What is going to happen with US Chinese tariffs? The consensus of the stock market seems to be that an amicable agreement will be reached and all will be well. That may not be the case. What happens to your investments if the trade war becomes permanent? We are not the only ones to be concerned. CNBC reports that Moody’s believes the stock market is getting it wrong and that the trade war could be prolonged and cause lasting damage to the world economy. So far the USA has put tariffs on $200 Billion in Chinese goods and the Chinese have put tariffs on $60 Billion in US goods.
“It’s a very modest response,” said Edward Alden, a senior fellow at the Council on Foreign Relations, of China’s reaction. “There’s no question China’s hurting and they may want to negotiate. The problem is the Trump administration may be overplaying its hand. The harder they push, they may push the Chinese into a corner where politically and for just reasons of saving face, they can’t negotiate with the administration, and secondly the administration hasn’t established a negotiating process. There’s a real divide between the trade hawks and doves.”
Moody’s is predicting that US growth will slow to 2.3% next year and China’s to 6.4%. Why is this happening and why is there a danger of a prolonged trade war and diminution of the global economy?
The Rise and Predictable Slow Decline of US Economic Power
The USA became the dominant global power at the end of World War II. War had ravaged Europe and Asia. In the years after the war Japan and Germany rose from the ashes of defeat to become major manufacturing and global powers. India became a country instead of a British colony. Brazil started seriously developing its industry. The USSR rose and fell to be followed by the rise of the Russian Federation as a dominant producer of raw materials, especially oil and natural gas. As Europe, Asia, and other parts of the world gained economic ground they cut into the dominance of American industry and even science. This would have been easy to predict given that another global war did not occur. Nevertheless, many in the USA long for the “good old days” of American dominance. Those days occurred because WWII destroyed so much of the global economy and left the US economy intact. Nevertheless, many Americans are really angry and thus elected Donald Trump. Trump is under pressure to “get a better deal” for his constituents and is not known for backing off. And, even when Trump is no longer in office, US leaders will need to address the trade imbalance with China in order to preserve a strong US economy, manufacturing base, and defense.
The Rise of China
China was the “middle kingdom” in Eastern Asia for centuries. Then the European Colonial powers ringed them in. When the Communists defeated the Nationalists in the late 1940’s they became an enemy of the USA. And, the USA developed alliances that ringed in both the USSR and China. China was an isolated nation with a huge army and nuclear missiles.
In the 1970’s US President Nixon decided that bringing China into the community of nations was a better idea than leaving them as a dangerous outsider. The Nixon visit to China led to opening up of the world to Chinese manufacturing and a huge amount of investment in China. The result has been that China is the largest exporter in the world and has a trillion dollar foreign currency reserve. AND, the Chinese have a trade surplus with the USA in the hundreds of billions of dollars each and every year.
China does not want to go back to its period of isolation and has global ambitions as seen in its Silk Road project to create rail and sea links to markets across Eurasia. China needs to sell it products to the world in order to further its global ambitions. There will be a level of tariffs and loss of markets that China will not be able to agree to in their leadership wants to maintain control of the country. Meanwhile wealth Chinese are causing a flight of capital from the new Middle Kingdom.
Automation and Outsourcing
Throughout the world manufacturers are using more and more automation. Robots may cost more than people but they don’t get sick, don’t need pensions, and can be “retrained” with a few lines of computer code. The result has been fewer jobs in many industries. Then, companies in developed economies like Europe, North America, and even Japan outsourced their “easier” work to countries like China to get the work done for less. And, by outsourcing they bypassed labor issues and did not need to buy health insurance or pay pensions for those foreign workers. The net results was fewer jobs in the American Industrial Heartland and in similar areas in Japan and Europe.
Fewer Jobs, Lower Pay, and Angry People
You do not need to be a university-trained economist to drive through Gary, Indiana and notice that all the steel mills are gone. This picture has been duplicated across American and Europe as well. There certainly are good jobs in new industries but many of the good new jobs require a college or university education. And then there are all of those foreigners who can write computer code as well as a home-grown American. And they are willing to work for less! People are making less money and for the first time in American history do not believe that the country is getting better or that their lives will get better.
So, What Happens to Your Investments if the Trade War Becomes Permanent?
Both the USA and China see the trade war as “zero sum” game. A zero sum game is a situation in which the losses by one side are the gains of another and vice versa. China sees is place in the world as the dominant global economic and political power, which are positions now held by the USA. The USA sees itself as maintaining its place in the world and is justifiably fearful of a world controlled by China.
There may be a point at which neither side will back off of its demands. When that happens, trade between the USA and China will diminish. There is a chance that trade between China and Europe could also suffer is Europe adopts the view of the USA. This would result in different global trade patterns and diminished global trade.
Can the USA bring industry back to the Industrial Heartland? What will happen to the USA dollar if the global economy shrinks? Right now, investors are pulling money out of developing economy and into dollars. Forex traders are waiting for that trend to reverse. Domestic businesses like utilities, railroads, and others whose businesses are limited to the USA may be a hedge against a permanent trade war.