Donald Trump boasted that world leaders were “kissing my ass” as they scrambled to negotiate tariff deals with the United States. At a fundraising dinner this week in Washington, the President taunted his purported sycophants: “Please, sir, make a deal. I’ll do anything. I’ll do anything, sir.” It’s not obvious who exactly he was referring to, but at least one country was having none of it. China’s riposte to Washington’s declaration of a trade war was: bring it on.
On Wednesday, Trump put a 90-day pause on tariffs above 10%. There was one major exception: China, with whom the president has started a perilous game of chicken. After his administration imposed a further 34% surcharge to the earlier set of tariffs it had slapped on China, the Chinese leadership reciprocated, applying the same 34% right back. Even as he paused tariffs for the rest of the world, Trump announced he would put China’s tariff up to 125%.
The markets rallied in response to the 90-day pause. But in the four days that followed Liberation Day, Americans saw more than $6 trillion of their wealth evaporate in the stock market, and they’re still sitting on losses. Their interest rates spiked as investors dumped US Treasuries they no longer regarded as safe, and the purchasing power of their dollars fell as foreigners pulled up stakes and retreated back home. If this is the outcome of the so-called Thucydides Trap, the idea that a declining empire ends up at war with a rising one, the early betting by investors seems to be against an American victory. Trump, reluctantly, may have been forced to confront that reality.
Not that anyone stands to gain from a trade war. If the initial, aggressive global tariff programme is resumed, the whole world economy will suffer, with estimates of the cumulative reduction in global economic growth in coming years having rising above 2%. In the short term, smaller economies that depend heavily on trade with the US — Mexico, Canada, Vietnam, and let’s not forget poor little Lesotho — would be hit the hardest, but everyone will come off worse. As the old African proverb has it, when two elephants fight, only the grass suffers.
“As the old African proverb has it, when two elephants fight, only the grass suffers.”
But once the dust has settled, it may well be that the winner, in relative terms, is China. The country may bounce back harder than its rival because Trump appears to have succumbed to the fatal flaw of many an empire in decline: hubris. He has over-estimated his strength and under-estimated his foe’s.
In this cavalier frame of mind, Trump launched his trade war with no clear strategy, probably assuming everyone would quickly surrender. His end-game is little more than a vaguely operationalised goal of stopping the world from ripping off or plundering the States, however one measures that. This has left America ill-prepared for a possibly drawn-out trade conflict with China, in which it could be at a disadvantage. By opening up a couple of hundred trade-war fronts at once, Trump endangered just over a tenth of the American economy. And in doing so, he has made enemies everywhere. China, by contrast, has focused its new trade barriers only on the United States, which accounts for about 2.5% of its GDP — or closer to 4%, if one includes “connector” countries like Vietnam.
In other words, having declared it will “fight to the end if the US side is bent on going down the wrong path”, Beijing is prepared to take the hit, no doubt secure in the knowledge that it is taking a far smaller economic risk than the United States.
China’s deftness results from what is, in contrast to the US, a clear strategy. Its aim is to maintain an open world trading order that has served it well, and use this as a market to develop the high-value export industries it believes will define the future, like renewable energy, EVs, robotics and artificial intelligence. It will happily exploit the United States’ newly fraught relations with other countries: positioning itself as the new guarantor of the world trading order the US has renounced, China is securing growing markets in the developing world while managing relations with Europe.
In addition, China enjoys an advantage over the US in political and economic firepower. That might seem a strange thing to say, given that the US economy is bigger than China’s, with a much higher per capita income, and is much less exposed to trade with China than China is to the US. But that simple arithmetic is misleading. The question is not just how much punishment each country can apply, but how much pain it can absorb.
Whereas the Chinese leadership can justify its action to its people by saying it didn’t pick this war, it seems unlikely the average American whose cost of living shoots up will celebrate simply because he or she hears someone in China has it worse. Politically, the US administration has not prepared the nation for anything more than a brief skirmish, with Trump bragging that trade wars are easy to win. The President came to office on a pledge to bring down inflation and boost the economy — now, financial meltdown has driven a precipitous drop in his approval rating.
Nor does insisting that this is short-term pain for long-term gain help Trump’s cause much. It may keep his base on board for now, but swing voters have been abandoning Republicans, as recent special elections have shown. The longer this conflict drags out, the worse that will get. Peter Navarro said this week that the stock market is now bottoming and the Dow Jones Industrial Average will soon go to 50,000, but if instead it keeps plummeting, or if inflation spins out of control, the administration’s soft treatment by Right-wing cheerleaders may soon wear out. One study estimated that a wider tariff war would knock nearly 2% off America’s economic growth and raise prices by as much as 7%. Unlike the Chinese leadership, the US faces mid-term elections next year, and if the price of eggs keeps on rising, Trump could lose his foot soldiers.
Meanwhile, China has a lot of what can be called economic strategic depth. The basic tension in the US/China trade relationship is that the US has been living beyond its means, whereas China has been living well beneath them, repressing wages to keep export prices competitive. Faced with the loss of external markets, the Chinese leadership is now re-orienting the economy towards domestic consumption to pick up the slack, which will lessen the impact of the trade war on ordinary citizens. It thereby has a lot of capacity to absorb lost American sales.
Unlike the US, China has kept a lot of its powder dry. It could, for instance, still restrict exports of critical minerals to the US or target US multinationals with operations in China. And with its very high domestic savings rate, Beijing has a lot of fiscal space to cushion the blow of a prolonged war. The US, in contrast, depends for its deficit-financing on creditors who, to judge from the plunge in US bond prices this week, are already losing patience with Trump.
Taking all that into account, Beijing’s defiant and resolute tone shouldn’t surprise us. Before Trump’s announcement of the 125% tariff, it responded to Trump’s previous upping of the ante by again reciprocating, leaving US exports to China facing an 84% tariff. Whereas the US leadership is at war with itself, with Elon Musk openly calling Navarro, the suspected architect of the tariff schedule, a “moron”, “dumber than a sack of bricks”, and “Peter Retarrdo”, and with various members of the administration publicly telling audiences they’re not responsible for the policy, the Chinese leadership remains unified.
That’s to be expected, given the country’s authoritarian model, but what’s more noteworthy is the relative unity, so far, across China’s corporate elite as well. Unlike in the United States, where CEOs and fund managers have been screaming for a change in direction, China’s major companies are telling their clients they should be able to manage the challenge. Whereas US grocery bills are expected to leap, Chinese food producers are saying they should be able to keep price increases limited. The confidence index among chief economists remains positive, the government is bolstering stock prices and improving liquidity in the banking system, and the rapidly-rising new energy sector expects to be largely immune from the impact of the America salvo. This isn’t surprising, given since so much of China’s export market for this sector’s products lies in the developing world. While Tesla’s share price has fallen by half, its Chinese rival BYD’s is up 20% this year.
No doubt there is an element of bravado in the tough talk from China. But all the signs are that the country is up for this fight. It remains to be seen whether Trump’s 90-day suspension is a ceasefire or a surrender. But either way, it doesn’t look like an early show of strength.
