1.China wants a deal
One key thing to remember as this week’s trade talks take off – China wants a deal and always has.
The Communist Party reiterated that at itsmost important annual economic policy meeting, theCentral Economic Work Conference (CEWC), which was held fromDecember 19-21.
The meeting stated that “stabilizing foreign trade” and “stabilizing foreign investment” would bekey objectives for 2019.
More importantly, it explicitly mentioned “trade friction” with the US, and said that resolving it would be a priority this year (Xinhua):
- “[We] must implement the Sino-US leaders’ consensus reached in Argentina, and push forward Sino-US trade negotiations.”
Our take: It was only one sentence. But the fact that China’s leaders – in their most important economic meeting of the year – explicitly emphasized the goal ofimplementing the framework Buenos Aires agreement was striking. This underscores Chinese leaders’intentiontode-escalatethe trade warif at all possible.
There are two reasons that the Chinese are keen to resolve – or at least de-escalate – the trade war:
- First, they are increasingly worried about the effects of the trade war on the slowing Chinese economy.
- Second – andmore importantly – they don’t want to be cut off from US technology that they see as critical to upgrading China’s economy and ensuring long-term sustainable growth.
Xinhua: 中央经济工作会议在北京举行 习近平李克强作重要讲话
2. Trump wants a deal
Donald Trump has been repeatedly upbeat about the prospects for a deal with China over the past month.
Don’t forget: Trump is ultimately the most important player in resolving the trade war, as he will have the final say in whether or not the US agrees to a deal.
Trump seems eager to strike a deal, in part to reassure US equity markets, and perhaps also to have a positive story on the back of the chaos of the government shutdown and increasing pressure in the Russia investigation.
But in case you forgot: Trump is mercurial.
His decision to approve a deal – or not – will depend little on the actual details, and more on his calculation of what is politically helpful.
- If the current situation holds, a short-term deal looks likely.
- But by the time negotiations conclude at the beginning of March, Trump may find it more politically expedient to ratchet up pressure on China and escalate the trade war.
The bottom line: Trump looks like he wants a deal now, but it’s much too soon to know what will ultimately happen over the next five weeks. So don’t get too comfortable.
Reuters: Trump predicts U.S. will reach trade deal with China
3. Critical context for this week: negotiations are on the right track, but far from over
China and the US held vice ministerial-level talksin Beijing from January 7-9.
Thosetalks were, by all accounts, productive.
- The Chinese are reported to have proposed a plan by which they would eliminate the trade surplus by 2024.
- Meanwhile, reports have emerged that the US side may be willing to lift some, or all, of the tariffs it has imposed on Chinese goods over – a sign that the US is willing to deal.
Where we are now: The two sideshave made progress on the low-hanging fruit of tariff reductions and lifting restrictions on market access.But the more difficult issues related to China’s industrial policy and lack of protections for intellectual property have not been addressed.
The last round of talks went as well as could be hoped, but the Chinese proposal to eliminate the trade surplus is likely impossible to execute – there are simply not enough US goods for China to purchase. However, as a negotiating gambit, it was very savvy. Not only is Trump keen to eliminate the deficit, but it is also the exact type of commitment that he could sell as proof of his victory.
This week’s negotiations will likely show whether the two sides can address thornier issues and construct a framework for a comprehensive deal – or not.
4. Huawei in the crosshairs – and complicating matters
Simmering in the background:Broader US-China technology tensions were on display this month,to put it mildly. Chinese telecoms giant Huawei is at the center of the storm.
On Monday January 28, the US Justice Department official issued indictments against both the company and its CFO, Meng Wanzhou. The indictments are worth a read – as they document in detail how thoroughly and deeply the company has engaged in industrial espionage.
- The case against Huawei centers aroundattempts to steal proprietary phone testing technology from T-Mobile. Prosecutors say Huawei institutionalized corporate theft, rewarding employees for obtaining competitors’ trade secrets.
- The case against Meng alleges that she helped Huawei conceal relationships with certain subsidiaries to covertly conduct business with Iran, in violation of US sanctions.
The indictments come on the heels of a spate of other setbacks for Huawei. On January 16, US lawmakers proposed a bill to ban sales of US components to Huawei and other Chinese companies.
Senator Tom Cotton, who introduced the bill, explained his reasoning (Reuters):
- “Huawei is effectively an intelligence-gathering arm of the Chinese Communist Party.”
The Chinese see all these moves as efforts to stymie China’s technological development. Foreign ministry spokesperson Hua Chunying said this explicitly on January 17 (MoFA):
- “People around the world all know very well the true intention of the US using every possible state apparatus to suppress and block Chinese high-tech companies.”
Get smart: Even if the trade war is resolved, the larger technological competition between China and the US only looks set to intensify.
- Concerns over Chinese technology are broad-based in the United States. Going after China isalsopolitically popular.
- Meanwhile, Chinese leaders are increasingly convinced that the US is out to thwart its rise, making leaders there intent on technological self-sufficiency (see next entry).
5. Xi Jinping calls for more self-reliance
What the Big Man is thinking: On December 31, Xi Jinping delivered his annual New Year’s address to the nation. Xi mentioned the need for China to be “self-reliant” (CGTN):
- “Through the years, the Chinese people have been self-reliant and worked diligently to create Chinese miracles that the world has marveled at.”
- “And now, looking forward, despite the complexities and difficulties we may face on the road ahead, we shall always closely rely on the people and stick to self-reliance and hard work.”
Xi has stressed “self-reliance” repeatedly since April 2018, often in the context of needing to be self-sufficient in “core technologies.” The self-reliance push was initiated in the wake of the US banning exports of critical technologies to Chinese telecommunications giant ZTE, a move that crippled the company (but was later reversed on the orders of President Trump).
The ZTE incident exposed just how reliant China is on foreign technology.
On the one hand, the self-reliance push makesthe Chineseeager to strike a dealin order to preserve access to American technology, from which Chinese firms still need to learn if they are to become self-sufficient.
However, it also complicates an immediate trade deal, insofar as the US wants China to stop subsidizing Chinese companies in high-tech sectors – a non-starter for the Chinese.
CGTN: Full text: 2019 New Year Speech by President Xi Jinping
6. Meanwhile, in China: a push to diversify trading partners
Policy makers aren’t just sitting back waiting for the outcome of trade negotiations with the US. They are activelyhedgingtheir bets.
Case in point:Here is how theCEWC (see Entry #1) discussed trade policy:
- “[We] must expand imports and exports, push for a more diversified export market, and reduce institutional costs of importing.”
- “[We] must proactively participate in the reform of the World Trade Organization, and promote the liberalization and facilitation of trade and investment.”
The language on “diversifying” export markets shows a desire to move away from dependence on the US and Europe, which currently account for around 40% of Chinese exports, as drivers of external demand.
What to watch: We expect to see concerted efforts to deepen trading relationships with developing countries.
The government will also look to facilitate imports through streamlining procedures and inspections. However, it is noticeable that unlike in 2017, reducing import duties was not mentioned in December’s CEWC readout.
The upshot: In 2018, China reduced import duties on a total of more than 4,000 goods, but that will not be repeated in 2019.
Finally, we also expect 2019 to be a big year for market openings:
- “[We] must ease market access; comprehensively implement a system of pre-establishment national treatment and negative list management; protect the interests of foreign companies in China, especially with regards to intellectual property rights; and allow full [foreign] ownership to be practiced in more areas.”
The language on market access is strikingly forceful compared to recent years, and is a clear indication that more sectors will be open to foreign investment in the coming year.
Xinhua: 中央经济工作会议在北京举行 习近平李克强作重要讲话