Keeping Up with the Trade War Between the US and China

By Dr. Zi WANG

As we are in the mist of a new American election which may well usher Donald Trump back to the White House, now is an opportune time to revisit one of President Trump’s marquee policies: the imposition of trade sanctions against China.  In a recent paper[1], a team of researchers explore what has become the starting point of a new era of economic decoupling and industrial re-shoring.

With the rapid surge of Chinese exports to the USA following its accession to the WTO, numerous voices in the US started complaining, especially as many industries moved production to China. Claiming to address these unfair trade practices, the Trump administration initiated five rounds of tariffs starting in 2018. Adopting a "tit-for-tat" approach, China retaliated, resulting in both nations imposing tariffs on each other far surpassing the "Most Favored Nation" levels set by the WTO. To the surprise of many, President Biden left these tariffs in place. Why?

That’s because the real reason behind the tariffs boils down to China's industrial policy. In addition to noting that the Trump tariffs were initiated citing concerns over China's ambitious ‘‘Made in China 2025’’ Project – “MIC 2025” which subsidises China’s tech sector – the researchers also point to President Biden’s ‘‘CHIPS and Science Act’’ – which aims at fostering America’s semiconductor industry – along with laws to support the U.S.'s move to cleaner energy and electric car production in support of this narrative. Moreover, a closer look at the Trump-era tariffs show that they did not initially target the goods that the U.S. imports most from China – such as phones and computers – while failing to reduce the US-China trade deficit and the bleeding of U.S. manufacturing jobs. Meanwhile, the first wave of tariffs on MIC 2025 products averaged 12.07%, compared to only 1.71% on other goods.

This shows that the economic tussle between the US and China is not a typical trade spat, but a showdown over industrial policies. This shift became even more evident as the Biden administration opted to build its own subsidy regime instead of pushing for the removal of subsidies.

Given that both nations aim to back what they see as key industries for the future, how can they achieve their goals with minimal downsides? First off, the researchers found that the ideal subsidy level for China’s MIC 2025 sectors would be 7.96% of sales, as this rate would boost welfare in both China and the US. They also establish that a full trade war would entail US tariffs of 13.2% on MIC 2025 products and retaliatory Chinese tariffs of 20+%, which would negatively affect both sides. Ideally, the “right” policy mix for the US would blend tariffs of just 5.57% on MIC 2025 goods and a subsidy rate of 9.59% for its own high-tech sectors. In any event, since competition between the US and China appears inevitable, competing via industrial policies rather than resorting to tariffs would be preferable, as it would create fewer trade distortions and, consequently, generate higher welfare for both nations.

As campaign rhetoric heats up, let's cross our fingers that both Trump and Biden stay focused on bolstering US industries rather than recklessly slapping tariffs on the products we all like to buy for cheap!

Reference:

[1] Ju. J., Ma H., Wang Z. & Zhu X. “Trade Wars and Industrial Policy Competitions: Understanding the US-China Economic Conflicts” Journal of Monetary Economics Volume 141, January 2024, Pages 42-58 (https://doi.org/10.1016/j.jmoneco.2023.10.012)