US President Donald Trump’s ‘phase one’ trade deal ^[1] with China has set unrealistically high targets for Chinese purchases of US goods and services that can only be met by savage reductions in its imports from everyone else, particularly Australia.

Although the heart of the US administration’s complaint about the Chinese economy is the role of the state in subsidising and directing economic activity, the terms of the trade deal could lead to a much stronger assertion of state direction over the trading practices of its firms.

Some aspects of the trade agreement could be achieved easily. China is already strengthening its intellectual property protections, opening its economy to greater foreign investment and providing greater scope for the market to dictate its exchange rate. The Financial Times economics writer Martin Wolf describes ^[2] these elements of the trade deal as ‘pushing on an open door’.

However, the requirement that China lift its purchases of US goods by US$200 billion over two years, relative to 2017 levels, bringing a corresponding reduction in the US trade deficit, looks unachievable.

The deal says that China will lift its purchases from the agricultural, manufacturing, energy and services sectors from the 2017 base of US$134 billion to US$211 billion this year and US$258 billion in 2021.

As analyst Chad Brown of the Peterson Institute for International Economics points out ^[3], the task is actually bigger than that. Because of the tariff war, US exports to China have dropped by US$20 billion since 2017. Meeting the target would require a doubling of US exports to China in the space of two years.

Brown comments that even during the halcyon years of the China boom from 2000 to 2007, when its annual economic growth rate topped 10%, US exports to China averaged growth of little more than 20% a year.

The deal specifies targets for each sector. For example, US farm exports are expected to rise from a 2017 level of US$21 billion to US$40 billion by 2021. However, because of the trade war, US farm exports have actually dropped to only US$10 billion, so the target implies a four-fold lift in just two years.

With a slowing Chinese economy, sales growth of this magnitude could only be achieved by taking market share from others. For example, China imported US$5.8 billion in wheat and other grains in 2017, of which 21% came from the United States, 25% from Australia, and a total of 39% from Vietnam, Thailand and Ukraine.

There has been no growth in China’s grain imports since 2015–16 (the country is 95% self-sufficient), so a doubling of imports from the US would likely see it taking a 40% share of the market, with the growth coming from existing suppliers.

The story is the same for meat (the US had 13% of Chinese imports in 2017 compared with Australia’s 11%*) and cotton (the US had 43% and Australia 22%); in both cases, Australia’s share would be squeezed.

The trade deal includes two pages of detailed guidance for how China must open its infant formula market to US producers—a field in which Australia has been the dominant supplier.

The largest losses for Australia would come from energy markets if the US deal were to be fulfilled. It dictates a rise in Chinese imports of US energy products from US$6.8 billion in 2017 to US$18.5 billion this year and US$33.9 billion in 2021. That five-fold increase would have to be delivered through LNG and oil sales.

Australia accounts for 42% of China’s LNG imports, followed by Qatar with 23% and Malaysia and Indonesia with a combined 18%. The US accounted for just 4% of China’s LNG imports in 2017. Commonwealth Bank commodities analyst Vivek Dhar says that while much of Australia’s export volume is on long-term contracts, about 10% of sales are on short-term contracts and could be switched to the US.

Achieving the increases spelled out in the agreement assumes the Chinese authorities have the ability to dictate where firms direct their business. The reality is that even Chinese state-owned enterprises are loath to follow Beijing’s dictates, and the central government has negligible influence over private-sector purchasing.

China’s biggest snackfood manufacturer, Shanghai Laiyifen, was quoted in the Financial Times saying that it was easier to import from Australia and New Zealand ^[4], where business is underwritten by a free trade agreement. Companies that used to buy from the US have redirected their business because of the uncertainty over tariffs of the last few years and will be reluctant to make the switch back.

Under the trade deal, average tariffs on each other’s goods will remain at around 20% on both sides. The US has said China will use temporary ‘tariff exclusions’ to achieve its purchasing targets.

China’s economy is much more market driven than the trade deal seems to assume. World Bank analysis ^[5] shows the state-owned companies only account for about 25% of China’s economy while private enterprises account for more than 60%.

Critics of the deal say it represents a shift away from the free market principles that underpin the World Trade Organization towards ‘managed trade’ in which the strongest nations dictate outcomes to their benefit. Certainly, it is a one-sided deal, with nearly all the obligations resting on the Chinese side. The current US administration has little time for the multilateralism that drove US foreign and trade policy throughout the seven decades following World War II.

However, the unrealistic targets in the deal suggest that it is better understood through the lens of political strategy than trade policy. It marks a ceasefire while the US gears up for an election. It doesn’t bring an end to the economic conflict between the two superpowers which can be expected to resume once the votes are counted in November, almost regardless of who wins.

 

* The director of trade consultancy ITS Global, Jon Berry, says these estimates from the PIEE exaggerate US beef sales to China in 2017, noting the US was banned from exporting beef to China until the middle of that year. The US Meat Export Federation reported sales of only US$31 million ^[6] in 2017. [Note added at 1150 AEDT on 3 February 2019—Eds.]