Both US and China losers in ongoing trade war, says study

A recent UNCTAD paper on the US-China trade war has made a preliminary assessment that both sides have sustained losses. However, a number of countries, notably Taiwan, Mexico and the European Union, have profitted from the resulting trade diversion effects.

Kanaga Raja

TARIFFS being imposed by the United States on China are economically hurting both countries, with US losses largely related to higher prices for its consumers, while China’s losses are related to significant export losses, a new study by the United Nations  Conference on Trade and Development (UNCTAD) says.

According to the study, ‘Trade and trade diversion effects of United States tariffs on China’, US tariffs on China have resulted in a decline in imports of tariffed products by about 25% in the first half of 2019.

While substantial, this figure also shows the competitiveness of Chinese firms, which, despite the substantial tariffs, were still able to maintain 75% of their exports to the United States.

The paper quantified the trade diversion effects for the first half of 2019 to be about $21 billion, saying that these have brought substantial benefits to Taiwan Province of China, Mexico, the European Union and Vietnam.

The paper found that the hardest-hit sectors have been office machinery and communication equipment, with a total reduction of US imports from China in the order of about $15 billion for the first half of 2019. Trade diversion effects in these sectors have been below average possibly because of lack of supply capacity outside China, said the paper.

‘The results of the study serve as a global warning. A lose-lose trade war is not only harming the main contenders, it also compromises the stability of the global economy and future growth,’ said Pamela Coke Hamilton, Director of the UNCTAD Division on International Trade and Commodities. ‘We hope a potential trade agreement between the US and China can de-escalate trade tensions,’ she added.

At a media briefing on 5 November, Alessandro Nicita, an economist at the UNCTAD Division on International Trade and Commodities and lead author of the paper, said the aim of the study was to provide some insights vis-a-vis three questions: (i) what sector has been hit the most in the trade war in relation to the US tariffs imposed on China; (ii) who is paying for these tariffs; and (iii) who has benefited from the trade diversion.

Asked whether US President Donald Trump has succeeded in bringing jobs back to the US, which was his goal in initiating the trade war with China, Nicita said he did not think so, mainly due to the trade diversion effects. ‘So if you really want to bring back manufacturing jobs, bilateral tariffs [are] not really a good or the best instrument’ because other countries will replace China, he said.

According to the UNCTAD paper, economists generally agree that increases in bilateral trade costs, such as those resulting from the ongoing trade war between the United States and China, will result in lower trade, higher prices for consumers, and trade diversion effects.

By using recent import data from the US Census Bureau, the paper found empirical evidence for these arguments.

Adopting a simple identification strategy which relies on measuring differences in outcomes between goods that have been subject to additional tariffs versus goods that have not, and controlling for detailed sectoral specific effects, the paper found substantial evidence that US tariffs have resulted in a strong decline in US imports from China.

It also found that such a decline was partly replaced by a surge in US imports from elsewhere.

The analysis found implicit evidence that the cost of the tariffs has been generally passed down to US consumers. However, it also found some indication that Chinese firms may have only recently started to react to the tariffs by reducing their export prices, thus absorbing part of the cost of the tariffs (about 8 percentage points).

However, the limited evidence found in this study would need to be substantiated by further data once it becomes available, said the paper.

Though the paper does not examine the impact of the most recent phase of the trade war, it warned that the escalation in the summer of 2019 is likely to have added to the existing losses.

The analysis in the paper also did not consider the impact of Chinese tariffs on US imports, but the qualitative results are most likely to be analogous: higher prices for Chinese consumers and losses for US exporters.

Background to trade war

According to the paper, over the course of 2018, the US administration started implementing a series of trade measures aimed at curtailing imports, first targeting specific products (steel, aluminium, solar panels and washing machines) and then specifically targeting imports from China.

The first phase of the US-China trade confrontation occurred in the early summer of 2018 when the US and China raised tariffs on about $50 billion of each other’s goods.

The impossibility of finding common ground to resolve the issues of trade balances and intellectual property rights resulted in the further deterioration of the US-China trade relationship. The US administration introduced additional tariffs in September 2018 to cover $200 billion of Chinese imports, to which China retaliated by imposing tariffs on imports from the US worth an additional $60 billion.

While these tariffs were initially due to rise from 10% to 25% in January 2019, in early December 2018 the parties agreed to hold off any retaliatory actions until March 2019. This truce held until June 2019 when the US went ahead with the planned increase in tariffs from 10% to 25%, to which China responded by raising the tariffs on a subset of the products which were already subject to tariffs.

The retaliation further escalated in September 2019 when the US imposed 15% tariffs on a large subset of the remaining $300 billion of imports from China not yet subject to tariffs. Further escalation is expected to take place in December 2019.

Impact of US tariffs on China

The UNCTAD paper analysed the impact of the two initial phases of the trade war. Phase one covered the products for which US tariffs were initially raised in July 2018. Phase two covered the products for which US tariffs were initially raised at the end of September 2018.

Phase one involved about $60 billion worth of imports from China, comprising about 1,100 HS 8-digit codes. Phase two covered about $200 billion worth of imports from China, comprising about 6,000 HS 8-digit codes.

The US tariff schedule comprises close to 11,000 HS8 tariff codes; thus phases one and two collectively covered about two-thirds of US HS8 lines.

The UNCTAD analysis makes use of data from the first quarter of 2017 to the second quarter of 2019. The paper noted that in 2018, the US imported from China about $550 billion worth of goods, $255 billion of which was in the first half of 2018. By comparison, the value of US imports from China in the first half of 2019 was less than $230 billion, corresponding to a decline of about 10%.

Chinese exports to the US started to decline soon after the imposition of tariffs, especially for those products covered under phase one. For the products covered under phase two, the effects started to be evident from the first quarter of 2019.

By comparison, imports of goods not subject to tariffs have been relatively more stable and increased during the second quarter of 2019. According to the paper, one possible reason for such an increase is US importers stockpiling due to the possibility of additional tariffs on the remaining products (which indeed happened in September 2019). Another possible explanation is that Chinese exporters were trying to maintain profit margins by increasing exports of non-tariffed goods. Another possibility relates to mis-invoicing products to avoid the tariffs.

According to the paper, office machinery has been the hardest-hit sector in the trade war. In this category, the imports of products subject to additional tariffs dropped by 65%. For other sectors, such as agri-food, communication equipment, and precision instruments, trade in the tariffed goods fell by more than 30%.

The paper found that one consequence of the US bilateral tariffs on China has been to increase US imports from elsewhere. The overall trade diversion effects observed in data for the first half of 2019 amount to about $21 billion.

To put this figure in context, one needs to consider that the observed US imports from China in goods under the list of products of phases one and two accounted for about $130 billion in the first half of 2018, but only about $95 billion in the first half of 2019, resulting in a decline in US imports from China of $35 billion (or about 25%), said the paper.

Therefore, of the $35 billion import loss, $21 billion (or about 63%) has been replaced by imports originating from other countries, while the remainder of $14 billion was lost due to lower demand in the US and/or not enough capacity from the rest of the world.

The paper also noted that despite the tariffs, China has been able to preserve almost 75% of its trade in the products affected by the tariffs.

Taiwan Province of China was the largest beneficiary of the trade diversion effects of the US tariffs on China, accounting for additional exports to the US of almost $4.2 billion in the first half of 2019. These were largely related to an increase in exports of office machinery and communication equipment.

Mexico’s increase in exports to the US due to the tariffs on China was quantified at about $3.5 billion, mostly in the agri-food, transport equipment and electrical machinery sectors.

The European Union benefited by trade diversion effects of about $2.7 billion, largely due to increases in exports in the machineries sectors.

Vietnam’s benefits accounted for about $2.6 billion and were mostly concentrated in communication equipment and furniture.

Trade diversion effects in favour of the Republic of Korea, Canada and India were smaller but still substantial (between $0.9 and $1.5 billion).

The remainder of the trade diversion effects was largely to the advantage of other South-East Asian countries ($1.7 billion). The rest of Latin America, Sub-Saharan Africa and the rest of the world were only marginally able to benefit from trade diversion effects.

The paper underlined that office machinery has been the hardest-hit sector in the trade war, with US imports from China falling by almost $10 billion in the first half of 2019. Trade diversion effects for this sector are quantified at about $4.5 billion, most of which to the advantage of Taiwan Province of China.

This leaves about $5.5 billion of trade losses, said the paper. ‘Given the magnitude of the decline in United States imports from China, and the world market dominance of Chinese firms in this sector, the fact that other countries were not able to supply for the loss of imports from China is not a surprising outcome,’ it added.

Communication equipment and furniture are two other sectors where the increase in imports from other countries was not sufficient to replace the decline in US imports from China. In these two sectors, Vietnamese exporters benefited the most.

Trade diversion effects in the machinery sectors have been more diverse, with a substantial share of the increase in US imports coming not only from the East Asian region. For these sectors, Mexico and the European Union were the major beneficiaries of the trade diversion effects, as well as Japan, said the paper.

Kanaga Raja is Editor of the South-North Development Monitor (SUNS), which is published by the Third World Network. This article originally appeared in SUNS (No. 9014, 7 November 2019).

*Third World Resurgence No. 341/342, 2019, pp 11-13