Schroders’ Wade: How a China-US trade war could proceed

The US has raised tariffs on Chinese imports and China has responded in kind. However, the mood has improved lately, raising hopes of a deal between the two countries which Schroders believes is president Trump’s aim ahead of the mid-term elections in November.

Schroders’ chief economist Keith Wade said that while China was more limited in its scope to raise tariffs, it had other weapons in its armoury it could deploy.

China could weather a trade war for longer than the US and had more potential for fiscal support. In addition, President Xi’s communist party will not be facing elections in the near future.

Wade said: “China may have more leverage in financial markets, where it is one of the biggest holders of US Treasury bonds.”

Selling these holdings has been mooted as a potential response by China with the aim of forcing up US bond yields and increasing the cost of US government borrowing. However the subsequent downturn in the US would significantly reduce demand for Chinese imports.

Another option would be devaluing the renminbi. Whilst this would help offset the costs of US tariffs, periods of weaker remnimbi have been associated with market volatility and concerns over capital flight from China and the People’s Bank of China seems to be ruling out such a move at present, preferring to build a reputation for a stable currency.

Another possibility would be for China to disrupt business activity as it did in South Korea recently with the Lotte Group, which operates 99 supermarkets in China.

The Japanese-Korean company was targeted by China after it provided land for the installation of the THAAD** missile defence system in South Korea.

Wade said: “China subsequently embarked on a strict enforcement of fire regulations at the companies’ stores and whilst the authorities may have had in mind the safety of Lotte customers, the result was that the stores became unable to operate.”

According to the Financial Times, of its 99 hypermarkets, 87 have been closed since February last year, often on grounds of fire-code violations. Lotte is now in the process of pulling out of China.

The US has significant operations in China: since 1990 foreign direct investment from the US to China has totalled $256.5 billion, with over 70% going into greenfield sites. As a result US companies are directly exposed to the China market. For example, Apple generates around 20% of its total sales in China, Boeing around 12% and Nike 15% of its revenue.

©2018 funds europe

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