By Eoghan Sheehan
“Trade wars are good, and easy to win.”
This was US president Donald Trump’s opening salvo in his latest battle to combat growing US trade imbalances.
Progress so far hasn’t been as easy for President Mr Trump as he may have hoped, with global markets understandably focusing on the downside risks.
However, contrary to much of the reporting to date, there are signs that this episode could turn out to be a positive catalyst for both the US and China.
Trade war fears reached a crescendo recently as China pushed back against tariffs, deciding to match the US blow for blow on imports.
In hindsight, Mr President Trump’s tactless approach was always likely to fall flat. China, as the latest challenger to the US’s 70-year economic hegemony, was never likely to allow itself to be intimidated by President Trump
Indeed, in another show of strength, Chinese officials introduced a 179% duty on US sorghum, a grain grown predominantly in Kansas, a traditionally Republican state.
This tariff which, unlike previous measures, comes into effect almost immediately, suggests that China is willing to negotiate, but will not be pushed.
Taking a step back and focusing on what the US administration is really looking to achieve, increased access to Chinese markets for US corporations, respect for intellectual property and an agreement for a gradual appreciation of the Chinese currency, there seems to us reasonable grounds that a deal can still be done.
The genesis of this dispute, however, goes back to 1994, when a very different China represented only 2% of global GDP. In the ensuing years, China’s central bank pursued a policy of actively impeding appreciation by exchanging yuan for other global currencies, mainly dollars. By 2014, China had amassed foreign exchange reserves of a whopping $4tn (€3.25tn).
Mr President Trump does have a point when he says that China plays the “devaluation game”.
What his administration has missed is that China has actually been attempting to liberalise both its capital account and its currency. It fervently wants to convince markets that it is committed to a free-floating exchange rate regime, which would support its ultimate goal of the yuan becoming a global reserve currency, and all the benefits that go with it.
Currently, global central banks only maintain modest reserves in yuan, although that figure is growing every year.
In 2015, however, China was forced to stall those plans. To protect the currency, the Chinese central bank intervened heavily, a costly process with China’s foreign-exchange reserves quickly dwindling by $1tn.
There are now signs though that China is set to re-engage with its plan for a free exchange regime. China has announced that, from April 2019, foreign access will be granted to its vast bond market, creating a potential for $150bn of foreign inflows. This will then permit the central bank to gradually float the yuan without the adverse side effects
witnessed back in 2015.
When it comes to China opening up its domestic markets, there are also signs of progress. China has pledged to ease barriers on investment in local financial institutions while also committing to phase out rules that require foreign auto and airline industries to link up with a local partner before building a factory.
In a massive boost for the Irish agri-sector, Ireland is now the first European country to gain access to sell beef in China, with exports estimated to be initially worth potentially €100m a year. This shows that if pushed, China now finally appears willing to loosen restrictions on its previously inaccessible consumer markets.
It appears that Mr President Trump’s actions may now accelerate the process, heralding new opportunities for trade.
Consequently, the yuan now looks set to become a more systemically important currency for the settling of global trade, even for Irish exporters.
While the intentions of this US administration may have been to curb China’s economic and technological progress, they may have instead pushed China into playing a larger role in global trade and leadership by becoming further integrated into global financial markets.
Eoghan Sheehan is from Bank of Ireland Global Markets