Fra ABN Amro:

Trade frictions escalate as US announces 2nd round of import tariffs
 Stronger downside risks as the stakes are being raised
 … although we consider a 10% tariff ‘noise’ compared to usual fluctuations
 Bilateral trade balance does not capture all relevant US-China relations
 … implying that China has more ways to retaliate if it wanted to …
 … but it will be careful regarding sale of Treasures and sharp CNY depreciation
 With US decision on Section 301 import tariffs nearing, tensions might flare up
 We expect further, moderate CNY depreciation versus USD
 Beijing tweaks its cautious tightening approach to prevent ‘overtightening’’

Trade war escalates as US announces 2nd round of import tariffs (10% over USD 200bn)
In the course of this month, the trade frictions between China and the US have intensified and into a bilateral trade war. On 6 July, the US implemented ‘Section 301’,
China-specific import tariffs of 25% on a first tranche of USD 34bn of Chinese exports to the US, mainly high tech products.

It was announced that a second tranche of 25% tariffs over USD 16bn
would follow within a couple of weeks. China retaliated immediately, presenting 25% tariffs over an equivalent amount of imports from the US (mainly agricultural products and cars to target states with a large Trump electorate).

As the US already had indicated in case of Chinese retaliation to the first round, the US announced this week to impose 10% import tariffs on an additional USD 200 bn in Chinese goods, releasing a proposed list of thousands of products. This announcement will now be followed by public consultation ending on 30 August. Meanwhile, the US is also working on investment and export restrictions to restrict China’s access to US technology.

Stronger downside risks as the stakes are being raised …
Financial markets had just recovered from the first round of tariffs, but were impacted again when the second round was announced. Asian stock markets corrected, there was renewed pressure on the CNY and other Asian FX and commodity prices were hit as well.

These market reactions highlight the fact that downside risks are rising for the Chinese and other Asian economies, now that the trade war is escalating. The first round of in total USD 50bn was equivalent to ‘only’ 10% of Chinese exports to the US in 2017, only 2.3% of total Chinese exports and only 0.4% of Chinese GDP (see chart).

However, adding Chinese exports involved in a second round (totaling USD 250bn), we are talking about 49% of Chinese exports to the USD in 2017, 11.5% of total
Chinese exports and 2% of Chinese GDP. These numbers may even add up to more alarming levels should the US come with a third round of another 10% over USD 200 bn, in case of another Chinese retaliation.

… although we consider a 10% tariff to be ‘noise’ compared to usual fluctuations
While financial markets are shaken by the fact that the amounts involved are getting higher, the question remains how prohibitive import tariffs are in the sense that they would really disturb trade flows. To put it differently: how price elastic is US demand for Chinese goods and vice versa?

That is not so easy to quantify. What we can say is that 25% tariffs are more meaningful than 10% tariffs. In our view, 10% (the tariff that the US says it will impose on another USD 200bn of Chinese goods) is not prohibitive in our view. In fact, a 10% import tariff is what we call ‘noise’, taking into account the regular fluctuation of exchange rate and input costs as well as flexibility of both exporters and imports to adjust margins.

Bilateral trade balance does not capture all relevant relations between China and US
The US imports much more from China than vice versa. According to US data, the US imported USD 506 bn from China in 2017 while China imported USD 130 bn from the US.

In fact, the US bilateral trade deficit with China has only risen since Trump was inaugurated, from a twelvemonth rolling sum of USD 349 bn in January 2017 to USD 389 bn in May 2018. Let us not forget that the bilateral trade balance does not capture all relevant economic relations between the two countries and only reflects one item in the bilateral balance of payments.

PM: note that so far, the trade-weighted average import tariff is just above 2% for the US and around 4.5% of China. What a difference another USD 200 bn makes (does it?) US trade deficit vs China keeps rising, but what’s in a number?