Trump is winning the trade war because China has more to lose

Don’t look now, but there are numerous signs that President Trump is winning the trade war with China. While the battle over tariffs and protecting intellectual property may eventually damage the United States’ economy, there are signs that China is already paying a price for its refusal to bend to Trump’s demands.

One indicator of that price is the sharp plunge in China’s stock exchanges. Since the White House announced the first tariffs — on washing machines and solar cells on Jan. 22 — the Shanghai Index of Chinese stocks is down nearly 20 percent, while the S&P 500 is off less than 1 percent.

That decline of share values is occurring in spite of the first-time inclusion in the MSCI, an important international index, of many Chinese stocks on June 1. That initial index listing attracted billions of dollars toward Chinese stocks, in expectation it would boost prices, but it did not.

What does that tell you? Investors think China has more to lose than the U.S. They are correct.

China’s government, determined to save face and match Trump’s tariff threats, is so concerned about the slide in share prices and what it might signal about the cost of the confrontation, that it will likely allow the $941 billion China Investment Corp. (CIC) to begin buying domestic stocks.

The sovereign wealth fund has petitioned to change its mandate, which formerly directed it to purchases of overseas shares; since most view the CIC as an arm of the Chinese government, the move may be interpreted as Beijing again intervening to prop up share prices.

It would not be the first time. From the middle of 2014 through the second quarter of 2015, Beijing encouraged China’s citizens to buy stocks, ballyhooing a booming economy and hinting that the government would stand behind markets.

Stocks soared as 38 million new accounts were opened, mainly by small investors. When share prices plunged in June 2015, officials stepped in to stabilize markets; the government intervened again later that year, loosening margin requirements, putting a “lockup” in place that prevented owners of large positions from dumping their positions while also banning short selling.

Most recently, the government reportedly stepped in this past March, hoping to stem a sharp selloff in share prices caused by fears of a trade war.

Another indication that Beijing is feeling the heat is that officials appear to be softening their bold “Made in China 2025” campaign. The Financial Times reported, “A propaganda directive leaked in late June ordered Chinese media no longer to refer to the term;”

The FT also noted: “Chinese leaders are also seeking to reassure foreign governments and companies that the programme is more benign than has been portrayed.”

Beijing is attempting to ally with the EU to push back against Trump’s trade stance; being less aggressive about dominating coveted industries is meant to help that effort.

Meanwhile, it’s not just Chinese stocks that have been walloped by trade concerns; the yuan has taken a beating, too. Since the end of March, when the battle over tariffs heated up, the yuan has slid nearly 7 percent, again demonstrating the impact the trade war might have on China’s economy.

After it hit a six-month low at the end of June, the government quietly stepped in to halt the slide, working through a large state-owned bank to sell dollars and prop up the yuan. Part of the currency’s weakness was attributed to a decision by China’s central bank to free up $100 billion in an attempt to boost lending and help out small businesses and state-owned firms threatened by escalating tariffs.

Meanwhile, growth in China is cooling. In the second quarter, the economy grew at 6.7 percent, the slowest rate since 2016. The International Monetary Fund (IMF) projected that China will grow 6.6 percent for the current year, but only 6.4 percent next year; in 2017 growth totaled 6.9 percent.

In describing the potential harm that might be done by Trump’s tariffs, the IMF economic guru Maury Obstfeld said recently: “As the focus of global retaliation, the United States finds a relatively high share of its exports taxed in global markets in such a broader trade conflict, and it is therefore especially vulnerable.”

Given that exports constitute 12 percent of the U.S. economy, versus 20 percent of China’s GDP and that the entire skirmish is over disparate tariffs (i.e., ours are higher) that seems more a political message than a reasonable assessment.

New numbers tell the story. China’s industrial production increased 6 percent year-over-year in June, short of an estimated 6.5 percent, while investment also was up only 6 percent.

By contrast, in the U.S., economic growth remains on the upswing, along with investment spending by businesses and industrial output. A recent NABE survey indicates that business economists are concerned about the effect of a trade war, but also bullish about the outlook for growth.

Specifically, they have substantially raised their expectations of industrial production, now looking for a gain of 3.8 percent this year, up from the 3.3-percent gain projected in March, and much higher than the 2.3 percent forecasted in the December survey.

Meanwhile, economists at ISI Evercore are reporting their private surveys of businesses support estimates that real GDP could grow at a nominal rate (including inflation) of 5.5 percent in the second quarter, a cyclical high.

The recent rise in retail sales, up 6.6 percent in June compared to last year, fuels continued optimism, as does data from the latest Empire State Manufacturing Survey, “suggesting a continuation of robust growth,” according to the press release.

President Trump is rightly pushing back against decades of Chinese misbehavior, punishing Beijing for ongoing unfair trade practices and theft of intellectual property. His imposition of tariffs are meant to force a change by damaging China’s economy.

The risk is that China stands firm and fails to make the concessions demanded by the White House. In that scenario, global growth will suffer, but Beijing will likely suffer most. It appears they already are.

Published on The Hill