words: Ateeq Ali
A nice and level commentary for our financial section by brother Ateeq, on Trump’s ongoing trade shenanigans. Far worse stuff is eclipsing it at the moment, but its worth the ponder for later…
Trade wars, tariffs, economic rebalancing, Dollar hegemony – sound familiar? The same debates and headlines from Trump 1.0 are back. The default take is that the US and China are locked in an economic cold war, or perhaps a general cold war. Scratch beneath the surface a bit and you’ll find some alignment however, at least in theory. Let’s take a plunge into this from a somewhat different angle.
Following on from September’s delve into dollar hegemony and global trade dynamics, we now have Trump 2.0 back at the helm of the US mothership.
Armed with Supreme Court immunity, Congress control and red swings across the US, we are in for a roller coaster. This has already started within the first month of MAGA-mania; executive orders and tariff rhetoric galore.
I’ve always viewed DJT through a similar lens to Boris J. in the UK; that fundamentally they don’t believe in anything other than opportunism – watching which way the crowd goes and then running to the front.
But to give some credit to 47, the 2 things he has been quite vocal about for decades is foreign bodies coming into the US, namely immigrants & imports.
I previously discussed how reserve currency status is a double-edged sword for the issuing jurisdiction economically. The never-ending inflow of capital keeps your currency strong, which results in domestic manufacturing being uncompetitive and your population being always wealthy enough to purchase the world’s goods.
The US has kept an aggregate trade (goods) deficit since the end of the Bretton-Woods system. Trump has stated repeatedly that he is not happy with this, especially regarding countries/blocs that have the largest imbalance with the US, such as China, Mexico and the EU. His answer is tariffs.
At the time of writing, it remains unclear as to whether he will follow through on the tariff rhetoric in a truly meaningful way, or if he will use that rhetoric merely to ‘get deals done’ which he can post about on social media.
Trump placed tariffs on c. 65% of Chinese imports during his 1st term. This didn’t, however, impact the trade balance significantly, and trade re-routing through middle countries surged as a tariff bypass mechanism. NAFTA was also renegotiated, but the resultant USM- CA was more cosmetic in changes with difficult to enforce ‘country of origin’ clauses.
An aggressive and protracted trade war is risky. Inflation must be paid for with political capital. Supply chain disruptions would negatively impact big businesses who have supported Trump. With mid-terms in 2 years, does anyone in the US have the fortitude to go down that path? Time will tell.
The major existential threat for MAGA across the geopolitical and economic sphere is China. We will focus on the economic side for now and posit that despite the tensions and seemingly cold war state of relations, there is potential alignment between what the US (Trump) wants and what China needs from an economic perspective.
China has the largest trade imbalance with the US. For goods in 2024, that imbalance was $295bn in favor of the Chinese. Nothing angers Trump more than this statistic in his tariff and trade rhetoric.
China keeps its currency devalued. The Yuan trades within a certain band relative to the Dollar to ensure export competitiveness. China also has a huge population which it needs to keep employed and fed. Production and manufacturing is how it’s gone about this monumental task.
China produces an excess supply of goods relative to its domestic consumption needs. To avoid the deflationary impact of this, it exports out that excess and passes on the deflation and accompanying domestic manufacturing displacement to others. Countries have started to place anti-dumping duties on certain Chinese goods as a result, including the EU, Indonesia and Brazil.
China however has a problem; it ideally needs to rebalance its economy and shift away from reliance on growth through net exports and investments, focusing more on boosting domestic consumption. Much has been written about the Chinese real estate bubble imploding and the negative long-term impacts this will have/is having on the Chinese economy. Real aggregate debt levels for which the Sovereign is ultimately liable are also a concern, with some estimates as high as 300% of GDP.
Compared to its G20 peers, China’s share of consumption as a component of its GDP lags behind. The future sustainability of its economy in the face of demographic decline may well rest on its ability to rebalance on this front.
How does this dynamic inter-play with the current Trumpian world view of trade?
To make your people consume (spend) more, you need to make them richer. How can a country like China do this? The huge aggregate trade surplus it has year-on-year which it currently off-loads en masse into USD could be more re-directed into the domestic economy. People’s wages can rise, financial safety nets such as healthcare can be made more robust resulting in people being able and willing to spend (consume) more.
The trade surplus is what would need to be partly sacrificed for the above. Placing more money into the domestic economy would go hand-in-hand with allowing the Yuan to appreciate. This also helps people feel wealthier and more inclined to spend. It raises domestic demand instead of suppressing it, which is the current dynamic in play when countries off-load their surpluses into USD (as mentioned in my September article). A rising Yuan would naturally have a negative impact on Chinese exports. This is rebalancing.
Wealthier people with a stronger relative currency buy more from the international marketplace as their relative purchasing power increases. Now we can start to see at a high level, where the US & China can be unexpected bedfellows.
Increasing Chinese domestic consumption could in theory help start to remedy the gargantuan trade imbalance between the US and China as well as the wider world and China. Perhaps the Americans could start selling more to the Chinese and buying a bit less from them if the costs for such imports rise in line with the Yuan appreciating. No need necessarily for a ‘tariff first’ policy.
There is an incoherence in Trump’s economics where he has stated he wants the dollar to remain the global reserve currency but also wants to reverse US trade balance and re-shore US manufacturing. It sounds like you want to have your own cake and eat it. However, there is a stratum of MAGA that is acutely aware of the economic negativities of being the world’s reserve currency issuer.
China’s economic rebalance would also, in theory, start laying some pre-conditions for an emerging alternative reserve currency. If the Chinese target Yuan appreciation through domestic surplus deployment, it also opens up the potential to allow other countries to off-load some of their surpluses into Yuan assets because foreign capital inflows and the associated currency appreciation is now sought rather than entirely feared. Liberalizing the Chinese financial system and starting to open the capital & financial accounts can aid the rebalance.
What the US wants and what China needs are in ways aligned at the theoretical level. The whole dynamic also hints at how an alternative to Dollar hegemony can emerge. It saves us having to create strange new currencies backed by oil or shared BRICS reserves (a pipedream). We would rely instead on natural economics tied to shifting trade, capital and currency dynamics. It’s really about balance – we have had generational imbalance.
I am under no illusions that the above will simply happen. There is a huge amount of complexity and politics which likely won’t allow this. China hasn’t been successful yet at truly rebalancing its economy. It has made attempts in doing so; however the ongoing scale and size of its trade surpluses suggests structurally addressing its economic model still has a way to go. Export driven growth seemingly remains the focus.
Any real change in the status quo of Dollar hegemony would be more likely to come from actions taken by the US which disincentivizes it rather than the rest of the world trying to force an alternative. What does that mean?
Posit this; if structural trade imbalances and the death of domestic manufacturing competitiveness are the bane of the Trumpian world view, what you really need is to make your currency weaker. Tariffs on goods can result in the opposite if inflation spikes and rates remain higher. The wrong ‘thing’ is being targeted. It is the capital inflows – the net result of countries off-loading their surpluses to you – which need to be disincentivized through, for example, being taxed; a tariff on the money coming in, not the goods coming in.
Force that capital inflow to go elsewhere. Force it to be deployed by surplus countries both domestically and into a new willing recipient. If that recipient represents your largest bilateral trade deficit, a natural balancing act starts to emerge.
Again, I don’t envisage the above happening because I don’t think the US or China want these dynamics. Trump’s tax cut mantra will likely result in more current account deficits, which in turn means more debt needs to be issued. With a $35trn burden already, having the reserve currency of the world is your fiscal ‘get out of jail’ ticket – one which not only doesn’t want to be given up, but arguably cannot be given up.
It’s a fascinating thought experiment. The forces that sustain global trade imbalances – political inertia, consumerism, entrenched financial systems and self-interest make meaningful change unlikely in the near term. China’s path towards economic rebalancing remains uncertain while the US grapples with the contradictions of Dollar hegemony and reshoring. Trump’s return throws these realities more into the limelight but also adds further layers of unpredictability. We are likely to continue to see trade wars and tariffs featuring in our news headlines for the foreseeable. Whether the next 4 years brings about a real change in the global trade and currency order remains to be seen; political theater is guaranteed.