Recent trade tensions between China and the US upend the traditional liberal view that economic interdependence is a pacifying force. Over the past two decades, gross Sino-US trade flows have increased dramatically, from $61 billion a year in 2000 to $540 billion in 2019. However, that figure marked a sharp drop from a record peak of $635 billion in 2018, and can be largely attributed to large increases in the effective tariff rate that face exporters in both countries now. For comparison, the $95 billion decline in trade flows last year was three times as large as that seen during the Global Financial Crisis of 2009. The question is: what happens moving forward? Tariffs have reduced the US trade deficit with China, and agreements as part of the ‘Phase 1’ trade deal may reduce this further. However, when it comes to advanced technology, there is little reason to think that tensions will ease completely anytime soon.
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Part of the reason why increased Sino-US trade led to increased tensions was that the flows were not evenly balanced – far from it. Exports from China to the US increased much more rapidly than exports from the US to China. As a result, the US trade deficit with China steadily increased. Indeed, China accounted for 20% of the overall US trade deficit in 2000, rising to 48% by 2015. There is nothing intrinsically bad about having a large trade deficit. However, the benefits derived from imports, such as lower prices and a more varied selection of goods, tend to less noticeable, by people and politicians, than the benefits derived from exports. Most of the commitments agreed as part of the ‘Phase 1’ trade deal appear intended to unwind some of the trade imbalance.
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China’s rise as a global trading power has been remarkable. Its share of world exports rose from 4% in 2000 to 13% in 2018. During that time, the share of US exports in world exports dropped from 12% to 9%. There were similar declines in Japan and the UK. Most economists would argue that China’s rise as an export powerhouse played a role in reducing US exports. The current US administration has gone further, and challenged the legitimacy of this increase in exports, accusing Chinese firms of industrial espionage and the government of currency manipulation and forced technology transfers. Indeed, these formed an important justification for the initial increase in tariffs on Chinese imports.
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Even if the ‘Phase 1’ trade deal leads to a further decline in the US trade deficit with China, it is easy to see tensions remaining in place anyway. Part of the reason is that there is a growing US consensus that China is a strategic rival, which is feeding through to concern about technological superiority. The previous China trade shock hit relatively unsophisticated exports. However, plans under the ‘Made in China 2025’ programme point to a focus on advanced exports, such as aerospace and robotics, in which the US is the current world leader. Fathom Consulting’s ‘Made in China’ database, which is available on Datastream, tracks progress in these sectors. As the chart below shows, improvement has been slow. Nonetheless, authorities in Beijing appear committed to the plan and therefore likely to invest funds in the programme, risking a backlash abroad. Recent warnings from Washington DC about Huawei’s role in 5G networks may offer a taste of what is ahead. Having experienced a China trade shock already, the US appears to be on the defensive this time around.
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