Just when markets thought the Sino-U.S. trade war would de-escalate after presidents Trump and Xi agreed a 90-day standstill over a beef-laden diner in Buenos Aires, new tensions flared up when it transpired that at the very same day Huawei’s CFO, Ms. Meng Wanzhou, was arrested in Vancouver at the behest of U.S. authorities, which asked for her extradition. Ms. Meng, daughter of Huawei’s founder, sat on the board of SkyCom, once a subsidiary of and possibly still controlled by Huawei, which sold (civilian) telecommunications equipment to Iran, thereby (supposedly) spurning prevailing sanctions against the country. Her arrest is somewhat extraordinary (hordes of Western bankers that financed business with Iran never were jailed; instead, their employers got fined) and sensitive, given Huawei’s importance to China. A reprisal is likely: we assume many U.S. technology bigwigs are reconsidering the necessity of their travels to China. Huawei already is in the spotlight as some Western countries ponder whether the company should be allowed to sell 5G kit, a vital technology for enabling the internet-of-things, to telcos in light of the risk that Huawei might illegally share data with the Chinese government (not a high risk, in our view).
Is Huawei snooping into my fridge…?
There are at least two reasons why the trade war is not likely to go away anytime soon. First, Mr. Trump will need a scapegoat when the U.S. economy inevitably slows down next year as the boost of fiscal stimulus is petering out. Tariffs on car imports are a near-certainty, in our view, although they may be implemented gradually over time and may include certain exceptions (which at a later stage can be taken away). GM’s decision to close factories in the U.S. may lead Mr. Trump to conclude that current trade agreements are unfair, that the U.S. is being short-changed. Despite recently instated tariffs and record oil exports, the trade deficit reached a 10-year high at US$ 55.5 billion in October as a rise in the trade-weighted value of the dollar makes foreign goods comparatively cheap.
The second reason relates specifically to China. The trade dispute with China is not only about redressing a large trade deficit (a futile exercise as long as U.S. citizens consume more than they earn) but also about economic (and, thereby, military) power.
One concern is about security, the idea that China one day may take over the world by infiltrating core infrastructure thanks to Chinese companies having supplied key components that, on demand, can be accessed by the Chinese government. Huawei’s 5G “spyware” ban is a case in point, as is the opposition to Chinese companies acquiring American technology (one of few policies where both Republicans and Democrats can agree on). The Trump administration has labelled China as its economic and military enemy. Lawmakers are drafting regulations in respect of exports limitations of advanced technologies (e.g. robotics, artificial intelligence) to China, whereas student visas have become harder to come by. ZTE, another Chinese telecoms giant, had a near-death experience last April after the U.S. imposed sanctions on sales of semiconductors to the company. The sanctions were withdrawn after heavy lobbying and paying an US$ 1.4 billion fine (of which US$ 400 million in escrow), but only after a personal appeal from Mr. Xi to Mr. Trump.
The other concern is about the way how China does business. China places restrictions on foreign companies wanting to operate in the country, including limits on foreign ownership of domestic companies, forced transfer of technology and other non-tariff barriers. Infringement on intellectual property (IP) rights is habitual. Further, the Chinese government is ubiquitous in business, not only by steering state-owned companies to implement industrial policies but increasingly also directing private companies, especially in the technology space, to support the government’s objectives (as spelled out in “Made in China 2025”). Indeed, many private enterprises have implanted cells of the Communist Party in their businesses and amended corporate charters to give the Party a bigger management role. Under the autocratic Mr. Xi, the government’s role in business has become more intrusive which doesn’t sit well with Mr. Trump, who distrusts government and believes its involvement (for example, through subsidies, favourable taxes and cheap financing) creates unfair advantage.
Ready to fight…
The U.S. basically is demanding a fundamental overhaul of the Chinese economic model (and to some degree it is right to do so, although the U.S. itself also employs some non-tariff barriers). In the longer-term, China has a lot to win by liberalizing trade and respecting IP rights as tariffs are a tax on consumers and China is developing into an admirably innovative economy, benefiting from IP protection itself. However, it is not likely that much progress will be made in the next couple of years. Although the Chinese government could offer foreign companies equal treatment as domestic ones, we believe it is a stretch to think that Mr. Xi will abandon China’s chosen economic model for now. It is simply too risky as economic disruption could lead to a challenge to the Party’s leadership. Trade wars are here to stay, at least for as long as Mr. Trump is in the White House.