by Marc Chandler
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Summary:
China’s trade concessions seem modest, but little discussion of US concessions.
Reports suggest Trump is set to sign a new executive order to investigate trade practices in steel, aluminum, and maybe household appliances.
Trade imbalances and floating currencies are not mutually exclusive.
Last week’s meeting between the US and China’s Presidents did not produce much fireworks or headlines. The missile strike on Syria and the North Korean missile launch tended to overshadow the first meeting between the leaders of the two largest economies.
We understood that both Japan and China have similar strategies for dealing with a mercurial and, perhaps, unpredictable US President. Make small concessions, giving Trump a “victory,” which buys some good will. And most importantly, outlast Trump. Recent rule changes in Japan’s LDP will allow Abe be Prime Minister for three terms. Some suspect that President Xi, the first core leader since Deng Xiaoping, may also be angling to serve a third term.
Earlier this year, Trump and Abe struck an agreement to hold new trade talks led by US Vice President Pence and Japan’s Finance Minister Aso. We anticipated President Xi would agree to similar talks. It is, after all, a low-cost concession. Sure enough, a cabinet-level talks were agreed with an eye toward reaching an agreement in 100 days.
Press reports have discussed likely concessions by China, but nothing concrete from the US. However, the Chinese concessions are low hanging fruit. For example, China may lift the ban on US beef imports. They were imposed in 2003 during a mad cow scare. China could have lifted the ban years ago. Before the Xi-Trump meeting, a group of nearly 40 US Senators encouraged the Trump Administration to get China to lift the ban on American beef. The US runs a substantial agriculture surplus with China. China is the largest export market for US agriculture produce, absorbing about a fifth of US agriculture exports.
The other concession China likely makes will allow foreign firms to have a majority stake in banks and brokers. Previously, under the Obama Administration, China seemed to have been moving in this direction, as a bilateral investment treaty was being negotiated. The outcome of the election froze the talks, and it is not clear that the Trump Administration will allow their resumption.
It is also may not be such a significant concession either on ground Chinese financial institutions have become quite large, and their role as national champions will be difficult to break. At the same time, foreign participation may bring the country best practices and take some pressure off some domestic institutions.
The US may seek another concession. China levies roughly a 25% tariff on US vehicles. China’s auto market competes with the US to be the largest in the world. The high tariff and large domestic market encourage foreign producers, like GM, Volkswagen, and Toyota incentives build cars and factories inside China.
US TreasuriesIt is not clear what the US is offering in exchange. China would like to have access to more high-tech goods; China is also concerned about its direct investment in the US. China would, of course, like to avoid being cited as a currency manipulator in the US Treasury’s semi-annual report that is due in the next few weeks. Treasury Secretary Mnuchin as indicated that there is a process that will be followed. The recently introduced quantitative definition includes a large bilateral surplus with the US ($30 bln+), a substantial overall surplus (3%+ of GDP), and persistent intervention to weaken the currency. |
US Treasuries Yield 10 years, April 2016 - 2017(see more posts on U.S. Treasuries, ) Source: Bloomberg.com - Click to enlarge |
The only criteria that China meets are the large bilateral surplus. Its current account is less than 3% of GDP. It has been intervening but to strengthen the currency. Several US presidential candidates, including Bush, Obama, and Romney talked about citing China as a currency manipulator. The US has not done so since 1994. At first, being cited would require bilateral negotiations.
Separately, media reports suggest that President Trump may sign an Executive Order that calls for a formal investigation into the trade in two or three industries (steel, aluminum, and household appliances). The concern is the extent of subsidies. While China is a likely suspect, it is not alone. Moreover, some of the household appliances may be assembled in Asia by US producers.
One of our interpretative points about the Trump Administration is that there are two wings. A wing that is linked to Bannon, which is the populist-nationalist element. The wing is more traditional, accepting the multilateral trade and security system that has been erected since the end of WWII. Commerce Secretary Ross appears to be driving the trade agenda at least until a Trade Representative is appointed. It is difficult to know for sure, but it looks if Ross is most interested in more robustly enforcing existing rules than defecting from the multilateral trade regime.
On the other hand, there does seem to be a naive view of trade among many officials. There seems to be an implicit assumption that if currencies float, then large trade imbalances cannot be sustained. Therefore to the extent that the US has a large chronic deficit, someone must be taking advantage either in trade practices or the foreign exchange market.
However, these ideas do not stand up to scrutiny. Consider the terms of trade. For these purposes, the terms of trade can be thought of as the manufactured goods and raw materials. As we noted, agriculture produce is among the largest US exports to China. Among China’s largest exports to the US are electronic goods. Of the US overall deficit with China, electronics and electrical equipment account for a little over half.
The US dollar and the Canadian dollar are as free floating as any currencies. Canada enjoys a persistent goods trade surplus with the US. For more than 30 years, the US has had a bilateral deficit with Canada. Between 2010 and 2014, the goods trade imbalance averaged a little more than $30 bln a year. The drop in the price of oil seems to be a key consideration that halved the deficit in 2015 and 2016. The 2016 deficit was $11.2 bln, which is the smallest since 1993.
The US goods deficit is set to widen. The US data is not seasonally adjusted, and in January and February combined the US recorded a $5.5 bln goods deficit with Canada. In the first two months of 2016, it was a $3.5 bln deficit. Relative price changed and grew differentials, rather than malfeasance, likely explains the change.
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