The US-China trade war is escalating. The coming days are crucial

Posted at 8:22 AM, May 10, 2019
and last updated 2019-05-10 10:22:06-04

(CNN) — Just days after they appeared to be on the verge of brokering a deal, the United States and China are fighting a trade war again.

The Trump administration made good on its threat to raise tariffs on $200 billion worth of Chinese exports from 10% to 25% earlier on Friday, marking a sharp escalation in tension between the world’s two largest economies.

After months of talks aimed at ending a year-long dispute that has already hurt global growth and rattled stock markets around the world, the latest US salvo risks triggering a new wave of tit-for-tat responses.

Beijing on Friday expressed “deep regret” at the latest US move, and reiterated that it would “have to take necessary countermeasures.” It did not specify what they would be or when they would be imposed.

What happens next could have enormous implications for businesses, consumers and investors.

China’s response

The coming hours could be crucial. Talks are set to continue on Friday in Washington as the two sides try to find a deal that addresses American concerns on market access and intellectual property theft.

Whatever the outcome, China is constrained in its response by the fact that it buys far fewer goods from the United States than the other way round. It imposed tariffs on US exports worth about $110 billion when the trade war started last year, leaving only roughly $10 billion worth of goods to target now.

“China … is running out of American imports to tax,” said Brock Silvers, managing director at advisory firm Kaiyuan Capital. “The fact that Beijing has yet to declare a specific retaliatory intent shows that China is still hoping the peace process can be salvaged,” he added.

The Chinese government could hike the level of its existing tariffs on US products, rather than go after a new list of exports, according to Julian Evans-Pritchard, senior China economist at Capital Economics.

“They have a 25% tariff on agricultural commodity imports from the US, they could double that potentially,” he said. “I think it’s a balancing act for them. They want to retaliate for political reasons … but actually in economic terms probably their best option would be to do nothing.”

The trade war has already hurt American farmers and some of the biggest companies on both sides. Apple partially blamed the trade war for a revenue decline in the first three months of 2019, and construction company Caterpillar said that Chinese tariffs cost it more than $100 million in 2018. Top Chinese firms like Alibaba have also warned that the increased tensions are hurting business.

Further escalation?

If Friday’s talks go badly, Trump could follow through with another threat — applying a 25% tariff on virtually all Chinese exports to the United States.

“The fact that the White House has increased the tariff rate suggests that the probability has risen that tariffs will increase on the remaining roughly $300 billion in imports from China that the US has not yet targeted,” Goldman Sachs said in a note on Friday.

In response, China could make life harder for American companies operating within its borders with hurdles like customs delays and heightened scrutiny by regulators. Big names like Boeing, Nike, Tesla, General Motors, Intel and many others all hugely dependent on the Chinese market.

But that kind of retaliation would damage Beijing’s attempt to present China as a more attractive place to invest. It has recently relaxed restrictions on foreign automakers and banks, for example.

“They’ve been trying to argue to both the US and to other countries that they are making progress on reform, and they’re opening up, they’re intervening less heavily in their economy,” Evans-Pritchard said. “So a lot of the non-tariff retaliation probably undermines that image that they’re trying to project.”

Higher prices, slower growth, lost jobs

Tariffs are bad for business because they push up the price of materials, components and finished products, hurting consumers in the process and disrupting supply chains. Last year’s trade battles acted as a brake on the global economy and a new US-China tariff war could slow growth further.

“There is no greater threat to global growth than a trade war between China and the United States,” French Finance Minister Bruno Le Maire told a local news channel. “It will destroy jobs.”

While the hostilities hurts both sides (and cause collateral damage for exporters in Europe), China has more to lose. The Chinese government has been trying to prop up its slowing economy for months — growth is already ata 28-year low — and is grappling with other challenges such as high debt levels.

The United States, on the other hand, posted robust growth in the first three months of 2019.

“The US economy is still booming, while China is battling an unsettling downturn,” Silvers said. “No one should want a trade war, but China still needs the US more than the reverse.”

Analysts say a full-blown trade war could knock as much as 1.2 percentage points off Chinese growth, and also hurt US growth and jobs.

Americans will end uppaying higher prices for a huge range of products ranging from iPhones to Nike sneakers if the US administration imposes additional tariffs, according to a recent study by the Peterson Institute for International Economics.

More wild market swings

The unexpected return of trade tension this week — which began with a Trump tweet last Sunday — has already roiled global markets. It could get worse for investors.

Chinese stock indexes have fallen more than 4% since the start of the week, despite a sudden surge on Friday, and the Dow suffered its second-worst trading day of 2019 on Tuesday. European markets have also slumped.

US stock futures were pointing lower again on Friday after the tariff increases kicked in, and even a deal might not be enough to stem the volatility in global markets.

“Once an eventual deal is reached… by that point it will really depend on what is going on in the world,” said Hannah Anderson, global market strategist at JP Morgan Asset Management. “Whatever deal is struck is going to be worse than hoped and better than feared.”

-Analysis by Rishi Iyengar, CNN Busines

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