Published daily by the Lowy Institute

Will geopolitics trump trade?

Ships and chips and an adversarial strategy exacerbate the likelihood of a Sino-American trade war.

Trucks haul shipping containers at the Port of Los Angeles, California (Photo: Mario Tama via Getty)
Trucks haul shipping containers at the Port of Los Angeles, California (Photo: Mario Tama via Getty)

Geopolitics may be rapidly moving to the forefront in deciding how the US-China trade war will play out. If so, the odds of a rapprochement are dwindling fast.

The trade conflict has always been about many things, clouding how different analysts understood it. Initially, it seemed best understood as part of the populist backlash against globalisation. According to Donald Trump, China was “raping” the American economy and stealing its manufacturing jobs. On the campaign trail, he promised to impose 45% tariffs on all Chinese imports. Protectionism was the name of the game.

Once in office, however, the agenda morphed to paradoxically reflect the concerns of America’s policy and business establishment (the very globalists seen by populists as complicit in offshoring US jobs). The chief complaints against China came to focus on its investment restrictions, abuse of intellectual property rights, industrial policies, and nationalist technology ambitions. Such “unfair” practices undermined US commercial interests and, it was argued, America’s national interest as well.

This created an internal inconsistency, clouding how the trade conflict might play out. If Trump “won” the trade war by forcing China to open up its economy, it would only increase trade and investment between the two countries. If anything, this would reinforce the offshoring of manufacturing jobs even if it boosted US profits and created jobs elsewhere, such as in services. The US-China trade deficit (a key complaint of Trump’s) may not necessarily even go down, particularly as the overall US trade deficit is set to widen anyway.

Trump’s ability to sell nearly anything to his political base, however, provided the key path to a deal. Take the revisions to both the US-Korea Free Trade Agreement and the North American Free Trade Agreement. The US forced through a few protectionist changes to each but largely left both agreements intact. The changes won’t do much for US prosperity or shift its distribution towards the working class. But Trump can claim the wins and everyone else can largely move on.

A rapidly deteriorating geopolitical narrative in the US might stand in the way.

The situation with China was always more complicated. Still, one can envision a deal where China liberalises its economy in some important ways and perhaps forcibly buys more US goods to help reduce its trade surplus with America. China has previously offered to do this to no avail. But perhaps more favourable timing (e.g. after the US mid-term elections) and/or a more substantial offer would do the trick.

Getting allies such as Europe and Japan to help pressure China has also been seen as key to achieving a meaningful deal. And very slowly, the Trump administration has been coming around to this as it dials down (though doesn’t necessarily drop) its various trade grievances with key allies.

This is the basic scenario for an eventual solution to the trade war. Yet, this view sets aside how a rapidly deteriorating geopolitical narrative in the US might stand in the way.

Signs of this have now mounted significantly. In a bluntly worded speech last week, US Vice President Mike Pence articulated what can only be seen as a clear reset of US policy towards China, essentially moving towards an overtly adversarial strategy. A similar message was also conveyed directly at a Chinese embassy event by a top US national security official.

The week also saw two unsettling developments, including a dangerously close encounter in the South China Sea and a Bloomberg report that the Chinese military had installed hidden microchips in hardware destined for major US tech companies, whose clients include the US government. The first provided a vivid example of how China is now challenging US power. The second brought into the public domain deep anxieties about the national security vulnerabilities created by today’s complex global supply chains and China’s central role within them, reinforcing a Pentagon report making similar warnings.

Pence’s remarks left the door open to a trade deal, saying: “we continue to demand an economic relationship with China that is free and fair and reciprocal”. This suggests that the Trump administration’s goals in this domain might still be on the core issues of concern to US commercial interests.

But another deep policy inconsistency has now emerged, this time with the rest of the national security agenda as it is now being articulated.

Chinese liberalisation would only enmesh the two economies further together – reinforcing vulnerabilities in US supply chains and creating broader opportunities for China to use economic leverage with US business interests in its political influencing activities, which the Trump administration has also identified as a major concern. It would also ultimately aid China’s economic and technological rise, without necessarily spurring the kind of political liberalisation many in the US seem to need in order to be comfortable with this. For them, economic “decoupling” is the objective not a mutually prosperous economic relationship. 

Thus, when it comes to the US-China trade war, there is an increasing alignment between the populists and the national security establishment. Free traders and businesses appear to be the odd ones out.

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