(Bloomberg) -- After President Donald Trump blindsided Xi Jinping by raising tariffs just days after the end of trade talks that China had called “constructive,” the next step lies in Beijing’s hands.
Yet there’s one immediate hurdle: many of China’s most senior decision makers may not even be in the nation’s capital. They’re likely on their way to an annual leadership seaside retreat or already there. China’s Foreign Minister Wang Yi made the first official response to Trump’s escalation from Bangkok, where he’s attending an ASEAN meeting.
“Imposing new tariffs is absolutely not the right solution to trade frictions,” he told a local Chinese television station.
Xi, Wang, Vice Premier Liu He and the rest of China’s top leadership have some big decisions to make. Do they go forward with the next round of talks planned for this month and next? Or do they respond with tariffs of their own, as they have done in the past? Should they make concessions in a bid to stave off the latest threat from Trump, or walk away from negotiations altogether?
For global markets and the world economy, much hinges on China’s response. If China is to retaliate as it has tended to in the past, here are some options:
China has already levied retaliatory tariffs on about $110 billion in imports from the U.S. Based on 2018 data, that leaves another $45 billion of products that could be subject to tariffs. But with China halting or slowing purchases of U.S. goods such as pork and soybeans, imports are down 30% in the first six months of this year compared to 2018. So the amount of goods that could actually be hit is much lower.
As a first step, China could reinstate the tariff on U.S. cars that it lifted as a goodwill gesture earlier in the talks, or raise the amount on goods that have already been taxed. China’s Ministry of Commerce didn’t respond to a fax asking for their response.
What Our Economists Say
“Assuming Trump’s tweet becomes policy, we’d expect a proportionate reaction from China. That would mean more tariffs on imports from the U.S. We don’t think China would shoot itself in the foot with harassment of U.S. firms or sales of U.S. Treasuries.”
Tom Orlik and Carl Riccadonna, Bloomberg Economics
Another option is to step back from negotiations altogether. China has in the past said it wouldn’t negotiate with a gun to its head.
The U.S. action will not make China agree to a deal soon but push it back, according to Hu Xijin, the editor-in-chief of a state-media newspaper.
China’s grip on the world’s rare earths supply chain offers another route for retaliation as U.S. goods including autos and military hardware are heavily dependent on the crucial minerals. Investors are betting Beijing may choose that option, sending shares of rare earth companies surging Friday.
The current 25% tariff on soybeans and corn has essentially choked off much of the agricultural trade, yet Beijing could now scrap its recent goodwill gesture to buy oilseeds, grains and cotton unveiled before the latest round of talks. Earlier deals that have already been agreed upon yet not finalized also could be at risk.
This comes at a key time for buyers, who typically start booking orders in the third quarter for new American harvests. China is also seeking to diversify its supply. It buys a lot of soybeans from Brazil and Argentina and has been seeking to diversify via expansion of wheat and soybean imports from Russia and potentially other countries.
U.S. crude oil has so far escaped retaliatory tariffs as a tighter market and needs for America’s low-sulfur supply push imports to the highest since before the trade war. The 25% levy on U.S. liquefied natural gas has essentially cut off that trade, which is easier for China to stomach in the short term amid a current glut.
Unreliable Entity List
China has been threatening for months to announce a list of foreign companies it calls “unreliable entities” that have damaged their Chinese counterparts. While there’s no details of those on the list or what being listed might mean, it could be similar to the U.S. entity list that has been used to restrict exports to Huawei Technologies Co.
China’s investigation of FedEx Corp.’s (NYSE: FDX ) rerouting of parcels from Huawei may provide a guide to what will happen to companies on the list.
One look at Boeing Co .’s (NYSE: BA ) share price moves Thursday shows its vulnerability to Chinese retaliation. The stock reversed a gain of almost 1% to end 2% lower. The plane manufacturer has been negotiating one of the largest orders ever of wide-body jetliners with Chinese airlines. China could delay or even cancel orders.
Another question for China will be whether the U.S. continues with its promise to issue export licenses for Huawei. If the U.S. re-escalates and blocks the company from doing business with American companies, then China may see no point to further talks.
“If Trump backs away from promises to issue licenses to Huawei’s U.S. suppliers, the odds of negotiations breaking down and tariffs being imposed rises,” according to Michael Hirson of the Eurasia Group. “Chinese leaders will be reluctant to negotiate under threat -- even stepping up agricultural purchases at this point would make it appear that China is folding to Trump’s strong-arm tactics.”
As of lunchtime Friday in Beijing, China’s often belligerent state media had been largely quiet on the latest escalation in the trade war. Economists, though, are sharing their views, and most are pretty downbeat.
“China’s strategy in this trade war escalation will be to slow down the pace of negotiation and tit-for-tat retaliation,” according to a note from Iris Pang, an economist at ING bank NV in Hong Kong. “This could lengthen the process of retaliation until the upcoming U.S. presidential election. It won’t have escaped the authorities in China’s attention that a full-blown trade war is unlikely to help President Trump’s chances in the election.”
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