Yesterday, President Trump and Chinese Vice Premier Liu He signed a “phase one” U.S.-China trade deal. A “phase two” deal may be coming, although the timing is unclear, and many people (including us) are skeptical that it will happen any time soon. There are some technical and complicated parts of the phase one deal, and it will take some time to digest it all and come up with an overall evaluation. But it’s worth exploring some specific aspects right away. One of the most talked about parts of the phase one deal is the commitments by China to purchase large amounts of U.S. products, including agricultural products. Article 6.2, paragraph 1 of the deal has broad details of these purchases:
During the two‐year period from January 1, 2020 through December 31, 2021, China shall ensure that purchases and imports into China from the United States of the manufactured goods, agricultural goods, energy products, and services identified in Annex 6.1 exceed the corresponding 2017 baseline amount by no less than $200 billion.
Given that U.S. exports to China in 2017 were about $180 billion, an additional $200 billion over two years would be a massive increase. The deal further divides up these purchases into manufactured goods, agricultural goods, energy, and services, with specified amounts for each. It then provides sub‐categories, but it does not publicly break down the purchase amounts by sub‐category (apparently it does so in a confidential version of the text).
This is not a typical trade deal. A normal trade deal would focus on liberalizing trade in both directions (although modern trade deals have gone beyond that and do a lot of regulating). By contrast, this trade deal is an extreme version of managed trade, with China agreeing to buy designated amounts of U.S. products (supposedly “based on market conditions”).
Beyond the problematic policy goals, it remains to be seen what all of this means in practice. Here are a few questions that arise: How exactly will China quickly ramp up its purchases? What is the role of the government in this shopping spree? What domestic process will the Chinese government use to induce companies to make these purchases? Are there accounting tricks they can rely on (e.g. reclassifying current Hong Kong imports as Chinese imports)? Will these companies shift current purchases of these products away from other countries’ producers and over to U.S. producers (and will those other countries be annoyed)? Can U.S. producers scale up production to meet these targets?
A wide range of products have been mentioned in this context, and how this plays out might vary by product. To help assess this, we thought it might be useful to focus on one product in particular. We are going to use beef as an example (a former Trump administration trade official was recently reported as having confirmed that “there would be purchases of poultry and beef – estimated at US$1.5 billion apiece – in the phase one deal, with American farmers gaining re‐entry to the market after years of being left out in the cold due to China’s ban on certain hormones and additives used in US farming.”)
So how might U.S. beef exports to China fare as part of China’s promised purchases? Two years ago, we wrote about the possibility of increased U.S. beef exports to China. The removal of Chinese restrictions on U.S. beef — which had been put in place by many countries in 2003 after a BSE scare — was a key component of the 100‐Day Action Plan reached between the Trump administration and Chinese officials in May 2017. As we explained then, China had become a big consumer of beef, and imports of beef into China were increasing. While many countries saw their beef sales rise, U.S. beef exports to China had been negligible due to the BSE restrictions. Removal of the Chinese restrictions was likely to help.
Unfortunately, the U.S.-China trade war got in the way. As a result of the retaliatory tariffs that China imposed in response to U.S. tariffs, most U.S. beef exports to China faced additional tariffs, beyond the normal Chinese tariffs, of between 10 percent and 35 percent, much higher rates than faced by their competitors in other countries. (Some of those competitors had negotiated free trade agreements with China, giving them an even bigger advantage).
As shown in Table 1, after the 100 Day Action Plan, the United States increased its beef exports to China from a negligible amount to $63 million in 2018. That was a good start. However, that number is only a small fraction of the total growth of imports of beef into China in that period, from $2.6 billion to $4.9 billion. Imports from other major beef‐exporting countries, including Argentina, Australia, Brazil, New Zealand, and Uruguay, all witnessed a much larger jump than U.S. beef did.
For a long time, Chinese consumers preferred other meat products over beef, but as China has grown wealthier, their tastes have changed. As the table shows, their interest in beef has increased considerably. This is a development that U.S. producers should be able to take advantage of, but so far have done so only to a limited extent, whereas their rivals are moving much more quickly. Without a doubt, the Chinese retaliatory tariffs have been a significant factor.
Now with the phase one deal in place, it is likely there will be a tariff waiver on the relevant agricultural products, which will give U.S. producers a better chance to compete. In addition, language in the deal on certain regulatory issues may also help boost beef exports to China. For instance, China promised to remove the age limit for U.S. cattle, which had prohibited sales of meat from cattle over 30 months old at the time of slaughter.
However, U.S. beef sales will still face some hurdles: Their competitors have a big head start and have been developing relationships with Chinese customers for years; some competitors have free trade agreements with China and thus their products are subject to special, low tariffs; and China has had restrictions on sales of hormone‐treated beef, which is a significant portion of U.S. production. (Under Annex 4 of Chapter 3, it looks like the issue of restrictions on hormone‐treated beef will be addressed to some extent, which would be a big deal for U.S. producers.)
Market‐sharing managed trade arrangements are a bad way to approach trade agreements, but even putting that aside, there is still the question of whether they work. It will be interesting to see how the U.S. strategy is effective here. Regardless of how it plays out, a better strategy would have been to push for an agreement like the ones Australia and New Zealand have with China, in order to get China to lower its tariffs further, rather than just restoring them to the pre‐trade war level.
Optimism among U.S. manufacturers was near an all‐time high in early 2017. Just eleven days into his presidency Trump signed an executive order specifically targeting overregulation. According to a survey by the National Association of Manufacturers, an advocacy group representing 14,000 U.S. companies, 93.3 percent of respondents felt optimistic about their company’s outlook. This optimism was driven by an expectation that the new administration would focus on deregulation, which would benefit the domestic manufacturing industry. The administration’s commitment to deregulation kept industry confidence high through much of 2017 and 2018 as regulations continued to be repealed.
However, the escalating trade war with China is erasing many of the gains from deregulation. Small and medium sized firms are being hit hard by high tariffs on steel and other imported components. The only hope for many companies is to apply for tariff exemptions, but the process is often opaque, arbitrary, and tilted heavily in favor of larger firms with strong lobbying power.
“Companies with enough resources and savvy can not only push their own cases, they can work to undermine those of competitors.”
“With new tariffs being announced and lifted on a few days’ notice and trade agreements constantly being renegotiated, companies have scrambled to protect themselves. Tariff exclusions are highly sought after because they offer a huge competitive advantage — especially if a rival still has to pay. The review of exclusions is happening on a compressed time schedule, with little warning before tariffs and a complex set of rules that few people understand go into effect. And there are no second chances.”
“The Commerce Department at first had projected that it would see only about 4,500 applications — a threshold that was passed almost instantly. According to a regulatory filing, USTR estimated that each exclusion request would take applicants two hours to prepare, at a cost of $200 each, and two and a half hours for USTR to process. For the China tariffs, adjudicating cases is expected to take 175,000 staff hours over the course of a year, at a cost of $9.7 million.”
Trump’s trade war is harming U.S. manufacturers, their employees, and their customers. While it may be too soon to determine the damage to the economy, the thirty percent drop in manufacturer confidence over the past year does not bode well.
It’s hard to figure out sometimes whether Twitter reflects reality, but I’ve seen some discussion there suggesting that as part of the Brexit negotiations, the UK and the EU may be negotiating about the extent to which they will impose tariffs on each other. My measured and calm response to this is as follows: Stop it, stop it, stop it! The following is a brief elaboration of that response.
The debate over Brexit is a complex one. Oversimplifying quite a bit, from what I can tell, the majority of people in the UK hold the view that the economic integration aspect of the EU is good, but there is a sizable group that is concerned about the political integration aspect. Brexit is mainly a withdrawal from the political integration, but it necessitates a rethinking of the economic integration.
There are several key components of the economic integration: Zero tariffs on trade between the UK and EU; a common external trade policy; and regulatory alignment (also some complicated stuff about fishing rights). I want to focus here on the first one.
EU economic integration involves zero tariffs and zero quotas on all trade among EU member states. That’s the status quo. That’s where we are now. And that’s a great achievement. You don’t often see that in economic integration agreements. Tariffs are generally lowered, but not eliminated.
Normally, a trade negotiation would take place between countries who impose tariffs on each other, and they haggle over how much to bring them down. But the UK and EU are in a different situation, with a different starting point. There are no tariffs, so there should be nothing to haggle about it.
What this means is that when the UK and EU start negotiating their new economic relationship, they don’t have to haggle about tariffs. They can declare at the outset that tariffs (and quotas) will stay at zero, and they can move on to other things.
Now, there are some tariff‐related issues they do have to talk about: Rules of origin (which products qualify as products of the UK or the EU and therefore benefit from the zero tariffs) and trade remedies (anti‐dumping, countervailing duties, safeguards). I favor loose rules of origin and no trade remedies, but I acknowledge that these are hard issues and there is no way to avoid discussing them in the negotiations.
But with regard to ordinary tariffs, there is nothing to talk about. The current situation is great. Don’t mess with it!
I’ve heard two specific arguments for bringing up the possibility of ordinary tariffs in the UK-EU negotiations. First, the EU might want tariffs on agriculture, for instance if the UK deregulates food safety (e.g. the famous chlorinated chickens). But tariffs here make no sense. If the EU is concerned about imported UK products based on food safety issues, it can adjust its own regulations accordingly. Trying to set a tariff that accounts for the regulatory differences would be an ineffective approach.
The second argument is that the UK’s new regulatory approach (whatever it may be) could lead to trade barriers, and tariff‐free trade is a “bargaining chip” the EU can use as part of the negotiations on regulation. (This could go in the other direction as well). In my view, this is a dangerous tactic. The idea seems to be that the other side will be more afraid of losing tariff‐free trade than you are, and thus will cave to your demands on other issues. But there is a big risk that by putting tariffs on the table, you don’t achieve your other goals and you just end up with tariffs.
As hinted at in the previous two paragraphs, the really difficult issue is going to be regulation. As things stand now, the EU involves significant mutual recognition and some harmonization related to goods and services regulation, creating a “single market” for goods and many services. How do the two sides move to a new economic relationship that preserves as much of that as possible? There are no easy answers.
But on tariffs, there is an easy answer: Stay away from the tariff haggling, and move directly to the real issues that need to be negotiated.
More clarity and more questions emerged over the weekend about the terms of the U.S.-China trade deal, which warrants an update to this preliminary assessment published on Friday.
The deal is pretty good for what is seems to accomplish. That may sound like fingernails on a chalkboard to those more interested in preventing Trump from gaining traction with claims that he won the trade war than they are interested in actually ending the trade war.
The deal is pretty good because it reduces business uncertainty, confirms that the administration realizes its approach was unsustainable, and — by formalizing terms to resolve the variety of issues that, frankly, distract attention from the most difficult problems in the relationship — creates needed space to shift focus to the genuinely challenging matters.
That, of course, refers to the challenge for technological preeminence and its attendant considerations: industrial policy; technology subsidies; development and proliferation of standards; related security issues; and the impact on this race for primacy on commercial and strategic outcomes.
So, what was agreed upon? In a nutshell, Washington agreed to cancel tariffs on about $160 billion of imports from China, which were scheduled to take effect yesterday; keep in place the 25 percent tariffs currently imposed on about $250 billion of Chinese goods (rather than increase them to 30 percent, as was scheduled); and reduce tariffs from 15 percent to 7.5 percent on about $110 billion of Chinese products.
Relative to what was looming (higher tariffs on all imports from China), these terms should be welcome news to most consumers, workers, businesses, and investors in the United States and China, and throughout the world. The specter of an escalating tariff war, with all the commercial uncertainty that portends, is no longer casting such a large shadow on the global economy. That’s good.
Relative to the way things were 18 months ago, we are still torso deep in costly taxes. About half of the value of U.S. imports from China remain subject to a 25 percent tax (as opposed to an average tariff of about 2 percent in June 2018) and about one‐fifth of the value of those imports remain subject to a 7.5 percent tax (as opposed to an average tariff of about 2 percent in June 2018).
Presumably, those tariffs are considered leverage and will be lowered or removed if, and when, Beijing demonstrates that it has held up its end of the bargain. Yes, it’s true that U.S. tariffs are taxes on U.S. consumers and businesses, which may raise questions about their value as leverage on Beijing. But the fact is that taxes on U.S purchasers dissuade purchases from Chinese producers. So, while the Chinese aren’t paying the taxes, those taxes are reducing demand for Chinese products. After all, something in the administration’s approach made Beijing agree to the “Phase 1” deal.
Beijing made no explicit commitments to reduce the retaliatory tariffs it imposed over the last 18 months, but it did agree to purchase, over the course of the next two years, $200 billion more goods and services from the United States than it purchased in 2017. The value of U.S. exports of goods and services to China in 2017 was about $185 billion, so the pledge to purchase $200 billion more is very significant — an average annual increase of 45 percent, which is, first, unheard of for a large economy and, second, strong confirmation — as if it were needed — that China’s is not a market economy. Realistically, it is hard to imagine how the Chinese economy can absorb that much in two years but then again, maybe U.S. companies will jack up their prices by a factor of five or ten!
U.S. goods exports to China year‐to‐date through October 2019 are down about 16 percent from where they were in the January‐October 2017 period. Roughly translated, that means that U.S. exports to China are down about $25 billion from the pre‐trade war period.
Despite reports that this deal does nothing to make amends for lost market share suffered by U.S. exporters as a result of the trade war, a $200 billion aggregate increase in exports over two years would certainly seem to more than make up for the average financial losses incurred by U.S. firms so far. However, those U.S. export gains most likely would come at the expense of other countries’ exports, as Chinese buyers divert their purchases from other suppliers in line with Beijing’s demands. And that, of course, would have ripple effects throughout the global economy, including a likely reduction in demand for U.S. exports in third countries.
So, what other commitments did China make to give Trump cover to begin lowering U.S. tariffs? Remember what started this whole trade war thing? In June 2018, the president first imposed tariffs as a result of a formal investigation conducted by the U.S. Trade Representative’s Office under Section 301 of the Trade Act of 1974, which found fault with a variety of Chinese practices, including intellectual property theft, cyber intrusions, discriminatory indigenous innovation policies, forced technology transfer requirements, and other related items.
But ever since then, the focus of negotiations has been on tangential issues, such as market access in China, trade balances, currency practices — pretty much everything EXCEPT those objectionable IP and technology practices. Well, to my surprise, the agreement worked out, and summarized by the White House Friday includes commitments from China to undertake effective measures to curtail, prohibit, and punish some of the kinds of forced technology and intellectual property transgressions that the United States wants resolved. Beijing also agreed to refrain from directing or supporting outbound investments aimed at acquiring U.S. technology. It also agreed to fix problems that have created non‐tariff barriers to U.S. agricultural products in China, such as circuitous licensing practices and opaque sanitary and phytosanitary requirements.
China also committed to open wider and more transparently its financial services markets to allow more competition from U.S. banks, insurance companies, and brokerages. It also made certain commitments to ensure that it doesn’t intervene in currency markets in a way that suppresses the value of the Chinese yuan to secure a trade advantage. And, importantly, the parties agreed to create a mechanism that, ostensibly, will allow for rapid hearing, adjudication, and, hopefully, resolution of disputes.
Skeptics of the deal are quick to point out that — in the provisions regarding intellectual property rights enforcement and disavowal of forced technology transfer — Beijing didn’t agree to anything they hadn’t already agreed to or weren’t already doing, as a result of obligations under previous agreements. That may be true, but Beijing’s and Washington’s definitions of “forced” technology transfer (to use one example) have been very different historically. If this agreement includes a broader understanding by the Chinese of the term “forced,” it will be a step in the right direction.
Beijing’s pledge to stay away from backing or promoting technology acquisitions by state‐owned enterprises is a nice gesture that amounts to very little, considering that U.S. policymakers are already ramping up scrutiny of these kinds of deals, as required under the new Foreign Investment Risk Review Modernization Act. It’s something that U.S. policymakers are intent on scrutinizing and, frankly, protecting sensitive U.S. technology in a systematic and transparent way is far superior to levying tariffs and encouraging divestment.
Commitments on currency, of course, have nothing to do with the impetus for the trade war. This is perennial gripe that should be of very low priority on the U.S. list of concerns.
Time will tell whether Beijing actually makes good on these commitments and whether the administration will work hard to address the outstanding issues. But for now (and probably through the 2020 elections), new or higher U.S. tariffs on imports from China seem to be unlikely. Of course, we will have to endure 25 percent tariffs on half of our imports from China and 7.5 percent tariffs on about one‐fifth, but the uncertainty that has racked markets for over 18 months is likely to abate. This deal, for all its shortcomings, is an agreement to not escalate the trade war. There’s some value in that, right?
The United States and China are locked in a race for technological preeminence, which raises all sorts of strategic and security concerns that can no longer be treated with indifference. Technology bestows first‐mover advantages with significant commercial and strategic implications. As 2020 progresses, the U.S. debate over China policy should shift focus away from tariffs and trade measures to the broader strategies, tactics, and domestic measures needed to stay on top in the race for technological supremacy.
Whiplashed followers of the on‐again, off‐again U.S.-China trade negotiations might want to tighten their neck braces this morning. In what has become a familiar pattern, yesterday the Trump administration was reported to have reached a “Phase 1” deal with Beijing to quell the trade war. Today, those reports are being called premature.
The alleged terms of the alleged deal include the United States pulling the plug on tariffs tentatively scheduled to take effect this Sunday and cutting in half punitive tariffs already in place in exchange for Beijing’s agreement to purchase some $50 billion of U.S. agricultural goods and open further China’s financial services markets to foreign firms.
If this is accurate, it would represent a much bigger concession than Trump was willing to make in October — and would confirm the futility of the mindless tariff war as a tactic to discipline Beijing’s objectionable behavior. The “agreement” does absolutely nothing to address the root cause of the trade war. If you’ll recall, the president first imposed tariffs in the summer of 2018, as a result of a formal investigation under Section 301 of the Trade Act of 1974, which found fault with a variety of Chinese practices, including intellectual property theft and forced technology transfer.
Ever since the beginning of the tit for tat, the focus of negotiations has been on tangential issues, such as market access, trade balances, currency practices — everything EXCEPT those objectionable IP and technology practices.
The United States and China are locked in a race for technological preeminence, which raises all sorts of strategic and security concerns that can no longer be dismissed cavalierly. When considered measuredly, these concerns — which are obviously prone to hyperbole and hyperventilation — suggest that there may be limits to the scope and nature of ongoing bilateral cooperation. But that doesn’t mean relations have to continue to deteriorate.
Regardless of whether a deal is reached this week or next year, or whether that deal plays out in a series of phases, the real problems afflicting the U.S.-China relationship will persist for a long time. Navigating this relationship is going to be tricky going forward. But U.S. policymakers should remember that their toolboxes include scalpels, not just shotguns, and that many of the problems we face can be mitigated surgically. The trade war is just a costly distraction.
Yesterday's biggest trade news was that the House Democratic leadership reached a deal with the Trump administration on changes to the U.S.-Mexico-Canada Agreement (USMCA), which was signed by Canada, Mexico and the United States last year. The agreement was an effort to renegotiate the North American Free Trade Agreement (NAFTA). Reception of the new deal was mixed, and after taking leadership of the House in January of this year, Democrats wanted to leave their own imprint on the new trade agreement.
In light of yesterday’s announcement and today’s release of the Protocol of Amendment by the Office of the U.S. Trade Representative, we repeat our analysis from October 2018 in this blog post, with updates to take into account the recent changes. This is by no means a comprehensive analysis, since there is a lot in the 2000-page document that makes up the USMCA, as modern trade agreements go well beyond traditional trade issues. Some of what is in there is good and some of it is bad (with many of the non-trade issues, there is likely to be disagreement as to which provision falls into which category).
In this blog post, we offer our thoughts on some of the key provisions, after which we provide an initial overall assessment of the agreement. For each item, we indicate in a parenthetical whether there have been changes from the USMCA signed last year to the amendments released today. We break it down into the good, the interesting, the whatever, the worrying, the bad, and the ugly.Read the rest of this post »
Since its inception in 1962, Trade Adjustment Assistance (TAA) has been portrayed as a way to help workers affected by trade adjust to a changing economy, but its political objective may be more important than any policy purpose: The program was viewed by many politicians and scholars as a political tool to mute free trade opposition from those with enough political sway to block or slow trade liberalizing efforts. Only by pacifying their objections to trade liberalization would free trade be able to flourish. Unfortunately, if the goal of Trade Adjustment Assistance was to buy support for trade, it has failed to achieve that objective.
It is this context, that makes a new paper (and its companion op‐ed) by Sung Eun Kim and Krzysztof Pelc surprising. They find that Trade Adjustment Assistance and demands for protectionism act as substitutes, where increases in Trade Adjustment Assistance can lead to a reduction in the desire for market‐distorting tariffs – specifically, antidumping tariffs. As they put it: “compensation for trade‐affected workers can in fact preempt protectionism.”
Finding ways to reduce the demand for protectionism would be great. However, I want to take a moment to push back a little on their suggestions and add a few words of caution.
First, their methodology for identifying protectionism takes into account only antidumping tariffs. But while antidumping is a particularly abusive example, it is not the universe of protectionism, as the Trump administration has clearly shown. Even if it is true that TAA has reduced the use of anti‐dumping tariffs, there may be other forms of protectionism (such as safeguards or countervailing duties) being used, and that needs to be considered when examining whether TAA has preempted protectionism.
In addition, although Trade Adjustment Assistance has been used to buy the support, or at least soften the objections, of organized labor during contentious trade talks such as NAFTA, the usefulness of TAA in furthering the free trade cause has diminished over time while inflicting long‐term damage to the free trade cause.
Instead of acting as a mechanism to further expand trade, the program has instead ensnared liberalization by incorrectly signaling that trade is a particularly onerous cause of job loss that justifies opposition to trade agreements and other forms of protectionism in the absence of Trade Adjustment Assistance. This is especially troubling when workers displaced by trade liberalization make up only a fraction of total job churn attributable to total labor market dislocations each year. A frequently referenced Ball State University study, for example, finds that about 88% of U.S. job displacement is attributable to productivity gains.
Even if increasing Trade Adjustment Assistance funding or coverage could effectively reduce protectionist demands by interest groups, as previously suggested, it is far from clear that politicians can be won over in a similar manner. A paper by Stephanie Rickard of the London School of Economics and Political Science noted that 70% of the legislators that voted against freer trade also supported increasing spending on Trade Adjustment Assistance, while legislators that favored liberalization were evenly split on the program. In other words, at the political level, protection and TAA are often not substitutes, but rather just two policies trade critics pursue simultaneously.
The program itself can also be an administrative nightmare that can dull the teeth of effective liberalization and slow its momentum. We saw just how counterproductive TAA can be in 2011 when the Obama administration was trying to push trade deals through Congress under the precondition that Trade Adjustment Assistance also be reauthorized and extended. In a sense, TAA inclusion made those instances of trade liberalization more messy, more expensive, and, after accounting for all of the costs of managed trade, less effective than it otherwise could have been.
This shouldn’t be too surprising. As Cato’s Jim Dorn pointed out nearly 40 years ago, the bribery argument is very flawed:
[It] fail[s] to recognize that as long as special interest groups can gain by using the power of government to enact laws designed to further their goals at the expense of the public, these groups will have no incentive to accept the free trade principle.
If TAA is to be used at all, it would be best if it were utilized only as a tool to ensure passage of landmark expansions of trade, instead of being used as a matter of course or even in tandem with protectionist policies. If the main goal of TAA is to win support for trade liberalization, that implies TAA is the cost, not the benefit, of trade liberalization. It would then behoove any policymaker to make certain that they don’t end up with both increased TAA funding and higher tariffs.
Unfortunately, this doomsday scenario is looking more plausible by the day. On top of market‐distorting tariffs and payments to placate the many losers of tariffs, the Trump administration’s Department of Labor recently released a Notice of Proposed Rulemaking to expand the TAA program. Combining TAA with the Trump administration’s protectionism (both unilateral and in the context of revised trade deals that reverse prior liberalization) is the worst of both worlds.
Instead of perpetuating the myth that trade is at fault for America’s economic ills, it would be better if Congress worked to eliminate the TAA program altogether. A program that instead provided adjustment assistance to displaced workers regardless of circumstance seems a more palatable compromise, as it would not demonize trade in the process.