History often repeats itself, and trade problems between countries have been shaping the world for centuries. In the 1800s, Britain had a trade deficit with China when it couldn’t stop buying Chinese tea, porcelain, and silk. In other words, Britain was buying more from China than China was buying from Britain. Britain wanted to fix this problem. They tried to sell anything. They even tried to sell British pistols and muskets. Unfortunately, the Chinese didn’t want to buy anything, until the British started to sell opium. This led to addiction, which led to Chinese naval blockades, which eventually led to the Opium Wars. The lesson from that conflict is clear: when trade becomes unbalanced for too long, tensions will rise, and countries will retaliate.
Today, the U.S. faces a similar situation with China. The two countries have had a long-standing trade imbalance – the U.S. imports more to China than China imports from the US. This frustrates the U.S. because money leaves the country to pay for Chinese products. Meanwhile, China is pleased because money enters the country to pay for factories and workers that wouldn’t be able to be supported by Chinese consumers alone.
The simple solution would be for China to buy more from the U.S. Unfortunately, it is not that simple. Innately, the average Chinese consumer buys significantly less than the average American. The reason for this consumer behavior is partly because of traditional values and partly because China was a very poor country until a generation ago. For that reason, the Chinese tend to save much more than they consume. That savings cut into the disposable income of Chinese consumers. With reduced disposable income, Chinese consumers tend to only buy the necessities. That said, there are U.S. products that are necessities for Chinese consumers – like American pork, soybean, and corn. It is not as if Chinese consumers go out of their way to avoid U.S. products. They largely do the same with Chinese products too, if it is regarded as unnecessary.
By comparison, American consumers buy beyond their means, to the extent of carrying huge credit card debts. On top of that, most of what they buy come from other countries. This happened because U.S. companies stopped manufacturing in the U.S. for decades. They did this to cut costs and boost profits by taking advantage of cheap labor, loose regulations, and better work attitude overseas – especially in China. And over time, U.S companies deepened their involvement because of the higher quality standard offered by Chinese factories and workers. As a result, U.S. companies upgraded Chinese factories and workers, while neglecting to upgrade U.S. factories and workers.
This created a cycle of imbalance. China kept producing for the U.S., while the U.S. kept buying from China. Money flowed from the U.S. to China. Over time, China built up a large trade surplus, while the U.S. faced a large trade deficit. This upset the U.S., which inevitably prompted the U.S. to start the trade war with China.
Obviously, a trade war is not in the interest of the U.S. and China. However, it does force both countries to face the root cause of their shared problem. Fundamentally, China needs to encourage its consumers to spend more money, so it wouldn’t need to rely on U.S. exports. In turn, the U.S. needs to encourage its consumer to spend less money, so it wouldn’t buy so much from China. On top of that, the U.S. also needs to find ways to manufacture more products domestically and rely less on imports.
In the long run, the trade war could push both countries to make changes that help fix these imbalances. Without U.S. buying Chinese made products, China will have to rely on its own consumers. Likewise, without China making products for the U.S., the U.S. may start to buy less. Alternatively, they could begin to rely on U.S. manufacturing again. However, restarting production in the U.S. will be much harder than it sounds. U.S. companies have spent decades moving production overseas, which would make it impossible to restart factories and train workers quickly. As for China, it has a relatively simpler solution – it could issue consumption coupons with a validity period of use, forcing consumers to regularly buy more, in hopes of changing consumer habits.
Another solution would be for the U.S. is to find a product that Chinese consumers may want to buy. Of course, there are goods that China wants from the US – namely anything high-tech. Unfortunately, the US has banned the sales of the high-tech goods to China, under the justification of national security. To make matters worse, the only manufactured goods worth getting from the US are high-tech goods. Given that, what exactly is it that the US wants China to buy from the US? American guns and rifles and then change Chinese laws to give citizens the right to bear arms? Or should Chinese car buyers buy U.S. pickup trucks, even though its too big for urban China and too expensive for rural China? Or should the U.S. learn from the British and peddle prescription opioids? Other than a handful of specialized branded manufacturers of motorcycles, musical instruments, wooden furniture, and farm machinery, there really isn’t a category of U.S. made products large enough to reduce the trade imbalance between the U.S. and China.
It's not as if China doesn’t buy American products. Unfortunately, all American products that the Chinese buys, from Tesla to Apple to Nike to KFC are also made in China. This means that even when China buys American brands, it won’t help reduce the trade imbalance.
So where does this leave us? Eventually, I believe Chinese consumers will loosen their purse strings and splurge enough to support the production capacity of Chinese factories and workers. As for the U.S., the question is whether American consumers are either willing to buy less or whether U.S companies are willing to manufacture products in the U.S. at the same standard and cost as Chinese factories and workers. Of course, the decision to restart manufacturing in the U.S. can only happen if those U.S. companies are willing to give up some of their profits (and be less greedy) for the good of upgrading U.S. factories and workers.
If you ask me, the problem isn’t really with China. It is with corporate America casting aside the livelihood of American workers, just to enrich themselves with offshore profits that are kept overseas and away from the IRS. In that case, corporate America should come forward and make a deal with the U.S. government to restart factories and production in the U.S., thereby ending this trade war to avoid the financial fallout.
As farfetched as this may sound, it is possible. Such a deal would involve U.S. government subsidies and a commitment period from U.S. companies to build factories and train workers. Obviously, the positive impact of job creation won’t be immediate. It would take many years to fully materialize. But over time, U.S. factories will begin producing at a large enough scale to end the U.S.’s reliance on Chinese imports. Nevertheless, increasing tariffs would cause extreme inflationary burden to U.S. consumers, in the short term.
So, until the U.S. can begin to produce at the scale of self sufficiency, it would be extremely harmful to raise tariffs and it would be cheaper for the U.S. government to offer U.S. companies subsidies to build factories and hire workers in the U.S. Selfishly, these companies should accept the offer, so that they can avoid the financial consequence of a trade war with China. Fact is, this trade imbalance was started by U.S. companies, so it only makes sense that the solution involves U.S. companies bringing back jobs back to the U.S. without hurting U.S. consumers with high prices. That said, there can still be unintended consequences.
As a cautionary tale, consider the discussions that France and Britain had with Boeing in the 1960s when France and Britain were proposing to have an alliance to build airplanes with Boeing. Long story short, Boeing eventually rebuffed France and Britain, which ultimately led to the creation of Airbus, Boeing (and the U.S.’s) largest competitor. Airbus was the consequence of rebuffing France and Britain for Boeing.
Likewise, when China figures out a way to increase domestic consumer spending, the U.S. will suffer from an unintended consequence as well. When China no longer needs to export goods to the U.S., China will no longer need to adjust the value of the Chinese Yuan anymore, as a way to make Chinese exports more attractive. This will reduced Chinese demand for U.S. treasuries, which will ultimately increase U.S. borrowing costs, interest rates, and inflation.
Furthermore, a freely floating Chinese Yuan and a booming Chinese consumer market will make the Chinese financial markets more attractive and therefore a suitable alternative to the U.S financial markets. Global institutional investors will begin to pour more money into the Chinese financial market, which will accelerate the expansion of China's financial sector, enhance market liquidity, and solidify its role as a leading global investment hub.
Finally, a fully developed Chinese financial market would position the Chinese Yuan as a viable alternative to the U.S. Dollar as a global reserve currency. Global institutional investors will shift toward Chinese treasuries, which would give the Chinese government more ability to finance strategic initiatives through debt issuance. However, this reallocation of capital will reduce global acquisition of U.S. treasuries, which will weaken the U.S. government’s ability to fulfill its financial obligations in both budgetary spending and servicing the national debt. One wonder then if the U.S. economy will be too big to fail, if the world’s economy no longer buys U.S. treasuries.
So, what does this all mean? Simply, shutting China out of the U.S. will end U.S. hegemony. In that way, the U.S. is doing China a favor by making them ween off exports to the U.S.
This analysis isn’t biased. It’s based on ECO100 macroeconomic theory.