The “common” view of China has long been that its economy is teetering on the verge of collapse, its impressive economic growth over the past 40 years has been a fluke, and it can’t be sustained. Analysts have been eager to be first to proclaim the timing of China’s demise and the nature of the catastrophe that will cause it. Thus, the common view is that Beijing’s trade skirmish with the U.S.—the rising tariff walls—will be the catalyst for the fall of China’s economy. However, the common view is unhelpful in understanding both the trade battle and China’s economic destiny.
The trade skirmish between the U.S. and China isn’t going to affect the growth trajectories of either economy in any material way. Its marginal impact will be negative, but the mutual blows are small for each nation, and transient. The Trump administration’s tariffs on goods imported from China will total about $60 billion by January, a nice piece of change, but equal to only 0.3% of U.S. gross domestic product.
Notice that the cost is figured relative to U.S. GDP and not China’s: A tariff imposed by the U.S. on imports is a tax on U.S. companies and consumers. If you are a chicken farmer with 1,000 made-in-China incubators, you will have to buy replacement heating elements this year from the manufacturer in China. No one else’s parts will do. So when President Donald Trump’s tariffs raise the cost of that part by 25%, you will pay it because you have no choice. Similarly, an airline will pay 25% more for aircraft tires made in China because they are the only ones that will fit its Boeing aircraft. Ultimately, either the importer will take a hit on profits or the egg consumer or airline passenger will pay more.
U.S. tariffs on goods that can be bought only from China might be dressed up like they are being imposed on Chinese companies and exporters. They aren’t. The Chinese exporter suffers almost no loss of revenue.
Consider Caterpillar ’s story. Cat just reported that tariffs raised the cost of steel and other inputs made in China by $40 million in the third quarter. This is peanuts, however, for a company that sold a record $13.51 billion worth of stuff in the latest quarter. Sales were up 18% year over year, and profits, also a record, rose 46% year over year. Next quarter, those cost increases won’t affect the growth of profits unless tariff rates are increased. In time, Cat may raise prices somewhat to recover the lost profits.
China has been much cagier than the U.S. in slapping countervailing tariffs on goods with elastic demand. These products, such as soybeans, have substitutes outside the U.S. On the day that China announced tariffs on imports of soybeans from the U.S., importers in China canceled all soybean orders from the U.S. American farmers lost sales, but Brazil’s farmers and others gained as trade was diverted.
Airplanes are another example. China’s press reports that Xiamen Air, a midsize carrier with a fleet of 170 Boeing jets, recently was visited by sales team from Airbus. On the table is an $18 billion initial order to kick off Xiamen’s plan to expand to 270 aircraft over the next decade. If Xiamen commits to buying an initial order from Airbus because tariffs make 737s more expensive, it will not be the last. Boeing’s sales will suffer for years even if the tariffs are removed.
If China decides to amp up its game, it doesn’t need tariffs. The government can “suggest” that its citizens boycott U.S.-made products. Boycotts were effective when applied to Japanese and Korean brands as Beijing quarreled with those governments. Things would take a darker turn for firms such as Caterpillar that profit from sales of goods in China, whether produced there or here. Some 25% of General Motors ’ global profits reportedly come from its 11 joint ventures and two direct investments in China. Analysts estimate that 12% is the comparable figure for Ford. Starbucks has more cafes in China than in any other country outside the U.S., and plans to open one new cafe every 15 hours in the next year. Chinese boycotts could hurt U.S. companies operating in China more than any tariff.
Luckily, China isn’t interested in this. Beijing’s ambition is to be left alone to pursue its industrial development plan, Made in China 2025. The Trump administration fears that China will supplant the U.S. as the world’s industrial leader if MIC 2025 succeeds. Beijing’s goal is to raise manufacturing capability to be able to produce 70% of the inputs China needs to assemble goods for export, up from 30% in 2015 when Premier Li Keqiang initiated the program. The proposed increase is worth $1 trillion a year to China’s economy. Losses from U.S. tariffs are trivial in comparison; China will endure them to realize the bigger prize.
China’s economy has grown in size 34.5 times, or an average of 9.5% a year, in the 40 years since the nation started producing modern economic statistics. It has never experienced a year of economic decline. Tariffs imposed by the U.S. on imports from China aren’t going to brake China’s economy.
At the same time, the U.S. economy is growing fast, with no hard evidence of imminent reversal or inflation. Tariffs raise import prices only once; after an initial shock, tariffs stop pushing up import prices. Thus, they quickly stop dragging on economic growth.
President Trump and China’s President Xi Jinping are scheduled to meet at a late-November summit. Let’s hope they can take steps toward containing trade-related damage and hammering out “deals” that each can sell at home.
By Carl B. Weinberg
Carl B. Weinberg is chief international economist at High Frequency Economics.