Trump’s China deal leaves the global economy as uncertain as ever

President Donald Trump’s trade truce with China may have temporarily cooled tensions between the world’s two largest economies. But the damage from Trump’s aggressive approach to trade policy will continue to weigh on the global economy.

The “agreement in principle” with China — which has yet to be finalised — would not roll back the hundreds of billions of dollars of tariffs that China and the US have placed on each others’ products. Trump is also escalating his trade fight on other fronts, including slapping higher tariffs on Turkey and preparing to tax $7.5 billion worth of wine, cheese, aircraft and other European goods Friday. His administration will decide next month whether to impose tariffs on cars imported from Europe and other countries.

On Wednesday, Trump dangled the possibility of additional tariffs on the European Union if the bloc is unwilling to reduce the trade imbalance between the United States and the EU.

“I could solve the problem instantly, but it would be too hard. It’d be too harsh. It would involve tariffs on European products coming into this country. And for right now we’re going to try and do it without that. But that would solve the problem instantly, because the United States is not being treated fairly,” Trump said during a news conference with the Italian president.

Trump has defended his unpredictable approach, saying it has created leverage and elicited trade concessions from China, Mexico, Japan and others. The administration has now signed limited deals with South Korea and Japan, and is awaiting congressional approval of a revised North American Free Trade Agreement.

But those gains have come at a cost. Trump’s tariffs have raised prices for businesses, uprooted global supply chains and created crippling uncertainty for companies, delaying investment and hiring. The pain has spread beyond the United States and China, exacerbating a global economic slowdown, particularly in Europe. Economists warn the damage is likely to outlast any interim trade deal with China.

On Wednesday, retail sales in the United States fell for the first time in seven months as consumers slowed spending, particularly on autos. US manufacturing is already in a recession and factories around the world are slowing production.

In new forecasts released Tuesday, the International Monetary Fund lowered its expectations for global growth in 2019 to 3%, the lowest rate since the financial crisis. The fund attributed much of the damage to rising trade barriers and trade uncertainty, which it blamed for reducing investment and demand for machinery and equipment.

“The major risk to the global economy is a further escalation in trade and geopolitical tensions,” said Gita Gopinath, director of the research department at the International Monetary Fund. “This can derail an already fragile recovery in emerging and developing economies and in the euro area.”

Earlier this month, the World Trade Organisation said that global trade in merchandise is expected to expand by only 1.2% during 2019, in what would be the weakest year since 2009, when the global economy was mired in recession.

David Malpass, president of the World Bank, said at a briefing Wednesday that the bank would likely lower its growth outlook below previous estimates of 2.6%. He declined to discuss trade negotiations between the United States and China specifically, but acknowledged that trade uncertainty remains a drag on the global economy along with the possibility of a “hard” Brexit resulting from Britain’s plan to leave the EU.

There could be reason for optimism in 2020, he said, “if there can be a reduction in uncertainty and more clarity on the outlook on trade, and that includes US-China trade, but that also includes the global trade environment itself.”

Not all of the negative economic effects are a result of the trade war. A credit slowdown in China and weakness in Europe are also weighing on trade and growth. But policymakers said Trump’s trade policies could help tip the global economy into recession.

The Federal Reserve has begun cutting interest rates to try and insulate the U.S. economy against the effects of Trump’s trade war. But officials have warned that their power is limited and that economic damage is likely to persist, particularly if uncertainty continues and tariffs remain in effect.

“The markets have had this idea that trade would be an issue but resolution was just around the corner. That is what I am pushing back on,” James Bullard, president of the Federal Reserve Bank of St. Louis, said in London this week. “We have opened Pandora’s box. Trade is very hard to resolve. They are very long and very involved — over a long period of time.”

Jerome Powell, the Federal Reserve chair, said last week that the central bank was monitoring weaker global growth and uncertainties arising from trade tensions as well as the effect of Brexit. Powell warned in September that economic damage could outlast any cooling of tensions, particularly if tariffs remain in place.

“I think if this, perhaps inadvertently, goes to a place where we have widespread tariffs that remain in place for a long time — a more protectionist world — that’s going to be bad for the United States’ economy and for American workers, and families, and also for other economies,” Powell said at a news conference following the Fed’s last meeting.

Trump and his advisers have attributed any slowdown in growth to troubles overseas and not the trade war. And the administration continues to insist that China is paying the cost of the tariffs, not US businesses or consumers. Trump has also argued that Beijing has offset some of the tariff pain by weakening its currency to make its goods cheaper overseas.

But a new paper by researchers at Harvard University, the University of Chicago and the Federal Reserve Bank of Boston suggests that businesses and consumers in the United States are feeling an impact from the trade fight and that the pain could escalate.

Examining the prices paid at the border, researchers found that almost all of the tariffs’ cost is being passed on from businesses in China to US importers. When it comes to the prices of these goods at US stores, however, they find the evidence is more mixed, suggesting retailers are absorbing at least some of the cost of the tariffs, at least temporarily, by reducing their profit margins, rather than passing the entire cost of the tariff on to their customers.

The study also examines the effect of the tariffs that China has put on US products in retaliation. It shows that US businesses have had less success passing on the costs of those tariffs to Chinese importers, likely because of the types of goods being sold.

While China can easily swap Brazilian soybeans for US ones, the types of specialised consumer goods that China sells into the United States, like laptops and smartphones, are harder to substitute.

Researchers concluded that additional costs could be passed on to US consumers in the months to come.

“It suggests the real possibility that what the country has experienced so far is really only the short-run response to these tariffs,” said Brent Neiman, an economist at the University of Chicago and one of the study’s authors.

Trump agreed to forego a tariff increase planned for Oct 15, when $250 billion worth of imports would have faced a 30% tax, up from 25%. But another round of tariffs is still on the table for December, in addition to the existing taxes on $360 billion worth of Chinese goods.

US officials said the December tariffs would likely be canceled if the agreement goes into effect as planned. But much of the deal still needs to be written and it will take several weeks of negotiation before a pact can be finalized.

While Trump has floated the idea of signing an agreement with his counterpart, Xi Jinping, at a summit of global leaders in mid-November, analysts said there are plenty of ways the fragile agreement could crumble, as happened in May.

The lack of a final deal, let alone a comprehensive agreement that ends the tariff war, is enough to stymie global growth for the foreseeable future, economists and other analysts said.

Julian Evans-Pritchard, an economist at Capital Economics, said this week that the latest deal between the United States and China would have little economic effect because it would only make a small dent in the trade imbalance between the two countries and because China’s currency would likely appreciate, offsetting the benefits of the canceled tariffs.

“The US is attempting to pluck low-hanging fruit first, rather than hold out for a more complete trade deal with China,” Evans-Pritchard wrote in a note to clients. “But reaching an agreement on the more contentious structural issues remains an uphill battle and it still seems more likely than not that trade tensions will escalate again before long.”

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