Expert Views on the U.S.-China Trade Dispute and its Broader Implications

AJC Asia Pacific Institute (API) strives to form key alliances with leaders and relevant organizations throughout the Asia Pacific region and Asian diaspora communities in the U.S. Aiding us in this mission is our Advisory Council, experts from public, private, and non-profit backgrounds representing an array of nations and knowledge. API advisors counsel API leadership and staff, and share their insights on developing events in the region affecting AJC interests and goals.

The entire world continues to watch as the trade dispute between the U.S. and China escalates. Many foresee enormous consequences that spread far beyond the solely economic, and far beyond U.S. and Chinese borders. To form a better picture of what outcomes we may expect to see, we have asked two of our advisors to offer their expert opinions.

Dr. Mercy KUO, Columnist, The Diplomat

The U.S.-China trade dispute centers on the future of global economic leadership. Which countries will make or break the rules of the global trading system? Which model – rules-based, free-market capitalism or protectionist economic nationalism – will prevail? How will countries use innovative technology to advance national economic and security interests? This contest underscores how national economic policy is increasingly intertwined with national security and foreign policy.

High Stakes. In the geopolitics of trade, tariffs are tactical; systemic change is structural; and technological supremacy is transformative. On tactical and structural levels, the U.S. administration is employing tariffs to compel systemic reform in China’s economic and trading practices, specifically reciprocity in cross-border investment, legal transparency, regulatory accountability, arbitration mechanisms, intellectual property rights, and a host of other issues. On a transformative level, information and innovation technology are catalyst and disruptor in the integration of local and national economies into global supply chains  ̶  from farming communities across the U.S. to manufacturing plants in China, from ports in Southeast Asia to financial services in Europe. With Beijing’s “Made in China 2025” plan to achieve advancements in ten key industries, the competition over technological dominance is a deep, consequential fault line disrupting U.S.-China trade relations. In the broader backdrop, tectonic shifts in the tech world are accelerating and have ignited a global tech race. At stake is how competition and cooperation between the U.S. and China are transforming international norms in the global trading system and the rules of engagement in digital governance.

For context, consider the following observation from Robert Hannigan, executive chairman of BlueVoyant Europe and a former director of GCHQ, the UK’s technical intelligence and cyber agency: “The challenge presented by China is radically different and brings both opportunity and risk on an entirely new scale. China manufactures an estimated 90 percent of the world’s IT hardware, including some three-quarters of all smartphones. That has been true for many years, and it means the world economy is increasingly sitting on a global IT infrastructure manufactured in China.”

Leading Chinese tech companies understand the power of technology’s ubiquity and are investing in the future, as Michael Moritz, partner of Sequoia Capital, underscores: “Between 2015 and 2017, the five biggest U.S. tech groups (especially Apple and Microsoft) spent $228bn on stock buybacks and dividends, Bloomberg data shows. During the same period, the top five Chinese tech companies spent just $10.7bn and ploughed the rest of their excess cash into investments that broaden their footprint and influence.”

As a key indicator of the headwinds facing U.S.-China trade relations, Chinese investment in the U.S. will face increased scrutiny under the expanded authority of the Committee on Foreign Investment in the United States (CFIUS) through the Foreign Investment Risk Review Modernization Act (FIRRMA). Having passed legislation as the John S. McCain National Defense Authorization Act with strong bipartisan Congressional support and recently signed by President Trump, FIRRMA requires heightened disclosure requirements of foreign investors,  and “emerging” and “foundational” technologies will be subject to greater scrutiny.  

Looking ahead. An impasse in constructive dialogue between Washington and Beijing will only exacerbate uncertainty. Drawn-out negotiations would stoke further tensions and miscalculations between the U.S. and China. The impact on U.S. global trade partners could result in shifting of global supply chains to stable markets. As Gary Hufbauer of the Peterson International Institute of Economics recently averred, “If U.S. firms can see no end of the trade war, they will reorganize their supply chains and locate low-cost production in “safe” countries like Vietnam, Malaysia, Indonesia, Mexico, and Peru. They will not move much production back to the U.S. Likewise, Chinese firms that buy high-tech industrial inputs from the U.S. will move some of the production to “safe” countries like South Korea, Canada and Australia. But the Chinese government will strongly encourage Chinese firms to produce many of these inputs at home, even though the cost will be much higher.”

Impact on Israel. The U.S.-China trade dispute is opening a timely window of strategic opportunity for Israel. If U.S.-China trade and technology relations become increasingly restricted and contentious, China’s interests in Israel’s innovation ecosystem potentially poses a litmus test to U.S.-Israel relations. As a global leader in dual-technology innovation, Israel could play a critical role in how the U.S.-China technology competition unfolds. China is projected to surpass the U.S. as Israel’s top source of foreign direct investment in the near future.

Israel’s technological and scientific ecosystem along with its innovative, risk-taking culture is attracting Chinese investment as exemplified with China’s Bright Foods’ acquisition of national dairy brand Tnuva in 2014 and Fosun’s 2018 purchase of Ahava company, which produces Dead Sea lotion. “We believe that China will be the largest investor in the Israeli market in the technology sector. It will surpass the U.S. For many years, the Israeli high tech industry has been supported and led by American investors,” states French-Israeli Edouard Cukierman, Chairman of Cukierman Investments House and managing partner at Catalyst-CEL. 

Peter Reisman, API Advisor

China and the U.S. are each other’s most important trading partners. This mutually beneficial economic relationship has become the bedrock of cooperation between the world’s two largest economies. The recent tariff dispute has barely begun but has already caused significant negative effects across sectors in both economies and world markets. An increasing number of businesses are on the verge of failure, employees are being laid off, cross border investments are decreasing, inflationary metrics and expectations are increasing, and global supply chains are disrupted. The increased costs for U.S. manufacturers will eventually be passed down to consumers in the form of higher prices, eroding demand, and possibly increasing inflation. Trade tensions pose the largest downside risk to U.S. export forecasts and recent gains in the U.S. economy may be undone if the situation deteriorates further.

A recent report by the U.S.-China Business Council offers two compelling observations: (1) U.S. exports of goods to China have grown by 86 percent over the last decade, while exports to the rest of the world grew by only 21 percent; and (2) every U.S. state had triple-digit services export growth to China in the decade between 2007 and 2016, with 31 states growing exports over 300 percent. There can be no debate that U.S. trade with China has positively impacted U.S. GDP growth and has created numerous jobs.

Significant losses due to the current trade dispute have yet to appear in the hard economic data, but will likely become noticeable in September and October, especially in manufacturing, durable goods, and retail. The damage to the economy depends partly on the relative elasticity in both supply and demand, associated movements in currency valuations, and overall financial conditions. However, a recent analysis from the financial advisor firm RSM shows that if the administration follows through on all currently available tariffs for import duties, the impact to the U.S. economy would be close to $655 billion and may cause a recession. Meanwhile, an undeniable fact remains that most of the manufacturing jobs that moved to China over the last two decades will not return.

I see four possible scenarios for the near future:

I. The trade dispute peters out and China and the U.S. negotiate a new balance of trade. Even if a compromise is reached, some trust has been eroded and China will have concerns as to whether the U.S. administration will seek to renegotiate the deal in the near future.

II. China blinks. A trade war could disrupt the Chinese government’s careful stewardship of the economy, which has showed some signs of underperformance recently. China could back down on technology issues and further open its market to more American goods and services.

III. U.S. blinks. China’s list of products designated for tariffs includes a range of agricultural items that would directly affect rural states that backed President Trump in the 2016 presidential election.  Although the U.S. administration is proposing some relief for those farmers, current reports suggest that this package will be insufficient to make up the effects of the new tariffs.

IV. All-out trade war. Both sides lose. U.S. companies are at serious risk of losing market share in the world’s leading expanding market with a massive growing middle class. American and Chinese companies will face new obstacles to academic research, technological collaboration, industrial cooperation, and medical innovation -- areas where the greatest gains have already benefited hundreds of millions of people around the world. In addition, a recent report by the China General Chamber of Commerce stated that Chinese companies have invested more than $120 billion and directly support over 200,000 jobs throughout the U.S. According to a recent report by Rhodium Group, this form of Chinese direct investment in the U.S., which reached its peak in 2016, has already dropped 92 percent in the first five months of 2018. This was primarily due to increased scrutiny of Chinese deals in the U.S. and further capital outflow restrictions from China.

At the end of the day, a compromise will be reached. But when and at what cost? Both sides have conflicting economic and political risks/objectives, and a compromise within a short time frame seems unlikely. After virtually every industry-sponsored organization expressed disagreement with the U.S. administration’s approach to trade, the government remains committed to its current strategy to change the global supply chain. Meanwhile, the Chinese believe strongly in “saving face,” and nationalism and national pride are part of the culture. The EU and Japan recently signed landmark trade deals with China, creating one of the world’s largest open trade zones and giving China alternatives to mitigate its exposure and less incentives to compromise. With each passing day, the current standoff is looking more like a “new Cold War” that is difficult to resolve in the foreseeable future. This may spill over into a broader trade conflict causing a global economic slowdown; we are already seeing signs that other advanced economies such as Israel, Germany, and Japan are in fact benefiting from this situation due to increasing trade, access to market share, and direct investment from China.