When it comes to US Trade policy toward China, President Trump has certainly been a man of contradictions. During his Asia tour, which recently concluded, President Trump’s remarks about China echoed hawkish campaign rhetoric about the communist nation's unfair trade policies. With a massive trade deficit towards China, and with China being one of the only openly hostile regimes it trades substantially with, there is a good reason to be concerned about Beijing's trade policies. However, when it comes to actual policy, the President has become increasingly acquiescent towards China.
Trump's visit has been described as one of the easiest for China in a long time. This is far from the latest incident. The President has made many concessions to China since taking office, walking back on everything from threats over Taiwan to accusations of currency manipulation.
Business as usual
This should, of course, come as no surprise. Aside from suspicions that there may be more than meets the eye to Trump’s relationship with Beijing, the dominance of fears over a “trade war” in US discourse have served as an obstacle to any effort to ask the tough questions about China, let alone hold Beijing accountable. Trump’s new stance simply falls in line with long-running trends. US trade doctrine has followed a mentality of free trade at all costs, painting a trade war with China as a worst-case scenario and equating it to full-blown isolationism.
But it’s worth asking would it be possible for the US to reduce, reform, or perhaps even cut trade with China without causing irreparable economic damage? Whether the US should cut or significantly restrict trade with China is a topic for another article. But considering how frequently the argument that it can’t be done because of economic interdependence is used, it is essential to examine exactly what kind of impacts could result from such a course of action.
In a debate dominated by alarmist rhetoric, putting the impact in perspective reveals that America has more options than China apologists want to admit. This does not, on the other hand, mean that taking a tougher stance would be easy.
Trade balances, GDP, and counter-mercantilism, the macroeconomic consequences of cutting trade
The idea that the US must maintain the status quo with China is predicated on the belief that irreversible damage to the US economy would result from alternative options. Any effort to curb trade with China, let alone cut it, is often viewed as economically suicidal. Additionally, many argue that, even if the US reaps unprecedented long-term gain from such a decision, the short-term inconveniences would be too great to tolerate.
Of course, part of this has to do with a US mindset that emphasizes short-term benefit and instant gratification, but even then, there is more to it. The repercussions, both eventual and immediate, of cutting trade with China are perceived to be tremendous in scale.
With $648.2 billion in trade total trade between the two superpowers, this scarcely seems unreasonable. But broad numbers don’t reveal all the details, and breaking this value down and examining its implications for short and long-term economic challenges, reveal a much less essential relationship.
Perhaps the best place to start is with America’s trade deficit with China. Though trade deficits don’t tell the whole story either, they can give a good estimate of how trade policies are affecting markets and whether or not the exchange of goods and services is balanced. In the case of US-China trade, the massive trade deficit of $347 Billion (over half of the total US trade deficit) is one of the main challenges discussed by U.S.
policymakers. This trade deficit offsets some of the gains normally expected from trade. The formula for GDP is GDP = C + I + G + (X – M) with X being exports and M being imports. Thus, a massive reduction in imports and a small reduction in exports would yield a net gain.
This may seem at first like an oversimplified interpretation. But other factors support this conclusion. First of all, the U.S. trade deficit with China has all the characteristics of a “bad” trade deficit. It is sustained, excessive, and not offset by other economic factors. With only two percent of the contents of good imported from China having US origins, US industry is more than capable of continuing to grow despite trade ties with China being damaged or severed.
Furthermore, in 2014 the trade deficit was estimated to have cost the US 1.02 percentage points in GDP growth.
Filling in the gap, demand driven markets
Given, GDP and GDP growth are influenced by a lot of factors. Whether trade is favorable isn’t just about imports and export balances, and with so many imports coming in it is tempting to argue that this alone renders America too dependent to take a harder stance towards China seriously. However, this runs contrary to a fundamental characteristic of free markets. That is, that they are largely demand, rather than supply, driven.
For instance, during the 19th century British Empire, one of the big arguments against the abolition of slavery was along similar lines as trade war fears today.
It was said that since 25 percent of the British Empire's economic output was from slavery, abolishing it would be hopelessly uneconomic due to the loss in production capacity. This argument turned out to be dead wrong. In fact, Britain’s economy grew as never before after slavery was abolished. The reason for this is simple. The industrial revolution brought mechanized production that was able to fill in the hole left by the end of slave labor.
Similarly, the US would have access to other sources of goods if imports from China were reduced or eliminated. America has countless trade partners in addition to its domestic industry, and there is more than enough capacity to fill in even for China.
India, Canada, Mexico, Germany, Vietnam, Japan, and South Korea, are only a few of the nations America can turn to avoiding isolationism. Potential production capacity means they would be capable of doing this too. Mexico, for example, had a mere 2.3 percent GDP growth rate in 2016, leaving more than enough room to expand its economy to help satisfy growth in American demand. Additionally, the fact that these countries are more willing to follow international trade rules, it’s inevitable that US industries would gain comparative advantages, boosting domestic output as well.
Debt and financial markets, the real concerns
From a trade and commerce perspective, the US is quite well positioned to move away from trade with China.
But this is not to downplay the risks of cutting trade, but rather, to enhance understanding of them. Where things get difficult has nothing to do with the trade balance or dependence on trade. Rather, it has everything to do with America’s debt and China’s growing power over world financial systems. The US may not need trade with China. But the system that allows US trade policy to function is susceptible to attack.
A version of this argument is somewhat well known. China could flood the US market with treasuries in retaliation for something it sees as a major threat. Though many dismiss this as costlier to China than the US this is slowly changing as China becomes more economically self-sufficient with programs such as the made in China 2025.
If China is able to successfully reach the point where strategically significant industries no longer depend on imports, they will be far less reliant on the demand for their products enabled by a strong US dollar to fuel their economy. With China also expanding trade with Russia and various African nations and trying to stimulate domestic consumption, their reliance on America being able to fuel its growth will only continue to diminish.
But the biggest concern in terms of China’s ability to retaliate is its ability to affect the world financial system unilaterally. Currently, China has been taking aim at the petrodollar system by making efforts to establish the Yuan as the world’s reserve currency, specifically through efforts to get Saudi Arabia to accept Yuan for oil.
This would undermine the cornerstone of US dominance over world financial systems, dollar hegemony. Especially concerning is China’s slow but steady movement in the direction of a gold standard, which would tie their Yuan to an external benchmark whereas the Dollar which isn’t linked to anything. As such, China’s growing leverage over the financial system makes it increasingly possible for them to use their holdings of US debt as well as their control over currency markets to retaliate against efforts to counter their trade policies.
For the US it’s now or never
Essentially, all of this is a reflection of realities presented by the balance of power between exporters and importers in trade disputes.
As a general rule of thumb, importers have the advantage in short-term trade disputes while exporters have the advantage in long-term ones. An industrialized, export-driven economy will be susceptible to sudden decreases in demand for its products but will be in a better position to advance, innovate, and become self-sufficient in the long term.
Conversely, an import-dependent economy like the US can find other markets in the short term but is susceptible to being slowly weakened by trade imbalances in the long run; not to mention becoming overly dependent on one country if said nation monopolizes industries. That being said, the US faces a situation where its prospects of surviving let alone benefiting from the effects of measures like tariffs, duties, or on the more extreme end an embargo on China, is diminishing over time. Currently, the US is more than capable of dealing with market repercussions. But in the long term, dependence on China for both trade and for the stability of international financial markets will make a break impossible without severe costs at some point.
A crossroads for US trade relations
Whether Trump sticks to his current stance or reverts back to a realist zero-sum trade policy, what the US decides to do during his term will have permanent effects. US policymakers simply cannot afford to remain naïve about the effects of China’s trade policy. If the concerns presented by China trade hawks are in fact valid, then America’s current course of action is equivalent to the Titanic. Washington won’t turn the ship because it is more afraid of rocking the boat than avoiding the Iceberg. Of course, China apologists will likely continue arguing the same line they have for decades; reform is inevitable, China is benevolent, free trade is universally beneficial. Ultimately, the status quo is a gamble. Is China going to be as much of a threat as many have warned? Economies have often been likened to ships, and if the answer to this question is no, then America’s is truly unsinkable.
