Trade war: How US-China talks could play out

Bloomberg Washington | Updated on May 08, 2019 Published on May 08, 2019

‘The larger question is: can you get a deal, and can that deal stick?’

President Donald Trump's latest trade gamble has set the stage for a tense round of negotiations this week between the US and China that will have markets on edge.

Trump’s unpredictability was on full display on Sunday, when he took to Twitter to abruptly announce that he is increasing tariffs on Chinese goods. The US says that threat was prompted by Beijing reneging over the past week on some key commitments it made during the talks.

Also read: Trump vows tariff hike on Chinese goods, escalating tension in trade talks

Whether the world’s two-largest economies will sink deeper into their trade conflict may depend on negotiations on Thursday and Friday, when a Chinese delegation led by Vice Premier Liu He will visit Washington.

The hawkish turn by the US has forced investors, many of whom were expecting a deal soon, to adjust their expectations. The S&P 500 Index has fallen more than 2 per cent since Trump’s tweet.

“A trade deal had been priced into markets, and now we are living through the fallout of altered expectations, so it wouldn’t be surprising to see continued volatility,” said Kristina Hooper, Chief Global Market Strategist for Invesco Ltd. “Were going to see both sides playing a game of chicken.”

Here are some of the possible outcomes from this weeks negotiations:

Tariffs rise, talks continue

US Trade Representative Robert Lighthizer said tariffs on $200 billion in Chinese imports will increase to 25 per cent from 10 per cent at 12:01 AM on Friday. He also indicated the US wants to keep talking.

The Chinese are preparing their own retaliatory duties on US imports should Trump carry out his threat, according to people familiar on the matter. But they, too, are staying at the table.

Its an awkward equilibrium, but it may just hold. Neither country wants a long, bruising trade war that undermines growth. The incentive to reach a deal grows stronger by the day for Trump, who is seeking re-election in November 2020.

“Both sides would walk away angry if tariffs escalate this week,” said Clark Packard, trade-policy counsel at the R Street Institute, a think tank in Washington. But these two countries are the largest economies in the world. “After a cooling-off period, they’ll come back to the table.”

Tariffs rise, talks collapse

The stakes are arguably higher than ever as both countries prepare to slap more tariffs on each other.

In an all-out trade-war scenario, annual gross domestic product may shrink by as much as 0.6 per cent in the US and by 1.5 per cent in China, according to the International Monetary Fund.

Chinese export data was already weak before the latest ructions, unexpectedly dropping 2.7 per cent in April from a year earlier. Imports rose 4 per cent, leaving a $13.84 billion trade surplus, well below the $34.56 billion forecast.

“My most likely scenario is that there is no final resolution, not for some time,” said Chris Rupkey, Chief Financial Economist at MUFG Union Bank NA. “They’re talking about changing the way another country is doing business. Its like another country telling the US to stop being capitalist.”

Tariffs delayed

Tariffs have been on hold since December 1, 2018, when Trump and Xi agreed to a truce to give their officials time to work out an agreement. Before then, the two nations had imposed duties on $360 billion of each others products.

The truce, as well as a dovish shift by central banks, has driven a surge in US stocks. Trump will be reluctant to see the rally end. If talks take a promising turn, he may still hold off on a tariff hike.

Also read: Trump vows tariff hike on Chinese goods, escalating tension in trade talks

“This is something you have to take week-by-week,” said Ed Mills, Managing Ddirector of Washington policy at Raymond James & Associates Inc. “Our base case for this week is that they find a way to delay the tariffs.”

Deal in principle

Before threatening to hike tariffs, Trump expressed optimism about the prospect of a deal. A preliminary agreement could come together quickly if Trump chooses to endorse it, perhaps after speaking by phone with his Chinese counterpart Xi Jinping.

The outlines of a deal have been apparent for months. It would likely feature a major increase in Chinese purchases of American goods such as soybeans and aircraft. Beijing would probably commit to shoring up protection for US intellectual property, and refraining from devaluing its currency. All but certain: both sides will tout any pact as a victory.

The biggest question left unanswered is whether the existing tariffs will stay in place.

But any preliminary accord would probably require final approval by Trump and Xi at a face-to-face summit.

Even after a deal is signed, it could take years to see it succeed in correcting the trade imbalance. The threat of renewed hostilities wont soon fade.

“The larger question is: can you get a deal, and can that deal stick? That’s where we’ve always been sceptical,” said Mills of Raymond James.

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Published on May 08, 2019
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