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Trump right to focus on the US-China deficit

The tactic is bad economics but good politics, forcing Beijing to meet verifiable targets

| China
U.S. President Donald Trump's trade threats and promises are proving more credible than Chinese market opening pledges.   © Reuters

As the trade dispute between Washington and Beijing drags on, U.S. President Donald Trump is emerging with an unexpected advantage: credibility.

Trump famously makes bombastic threats and promises. But at least as far as trade is concerned, he has largely made good on them. Just as he promised, he has withdrawn from the Trans-Pacific Partnership, opened up trade pacts with Canada, Mexico and South Korea for renegotiation and erected tariffs on a range of foreign goods.

For better or worse, people believe Trump is willing to abandon trade deals and impose barriers unilaterally. His trade threats and promises are proving credible.

By contrast, China's never-ending promises on trade have eroded its credibility. For years, Beijing has vowed to comply with international norms and level its playing field for foreign companies, but there has been little in the way of follow-through. It has pledged an "all-around opening up" even as it has maintained one of the most closed and protected economies in the world. The EU Chamber of Commerce in China recently used the phrase "promise fatigue" to describe how foreign companies view the situation.

The Trump administration has clearly decided to press the matter. China and the U.S. have threatened to impose tariffs on up to $200 billion worth of bilateral trade and are "still very far apart" on their respective demands, according to U.S Ambassador to China Terry Branstad. The lack of Chinese credibility complicates negotiations as the Trump administration pushes for immediate action, not promises of future action.

Trade wars are always ill-advised, and this one could end badly for both sides. But Trump has nevertheless identified the level of protectionism in China across a range of sectors as a real problem. Moreover, because his threats to restrict trade with China are credible, and China's promises to open its markets are not, the U.S. has a decided advantage in this negotiation.

Every country believes Trump will engage in protectionism, making his threats matter. Very few countries believe Beijing will open its markets, making it harder for it to negotiate an agreement and raising the stakes even if something innocently goes wrong. Even if restricting trade is irrational, there is widespread willingness among the American public to give the Trump administration space to press Beijing.

The U.S. Department of Justice in April banned American companies from supplying Chinese telecommunications equipment company ZTE not because of its trading with Iran and North Korea, which is what originally got it into trouble. Instead, ZTE was banned from buying American products for having "made false statements during settlement negotiations (and) during the probationary period." In other words, the U.S. government found that ZTE lacked credibility to abide by U.S. law and its own agreements and imposed an extreme penalty.

The trust gap does not stop there. Foreign companies do not feel confident they will be treated fairly in China. Washington meanwhile feels it has accepted enormous costs from Chinese behavior and violations of trust over the years.

Beijing and Washington thus need to change the reputation each brings to the table. An agreement to resolve the current dispute could be within reach as Vice Premier Liu He heads to Washington if each side recognizes the structural issues.

The Trump administration has made compelling the opening of Chinese markets a cornerstone of its strategy. As most of the tariffs announced by Trump would apply to high-tech products protected by Beijing under the "Made in China 2025" plan, Xi's government recognizes Washington is credibly willing to punish its protectionism.

Washington and Beijing seem to be edging toward an agreement which would see China raise its level of U.S. imports by up to $200 billion a year. Trump's focus on bilateral trade deficits is economically meaningless however. While China runs a large trade surplus with the U.S., this is balanced out elsewhere as Beijing runs a deficit with the rest of the world. Moreover, given that almost 40% of the value of an iPhone is generated in the U.S., how effectively does counting the iPhone as an import from China capture a loss of value from the U.S.?

Yet Trump's deficit obsession dovetails nicely with the problem of Chinese credibility. The Trump administration is demanding verifiable action and quantitative targets to prevent Chinese cheating. Given the long term history of non-tariff barriers and administrative measures Beijing has imposed to hinder foreign competition, this is not an unfounded concern.

Verifiability seems to be driving the Trump administration's focus on deficit reduction via increased exports. Beijing has used non-tariff barriers extensively to target foreign goods, so reaching an agreement to lower them now would only invite the appearance of new ones that would take additional time to dismantle. Exports have the benefit of providing the basis for a clear quantifiable target which both parties can observe.

There are two specific downsides to this approach however. First, Beijing seems willing to increase its purchase of American goods to avoid having to actually open up its domestic trade or investment markets. A deal with hard import targets would benefit American business in the short term, but accomplish nothing to fundamentally pry open the Chinese market and may even leave it more closed.

Second, the $200 billion export gain would almost certainly come mostly at the expense of other countries, potentially aggravating allies frustrated with Trump's imposition of tariffs. Given China's current account is already roughly in balance and the fact that it is trying to stem outflows, it seems unlikely that it will add $200 billion to its import bill but rather just buy more from U.S. companies and less from others.

If Trump wants to sell himself as the statesman defending America and its values while pushing for verifiable and quantitative action, he should use import targets as a bridge to push for market openings. The Trump administration's concerns about Beijing implementing its agreements are perfectly understandable, but import targets should be a means to an end, not an end in itself. Market opening should be the focus and import targets should be the bridge that allows Beijing to prove it is serious.

Both Xi and Trump have crafted their image and style around big demands and actions. Each will find it hard to back down having invested so much in standing up to the other absent credible and valuable concessions from the other.

Christopher Balding is an associate professor of political economics at the HSBC Business School of Peking University in Shenzhen, China.

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