A Year of Living Less Dangerously

The publication this week of the U.S. — China trade deal and the final macro numbers for 2019 should set the stage for healthy economic performance and stronger market sentiment in China in 2020, but the risk of a return to tense relations between Washington and Beijing looms over 2021 and beyond.

The “phase one” trade deal should create a truce in the tariff dispute. President Trump appears to believe that declaring victory over China will boost his re-election prospects, and it seems that Xi Jinping is willing to cooperate. There are no signs, however, that the Trump administration will scale back its willingness to confront Xi on a range of issues, especially those related to technology competition. The resulting political tension, as well as the deal's unrealistically high purchasing targets, could break the truce in 2021.

Headline writers will continue to focus on slower year-on-year (YoY) growth rates in China, but most investors understand that the base effect allows the economy to expand by far more today than at the faster speeds of a decade ago. This creates greater opportunity for Chinese firms selling goods and services to local consumers, as well as for investors in those firms.

Assessing the trade deal

The trade deal will likely accomplish Trump's main objective: creating the appearance of an important accomplishment as the election approaches. But the deal did not create effective new solutions to most of the trade-related problems cited when the tariffs were launched.

On intellectual property issues, a Trump administration priority, the deal accomplishes little. Many specific steps in the agreement were previously announced by Beijing, and the new steps are incremental. Most importantly, the agreement does not require China to make legal and structural changes needed to ensure compliance. There also were no significant new commitments on exchange-rate management or industrial policy.

Overall, this deal is not a significant improvement over the Trans-Pacific Partnership (TPP) program cancelled by the Trump administration, or the draft bilateral investment treaty (BIT) with China that was negotiated by the Obama administration but abandoned by Trump.

The deal also leaves in place much of the tariff burden already borne by American companies and consumers. “Even after the deal goes into effect, Trump's tariffs will still cover nearly two-thirds of all U.S. imports from China,” according to Chad Brown of the Peterson Institute for International Economics. “He will also have increased the average U.S. tariff on imports from China to 19.3%, as compared to 3%” before the dispute began.