We Just Lost the Trade War with China

With all the carefully-hedged language around Trump’s Phase 1 deal with China, it’s not surprising people are unclear about what it means.  Even in this blog we haven’t been explicit enough.  It’s time to remedy that.  There is no ambiguity about what happened.  We just lost the trade war with China.

We start with the agreement itself.   There are two parts:

  1.  The $200 B plan to buy US products is the more publicized but murkier part.  The purchases are spread over two years and are allowed only in specific, politically-advantageous sectors.  Since there is no notion of market reform, it is unclear who is doing the buying, or how the sector targets can work.  What’s more, given the arbitrary level of the targets and the fact that either party to the agreement can just opt out, there is little actual skin in the game.  In fact, as has been noted, it gives the Chinese new leverage over the US in that they can threaten to terminate the now-vaunted purchases any time they want.  Nothing will be known about real progress until after the election. Overall the $200B figure is highly inflated at best; at worst this is an electoral stunt for Trump voters in the designated sectors.
  2. The rest is a collection of statements of principle with no language for enforcement. Whether the Chinese will or won’t comply will be on their terms not ours.  This is entirely parallel to what we got on denuclearization from the North Koreans.  There is no substantive progress on any of the issues targeted by the trade war.

These conclusions have appeared in the press, but they tend to get drowned out in the general relief that accompanies a truce.  So it’s easy to think something important has happened.  In fact Trump needed a deal for the election, so he declared victory—by dialing down his own hostilities.  And the Chinese were happy to punt all substantive trade questions at least a year or two down the road (more on that in a minute).  That’s all that has happened with Phase 1.

But the main scam is the term “Phase 1” itself.

“Phase 1” implies we’re in a continuing process to get to our objectives in the trade wars.   That is out-and-out false.  We took a shot at winning a trade war, and we didn’t win it.  Our leverage is diminishing with each passing day.

The premise of the trade war, as Trump himself said, was that we had the power to destroy the Chinese economy, so we could dictate the terms of the peace.  That’s why the trade war was going to be “easy”.  In fact we represented 18% of Chinese exports, and exports represented 20% of Chinese GDP (see chart below).  We don’t own them.  This is just one more example of the danger in our blind belief in overwhelming US power.  It didn’t work.

What’s more both of those percentage numbers are going the wrong way.  Chinese exports are recovering overall since the hit at the start of our tariffs—but with the US now a smaller part.

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Further the Chinese have been working systematically to increase domestic consumption and thereby reduce the dependence on exports.  Here is the picture (2019 figures are down further but not finalized yet):

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The Phase 1 deal demonstrates that we don’t have the leverage to win today.  For the future we’ve just seen the decreasing financial leverage.  To that gets added the decreased dependence on US technology, fueled in part by the threats to deny it. (It’s hard to imagine anything less productive than making them mistrust our operating systems.)  The trade war has ended constraints on what it takes to fight back.  Chinese hardliners have taken control of the relationship, and the uptick in intellectual property theft is one result.  Despite the rhetoric, prospects will not be better next year.  There’s no Phase 2 triumph coming for this trade war.

 

When you start a war there are consequences, even if you quit.  Your opponent is going to continue to treat you as an enemy unless something pretty dramatic changes.  The Chinese have made it clear that they want to be as insulated from the US as possible. Since they are rapidly becoming both the world’s largest market and the world’s largest proving ground for new ideas, that’s not a great situation.  There are other possible consequences as well:  a new cold war, lower world economic growth, an uncontrolled and expensive arms race, no leverage on Chinese behavior, even increased chance of war.

The rejoinder to all this is of course “We have to do it.  We have to get tough.  We can’t just cave in as in the past.”  On that subject the press has done us all a great disservice.  There are several points:

  1. We didn’t get tough, we got weak. We abandoned our allies to get ourselves an exclusive deal. We lost half our leverage, and suffered the consequences.  That’s what happens when you just assume overwhelming power.
  2. We didn’t cave in before, we got results instead of pain and bluster. Under Obama both the balance of payments deficit and intellectual property theft were reduced significantly—instead of the opposite. We also made important progress (some since reversed) with climate change.  The job wasn’t finished, but for all the chest-beating, we’ve gone backward since.   It should also be noted that essentially 100% of the job loss from Chinese competition occurred under George Bush or as a direct result of his 2008 crash.   Nothing prevented action on currency manipulation other than the distraction of our then-current war.

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  1. The rise of China is not something in our power to stop. They’re not just cheating; they’re doing a number of things right, some of which we’ve forgotten how to do. It is counterproductive to think we can make it all go away.  You can’t win just by being a bully; you have to play the game.
  2. Finally, we had every opportunity to make real progress with the Chinese. They expected to renegotiate China’s status as a developing country for the WTO, and they certainly expected to face a unified front in the West. There is actually a common interest in intellectual property—especially when it’s not used as a weapon against them.  It’s also worth noting that government subsidies to private companies aren’t so black and white here either.  There was an agreement to be had for labor, environment, and world-wide prosperity.  We lost it by going gung-ho for our very own holy war.

There may still be opportunities for full leverage and common interest, but considerable damage has already been done.

The result of the trade war can be summarized in very few words:  we botched it, got nothing, and hurt ourselves badly in the process.

Regulation

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“Boeing 737-8 MAX at BFI (N8702L)” by wilco737 is licensed under CC BY-NC-SA 2.0

I was struck by an article in today’s NY Times about a new scandal around the Boeing 737 MAX.  Apparently there was another Boeing 737 crash in 2009 where similar issues (for an earlier 737 version) were hushed up under US pressure.

The scandal was shocking enough, but what provoked this piece was the discussion of cultural issues at Boeing—specifically the attitude toward the FAA.   There were many quotes from emails talking about regulators as barriers to be overcome by any means necessary.  If you believe the project manager emails, there was no recognition of any legitimate concern at all.

That’s horrifying.  It’s a serious problem with Boeing’s culture. However, it’s important to recognize that the situation is not unique.  The relationship of a regulator with the regulated company is always adversarial and difficult.  The issue goes beyond Boeing.

I worked for some years for telephone companies, at Bell Labs and later at GTE.  We were a regulated utility.  The role of the regulator was less critical—what was at stake was service quality and cost—but they did have a significant influence on what happened.  We didn’t regard them as hostile exactly, but overall the culture was that we provided good service more despite them than because of them.  From the inside that’s what happens.  Even at a working level, you see your side of the picture.  And phone companies are anything but angels.

That’s precisely why regulation is important.  You can’t let the regulated companies tell you in all sincerity that the regulators are idiots and the process is nuts.  They always will.

At the EPA and elsewhere we’ve now decided that the only people worth listening to are the regulated.  We’re all passengers on a 737 MAX.

Trump the Firebug in China Phase 1

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A year and a half ago I had a piece about Trump’s firebug behavior, where he whips up a crisis which he then resolves by dialing down what he did himself.   Such behavior is not only deceptive, but frequently also damaging—stopping the fire doesn’t necessary bring everything back to zero.  North Korea was the prime example in that earlier piece.  In that case, even after we turned down the fire we had legitimized the regime, encouraged nuclear proliferation, and basically stopped caring about the dangers they represent.  It remains shockingly easy to get the press to fall for these firebug scenarios.

At the time I worried that the same was going to happen with China:  “there should be no problem getting the kind of PR-oriented agreement we got from Kim.  Market access can be as murky as denuclearization.”

It took longer than I expected (he didn’t do it for the midterms, he did it for the presidential election), but that’s what we’ve got.  The Phase 1 Agreement dials down Trump’s own trade war with a declaration of victory that lets everyone celebrate the peace.  In exchange for Trump’s toning down the trade war, the agreement combines one-shot questionable purchases with a number unenforced statements of principle (think denuclearization).  There is no substantive progress on any of the issues that started the trade war.  And for subsequent phases, as noted before, our leverage is diminishing every day.

We’ve been sold another firebug triumph—and in this case the damage is serious.  The trade war delivered nothing and fractured the world in the process.  This is a failure of policy with real consequences.  It is horrifying that the press coverage can’t get beyond speculation about what might be good or bad in the vacuous agreement itself.  China is too important for this.  The issue is not the fire-ending nonsense; it is the damage done.

On that subject I summarized my feelings this morning in a comment to David Leonhardt’s article in today’s NY Times: “What Americans Don’t Understand About China’s Power”:

This is a good piece, but it understates the problems with our China policy.

We have issues with China, but a unilateral trade war is not going to resolve any of them. Our recent phase one agreement is a case in point—like our agreement with the North Koreans it does little more than tone down the belligerence we created:  questionable one-shot purchases and unenforceable statements of principle.

The trade war itself, however, has lasting consequences. Trump’s threats to destroy the Chinese economy legitimized Chinese hardliners’ position that the West was still colonialist and not to be trusted. Complete independence and self sufficiency were imperative.  Intellectual property theft went way up.

Our current Chinese policy is nothing more than unproductive grandstanding.  It is not “finally getting tough with the cheats”. Obama actually reduced intellectual property theft and the balance of payments deficit, rather than the opposite. Same for Chinese behavior on climate change.

If we actually want to make progress, it needs to be together with our allies (to double leverage) and in the context of international rules of fair trade—rather than what we think we can shove down their throats to maintain our dominance.  [Rules of trade have more credibility when we’re willing to apply them to ourselves!]

The trade war does not resolve issues, does lead to a fracturing of the world (with reduced security, prosperity, and US influence), and—as Leonhardt says—distracts us from the things we really need to do.

Irrelevance

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“P1040738” by frederique.baggio is licensed under CC BY-NC-SA 2.0

I find I can’t watch British TV series anymore without a post-Brexit shudder.

Those programs are no longer studies in quirkiness from a historically-great country that is almost us.  That country is gone.   It can’t even keep its own pieces together.  The solid core of the country has evaporated.  All that’s left are the quirks, and many of those are rather sordid.

Britain is a land possessed by dreams of lost empire, unwilling to accept either the now-visible reality of that imperial past or the self-evident fact that it is gone.  Ready to slap the face of anyone who reminds them of either.  What could be more preposterous?

We’re in the running.

We had our own years of empire.  By virtue of geography we were the last country left standing at the end of World War II, so we put together the world afterward.  And we ran it.  And we got comfortable with the idea that was the only way the world could be.  God chose the United States of America to rule the world.  The Brits had the same idea.

Those were the good old days.  Not only did America rule the world, but American products reigned supreme.  And notions of common effort left from the war drove broad-based prosperity through measures like the GI Bill.

Things aren’t quite the same anymore.  The rest of the world grew up.  We can’t just order everyone else around, and our products don’t automatically win everywhere.  And we seem to have forgotten those notions of common effort, with sad consequences for the spread of wealth in the population.

Unfortunately, like Britain, we haven’t forgotten empire.  That’s what we have to get back.  Rule the world.  Same population.  Blacks under control.  Winning everything.  Pot of gold for everyone.  God said so.

We have even more to lose than the Brits.

The United States is a prosperous country, in many respects the richest in the world.  We’ve messed up our social contract, but that’s ours to fix.  In the same way, there are no insurmountable problems in making worldwide growth good for everyone.  Even climate change, a monumental problem, has the technological basis for a solution.

We stand ready to sacrifice all of that to a fantasy of empire as vaporous as the British one.  It’s scary as hell that we seem ready to repeat history.  Their Brexit vote presaged Trump—what does the Boris Johnson vote say now?

Symbolism to the contrary, we have a better chance.  In Britain the vagaries of their electoral system prevented a legitimate revote on Brexit.  Regardless of who gets the Democratic nomination, we will get a chance a to vote on the future of the country and the planet.  History doesn’t repeat, people do.

But history will certainly judge.

Random Thoughts to Start the Year

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“Happy New Year” by nigelhowe is licensed under CC BY-NC 2.0

The True History of Trickle Down

As many have pointed out, it’s hard to understand how trickle-down economics continues to persist in the absence of any demonstrable success.  Money is of course an answer, but actually there’s a genealogy to it.

I recently came across a book that helped make the point.  It wasn’t an economics book, it was a novel—The Wooden Shepherdess by Richard Hughes.   Hughes was a comfortably upper-class Oxford graduate who spent much of his life in his castle in Wales.   The Wooden Shepherdess is a fictionalized account of the Prohibition era in the US and of England and Germany as Nazism was growing in the thirties.  Interesting times.

What’s most striking about the book, though, is its attitude toward class.  The author is perfectly clear about the grotesque inequality of the time and even sympathetic to the poor.  But he has an out:  that’s just the way it has to be.  It’s either this or chaos, so you’ve got to have this.  The speaking voice has no crisis of conscience, no concern about moral issues, no need to think much about it at all.  It just has to be.

At first that attitude seems strange—until you realize that trickle-down is only a repackaging of the same thing.  Sure there’s inequality, sure it’s growing, sure the minimum wage is ridiculous, sure 44% of the work force is in low-wage, dead-end jobs.  It all doesn’t matter. We need the Gods at the top, or it all collapses. It just has to be.

I once wrote a piece called “Sacrifices to the Gods of Jobs”.  There’s something in humans that wants to solve all problems by placating the heavenly or earthly powers that be.  That’s why it’s so tough to fight trickle-down.  And those Gods will ride it for all they can get.

 

Policy Issues for Iran Apply Also to China

Paul Krugman had a well-expressed comment about how we as a country often misunderstand the effects of foreign policy.  As he put it, we frequently don’t want to acknowledge that “we’re not the only country whose citizens would rather pay a heavy price, in money and even in blood, than make what they see as humiliating concessions.”  His piece was largely about Iran, but the blindness is even greater for China.

After Trump declared he was going to destroy their economy and there was nothing they could do about it, their behavior got worse. It was not surprising that hard liners advocating complete self-sufficiency were proven right, and that intellectual property theft became a national imperative.  It’s precisely the blindness Krugman mentions to expect anything else.

Nonetheless, both the left-wing and the right-wing have signed onto the economic war with fervor.  The press doesn’t dare talk about anything else.  A weird aspect of it is that we seem to believe we’re defending the Chinese population against the totalitarian government—whereas the population has in fact reacted as Krugman described.  That’s one reason we’ve lost essentially all leverage on Hong Kong and the Uighurs.

We are correct in defending our interests with China, but the point here is that an economic war is a poor way to do it.  In actual results (IP theft and trade imbalance) we’re doing much worse than before Trump. What’s more, both countries need to be able to work together on areas of common interest—such as climate change, where things have gone badly backwards.  Our economic crusade is about as useful as the Medieval ones.

This isn’t a question of being nice.  It’s just sense.

 

Squandering the Future

Now that Iraqis have decided they’ve had enough of the American presence, it’s a good time to look at the legacy of the Iraq war and other ways we’ve squandered our national wealth.  We’re not the first country to impoverish ourselves through war and other profligacy, but—by the silence of the press—we seem to be among the most thoroughly unaware.

In Iraq we fought a $3T war whose primary beneficiary was Iran.  The war was financed off-budget, without any real supervision of financial consequences.  Looking at the current state of the Middle East, it’s hard to see any US benefit but easy to find costs in bad will.  For the Iraqis it was an ongoing disaster from which they are still trying to recover.  For Iran it solidified, even institutionalized, their influence in Iraq.

Because of that war we ran huge deficits in good times.   That, combined with the later Republican “balanced budget” hypocrisy, has left the country in a persistent state of public-sector poverty.  Education and infrastructure funding are inadequate at all levels, and we just can’t come up with the money to fix it.  Nonetheless, after delivering both the war and the 2008 crash, George W. Bush has been rehabilitated to the point of canonization, and the Republican party has succeeded in removing all trace of his failures from public memory.

That’s convenient, because they went and did it again.  Trump’s tax cuts were a $1.5T ongoing present to businesses, who have chosen not to invest it in our future.  Instead they effectively passed it through to their rich investors via stock buybacks.  No investment in the businesses, and no money available for public infrastructure of any kind.  The money is gone.  And, as far as press coverage is concerned, without a trace.

That’s $4.5T in lost opportunities. It has consequences we see every day.  The American Society of Civil Engineers keeps a web site with a breakdown of national infrastructure requirements.   We currently rate a D+.  We’ve got parents desperate to get their kids in top private colleges, because we won’t support enough first-class public institutions.  And that’s not even talking about what’s necessary to combat climate change—which of course can’t be mentioned.

We don’t actually have a great economy.   We’re living on credit off the achievements of the past—with more than a little help from the hated immigrants.   We can talk about the evil Chinese all we want, but if we fall behind in that contest, it will be because we refuse to invest in the country and continue to give away the store.