China’s first quarter figures showing growth in gross domestic product (GDP) at 5.4% surprised markets on the upside. On reflection, industrial output and exports were boosted by a rush to send product to the US before tariffs were imposed. A relapse in the second quarter is likely as the very high tariffs impede sales to the US and as inventory in US warehouses is drawn down. China has policy room for more stimulus, which it has been releasing in a series of small steps to cut interest rates, reduce the level of reserves banks need to maintain for their lending and to provide some fiscal relaxation.
China grew fast from manufacturing for export
When China entered the World Trade Organisation (WTO) at the beginning of this century a new era of its development started. China adopted an aggressive growth strategy based on high investment in industry and the promotion of large volumes of export sales of industrial products priced very competitively.
Chinese people stayed on relatively low wages and saved a lot in the absence of good state welfare and pensions. This worked as intended. China achieved high growth rates around 10% a year for two decades sustained by achieving high market shares in everything manufactured from steel to solar panels and from electrical goods to many everyday household items.
China ran up large surpluses with countries like the US and UK, which borrowed to spend more and to pay for the imports. Germany concentrated on selling back to China luxury-end manufactured goods such as cars as more people in the Asian nation achieved higher levels of income and wealth and wanted to own Western brands.
The advanced nations lost industrial investment and large-scale production as consumers diverted to the cheaper Chinese product. The West was left with service sector growth and some high-end brand successes. The US pioneered the digital revolution and generated faster growth thanks to its leading digital companies.
The Chinese view of the current trade spat
China feels aggrieved by the ferocity of the bipartisan US attacks on its economic system this decade. Presidents Biden and Trump have throttled back trade in technology items, forcing China into more self-reliance for digital development. They imposed substantial tariffs but, despite these measures, China continues to have a large trade surplus with America.
China poses as the upholder of the international rules-based order, even though this was a US-led Western democracies construct. It calls for observance of WTO rules on tariffs and promotes a vision of greater world prosperity based on peace and its support for emerging economies.
China and Russia have sought to use the United Nations as a platform to further their worldwide ambitions. They can often win votes in the General Assembly where they have a following in the emerging-market world. They both have a veto at the Security Council to prevent a US-led policy or resolution going through which they dislike.
In the tariff disputes, the US is seen to be violating WTO rules by China, which complains about their conduct. During the Covid-19 pandemic, Chinese influence over the World Health Organisation as a main funder helped Beijing craft the narrative. It worked to keep attention away from the sources of the infection and in favour of the maximum lockdown response. This was a further provocation to President Trump who disagreed with the policy.
China is a proud and powerful country. President Xi Jinping will not want to be seen to be climbing down in the dispute with the US over trade, hence the retaliation so far. China is using its leverage by denying access to rare earths and essential minerals, forcing the US to find alternative supplies. Some think China has the option of selling some US Treasuries to help destabilise that market as a threat to President Trump, though there is no proof they have tried that. China will continue to promote world growth from investment, industry and partnerships with many emerging market economies.
The US view of China
Presidents of both parties in the US have shifted policy over China to challenge what they see as Beijing’s unreasonable conduct. President Trump has been quite clear he thinks China has been a trade cheat. He and his trade document identify many alleged Chinese abuses. These include the theft of intellectual property, and its acquisition by forcing investors into China to share their technology with their host.
There are the actions of nationalised industries, using government money to subsidise investment and the prices charged for products. There are subsidies paid to private-sector Chinese producers. There are regulations and standards lower than the West enabling Chinese companies to keep costs lower. There is the reliance on cheap coal and the relentless rise of Chinese carbon dioxide when the West is striving to cut emissions. There is the use of low-wage labour, alleged lower health and safety and environmental standards and many other issues the US raises.
China has seized and occupied atolls and small islands in the South China Sea against the wishes of its neighbours.
There are also human rights issues that worry many in the West, which China denies. The US talks of genocide by China in Xinjiang where there is a Muslim population. Some say more than one million have been imprisoned, with others suffering forced labour and sterilisation. There are allegations that the Uyghur men are enslaved, the women forcibly sterilised and the children placed in re-education camps.
China has seized and occupied atolls and small islands in the South China Sea against the wishes of its neighbours. China claims sovereignty over much of the area with its large reserves of oil and gas. Brunei, Indonesia, Malaysia, Taiwan, the Philippines and Vietnam disagree. It threatens Taiwan and is thought to undertake cyberattacks on Western companies and governments.
China does not condemn the Russian invasion of Ukraine and is helping Russia by buying its oil and in other ways. China helped broker the military agreement between Russia and North Korea. Beijing did not respect the UK Hong Kong Agreement and has shut down democratic opposition there.
The short and long-term flare points
The current main point of contention is trade. Both sides have now imposed import-stopping levels of tariff on the other’s goods. It leaves them with various options.
They can subsidise or assist exporters to keep some production moving to each other by absorbing some of the high tariff. Their exporters can look around for other buyers to avoid a collapse in factory output. China has the bigger problem. President Trump’s last deal with China in his first term was meant to get the US trade deficit down, but China failed to make all the extra purchases of US food and energy that were promised. As a result, China still has many more exports at risk than the US.
It will take clever diplomacy to find words that allow both presidents to preserve dignity and claim a win at home. Both men will be looking at ways to offset the damage being done by the severe shock to their trade. They may decide in due course to find some way to get them both out of the cycle of ever-tougher measures.
China might escalate its cyber and other asymmetric attacks on the US. It can intensify its military exercises, threatening Taiwan and the South China Sea. It could increase covert support for Russia. It can take advantage of the West’s preoccupation with Ukraine and with the tariff war to seek gains elsewhere in pressure points around the world. An invasion of Taiwan is still unlikely, representing too high a risk of a war with the US to follow.
In the longer term, China wants to assimilate Taiwan. It is assembling military might to do so against the day when it judges the US is unwilling or unable to respond with superior force. China is seeking to lead a grand alliance of like-minded nations, bending the current international rules and law to their taste as they demonstrate their enhanced military and economic might. China has used its Belt and Road initiative and ability to lend to increase its economic influence over many emerging countries.
What might President Trump do?
President Trump and his advisers see China as the main challenger to US power. They are keen to get out of any commitment to Ukraine, which they think has taken too much time, money and weaponry over the last three years. They want other Nato members to contribute more and take more responsibility for the defence of Europe. US forces modernised with enhanced drone and missile capabilities and new planes will be mobile and will have a larger role in Asia.
He is determined to rebuild basic industry in the US. He sees the need for more steel mills, more vehicle building capacity, more chip and phone manufacture, more battery making and rare earth processing and all the other requirements to be more self-sufficient.
The US, if it wants to remain the world’s most powerful military force, needs to make more of its own weapons. He sees tariffs as part of this strategy and will be watching carefully to see how much investment he can entice and sustain. So far, he has announced substantial future investment plans by the main digital giants, including onshoring much more chip manufacture.
What are China’s options?
After the shock to growth and the financial system from the withdrawal of support to the overextended housing and property sector, China now could ease policy further to offset loss of trade. The country can increase central government borrowing, can increase state investment, stimulate domestic consumption and lower interest rates further. Inflation is not a problem. The authorities are worried about undue credit expansion, as there is plenty of debt in local government and nationalised concerns. Correcting the overexpansion of borrowing by the property sector has proved costly and difficult.
China is playing a long game to increase its global reach and power. It will increase its diplomatic initiatives to gain support amongst the emerging world and will be looking to split Europe from the US. It will continue its steady build-up of military might and domestic capabilities in new technologies.
The US will remain wary and will be less trusting in future when it comes to sourcing important products and technology-based goods. President Trump will secure more investment in industrial capacity at home and will need to do some deals to calm markets and stabilise international trade after the shocks of his tariff policy so far.
US consumers will face some price rises, but inflation generally is now benefitting from lower oil prices and fears of a growth slowdown on the back of reduced US/China trade. China will need to offer more product at keen prices to offset US trade losses.
Nothing on this website should be construed as personal advice based on your circumstances. No news or research item is a personal recommendation to deal.