I wanted to talk about the trade war today for a few reasons. One, there seems to be a lot of misinformed individuals that feel very passionate about their misinformed information.
Two, I think it’s important that people realize the severity of the world’s two biggest economies being in a trade war and what that actually means for our lives.
Three, I experienced an obvious increase in anti-Chinese racism while in New York. And I can’t help but think it is because of all the negative news about China, Chinese people, the government and so forth.
So where to begin?
Let’s start with the basics on what has happened in this trade war so far
- January 2018 – USA increases tariffs on solar panels and washing machines, where Chinese imports make up most of the imports for these two products.
- March 2018 – USA starts threatening the increase of tariffs on Chinese imports after releasing a report about China’s unfair trade practices about technology transfer.
- March 2018 – China responds with equal threats of the same measure. This verbal warfare will continue
- April 2018 – USA finally declares the new 25% tariff hike on a list of $50 billion of selected Chinese imports to go into effect July 6th. The list of goods mostly targeted industries and products associated with China’s 2025 plan.
- April 2018 – China responded in kind for tariffs to go into effect on the same day.
- June 2018 – USA reacts to the news of a possible response by saying additional 10% tariffs to $200 billion of Chinese imports will happen if China chooses to impose the tariffs on July 6th.
- June 2018 – China then responds with a threat of further tariffs on $50 billion worth of US imports.
- The threats continue…like barking dogs chained to a post…
But thus far we have both countries rolling out tariffs on July 6th, USA rolling out additional tariffs as promised and China responding back in August. AND then another round of tariffs started by USA in September.
There’s been 3 rounds of tariffs thus far.
Now for non-tariff related trade war news
Like the tariff situations, there’s just been a lot of noise in the media where empty threats are thrown. However, there has been a few things that standout.
- April 2018 – USA threatens to sanction ZTE and Huawei on “National Security” reasons
- June 2018 – USA begins to put legal regulations in place to restrict Chinese investment
- September 2018 – USA puts sanctions on China for a military purchase with Russia
- October 2018 – Trump threatens to ban all Chinese students from coming into the country based on accusations of all Chinese students are spies.
- October 2018 – USA pulls out the UN postal scheme on the basis of China having an unfair advantage within the scheme.
China during this time hasn’t really done anything regulatory, but there has been news about US imports taking a longer time to go through inspection and goods just sitting in containers on Chinese ports.
Both countries have filed multiple complaints to WTO.
OK, now you’re up to scratch on what’s been going on. It’s time to understand the affects of all these tariffs and overall trading atmosphere.
Products for the end consumer will cost more because everyone else in the supply chain will simply pass the cost increase down the line. The consumer, being the last stop in the supply chain.
Tariffs are a type of tax on imported goods, which the consumer has to foot the bill for. The idea is to pressure businesses to not import products from China and find cheaper alternatives. The reason why businesses would find alternatives is because consumers won’t buy the more expensive imported product.
Sounds great in theory, but in practice, not so much.
The problem is, China has become the manufacturing, assembly and sourcing capital of the world. Even if businesses want to find cheaper alternative imports, they wouldn’t be able to do it for the whole list of wares they sell.
You can’t expect businesses to replace China in the supply chain without first having someone else to replace their spot. China’s comparative advantage makes it hard for any one single country to replace them in the supply chain.
Some businesses have even said China is still cheaper with the tariffs compared to doing business with other countries.
The less obvious
American businesses will cut jobs and go out of business. At first sight, this sounds like the complete opposite of what tariffs will do, but you’re forgetting China is reacting back. US export businesses find themselves less competitive for the Chinese market.
Unlike Chinese imports, which are mostly from USA companies; USA exports are not from Chinese companies. Chinese businesses don’t have the same level of concern or worry when it comes to more expensive USA imports.
It’s easier for them to find replacements from other countries.
Another thing to note is, the products China has placed tariffs on are industries where they are the biggest USA importer for. Meaning, not only are these products less competitive in the Chinese market, but they are less competitive in their biggest export market.
That’s a big deal for businesses. If Chinese businesses import from other places, which they already are, USA businesses will have to find ways to cut costs to stay afloat, if they can’t replace China’s demand. That includes cutting jobs.
There’s an estimated 12 million US jobs that are directly involved with US export heavy industries.
The, “I didn’t even think that would be affected”
The overall confidence of investors plummet because the two biggest economies (which means the two biggest amount of circulating capital within one market) is actively trying to stunt their trading co-operations with each other.
That means less business.
This fall in confidence is directly reflected on the stock market for both countries. China’s stock market has been plummeting as soon as the trade war started. And the stock market in USA has seen a sudden fall this past week.
What this means for companies listed on these stock exchanges, is less capital to work with. Less capital, less investment, less innovation, less progress.
Everything points southwards in economic terms.
Companies can’t spend money on research and development as much, they may even have to cut jobs to cut costs. The possibility of jobs being outsourced or offshored overseas will increase if lack of capital becomes a prolonged reality for companies.
But the big one is; a full blown trade war between such big economies will ignite a recession. Stocks will no longer be a great choice for the group of people about to retire, or have made retirement plans solely on dividends.
This is the particular impact I want to talk to you guys about. It’s fine to buy less things (mother earth would thank you for it), it’s not impossible to change industries while the economy is good. But retirement planning runs the course of a few years (or decades) and trade wars can run for decades.
Retired individuals and the ones approaching retirement are at risk the most. People further away from retirement still have time to adjust their retirement plan, but for those above, it’s too late.
Retirement for may Americans are going be effected by this trade war. The two biggest vehicles for retirement in USA are:
- Savings as part of a 401k
- Dividends from stocks
Both instruments depend on the stock market to perform and deliver the financial security for the person.
If the stock market doesn’t perform well, then your invested stocks, bonds and other paper assets will not perform well either. Having an entire demographic of society unable to retire when they have planned causes many trickle down consequences.
For one, there simply aren’t enough jobs to absorb the labor force. And with a weak economy, the supply of jobs will be even less. The best case scenario would be a blanket case of under-employment nation wide.
Which would also lead a stagnation of salaries. This just makes all the previous mentioned consequences sting that much more for the average Joe in USA.
Again, I know the economy in USA is currently very strong with employment levels at its lowest. However, with the recent interest rate hikes after a decade of low interest, and the trade wars with not just China, but with other countries; I think the impact hasn’t started to trickle down into the economy yet.
So the question is why does USA want this trade war if it seems like nothing good will come out of it?
Well, like all trade wars, each side is hoping the other gives up first and then all the negative consequences will not just reverse itself, but you also enjoy the benefits of a more advantageous position.
But you can’t just start a trade war any time you want, especially in a democratic society. You need the people’s support. So what’s the reasons being used to justify this trade war?
Well there seems to be a lot of reasons the USA government is releasing. A lot of it is political rhetoric, but let’s list them out:
- The trade deficit between USA and China
- Intellectual property theft from Chinese technology transfer policies
- “unfair trading practices that has harmed American companies and jobs for decades”
- USA wants the WTO to update the rules that apply to China for “fairer” trading
- …and then as the discussion develops further it’s just the overall unhappiness towards China’s monetary policies and trade policies. I’m talking about qualitative easing practices, state subsidies and Chinese investment money.
From my personal exposure to news outlets while being in New York for a month recently, the above are the main reasons that get regularly mentioned in USA.
I didn’t want to make this post into a massively long essay, but I think it’s important to clarify the fake news and misleading use of language being used, in order for most of my readers (most of your guys are American) to understand this trade war will impact you the most, and it’s not worth it. You’re potentially delaying your retirement and putting your financial security at risk, especially if you work a normal day job and have no passive income.
Let’s go through the above “reasons” to justify the trade war and it’s not worth risking your personal financial security over.
The trade deficit between USA and China
USA runs a $375 billion trade deficit with China as of 2017. Trump has really put the spot light on this particular number to be the poster boy of the unfairness between the two countries, USA being on the losing end.
But how true is this and how accurate can this trade deficit number be in understanding the trade relationship between the two?
The calculation as of now only includes physical goods being exported. This means services aren’t included. This little fact is important to know because China by WTO and UN definitions is a developing nation, which means they produce and export more goods than services because they’re just not at that stage of the production line.
USA on the other hand is a developed, mature economy. Production, manufacturing and assembling of physical goods is no longer the bread and butter of USA trade activities. If it were, they wouldn’t be a developed nation. USA provide and exports mostly services.
So if we include services into the calculation, then the trade deficit isn’t actually very big. We can’t use 2017 numbers since they don’t exist but according to a Bloomberg report the “real” trade deficit between the two is $200 billion back in 2014 instead of $483 billion on paper.
A video to explain what comparative advantage means and why USA shouldn’t go back to manufacturing as the base of their economy.
Such inflated numbers instantly distort and skew people’s ability to understand the real situation. Trade between two nations are rarely completely neutral, it’s a bit impossible because each country will have different variables at play.
Such as population size, geography and culture.
With the average salary of Americans at around $55 – 65k USD and the average Chinese at $7k USD, the demand of goods and of what type of goods each country is importing, will evidentially be different.
China would have to either buy products they do not need from USA or buy less from other countries to close the trade deficit with USA. Both options don’t make any economic or political sense for China.
But even if I was to ignore these considerations, a trade deficit with another nation isn’t enough to justify a trade war. The reason I say this is because a trade deficit in layman terms just means you are buying more than you are selling. And when the other person can’t buy more from you than the only way to close the gap (if you are so adamant on it) is for you to buy less from them. (in this case import less from them, since most Chinese imports are not from Chinese companies but MNEs that have operations in China)
And you can’t do that with tariffs effectively. Tariffs only make the products more expensive and thus less competitive, but many companies cannot simply pack up and leave their operations in China overnight to avoid the tariffs.
Even if they could do it in a short period of time, they might not want to because of the risk involved and the large investment needed to move a part of the supply chain to another country.
There simply aren’t any countries right now with all the conditions China provide companies to source, assemble, manufacture and produce their products at such a low price and at a fast pace. Meaning USA can’t buy less, or buy less enough to offset the deficit.
The ones that show potential will still require a lot of investment and a few decades to mature with the full support of the local government to achieve.
The logical move for a company with operations in China is to wait the trade war out and simply pass the price increase to the end consumer. You.
Intellectual property theft
IP theft is well known in China and arguably it really has been a big economic driving force that has pulled many people out of poverty in China.
The ability to copy has allowed small sized Chinese manufacturers to produce cheaper versions to meet market demand, and these cheaper copies inherently hurt the sales of the originals.
So on that stand point, Trump is completely right when he says China has taken advantage of American designs for their own benefit. The only problem is; his report doesn’t actually focus on this type of IP theft. He isn’t talking about small manufactures or tiny workshops at the back of a house making sneakers. He is talking about massive MNE companies stealing ground breaking technological knowledge.
USA is accusing of IP “theft” through “predatory” market practices. What predatory practices are USA talking about? Well, it’s the restrictions the Chinese government places on foreign companies to gain access to the Chinese market.
The only problem is, these market access restrictions don’t exist to the extent USA is accusing. Instead, the reality is every USA company will naturally have to transfer technology know-how to the local people if they are to set up: assembly lines and manufactory facilities or even R&D centers. (Though most companies don’t set up R&D in China) Because you will have to hire local people to do the work. Regardless of a country’s policies for foreign firms.
It’s as simple as that. And this holds true to any company from any country setting up, any type of facility in any country. Knowledge from managerial styles to technological transfer is a natural phenomenon when you begin to outsource work or even expand your geographical footprint.
Anyone with a basic business degree can tell you this. But the western media does a great job at selecting subjective words to make it appear like theft.
This is normally not called IP theft, but knowledge exchange in textbooks. Its how the world makes paper the same way all around the world and car engines are designed with the same principles. It’s how computers are all designed with the same components and managerial styles across similar sized companies are the same.
The IP theft Trump’s government is accusing China of, has thus far, not been backed by evidence. Every time they have been asked to show the evidence, the government has simply brushed the request off. They don’t need to provide undeniable evidence though. China’s image of being the copy-cat masters of the world is already enough to convince hordes of people.
However, is China guilty of not doing enough to protect intellectual property rights? Yes, there is still a lot to be done, and a lot left to be desired.
China has improved their legal system to prosecute offenders more effectively and regulation is increasing but essentially the government still turns a blind eye to fake clothes, fake electronics and fake toys. You can find entire malls selling fake designer goods in all the big cities.
But, China is currently ranked 25th in the world for reinforcing IP rights. It’s actually not that bad among 195 countries in the world.
Is it enough to justify a trade war?
I don’t think tariffs are the best way to make China pick up their slack in reinforcing their laws.
The reason I say this is because Chinese imports are mostly not from Chinese firms. The vast majority is actually American and European branded. Counterfeit products are illegal and go through the system undetected while cheaper legal copies from Chinese brands are selling mostly within China.
Basically, the tariffs don’t effect them much.
The only people getting hit directly are the MNEs and the end consumer in USA.
A more effective way to curb the misuse of intellectual property would be to help the Chinese government. USA could do this by letting them understand how other countries that do a better job do it.
But the biggest problem I have is the narrative of this argument. It’s manipulating the truth, which is legal and outright normal business practice to sound like it’s sneaky, unfair and wrong. Watch the video below to understand what I mean.
My university education must be very out of date, because I don’t remember the acquisition or merger of firms, for the sole purpose of obtaining knowledge as being called theft in my textbooks. It was listed as one of the biggest motives to fund an M&A.
I also never knew countries are not allowed to set market access conditions, otherwise the majority of the 195 countries in the world have predatory business practices. But the big one has got to be normal headhunting practices made to sound like bribery. Though to be fair, the employee obviously broke their non-disclosure agreement.
Unfair trading practices that has harmed American companies and jobs for decades
To be specific USA is talking about the government subsidised industries and the state owned enterprises. Many countries, not just USA have accused of China practicing unfair trade by artificially making products cheaper. Or dumping. (Dumping is selling a product for less in a foreign market than what you would sell it in your domestic market, this mostly happens because of over production resulting from subsidised industries)
Government subsidies allow producers to sell their products for less than it cost them to make because the government is willing to pay the difference. Or at the least sell them at a cheaper price than needed. This makes the product more competitive because it’s cheaper.
All western governments will subsidise agricultural products because it is deemed essential for the country. State subsidies are not unusual or considered unfair under WTO rules, but dumping is.
It does create the inability to compete for poorer countries. African economies haven’t been able to compete with cheap subsidised products from Europe and America for decades.
It has been a long problem for many African countries that have their hands tied because it’s not very straight forward to get someone to stop subsidising or selling below the cost. They cannot close their doors on these products because of free trade agreements.
Now, many European and American countries are finding themselves in a similar situation with China. China subsidised products that they think is key to the country’s development, such as solar panels for their green energy initiative.
The result? China is the world’s largest producer of solar panels, they are in over production and sell them for cheap in the European and American market. European and American producers can’t compete.
I think for the first time in post WWII times, western economies are finally understanding the impact state subsidies for private industries can have, because they are experiencing the bad effects themselves.
I support the need to curb and regulate the amount of state subsidies in private sectors, but I don’t see why China is being singled out for this behavior just because they are causing powerful economies some economic headache.
A trade war with China based on this reason would be saying it’s okay for me to dump cheap products around the world with subsidies but it is not okay for YOU to dump cheap products around the world.
A better way to deal with this issue is to change the rules in WTO on market access and state subsidies for ALL member states. Which brings me to the next point.
USA wants the WTO to update the rules that apply to China for “fairer” trading
USA isn’t interested in changing the rules to be applied to all member states. USA wants the rules to change just for China alone.
All WTO member states have to agree to certain rules before being admitted. The rules do differ for each member and the rules are suppose to meet the needs for each state’s economy and stage of development.
USA’s biggest complaint is that the rules need to be updated for China because they are no longer a developing nation.
Is this true? Not at all. But it’s very easy to understand how many people would think the complaint is valid.
China is still a developing country even though you hear about the mega rich Chinese people immigrating to overseas and buying up property. Or the hoards of Chinese tourists and the rich international Chinese students.
You have to understand they are the minority of the Chinese population. Even 1% of the Chinese population would effectively provide the image of the whole nation being wealthy for foreigners not knowing much about China.
1% of China’s population is already around 14 million.
In fact, China’s middle class is only around 400 million, that’s about 30% of the population. Including the top 1% (14 million), you still have A LOT of lives that are struggling or are living in poverty.
China is still growing and purposely stunting their growth by making them follow the same rules developed nations follow would have a huge social, environmental, economical and political impact.
A nation that cannot help itself economically will instantly create social and political unrest. With a population size of 1.4 billion, that won’t be a China problem. That’ll be an international problem.
…we don’t want another refugee crisis like the one in Europe
China is a currency manipulator
This one always annoys me when I see it in newspapers because it’s been spoken of for so long. Since I was in high school.
I can safely tell you, with my decade long education in economics and business; China IS a currency manipulator just as MANY OTHER countries are as well.
Let me explain this.
“Currency manipulation” is the term associated with China in the news. “Quantitative easing” is the term used for many European countries. And USA just calls it QE1, QE2 etc to denote which quarter the quantitative easing occurs.
They all involve manipulating the supply of money in an economy and thus effect its exchange rate against other currencies.
But China’s central bank doesn’t work so simply. China is a country that has full control over its capital, unlike other economies of similar size.
This is what’s bothering western countries that have a semi-floating currency. The biggest worry for them is that their own currency will lose global market transaction use to RMB, because China’s central bank control means it’s more stable and less volatile.
It means governments around the world will hold more RMB reserves and lower the amount of USD reserves. (Reserves are what central banks keep to pay things off for international transactions)
For USA, this is a very troubling thought to have. Because being the dominate reserve currency means a lot of power over global economics. This power also spills over to political influence.
USD is more than 50% of the worlds currency reserve. And it’s the reason USA can issue unilateral sanctions against countries on issues that don’t evolve them. It’s how they can run trade deficits with less consequences and postpone currency crisis. And so much more.
So yes, China is a currency manipulator but almost every other country is as well.
(I could go on all day if I wanted to dissect the misuse of language in the media, but I digress)
The bottom line is, if your government isn’t putting your financial security in mind then you need to start thinking for yourself. A lot of conventional financial advice only works when times are good or stable. Not in a trade war.