How a Trade Dispute Between China and the United States Might Evolve

T he worsening trade dispute between China and the US was triggered by the Americans. Frictions appear to be increasingly dif fi cult to keep under control. So far we have witnessed U.S President Donald Trump swing back and forth between threats and accommodation.We have seen the imposition of broad tariffs on imports of steel and aluminum from China, the US government"s announcement of a 301 investigation into some $50 billion of Chinese products, and a suggestion that the U.S Department of Commerce should conduct an investigation into another US$100 billion of Chinese goods. Some of these measures have temporarily been taken off the table as the two sides sit down to discuss the dispute. China has warned it will respond in kind. But the reckless moves by the U.S have been made in disregard of multilateral rules. Moreover, a lack of communication and consultation has caused great public concern.Will the trade dispute between China and the US spread to investment, fi nance and other fi elds? Will there be greater obstacles to Sino-US relations and even the global economic recovery? These issues are addressed in the following discussion.

Moderator: Zhong Wei, deputy editor-in-chief of China Forex

Panelists: Shen Jianguang, managing director and chief of Mizuho Securities Asia Limited

Zhang Ming, chief economist of Ping An Securities and researcher at the Institute of World Economics and Politics of the Chinese Academy of Social Sciences

Zhong Wei: First, I"d like to welcome our two guests to this round table discussion. The trade dispute between China and the US has been worsening since late March of this year. We have already seen proposals such as US President Donald Trump"s broad tariffs on imports of steel and aluminum, including products from China, and Trump’s suggestion that the US Department of Commerce should conduct an investigation into Chinese goods worth US$100 billion. It seems that the US has slipped further and further along on road of unilateral action. The US president has refused to communicate or negotiate, while China has made a powerful and rational response. What is your view of China"s overall tariff level and the opening up of the market? What do you think is the root cause of the trade imbalance between China and the US? And what measures can be taken to ease this imbalance gradually?

Shen Jianguang: Since China"s accession to the World Trade Organization (WTO), the nation"s tariff levels have been reduced continuously. The average tariff rate in China fell from 15.6% in 2000 to 9.8% in 2015, and this is lower than than the average level of the fi ve BRICS countries (Brazil, Russia,India, China and South Africa). However, in addition to customs duties, China"s taxes overall are still high and these include import consumption tax and value-added tax in addition to import duties. There also are various restrictions on foreign participation in the auto, fi nance and service sectors, however. This means there is still room for further market opening efforts.

At the Boao Forum for Asia, President Xi Jinping stated that it is necessary to further open up the fi nancial and manufacturing sectors, particularly the automobile industry, in order to improve the investment environment.He added it was necessary to strengthen the protection of intellectual property rights, take the initiative to expand imports, reduce automobile tariffs, and accelerate the accession to the WTO Government Procurement Agreement. Moreover, President Xi stressed that it is better to implement such measures sooner rather than later. Such an expansion of the opening up policy is equivalent to a second accession to the WTO as far as China is concerned.

In my opinion, the root cause of the trade imbalance between China and the United States involves complex structural issues. First, there is the structure of the US economy. With its twin annual de fi cits, that is the Federal budget de fi cit and the de fi cit on the current account, the US is a typical consumer-driven society. The contribution of consumption to gross domestic product in the US is as high as 80%. US import demand is higher than demand in other developed economies. Second, there is the structure of the global industrial chain. After China"s accession to the WTO, the nation gradually became the world"s factory. Half of China’s exports are processed by foreign-funded enterprises in China, and half of foreign investment is made by US companies. Third, the US dollar is an international currency. The trade de fi cit provides a supply of US dollars to the rest of the world as a monetary export. Demand for the US dollar is strong and dollars return to the US under the capital account.Fourth, the US restricts its exports of high-tech products to China, and that holds down China’s imports from the US.

Zhang Ming: There are at least three reasons for the trade imbalance between China and the US. First, China’s domestic savings are higher than its domestic investment,while US domestic savings are lower than its domestic investment. This means that naturally China has a current account surplus, and the US has a current account de fi cit.In other words, Chinese residents are extending credits to US residents, making American consumption higher than current income.

Second, the two countries have different comparative advantages. For example, although China has a sustained trade surplus with the US, at the same time, China has a continuous service trade de fi cit with the US. This shows that China"s manufacturing industry has relative advantages while the same is true for the US service sector. Third, the US put restrictions on the exports of high-tech products to China. In order to fundamentally reduce the trade imbalance between China and the US,China and the US need to reduce the domestic savings and investment gaps. China needs more consumer spending while Americans need to save more. The US also needs to control the government’s fi scal de fi cit.At the same time, the US government needs to relax its export restrictions on China in order to allow the Chinese government to step up imports of US products. In any case, there must be a certain degree of trade surplus or de fi cit between China and the US, and this is permissible within the framework of trade globalization.

Zhong Wei: In addition to trade, the US has imposed sanctions on ZTE, and people are worried that other Chinese information and communication companies may be affected in the future. This will hurt US chip makers to some extent. The US seems also seems to have doubts over the objectives of the“Made in China 2025” program. Some people have suggested that there are ulterior motives behind the Sino-US trade dispute. There are suspicions that the US is trying to thwart China’s efforts to catch up with the US. What’s your view of China’s progress in the fi eld of intellectual property protection? Would China be able to quickly improve its technology in aircraft engines, high-end chips and other areas of economic weakness solely through its own innovation?

Shen Jianguang: First, I very much agree with the point of view that there are ulterior motives behind this dispute. From the ZTE issue we can see that the US has undergone profound changes in its attitude towards China, especially with the targeting of a relatively hightech company that has an advantage over the US. The US feels threatened by the rapid development of China over the past decade and its potential for further development.It can be seen that China has become a powerhouse in high-tech fi elds such as arti fi cial intelligence, cloud technology, and the Internet of Things.

Second, we must adopt a dialectical perspective in viewing the protection of intellectual property rights. Although China has achieved rapid economic development over the past 30 years, it is still in a catchup phase as far as technology is concerned. But things are changing. China has reached the forefront in some areas of science and technology. People are aware that the protection of intellectual property rights is conducive to innovation and creativity. The current emphasis on the protection of intellectual property rights is both an external appeal and a demand for internal growth.

Of course, I hold the view that independent innovation can quickly fi ll the gap as far as China’s aircraft engines and high-end chips are concerned. I believe that independent innovation in high-precision areas is a lengthy process. Pushing for technological breakthroughs will lead to improvements in areas where China is still lagging. But we should not get carried away. We should not be forced into overly hasty development as that could result in overcapacity in the mid- and low-end areas of technology.

Zhang Ming: If Sino-US trade frictions are limited to bilateral trade, the negative impact on the Chinese economy will be more controllable. However, if trade frictions are upgraded to direct investment and hightech cooperation, this will bring even more severe challenges to China’s economic transformation and upgrading. At the Boao Summit, President Xi proposed that China should signi fi cantly strengthen the protection of intellectual property rights. China needs to enhance its independent research and development capabilities in the fi eld of chips and aircraft engines. However, it is dif fi cult to eliminate the technological gap between China and the US in this area through industrial policies in a short period of time. China needs its own industrial policy, and the implementation of industrial policies must conform to the laws of the market. We should avoid promoting the development of domestic chips and other industries in a reckless manner as this would result in market distortions and waste of resources.

Zhong Wei: President Xi Jinping’s keynote speech at the Boao Forum for Asia called for a future of consultation and cooperation. He called for the international community to cherish peace and development, form a community of human destiny,and put forward concrete measures for China’s greater reform and opening up. The president emphasized that these measures should be started sooner rather than later. Contrary to this, the US side has done nothing to reduce the disputes between the two sides. People are worried that the spread of trade con fl icts in the fi elds of technology, investment, and fi nance will make the dispute even more dif fi cult to solve. In your opinions, will the US unilateralism spread to more areas beyond trade?

Shen Jianguang: It is not surprising that the trade con fl icts between China and the US have already spread to technology, investment, and fi nance to some extent.In my opinion, the strategies that need to be employed in this competition between the two countries differ depending whether the objectives are for the short,medium or long term.

From the short-term point of view, trade disputes are an important weapon. This is Trump’s pledge to honor promises made during the election campaign. From a medium-term point of view, globalization has led to a gradual decline in the proportion of manufacturing in the US and as a result there has been a considerable degree of there. Containing the rise of China’s manufacturing industry to avoid competitive pressure on US manufacturing is an important part of President Trump’s pledge to “Make America Great Again.” From a longterm point of view, we can expect to see the Thucydides Trap at work in the economic fi eld, and the US may feel it needs to put in place comprehensive countermeasures against China. Because of the underlying tensions, this trend will not change, regardless of who becomes president of the US.

Judging from the current situation, in addition to the possible trade war, the US has publicly positioned China as a strategic competitor, including the “Made in China 2025” effort. The US government has appointed quite a few of fi cials who are hawkish towards China. This shows that Washington is taking a tougher stance towards China.Sino-US relations have entered a period of diplomatic abnormality. In my view, the current situation highlights the complexity of Sino-US relations.

Zhang Ming: Judging from recent developments, we cannot rule out the possibility of an escalation of Sino-US trade friction and the expansion of the con fl ict into other areas. At present, US policy toward China seems to have changed from engagement to containment.The US government has provoked this round of trade friction focusing on curbing the rise of China. Senior US of fi cials have stated that the key development areas of the Chinese government are the areas that the US government will vigorously suppress. This has been made very obvious. In addition to trade, the US government may adopt countermeasures such as these: First, the US will target Chinese companies’ direct investment in US high-tech industries, taking stricter measures in the name of national security. Second, the US will restrict the degree of cooperation which allows US scientists of Chinese origin working in the United States to work with Chinese scienti fi c research institutes and universities.Third, the US will return to the multilateral negotiation framework, such as the Trans-Paci fi c Partnership Agreement, in an effort to win over more countries to put pressure on China through multilateral channels.

Zhong Wei: Is the origin of Sino-US trade disputes a result of Trump’s intention to help his party win the mid-term elections or is it more of a fundamental change in the strategic position towards China from dialogue to containment? The grim reality is that the economic and trade relations between China and the US have already been damaged, and this could in fl ict further damage on many areas of the relationship. In your opinion, how should China adjust its internal and external policies to minimize further damage?

Zhang Ming: I think that the US has made a major shift in its strategic positioning towards China. The Chinese government can adopt some of the following direct responses to deal with Sino-US trade frictions.First, from the bilateral perspective, China can increase its efforts to communicate and negotiate with the US government, striving to reach a consensus and make compromises acceptable to both sides. That could help avoid further increases in trade friction. Second, China could make full use of US corporate associations, think tanks, trade unions, and lobbying groups to put pressure on the US government as these groups could be hurt by a trade war. China could also make full use of the WTO and other multilateral organizations to help enlist other countries to put pressure on the US as well.

In addition, the Chinese government should make necessary adjustments to its own domestic policies. First,the Chinese government should unwaveringly accelerate domestic structural reforms, such as the reform of stateowned enterprises, as well as land and the service sector.China also needs to open up further to private capital in order to enhance the ef fi ciency and sustainability of China’s economic growth. Second, the Chinese government should continue to prevent systemic fi nancial risk. It should also avoid excessive reductions of fi nancial supervision in an effort to offset the negative impact on economic growth from a possible trade war.Third, the government should help Chinese companies that are more vulnerable to US measures. It should also help in the efforts of local companies to develop new overseas markets. Finally, in the context of the US government’s increasing retreat towards unilateralism and isolationism, the Chinese government should support multilateralism and globalization in a more active and determined manner.

Shen Jianguang: In response to the potential trade war and the economic and trade con fl icts between China and the US, I believe that cooperation must be emphasized as a stabilizer for Sino-US relations. In the short term, it is necessary to adopt tough measures as well as conciliatory ones. We need to pick our targets carefully and take countermeasures that are appropriate and implemented in a reasonable and orderly manner.This will help give us the maximum possible negotiating space. At the same time, we should seek solutions under the framework of the WTO and strive for more allies that support free trade on a global scale.

From the perspective of China itself, it is necessary to promptly carry out a new round of reform and opening up as proposed by President Xi at the Boao Forum for Asia. The goal of rejuvenating the country through science and technology and the strategies embodied in the “Made in China 2025” program are essential. We need to encourage innovation, protect property rights,promote a more equitable market environment, improve environmental protection, safeguard the interests of labor, and perfect our laws and regulations. This is the way to the center of the international stage.

Zhong Wei: Both of our guests pointed out that good Sino-US economic and trade relations are fundamental to the stable recovery of the world economy. They both expressed concern about the spread of Sino-US trade disputes to the protection of intellectual property rights, investment, and fi nance.Both agreed that China should maintain a consistent strategy and intensify its efforts in the area of reform and opening up its markets. It should also continue its push for industrial upgrading. At the same time,the two experts warned against reckless investment that could con fl ict with industrial and market laws,particularly in areas where there are more external uncertainties. They also warned against the risks of wider and longer term friction between China and the US.