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Trade dogs of war collared for now, but still growling

The trade dogs of war collared for now, but still growling

When, after Julius Caesar’s assassination, Mark Anthony utters the words ‘Cry Havoc, and let slip the dogs of war’, he is thought to be referring fearfully to devices in civilised societies that allow or inhibit war. The trade dogs of war were let off the leash in 2018, but this week, with a Phase 1 trade deal done between the US and China, have the dogs been collared? And if so under what terms, and for how long?

The deal, in effect, a trade truce that suits both President Trump and President Xi Jinping politically. Trump wanted a deal to champion for his re-election campaign and take attention away from his impeachment. Xi Jinping wanted to stabilise the US-China relationship, and pre-empt any further deterioration in economics, finance and commerce that would aggravate China’s delicate economic position and sit badly as China looks forward to the centenary celebrations of the founding of the Communist party next year. 

The deal is full of contradictions. It is limited in scope,  yet ambitious in its goals. It is significant in, yet rather peripheral to the evolving Sino-US relationship. The Chinese blinked, making a big import purchase concession to the US but getting nothing of substance back from the US. The US side didn’t get any of the sensitive concessions it wants from China in the industrial and technology policy spheres, but these were never going to happen, and if they are the price of a Phase 2 deal, the latter will simply not happen.

For those that want to look at the document, it is here: The Chinese language version, according to some who’ve read it, doesn’t so much differ materially in substance as convey a quite different impression from the English version. For example, it refers several times to ‘equal’ in terms of commitments, obligations, responsibilities, benefits and so on. Students of Chinese history and, more recently, of Xi’s China rhetoric will recognise this as politically important language in the context of the party calls the unequal treaties that are central to the narrative of the century of humiliation.

It’s more a sort of trade agreement than a deal, spanning bilateral trade in agricultural, energy, and manufactured goods and services, but also intellectual property protection, technology transfer, market opening, financial services, currency management, and significantly, dispute settlement and enforcement mechanisms. 

Limited but ambitious

The limitations of the Phase 1 deal are self-evident. They don’t go much further than trade, save for other Chinese commitments that are loose and not new. 

The eye-catching headline is that China has committed to raising imports from the US by ‘at least’ $200 billion by 2021, compared with 2017 levels. That is not far off a 90 per cent rise compared with last year. It is proposed that China will raise imports from the US of agricultural goods (mostly soybeans) by $32 billion; of energy products by $52 billion; of manufactured goods by $77 billion; and of services by $38 billion. 

Bearing in mind that US Census Bureau data show US exports to China at $128 billion in 2017, $120 billion in 2018, and $98 billion in 2019, the expected surge in 2020-21 is nothing short of spectacular.

Many analysts are asking if these expectations are not a trifle ambitious and unrealistic, and some are noting that setting quantitative targets is hardly the action of a US that’s insisting on market outcomes. Be that as it may, the logistics are demanding. US farmers may not want to have all their eggs in one basket, so to speak, by focusing so much on China, and may have to divert a lot of trade away from other countries. China which is now reliant on much of its food imports. especially soybeans, will become more reliant on the US, not less, conflicting with its broader goal. 

The target for energy goods is feasible, but it is unclear what the additional manufactured goods and services might be. With the US is acting, separately, to restrict sales of semiconductors  (China’s biggest overall import, and significantly larger than crude oil) and other products to Chinese firms, it’s not clear what China’s other demands for manufactured goods might be.

No doubt, both sides will spend a lot of time monitoring one another’s behaviour and trade practices, and testing the other’s good faith to see if they are compliant.

In this respect, one interesting part of the agreement is a dispute settlement and enforcement mechanism, typical of a bog-standard trade agreement. Yet, unlike the latter, there is no provision for independent and binding arbitration. This means, in effect, that if a dispute is not resolved according to procedures after 90 days, the offended party can walk away from the agreement or retaliate with new tariffs or penalties, which might also kill the deal. 

For its part, the US lowered the 15 per cent tariff on $120 billion of imports from China, announced last September,  to 7.5 per cent, and cancelled the tariffs on $160 billion of imports that were due to take effect last December. But tariffs remain on $360 billion of imports, or three quarters of total imports from China, and Chinese tariffs remain in situ too. 

More of the same

China also made other commitments to the US in matters concerning intellectual property protection, technology transfer, market access, financial services opening and ownership, and exchange rate policy. Most of these are loosely defined, without timetables, and a rehash of pre-existing policies or promises. Yet, we shouldn’t assume that China will ignore these completely, as a result of their being on a slow moving agenda that is basically in China’s self-interest.

On intellectual property, there has already been some tightening of rules, stronger enforcement of rights, and guidance to courts on copyright protection and IP theft. In the end, this component of the deal will depend on whether the US thinks China is moving fast and extensively enough in the interests of US firms, or whether, notwithstanding changes in the national interest, the lack of independence of the legal system and the primacy of the party and state in China are structural impediments to the fair treatment of foreign firms. 

The currency management part of the agreement looks to like candy floss. The US Treasury made a purely political point in 2019 of accusing the Chinese of currency manipulation, and the agreement corrects nothing that was out of order before. China’s exchange rate system is managed, but not manipulated in the way it was in years gone by. The Yuan does not float freely, and maybe never will, but it is neither over- nor under-valued by a significant margin. The US is clearly, and rightly, anxious that the Yuan will fall over time but this agreement will not prevent it from so doing. 

Opening up of key industrial sectors, such as pharmaceuticals and cars and financial services started to pick up in 2017-18, and is an incremental process that China judges to be in its interests up to a point, ie to the extent that local firms and markets, and fundamental structures are not affected greatly. Lifting the ownership cap completely on financial services firms this year is a policy that has already seen numerous firms, especially in insurance and asset management, salivate at China’s market opportunities, but we should remember that China’s financial policymakers have always been in favour of this, and China, itself, is in growing need of US dollar funding and foreign risk takers in its financial system. 

Significant but peripheral

It is of course significant that the US and China have reached a truce in their trade war, even if temporarily. That the two sides are talking is to be welcomed, as well as their intention to re-start the stalled Comprehensive Economic Dialogue – a semi-annual discussion that last took place in July 2017. 

Yet, it is important not to get carried away with the superficial signs of rapprochement. China still wants the US to cancel all punitive tariffs, and to drop all sanctions and restrictions placed on Chinese firms, of which Huawei is the best known but not the only example. The US is most unlikely to do these things while China refuses to make concessions in sensitive areas such as the modus operandi of SOE’s, the use of state subsidies and other tools to give Chinese firms what the US sees as unfair competitive advantages, the broader policy and non-tariff barrier advantages that Chinese firms enjoy over foreign rivals, and the state-directed and domestic focus on Chinese firms in new technologies set out in the Made in China 2025 and subsequent tech policy strategy documents. 

If China is unwilling to put these items on an agenda, let alone give in to US demands, the US seems most unlikely to accede to Chinese conditions. Indeed, even while the proverbial ink on the Phase 1 trade deal was drying, The US government was taking steps to establish new rules that seek to add to the restrictions on US-made products sold to Huawei, for example, by expanding powers to stop or restrict sales of foreign-made goods to the Chinese telecoms giant (et al) for national security reasons. New rules might also lower the US-made product content threshold of foreign goods sold to China, over which the US may impose license requirements or an export ban. 

The Commerce Department is also looking at a ‘Foreign Direct Product Rule’, which would make foreign-made products based on US technology subject to US oversight. Further, the US 

Treasury also released new regulations in the last week concerning reviews by the Committee on Foreign Investment in the United States (CFIUS), expanding the latter’s scope and brief to include restrictions on foreign firms’ funding of US consumer technologies, and requiring any company in the US collecting data on over 1 million people to seek approval from CFIUS for any foreign investment. 

And so, coming fun circle, the politics of the so-called trade war seem to have driven both presidents to seek an agreement on strictly trade matters in favour of the US, and some industrial policy and market structure issues sought by the US, which are a log way from what the US wants ultimately, and which China was pursuing in its own way in any case for its own reasons. 

The bigger and more contentious issues – even if the Phase 1 deal sticks – which incorporate differences in standards, beliefs and values, are for another day, if at all. The trade dogs of war are still growling.