Lead Story: Trade war will cause collateral damage

This article first appeared in Capital, The Edge Malaysia Weekly, on July 30, 2018 - August 05, 2018.
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THE US-China trade war has taken centre stage on the global markets and there is no other issue that looms as large in international trade. Should the average investor then contemplate what it really means and how it could affect him or her?

Where are we today? How did things get so far? And just how serious is the situation?

Earlier this month, the trade dispute between the two superpowers entered a new phase with the US slapping higher tariffs on US$34 billion (RM138 billion) worth of Chinese imports. That was apart from another threat by US President Donald Trump to impose tariffs on US$450 billion worth of Chinese goods should Beijing attempt a tit-for-tat retaliation.

The Chinese government has hit back with its own penalties, targeting a range of American products with tariffs, including pork, soybeans and automobiles.

David Dollar, a Senior Fellow at the John L Thornton China Center at Brookings Institution, points out that while the trade taxes that have been introduced so far are minor, they mark the most trade protection the US has put in place since the 1930s.

Note that apart from Chinese products, the US had earlier imposed tariffs on imported steel, aluminium, solar panels and washing machines from countries such as Canada, Mexico, the EU and Japan.

Dollar observes that the tariffs put in place by the US so far amount to less than 5% of imports, but the key question now is whether Trump will follow through on his threat to tax auto imports and all imports from China.

“Those measures would take affected imports up to about US$1 trillion, or roughly half of US imports. So far, all of the targeted countries have retaliated. If that continues, then soon, there could be import tariffs on US$1 trillion in each direction. That would be a big deal,” Dollar tells The Edge.

He warns that in the event of a full-scale trade war, investments in many different countries are likely to slow. Companies will be uncertain about future rules as it will be difficult to predict whether the protection will be permanent or temporary.

“The smart move would be to delay investments, and if enough firms do that, then the economy will go into a recession,” says Dollar, who was the US Treasury’s economic emissary to China when Barack Obama was US president.

Dr Wong Chin Yoong, associate professor in international macroeconomics at Universiti Tunku Abdul Rahman (UTAR), agrees that the impact of the trade war is minimal at the moment.

“Even though US$34 billion sounds like a big number, if you compare that with the gross domestic product of the US and China, it is not even 1%,” he tells The Edge.

A quick check of World Bank data shows that the US$34 billion of Chinese goods affected by the tariffs implemented on July 6 amounts to a mere 0.17% and 0.28% of the US and China’s GDP respectively.

“Of course, what we are seeing now is just the first-round punch. If the trade tension escalates with the US ultimately imposing tariffs on more than half-a-trillion dollars’ worth of Chinese goods and it eventually becomes a multilateral trade war, that would be Armageddon,” Wong says.


How vulnerable are we?

Chen Gong of Anbound Consulting, an independent think-tank based in Beijing, opines that we are still very much in the early stages of a global trade war and it is too early to speculate on the worst-case scenario.

“When we talk about how serious the trade war could be, to me, it is never about who is the winner and loser, but more about the recovery and restructuring of globalisation. That’s because the trade war could damage the whole global trade order. All countries will be affected, including the US and China,” says Chen, who is chief researcher of Anbound Consulting.

If there is an all-out trade war, the whole world will be in chaos, while the economic growth of emerging markets, including Malaysia, will be badly hit.

“My guess is that the damage could be even worse than what happened during the 1997 Asian financial crisis. All I want to say is that it is easier to destroy the world than to build it,” he declares.

Dr Ngeow Chow Bing of the University of Malaya is of the view that Malaysia is very vulnerable to the spillover effects. “But of course, if we ever reach this stage, we will not be only country that will be affected. South Korea, Japan and all the Asean countries will be affected. We are in a passive position. We know we are in danger and at risk, but there is only so much we can do,” says Ngeow, who is acting director of the university’s Institute of China Studies.

While some people might have a positive view that Malaysia could still benefit from the trade war as Chinese companies could relocate their plants here to avoid the higher tariffs imposed by the US, Ngeow says that is not a realistic expectation.

“That’s because we simply do not have sufficient capacity to absorb the relocation. I would say the impact of the trade war to Malaysia is negative... it’s as simple as that, no positive outcome whatsoever.”

On a scale of 0 to 10, UTAR’s Wong says Malaysia’s vulnerability level is probably at 5 now.

“Many multinational corporations that have a base in China would also have a base in Korea and Taiwan, as well as other Southeast Asian countries such as Malaysia. Internally, they would have to make adjustments for shocks. If the orders from China to the US come down because of the tariff war, the orders may come to our country. That is the plus thing that could offset the minus thing,” he explains.


Trade war vs Cold War

It is interesting that some scholars have pointed to similarities between the Cold War — the rivalry between the US and the USSR after World War II — and the trade war. If the Soviet Union was perceived as the US’ biggest enemy during the Cold War, today, China is seen as its biggest threat.

Brookings Institution’s Dollar observes that there was very little economic exchange between the West and the Soviet bloc during the Cold War, but there is a high degree of integration between China and the West today. Thus, any attempt to isolate China will be very costly and is likely to fail.

“Probably, most of Europe and Asia will not go along with a policy to isolate China, so the US would be isolating itself, not isolating China. Thus, there is a strong economic incentive for the US and China to find a way to get along. They will be competitors, but the key question is whether the two can agree to the rules of economic competition.”

Dollar explains that the world has become increasingly integrated in terms of trade and investment. This means that a trade war, even if it mainly involves the US and China, will cause collateral damage in third countries.

“Much of China’s exports are part of global value chains that involve many countries, including Malaysia. When the US takes aim at products exported by China, it hurts a lot of other countries as well.”

UM’s Ngeow says the impact of the trade war will be more significant than the Cold War for the simple reason that there were no such things as global supply chains and integration at that time.

“The main difference is that the Soviet Union did not participate in the global trade networks but on the Eastern Bloc. That’s why the US could afford to go into the Cold War with the Soviet Union. But today, China is part of global trade networks. If the Chinese economy collapses, the whole world will be affected, and I don’t think the US wants to see that either,” he stresses.

Looking at the 2017/18 North Korea crisis, few would have predicted that North Korea’s supreme leader Kim Jong-Un would play the role of a “man of peace” by making a historic visit to South Korea in April. This was followed by a June meeting with Trump in Singapore to discuss the denuclearisation of the Korean peninsula.

Is a easing of US-China trade tensions then on the horizon?

Dollar of Brookings Institution’ does not rule out the possibility.

“The North Korea analogy is an interesting one. The Singapore summit led to a vague agreement, which is now being followed by difficult, slow negotiations. Probably, it will be a long time before North Korea sees any sanctions relief from the US.”

Dollar, however, does not think there is much hope of resolving trade tensions this year. But next year, the US economy is expected to slow down and the cost of protectionism will become more apparent. There could easily be a push for a Trump-Xi summit to negotiate a truce.

UTAR’s Wong says the US and EU have just agreed on a deal to not escalate tensions, but also to not end the tariff war. This could give the US more room to continue, or even escalate, the clash with China as the EU has promised to import more soybeans from the US.

He believes while it is possible China and the US could strike a sudden compromise that could ease tensions quickly, the capricious Trump could also renege on any deal, given his track record.

UM’s Ngeow opines that China is not very keen on a full-blown trade war because it is more likely to suffer than the US.

“If you look at the trade numbers, China’s exports to the US are much bigger than US exports to China. The thing is, both countries think they can win the trade war. That, to me, is the most dangerous mentality,” he warns.

However, he feels China will endure and then walk away from the trade war.

“Trump’s gambler attitude may gain him another victory, but China will keep this in mind for years to come,” he predicts.

Anbound’s Chen is more pessimistic and cautions that we should be prepared for a prolonged trade war.

“The US-China trade war is not going to be over anytime soon, at least not during Trump’s era. The trade war is happening against the backdrop of globalisation. Unless all countries can remain rational in trade negotiations, the messy trade war will never come to an end.”


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