The recently announced global steel and aluminum tariffs (with various exemptions) by the Trump administration were just a (Section 232) preview of the main event: Trump's imminent trade war with China, which as Credit Suisse previews, will be unveiled any moment in the form of tariffs and restrictions on trade with China, reportedly in retaliation for Chinese IP violations.
First, a reminder on the all-important Section 301:
What is Section 301? Section 301 of the 1974 Trade Act allows the President to, among other things, “impose duties or other import restrictions on the products of [a] foreign country,” if the President determines that that country is violating a trade agreement or “engages in discriminatory or other acts or policies which are unjustifiable or unreasonable and which burden or restrict United States commerce.“ The U.S. relied heavily on the provision during the Reagan era (an administration in which the current USTR Robert Lighthizer served as Deputy USTR) into the early 1990s, but it has been used infrequently since the World Trade Organization was formed in 1995 and provided a forum for dispute resolution.
How will Section 301 figure in the upcoming US-Chinese trade war, and what are the key points:
- Last August, President Trump instructed his U.S. Trade Representative Robert Lighthizer to initiate a Section 301 investigation into China’s forced technology transfer policies.
- While the results of the 301 investigation are not due until August 2018, the President appears poised to act on the issue in the coming weeks.
The President is reported to be seriously considering a package of tariffs on Chinese imports (targeting between $30BN and $60BN worth).
- Reports have stated that Administration officials have used China’s manufacturing roadmap, “Made in China 2025,” in deciding what goods to impose tariffs on. This will likely further concern Chinese leaders.
- In addition, the Administration has discussed rescinding licenses for Chinese businesses and employing other such methods to restrict Chinese investment in the United States. The President’s recent decision to block a Singaporean company’s bid to takeover a U.S. company underscores his aversion to Chinese direct investment (the company had Chinese affiliations).
As part of the 301 action, the Administration has also reportedly discussed visa restrictions and a mandate that U.S. stock exchanges limit who can list in a U.S. market. It remains unclear whether the restrictions will go this far, but the President has, to date, been hawkish in his trade policy and there seem to be fewer and fewer moderating voices in the White House.
The 301 investigation and potential actions resulting from it seem to complement congressional efforts to restrict Chinese investment through legislation broadening the jurisdiction of the Committee on Foreign Investment in the United States (CFIUS). We believe this legislation is on track to be signed into law in Q3 2018.
What to expect? here are some high-level thoughts from Credit Suisse:
- The Chinese will likely respond in kind, beginning a succession of tit-for-tat trade policies between the two countries.
- The United States has the option to take a multilateral approach and work with allied nations to initiate their own WTO dispute regarding Chinese technology transfer policies. However, at this point, the U.S. appears more likely to instead take unilateral retaliatory action without WTO authorization, which may run afoul of the U.S.’s WTO obligations.
- If the U.S. acts unilaterally (as it appears it will), China will likely bring a challenge before the World Trade Organization (WTO).
- The President appears committed to maintaining his “tough on China” stance. Even after losing top advisor Gary Cohn after the imposition of steel and aluminum tariffs, the President appears steadfast in his campaign against China’s trade practices and Chinese investment in the U.S, and we expect continued restrictive trade policies with respect to China.
- The President’s actions may not receive the congressional backlash that his steel and aluminum tariffs did. Many U.S. corporations are frustrated with China’s policy requiring foreign companies to turn over source code and other proprietary technology in exchange for access to the Chinese market. However, if the President takes this as far as he currently seems to be planning to, punitive measures by China coupled with the chilling of foreign investment could be a major concern for U.S. corporations.
In terms of specifics, the US trade deficit last year hit an all time high of $375BN.
The Trump administration is planning imposing tariffs on up to $60bn of Chinese goods, or roughly 13% of goods import from China ($505BN), and 2.75% of total US goods import according to Danske Bank; the tariffs will target tech products, telecoms & clothing.
A snapshot of the key aspect of the US-China trade relationship:
- the US exports soybeans, pharmaceuticals, vehicles and aircraft.
- the US imports textiles,clothing, manufactures of metals,electronics and toys.
How to trade it?
As noted last week, when discussing which industries and companies would be impacted, we said that there are some obvious sectors such as industrials (cars, planes), agriculture, and technology. Below, courtesy of Strategas, is a list of US companies which derive the largest percentage of their total revenue from China. As trade war looms, it would be prudent for investors to start thinking about potential risks to the companies they own if they have sufficient business in China.