Friday, September 6, 2019

Trump can't afford to win any trade war with China

This was first posted on Asia Times.

The response to last week’s grand opening of Costco’s first warehouse store in China was quite a surprise. As reported in the popular media, including Asia Times, throngs waited three hours to get in and two more hours just to get through the check out line. The company had to close the doors by 1:30 PM on the first day and quickly regulated the numbers on the second day.

This customer response from ordinary, everyday folks certainly belied Trump’s assertion that China’s economy is failing and is a sad commentary of the ignorance and misjudgment of his China team.

Give Costco credit for doing their homework on the China market and hit the sweet spot for shoppers in Shanghai. The sweet spot is huge, representing the purchasing power of middle-income households of China at about three times that of the US.

How can Trump’s China team be so far off in misreading the strength of China’s economy? Because they are lulled by the complacent feeling that America remains exceptional, that China only knows how to steal and copy and further that China will grovel when faced with the threat of tariffs. They are wrong on all counts.

Trump being misled by his advisers

Trade negotiator Lighthizer, a trained lawyer, doesn’t know much about economics and believes that the only way to reduce trade deficit with China is to levy tariff on imports from China. Trump’s China advisor Navarro never knew much about China and quite willingly pretended that he doesn’t know much about economics either—just like his boss. That way he can stroke Trump’s ego with the line of nonsense that trade war with China is easy to win.

The Trump China team never bothered to find out what’s going on in China. If they had, they would realize total foreign direct investments into China in the first half of 2019 actually increased by 1.5% from previous year. In other words, companies are not backing out but continue to invest in China because, unlike Trump, they believe in China as an attractive place to do business.

China’s GDP increased by 6.5% last year, only 1.5% was due to export—and obviously export to America contributed only a fraction of that. In other words, exporting to the US wasn’t as important to China’s economy as Trump had imagined. In recent years, China’s policy was to encourage domestic consumption and Chinese consumer spending now accounts for more than 50% of its GDP.

The Trump White House simply didn’t appreciate that China’s consumer economy is already much bigger than the US. More recently Beijing has promulgated 20 new policy-related regulations designed to stimulate more consumer spending. The new regulations include such things as encouraging the opening more 24/7 convenience stores, and promoting auto sales and shopping, taking more vacations and entertainment options and the like.

Clearly, China has a plan to deal with the adverse impact of the trade war. They are counting on domestic consumption to keep China’s economy vibrant and resilient.

Trump’s only response is tariff

Trump’s only strategy to counter China is to levy more tariff and threaten to levy more. He has publicly asserted repeatedly that tariff collected is “free” money being paid by China. Someone needs to tell him that the free money is hurting the American consumer by raising the cost of goods and draining the American pocketbook. The money isn’t free and not coming from China.

Ahead of Trump imposing a new round of tariff on a range of consumer goods on September 1, American retailers such as Best Buy are already wailing in anguish. They know the import duties on Chinese made goods will cut down their margin, raise the price tag for their customer and reduce traffic to their stores. 

Costco in China does not have this problem; they carry made-in-China goods to serve their customers in China. American retail stores, on the other hand, depend on low priced, Chinese made products to stock their shelves. By lowering the tariff on imports from other countries, China can more than offset the increased tariff on American imports. Thus, the Chinese consumer is untouched by the trade war. 

In the meantime, the American farmer is hurting badly. Bankruptcy has increased by 13% in the first six months of this year. Trump’s offer to subsidize farmers out of the tariff collected is a band-aid over a gaping wound. Who from the White House can advise them on what to plant next year as bankruptcy looms for more households?

American leaders also don’t respect China’s technology

American political leaders from both sides of the aisle subscribe to the notion that China’s technology prowess comes from theft. Even Huawei’s 5G technology must be illicit and stolen from somewhere, despite the fact that nobody else has the technology for Huawei to steal from. Washington may find solace in dismissing China’s technological prowess, but America is sadly being deluded.

For example, according to the latest statistics, Samsung has kept their leading worldwide market share for smart phones. But Huawei has move into the second place with 15.8% while Apple slipped into third place with 10.5%. Significantly, in changing positions, Huawei sales increased by 16.5% while Apple sales dropped by 13.8%. No amount of badmouthing can change the actual sales results.

About ten years ago, China purchased highspeed rail technology from Siemens. At the time, some of the German experts privately thought it would take China decades to digest and absorbed all aspects of the technology. Yet in a decade, China has surpassed the German technology to become the world leader. China’s highspeed rail run faster and come cheaper than the Japanese or the Europeans. This is just one indicator of how quickly China can develop excellence in technology when they put their minds to it.

As part of China’s highspeed rail consortium, CRRC has won bids to make metro coaches for American cities. They proposed assembling the railcars in new plants in the US, that would create employment for American workers and present a state-of-the art design at a lower price than any competitive bids. By manufacturing interior components of the car in the US, the finished product would have more than 60% local, i.e., made in America, content. Needless to say, this is an all-around winning arrangement.

Yet, when CRRC delivered its first car to Boston, NY Senator Chuck Schumer’s only comment was that he’s worried about the Chinese using the cars to spy on America. More recently, Congressman Harley Rouda, D-CA, has taken a step further and sponsored legislation that would ban the use of federal money to buy rail cars from CRRC.

Rouda said that “American taxpayers’ hard-earned money (should) not support Chinese companies bent on undermining industries that are important to our national security.” He must be confused or is just being xenophobic because Americans have not made subway cars for decades. If indeed it’s an industry important to American national security, he better hurry and resuscitate the companies from the graveyard.

Or, perish the thought, Rouda knows better but he’s just grandstanding for some easy political brownie points. Everybody in Washington knows that taking cheap shots at China is the easiest way to get media attention.

We can see that China has a plan to deal with the trade war in the near term while the Trump White House is clueless. But the long-term implications are even more damaging.

Long term the trade war will hurt the US even more

Whether it’s soybean from Iowa or lobster from Maine or wine from California, once the Chinese stop buying from the American sellers, the markets won’t come back in a snap. China has found replacement sources. The longer the trade war goes on, the more entrenched it will be for the new suppliers and harder it will be for the US exporters to displace them and recover their market share. That is, if and when the trade war ever comes to an end.

On the technology sector, the situation is just as bad. Trump thought he had the upper hand when he ordered US semiconductor companies to stop selling key electronic components to China’s high-end smart phone makers such as ZTE and Huawei. But China is such a huge market that American semiconductor devices companies can’t afford to walk away.

The American companies pleaded with Trump and he has grudgingly relented and continue to allow the US companies to sell to China for a limited period, albeit the deadline keeps get extended. But the Chinese companies that depend on critical chipsets from the US can see the handwriting on the wall. Huawei, for example, has already announced their own OS for the smartphone to replace the Android OS from Google and is frantically developing their own telecommunication chip sets to replace Qualcomm and Nvidia. 

If the past performance is any indication of the future outcome, Huawei will cut loose their dependence on American technology faster than Washington expects. Then, American high-tech companies will soon lose market share and witness the erosion of their presence and influence in China. 

If the Trump White House does indeed succeed in decoupling the two economies, both countries will be losers. Neither will be able to leverage from the advances made by the other and enjoy the multiplier effect of the interconnection of the world’s two largest economies. Historians may well lament the zero-sum conflict the feckless Trump has brought about and rue the mutual gains that could have been realized had the two largest economies worked together and avoided the lose-lose confrontation.