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United States Politics September 2018

United States: Trade war with China escalates as new tariffs on USD 200 billion take effect

The outlook for global trade markedly deteriorated in recent weeks as the Trump administration followed through with its threats to impose new duties on USD 200 billion of Chinese imports—adding to existing China tariffs on USD 50 billion of products, as well as steel, solar panel and washing machine duties applying to most U.S. trade partners. The new tariffs, which took effect on 24 September, will be applied at a rate of 10% until the end of the year, after which point the rate is scheduled to rise to 25%. Furthermore, President Donald Trump has repeatedly threatened China with a third round of tariffs affecting virtually all imports that currently remain tax-exempt—worth about USD 267 billion—in case of Chinese retaliation.

Since China has already responded with counter tariffs on USD 60 billion of imports—taking effect on the same day as their U.S. counterparts—and since Donald Trump has so far followed through on every threat he has made regarding trade with China, it appears increasingly likely that the global economy should brace for a full-fledged trade war between the world’s two largest economies. Indeed, the outlook for fruitful negotiations now appears bleaker than ever, and on 22 September China Vice-Premier Liu He canceled a planned visit to Washington to engage in trade talks.

Donald Trump’s strategy in this dispute has so far been to apply maximum pressure on China in order to swiftly obtain concessions, notably more favorable access to China’s large domestic market for U.S. firms. Although the Chinese leadership initially responded with some overtures, like allowing Tesla to build a fully-owned plant in July, the escalation of rhetoric and tariff action from the U.S. left it increasingly unable to accede to American demands without suffering a blow in domestic public opinion. Although China suffers from a comparative disadvantage in its ability to ramp up tariffs seeing as it exports significantly more to the U.S. than it imports and as seen by its “modest” response to the latest tariff round, it possesses powerful non-tariff tools that could inflict pain on the U.S. economy. Such options include targeting U.S. firms and their investments in China, propping up their competitors or intentionally disrupting U.S. supply chains, for instance through health and safety inspections, refusing permits and licenses, or slowing the movement of U.S.-bound goods in Chinese ports.

The direct impact of the new tariffs is likely to remain mild for the time being as the U.S. economy remains on an above-average growth trend, fueled notably by recent fiscal stimulus. Analysts from ING and Nomura have estimated that 25% tariffs on USD 200 billion of imports would add up to 0.2 percentage points to annual inflation in 2019, while a worst-case scenario—under which the entirety of China’s exports to the U.S. would be taxed at 25%—could increase headline inflation by slightly less than a full percentage point, according to analysis by ING. As for its impact on GDP, the same round of 25% duties on USD 200 billion could shave off 0.2 points of economic growth over 2018 to 2020, according to Nomura economists, due to its impact on consumer spending, equipment investment and net exports. However, they note that there is “a notable risk that [the new tariff round] could lead to a material deterioration of business sentiment and the growth outlook. The wide range of targeted products should have significant effects on supply chains and may adversely affect both consumers and business sentiment.”

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