Dec 03, 2018 08:58 PM

Caixin View: Trade War Can Of Worms Kicked Into Year of the Pig

The meeting between President Xi Jinping and his U.S. counterpart Donald Trump at the G-20 summit in Argentina yielded about as good an outcome as anyone could have expected — an agreement to delay the imposition of higher tariff rates from Jan. 1 until around March 1. The White House said the move is aimed at giving more time for negotiations on issues it referred to as “structural changes,” including non-tariff barriers, forced technology transfers, cyber theft and intrusion, services and agriculture, and IP protection.

The Trump administration was scheduled to increase punitive tariffs on $200 billion worth of Chinese imports from the current 10% to 25% on the first day of 2019. If negotiations fail, higher tariff rates will kick in around March 1, the White House said. There was no mention made by either side of tariffs on the remaining $267 billion worth of Chinese imports, which Trump has previously threatened.

The official accounts of the meeting differed — most importantly, China did not mention the "structural changes" and did not refer to the delay in imposing higher tariffs, instead just saying an increase would not happen on Jan. 1. It also added that both sides are moving towards removing all tariffs. While it's not a surprise that both sides are presenting the deal differently, it does not bode well for negotiations if these discrepancies reflect significant differences in position.

Most of the deal's substance was familiar. China said it will increase imports of U.S. agricultural, energy and industrial goods by a "very substantial," but unspecified, amount, according to the White House, although the Chinese account gave no details. But similar promises of "substantial" increases were made in May to little effect. China did agree to "immediately" purchase more agricultural products though, which could mean the possible suspension of its tariffs on U.S. soybeans, sorghum, and pork, for example. Agricultural products are of particular relevance to Trump's voter base which is over-represented in states dependent on this sector.

In the short term, it's possible that the delay of a tariff rate hike could prolong the frontloading effect in China-U.S. trade that we've seen over the past couple of months, and actually lead to a widening U.S. trade deficit with China. Whether we’ll see such an effect will depend on just how hard China tries to increase its U.S. imports in the next months.

But more important than trade flows are the "structural changes" mentioned above which need to be sorted out to prevent the tariff rate increase from kicking in. These are all long-standing U.S. complaints, and for most of them, the Chinese government has previously either denied that they were a problem, or already promised improvements. For example, Premier Li Keqiang pledged to end forced technology transfers back in March. President Xi Jinping reiterated promises of better IPR protection in November. Increasing foreign access to China's financial services sector has also been a key policy priority this year. The fact that these issues are still on Trump's list shows that the U.S. isn't satisfied with China's progress and reaching agreement in the next three months will be very challenging.

One structural issue notable by its absence from the list was state support for high-tech industries — the core of China's industrial upgrading program, “Made in China 2025”. Failure to agree on this issue was a factor in the breakdown of talks back in April. While this initiative has been out of the headlines lately, having been heavily played down by the Chinese government, the concrete measures behind it, such as generous state subsidies for AI, biotech, and high-tech manufacturing, are still in place. It's unlikely China will make many significant concessions here, and that's perhaps why it wasn't mentioned directly.

Agreeing to tighten controls of the drug fentanyl — Chinese exports have been blamed for the surge in its use in the U.S. — is an easy promise for Beijing to make. Dealing with the opioid epidemic is one of Trump's signature domestic policies, so cooperation on counter-narcotics gives Beijing a welcome opportunity to find common ground with him, and is also consistent with previous promises made at security meetings in November. We see this as a useful negotiating issue, where Beijing loses little by making concessions while Trump could gain a lot domestically.

The leaders' apparent willingness to reach a deal has been welcomed by markets — the benchmark Shanghai Composite Index closed up 2.57% Monday and the rally extended into early trading in Europe – even though there was little sign of progress on the key issues that are poisoning the bilateral relationship. And although negotiations are a welcome sign, a 90-day deadline does not give much time to overcome such fundamental differences.

We will be watching two key policy meetings later in December — the Central Economic Work Conference, and the Central Rural Work Conference — for signs of the Chinese leadership's likely approach and potential concessions on these “structural changes” which may form the basis of negotiations with Washington. Two other events may also be worth keeping an eye on — Dec. 18 marks the 40th anniversary of Deng Xiaoping's announcement of the beginning of reform and opening up; and the fourth plenum of the 19th Party Congress, which is long overdue, may also be held around that date. More details on China’s approach could become clear at either.

But given the deep-rooted nature of the disagreements between the two sides, we are not optimistic a deal can be struck by March. President Xi may have bought some extra time by sitting down with Trump, but not much else.


December 5: Caixin releases Caixin China General Services PMI and Caixin China Composite PMI for November

December 8: The General Administration of Customs releases trade data for November

December 9: The National Bureau of Statistics releases consumer price index (CPI) and producer price index (PPI) for November

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