The US-China Trade War Explained

Donald Trump was elected on the promise that he would “Make America Great Again”. Other countries would no longer take advantage of the US, illegal immigrants would be stopped at the border by means of a wall with Mexico and manufacturing jobs that disappeared due to globalization would come home again. From now on, it is “America First”. After many tweets, in which the President accused China of unfair trade practices and manipulating its currency, the first shots in the Trade War were fired. Tariffs of 25% on steel imports and 10% on aluminum imports were introduced. The Chinese retaliated by imposing tariffs on American goods, after which the US imposed a new round of tariffs. This game was played a few times, in the meantime negotiations to stop the war failed. Currently, the US have imposed tariffs on 250 billion dollars of goods while the Chinese response entailed tariffs on American products worth 110 billion dollars. At the moment, both sides seem to be reflecting on what happened and have agreed to a truce. While enjoying Argentinian steak, Xi Jinping and Donald Trump agreed to start talking again on December 1st, with the aim of a larger trade agreement before March.

“Make America Great Again”

Economics

From an economic point of view, a trade war makes little sense. There are no winners in a trade war. Imposing a tariff usually has the goal of protecting domestic industries. By artificially increasing the price of foreign products, consumers will prefer the cheaper domestic product. This way domestic employment is encouraged which ensures political support from producers. The government will also gain some tax revenue from the tariff. However, consumers are left holding the bag. They have to pay higher prices which decreases their welfare. Furthermore, foreign producers that are artificially outcompeted will have to find new export markets. All in all, we end up with a so-called “second-best solution”, which is suboptimal. But this is just the beginning. Other countries will not accept these unilateral actions and retaliate with protectionist measures themselves. This causes a negative spiral that is difficult to escape. A trade war is the result. This is exactly what we have been witnessing in the current conflict.

Politics

Since the trade war is political in nature, we have to look at the issue from a political perspective as well. Many jobs, especially in the manufacturing sector, left the United States in favor of low-wage countries such as China. This left many people unsatisfied with the economic situation in the US, the white man was increasingly discontent with the political elite that seemed to be unable to solve the problem. It turned out to be fruitful ground for populism, a political strategy employed by Donald Trump. He was elected President by people who hoped that he would be able to fix their issues. One way was to encourage domestic production at the expense of economically beneficial international trade. This was to be established by protection domestic producers from foreign competition. As the US runs a massive trade deficit with the Chinese, they were the main target. The question is, did Trump achieve his goal? That is difficult to say. Some businesses have increased their production within US borders, but Trump’s approval ratings have not surged. They seem to be stable.

There are no winners in a trade war.

There is also an international political component. The US is the most powerful country in the world, a position it wishes to defend. China is the most prominent challenger. Having experienced astonishing growth rates for decades as a consequence of economic liberalization, the Chinese economy is now the world’s second biggest. If it continues to grow, it will be in a position to build formidable military forces and challenge US hegemony. As the US will not accept this, intense security competition could arise. In practice, this would mean that the US and China publicly declare that the other is its biggest rival. It would resemble the Cold War is some ways. Disputes over island chains in the South Chinese Sea might break out and we could see tensions in economic relations.

The US is the most powerful country in the world, a position it wishes to defend

From this perspective, it is very well possible that the current trade war is just an indication of what is coming. Provided that China continues to grow and becomes a sort of giant Hong Kong, more tension between the US and China can be expected.

The end?

The US and China are currently negotiating an extensive trade deal to stop the trade war. If Trump finds it to be in the American interest, a solution might be in sight. He could proclaim victory over the Chinese, which would come in handy keeping in mind the Russian investigation. A more structural problem for the US, however, is the rise of China more broadly. As it is in the US interest to contain China, the trade war may just be a benign prelude to what is coming. Only time will tell what happens next.

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