There has been a lot of talk about a potential trade war with China. Many economists are fast to point out how and why the U.S. can’t afford such a conflict. These happen to be the same economists that have been wrong in literally every prediction since Trump was elected. Let’s review the major issues tied to a potential trade war and see just how they can impact each country.
Treasuries
The first topic that is always breached when anyone brings up a potential trade war between the U.S. and China is treasury holdings. At the turn of the century, China started buying treasuries in enormous quantities, and at their peak, they held over $1.3 trillion in treasuries, and it represented a significant chunk of America’s total debt.
That peak, however, was in 2013. Since then, China has been selling treasuries to stymie the tide of their sinking economy. For the most part, those sales have enabled China to inflate the value of the Yuan, but over the past year they have sold roughly 30% of their total holdings. In spite of massive spending, the Yuan still declines and China’s GDP growth has shrunk massively.
The simple point to take away from this is that China has lost a major chunk of their treasuries, and regardless of any action by Trump, they will likely continue to sell those holdings at a breakneck pace. It diminishes the negotiating power those treasuries might otherwise hold ultimately making this point a null threat in a potential trade war.
To really drive this home, it’s worth noting that Japan, whilst reducing their holdings throughout 2016, surpassed China as the largest foreign holder of U.S. debt. At the start of 2017, the U.S. held more treasuries than the Japan and China combined.
Trade Deficit
On the other side of the argument, Trump constantly discusses the trade deficit with China. What does that really mean? Ultimately, the U.S. is the top importer of Chinese goods while China is not a top importer of U.S. goods. The full exchange is eye opening.
China has gone through great efforts in the last five years to reduce their reliance on exports for GDP, and with considerable progress, exports currently make up 36 percent of their total GDP. Of that value, 60% comes from the United States.
On top of that, 60 percent of income for Chinese citizens is tied directly to manufacturing and exported goods. When you put it all together, it means that a significant tariff from the U.S. could easily cost China more than 15 million jobs, and it could shrink their GDP by more than 15 percent.
On the flip side, any aggressive action from the U.S. could be met by Chinese tariffs. If we look at recent historical example, the end result is not favorable for China. In 2009, Obama instituted a 35 percent tariff on select automotive imports from China. In less than a year, the country’s total exports in the industry dropped by 50 percent. They responded with a tariff against U.S. poultry, and in the same time interval the poultry exports doubled.
This is a small example, but it shows that China is replaceable as both an exporter to the U.S. and an importer of their goods. The reverse is not true.
Monopoly Goods
The other main fear for the U.S. in such a trade war comes to goods monopolized by China. The most common example is rare earth elements (REE). China exports more than 90 percent of REEs to the whole globe, and they are essential in many electronic components.
If provoked, they could cut their supply to the U.S. and use it as a bargaining chip. The flaw with this logic is that China doesn’t actually monopolize REEs. They just sell them cheaper. The U.S. already has the output capacity to match China completely, but like many other industries, the manufacturing from China costs much less.
The bottom line is simple: a trade war will inconvenience U.S. consumers and bankrupt the Chinese economy. American’s are at risk of paying more for a number of goods and having shortages while manufacturing moves to more favorable locations, but the net change is so small that most households wouldn’t even notice.
The same trade war would quickly unmake all of the economic progress China has made in the last decade and potentially topple the current government.
Regardless of all of that, China’s economy is already reeling. Their situation isn’t just unable to sustain any version of a trade war with the U.S.; they need our investment to prevent their current recession from becoming a full-blown depression.
Regards,
Ethan Warrick
Editor
Wealth Authority
