the trade surplus or deficit. China has a large trade surplus with the United States. This is because of a number of reasons. First, American does not produce a lot of goods that China needs. Second, the Chinese cannot easily afford goods that are produced in the US where people are paid more than $10 per hour. Third, with the American economy being strong, the demand for cheap quality products increases.
Therefore, a trade deficit does not necessarily mean that one country is taking advantage of another country.
As the trade conflict ensued, the Chinese offered a few concessions to the Americans. They offered to increase purchases of American agricultural and energy products with the aim of narrowing the deficit. This was not a serious commitment because the US did not have the capacity to produce more. In other words, China played the US while avoiding the major issues like issues of joint ventures and intellectual property.
Last week, the US announced that it would place tariffs on goods worth more than $50 billion from China. China responded with its own list of tariffs worth more than $38 billion with more coming. The US then announced that it was exploring tariffs worth more than $400 billion. According to the Wall Street Journal, Trump believes that he has the upper hand because of the volumes of trade China does with the US.
The first scenario is where the conflict continues to escalate. In this, China will place major tariffs on US goods. They will also rally the Chinese to boycott American goods and services. They could even limit their citizens from travelling to the United States. American companies in China could also face more crackdowns.
The second scenario is where the Chinese offers to crash major American industries like agriculture and energy. In this, they will move to buy products from countries like Iran and Venezuela that have been sanctioned by the US. This will increase the amount of conflict between the two countries.
The third scenario is where the Chinese halts the purchase of American treasuries. Early this year, the Chinese tested this scenario by leaking it to the press. This led the US stock markets to fall because China remains the biggest buyer of US treasuries.
The third scenario is where the two countries sit down and offer concessions. Trump has requested the country to open up its economy to foreign investors. To force these concessions, Trump will need to team up with like-minded countries in Europe, Canada, and Australia to put more pressure on China.