US-China Trade: From 'Grand Bargain' towards trade war?

The US-China trade frictions escalated further over the weekend and we are unfortunately moving away from the ‘Grand Bargain' scenario towards the ‘trade war' scenario.
While there are no winners in a trade war, the US is focused on protecting US technology and sees the tariffs on Chinese tech products as a legitimate action. China clearly disagrees, which is why we believe we are heading into a tit-for-tat scenario, in which we believe the US will soon raise the amount subject to tariffs to USD150bn.
The Chinese retaliation pattern shows that China intends to follow Donald Trump with ‘equal scale and equal strength' on every move he takes against China.
Even if the amount subject to tariffs is raised to USD150bn, our rough calculations suggest it would not reduce global GDP by more than 0.2%. The calculations are very uncertain though and it is likely the effects would be front-loaded. This suggests downside risk to growth in the second half of 2018 and early 2019 but not a complete derailing of the global recovery.
Although not part of the US-China trade spat, Europe is looking fragile as growth has already slowed and the fiscal policy is less of a support compared with the US.

Tit-for-tat just started again

While we have been arguing for a ‘Grand Bargain' scenario since the US-China trade spat started, the recent development suggests we are moving more towards the ‘trade war' scenario. US President Donald Trump on Friday announced 25% tariffs on Chinese goods worth USD50bn within tech products and warned that the US would impose additional tariffs should China take retaliatory measures.

However, this did not stop China from saying immediately that it would retaliate with ‘equal scale and equal strength'. On Friday evening, China announced tariffs on US products of an equal amount and implemented them on the same date (6 July) as the US intends to implement tariffs on China. At the same time, China pulled back from the deal made with the US on 21 May, which, among other things, involved buying more US products worth USD70bn. The US products subject to tariffs in China will be mainly within agriculture, seafood and autos.

With the move China sends a clear signal that it will follow Trump one-to-one on whatever move he takes against China. Although China has a total of only USD130bn to put tariffs on (versus the USD500bn of Chinese imports into the US), China has other tools to use in the trade conflict. The strongest is probably a consumer boycott of US consumer goods but it can also use restrictions on investments in China by US companies as there are far more US companies in China than the other way around.

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