Pressure can only build for so long. Eventually, it must be released. After two years of rising trade tensions, the pressure on President Trump to resolve the trade war he started with China is at an all time high. International markets have been caught up with several rounds of tariffs on Chinese goods, Americans are facing rising commodity prices and investors are spooked by the uncertainty of future business opportunity in China. In response, the Federal Reserve, the central bank of the United States, has had no choice but to lower interest rates to incentivize investment and to encourage consumer spending. The trade war imperils the Federal Reserve’s ability to mitigate the effects of underconsumption this year. This is important because the United States economy is due for a cyclical economic downturn and underconsumption is one of the first indicators of such downturn. Consumption is typically the biggest driver of growth. The effects of the U.S. – China trade war are taking their toll on the world’s two largest economies.
The trade war has significantly impacted China’s manufacturing sector, which operates on incredibly thin profit margins. Last summer, China’s industrial output growth reached its lowest level in 17 years. The tariffs have negatively affected Chinese manufacturers that produce consumer goods like flat screen televisions, household appliances, auto parts, and footwear. The trade war has accelerated the pace at which China’s economy is transitioning to emphasize new areas. As China grows, its population becomes more and more educated and therefore increasingly skilled. As a result, Chinese laborers demand higher wages and manufacturing companies look elsewhere for cheap labor, like Vietnam or Thailand. Growing economies inevitably transition away from manufacturing toward the production of capital-intensive goods or services that require highly-skilled labor; think England of in the 19th century and the United States in the 20th century. The trade war has exacerbated the effects of China’s economic transition vis-à-vis domestic manufacturers. While the United States and China are the biggest economies in the world, the labor effects of the trade war are catching up with President Trump and President Xi Jinping.
On January 15, the United States and China entered phase one of the trade war resolution. This phase provides an opportunity for China to diversify its economy and for President Trump to boost exports in anticipation of the presidential election. Specifically, phase one of the trade deal requires that China buy $40 billion worth of American agricultural products, a target that American farmers are expected to struggle to reach. The deal maintains current American tariffs on Chinese goods totaling to $360 billion and includes several provisions to safeguard American businesses from hacking and from forced disclosure of trade secrets. The deal is unique in that China and the United States have negotiated the deal themselves, as opposed to allowing a third party like the World Trade Organization to facilitate talks. While the deal reflects progress in repairing a critical trade relationship, the framework for enforcement remains unclear. Critics also highlight the fact that the provisions implemented by the United States are commitments already expressed in the Group of 20 and the IMF. More than anything else, the deal is politically expedient for both President Trump and President Xi Jiping.
