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Calm before the US-China trade storm

The Trump administration is likely to unleash a tough policy sooner or later

| China
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In the run-up to the 19th Communist Party Congress, China will want to avoid an outright trade war without being seen as kowtowing to U.S. pressure.   © Reuters

Many Japanese might be reminded of their own thorny trade relations with the U.S. as they watch the current trade dispute between Washington and Beijing. But the tensions between the U.S. and China are in a different league because of their geopolitical rivalry.

The Trump administration has not been shy about insisting that trade is a zero-sum game and one of several tools with which the U.S. can use to weaken its main global competitor. Interestingly, early expectations that the trade conflict could intensify have receded for the moment, but are liable to erupt at any time.

Back in the mid-1990s, the administration of U.S. President Bill Clinton launched a verbal assault on what it saw as unfair Japanese trade practices and its large external surplus. It considered a long list of sanctions to pressure Japan into opening its market to U.S. cars and auto parts. In 1995, Washington threatened a 100% tariff on 13 Japanese luxury cars. But in the end, U.S.-Japan trade relations never became an existential or mutually destructive issue, even if trade spats have sometimes waxed and waned periodically since then.

In the case of China, though, the administration of President Donald Trump will be a totally different proposition to that of Bill Clinton and his successors. It is true that Trump's earlier campaign rhetoric threatening to impose 45% across-the-board tariffs on Chinese products and charging Beijing with currency manipulation, triggering possible sanctions, has gone rather quiet.

It is also increasingly clear that those holding top posts in the Trump administration make up a patchwork of competing ideologues and pragmatists, who are struggling for preeminence when it comes to foreign, economic and trade policy. On China trade, the pragmatists may be calling the shots for the moment.

The U.S. trade policy agenda recently became the subject of just such a standoff between the two factions. It focused on the World Trade Organization, although China was never very far from the epicenter of the debate. In its original version, the U.S. trade policy document , sourced to the Office of the U.S. Trade Representative, defined the Trump administration's four major goals as defending U.S. sovereignty in trade matters, enforcing U.S. trade laws strictly, using all sources of leverage to get other nations to accept U.S. exports and protect U.S. intellectual property rights, and negotiating better trade deals.

American dominance

It was highly critical of the WTO's dispute settlement procedures and outcomes, and insisted that one of America's basic principles has always been the preeminence of U.S. law and "not rulings made by foreign governments or international bodies." This phrase was subsequently abandoned in a slightly softer, final version that now appears on the USTR website.

Referring to unfair and distortionary trade practices such as government subsidies, theft of intellectual property, restricted market access, currency manipulation, state-owned enterprises and technical and regulatory barriers that curb competition, the original document stated that: "The status quo is unsustainable -- for too long Americans have lost business to other countries." That phrase was also dropped in the final version.

The milder language of the final version was almost certainly the result of the influence of people like Gary Cohn, the president's chief economic adviser, and Treasury Secretary Stephen Mnuchin, compared with the more strident views of Robert Lighthizer, the USTR, Peter Navarro, the head of the National Trade Commission, Commerce Secretary Wilbur Ross and the president's own strategists and advisers.

There is little question that the document was meant to place China firmly in Washington's crosshairs. The U.S. government and American and other foreign companies have complained about China's practices and policies on dumping, export subsidies, cyber spying, local policies such as "indigenous innovation" that favor Chinese companies, restrictions on access to service sectors (including banking, films and entertainment, insurance and legal), and industrial policies for state enterprises that mask protectionism.

We should expect, therefore, that the Trump administration will not only raise its own trade arguments with China but also take up those cases already filed by the Obama administration. These include WTO dispute settlement cases filed against China over subsidies to certain aluminum producers; tariff rate quotas and excessive subsidies for rice, wheat and corn; export duties on 15 different raw materials; and investigations of China's industrial policy that allegedly favor local semiconductor makers. Moreover, China has filed its own dispute over the refusal of the U.S. and the EU late last year to grant it "market economy" status, which would benefit China in criteria used in anti-dumping cases, after Beijing said it was promised this measure.

Even though the news flow is now dominated by issues other than trade, we can be sure that trade will surely move to center stage once again before too long. The administration has several ways in which it can bypass the WTO -- even though there is some scope to raise tariffs under WTO rules -- and implement sanctions against China.

For example, Section 301 of the Trade Act 1974, last used against Japan in the 1980s, authorizes unilateral retaliation against foreign countries that impose unfair trade practices. Section 201 allows the government to impose temporary restrictions on imports of specific products if an import surge has caused injury or threat to local industries. Were the U.S. Treasury to request an investigation into charges of currency manipulation, a procedure would begin that could end up with sector or product sanctions.

Three troubling factors

Optimists might be right that the current "sotto voce" status of U.S.-China trade relations marks a shift away from confrontation and toward an uneasy standoff with China, one in which worst case outcomes will not appear. We can hope so, but we should also remember three important things.

First, the ideologues occupy key strategy and policy positions in the White House. Second, Trump's trade and Asian policy pronouncements have benefited China's international status in ways that Chinese President Xi Jinping could barely have dreamed of only a few months ago. As this becomes clearer, Trump's volatile and fractious temperament could easily switch to confronting China. Third, just as Trump has raised wiretapping allegations involving the Obama administration to distract attention from negative publicity surrounding his campaign team's relations with Russia, so we should be alert to the use of trade conflict with China as a means of distraction from other domestic problems. A tougher trade policy, after all, is something that Trump's ideologues are intent on pursuing anyway.

Once the trade conflict Rubicon is crossed, we can only guess how it evolves. China might absorb a bit of pressure this year so as not to raise the risk of instability in the period leading up to the 19th Communist Party Congress in late 2017. But China will not be publicly humiliated or want to be seen to kowtow to U.S. trade pressure either. So the risk of retaliation against U.S. agricultural, vehicle, aircraft and other exports is high. And that is how trade wars start.

George Magnus is an associate at Oxford University's China Centre, and former chief economist at UBS.

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