A major trade war appears to be brewing, pitting the United States against the new evil empire–China. This is not new, but now we will see how determined the U.S. is regarding its surging trade deficit with China. As I commented recently, the battleground is set. The U.S. wants to protect American jobs against the swelling ranks of extremely cheap Chinese labor as millions of peasants move from the countryside into the preset industrial zones.
The U.S. trade deficit set yet another record in January to an all- time monthly high of $68.5 billion. The main culprit continues to be China, where Chinese imports continue to rise in spite of some measures put in place by Washington to try to stem the flow of cheap Chinese goods.
China is exporting anything that it can produce cheaply and this includes nearly everything. Believe me; it will get worse as China views the world as a fertile trading ground to export its cheap labor.
Last Monday, U.S. Commerce Secretary Carlos Gutierrez suggested that China open up its markets to foreign goods as well, adjusting its currency to a more flexible market-driven system. Again, as has been the case in previous dealings, the U.S. is threatening increased protectionist if its trade deficit with China continues to trend higher.
The U.S. Senate is on the verge of a vote to impose tough new sanctions on Chinese goods. The proposed bill would target a 27.5% tariff on Chinese imports to the United States if China fails to deal with its currency valuation.
This all sounds great, but here is what I see. Even if China were to adjust its currency to a more flexible system, the country would still retain a significant advantage in labor and costs over the United States. The U.S. could see a slow down in Chinese imports, but make no mistake about it, the huge Chinese trade deficit will continue.
Secondly, as I said in a recent commentary, American consumers are clearly benefiting from lower prices pay at the cash registers for Chinese goods. A 27.5% tariff would effectively reduce the standard of living for Americans by increasing prices for goods. The result could be lower consumer spending, which at the end of the day, could impact economic growth in the U.S.
Finally, don’t forget about the damage that can be done with a trade war against China, which ultimately will eventually become the world’s dominant economy.
China buys numerous products from the U.S., so you could see retaliatory action. For example, instead of buying Boeing plans, China may look to Europe and Airbus. In addition, there are many large U.S. companies currently in China. A trade war could seriously threaten U.S. operations in China and this could impact corporate growth and ultimately impact U.S. companies. On the bond side, China is also a large buyer of U.S. debt. A trade war could see a decline in Chinese fixed income investments and a resulting rise in U.S. bond rates to attract buyers.
The United States must be careful in its dealings. Yes, something needs to be done on the trade front, but offending the Chinese is not an option. Processes take time and the United States should not be too quick to jump all over China. China must also realize the issues and try to go at least half way with the U.S. A trade war is not healthy for either country and needs to be avoided.