Escalating trade dispute between USA and China and the consequences

Developments in the trade dispute between the USA and China are coming thick and fast. On 3 April US President Trump threatened concrete US penal tariffs on imports from China. A few hours later, China reacted with similar threats. And just two days later Trump has now piled on the pressure again.

Chinese goods worth around USD 50 bn are affected by the US tariffs announced in detail on 3 April. This corresponds to around 10 per cent of all Chinese exports to the USA and 0.4 per cent of Chinese gross domestic product (GDP).

It will probably not be easy for the USA to find substitutes for a large part of the Chinese products that are affected. So the effect of the protective import tariffs could, therefore, be reflected more in US inflation than in falling US demand for these imports. It is estimated that Chinese exports of these products are likely to fall by around one third and total Chinese exports to the USA by between 3 and 4 per cent. So arithmetically the effect on Chinese GDP growth would be less than 0.2 per cent. As many of the products concerned are only finished in China the direct negative effect on Chinese GDP growth is even smaller and will probably be only around 0.1 per cent. However, there are also correspondingly negative growth effects on the South East Asian supplier countries.

The US tariffs would also have an effect on US inflation: Imports from China worth around USD 50 bn would correspond to around 0.4% of personal consumption spending in the US. If the prices of these goods were to increase by 10% on average because of the tariffs, the effect on US inflation would also be very small and only be around 0.04 percentage points.

Just a little later China also announced concrete penal tariffs on US imports worth around USD 50 bn. This corresponds to around one third of all products exported by the USA to China, but only ¼ per cent of US GDP.

The products affected are mainly cars and aircraft as well as food and agricultural commodities such as soya beans which are used in stock farming. China will probably be able to substitute food more easily and faster. So the greatest volume effects are likely to be on US exports. Food alone accounts for almost 15 per cent of all US exports to China, automobiles and aircraft 10 per cent each. Aggregate US exports to China could fall by between 10 and 15 per cent because of the penal tariffs. But this would still correspond to less than 0.1 per cent of US GDP.

Then on 5 April US President Trump threatened China with further US penal tariffs on Chinese goods totalling around USD 100 bn. If this threat is implemented China would probably retaliate again in kind.

The repercussions on growth in the USA and China would be correspondingly greater. In the case of Chinese imports from the USA and tariffs being imposed on a total volume of USD 150 bn worth of imports, nearly all deliveries of US goods would be affected.

Negative financial market reactions and the deterioration of sentiment indicators may lead to negative growth effects not only in the USA and China, but also world-wide. The closer the corresponding economies are interwoven with the US economy and China, the more they are dependent on exports and the closer the correlation between the financial markets is, the greater these effects are likely to be.

These indirect negative effects could well be greater than the direct effects on growth described above. They also depend heavily on the political environment in which the tariffs are imposed and whether a further escalation of the trade war is feared or not. Positive growth effects due to substitution of the goods concerned are certainly also possible in isolated cases (e.g. Brazilian soya exports to China would benefit), but compared to the negative effects they would have scant overall effect.

What is now decisive is whether the two sides are able to arrive at some kind of rapprochement in the forthcoming rounds of negotiation. The threatened tariffs have not yet come into force. After the latest announcements there is a lot more at stake for the two sides. Hopefully, this will also increase their willingness to make comprises. Both sides will have to make concessions. If this is not possible, the economic and political damage will be considerable.

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