Not seeing eye to eye

Not seeing eye to eye

by Pininvest Analysis

Exposure to US-China Trade on

  • constituents
  • 54.8% 1y performance
  • 20.0% volatility
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US-China trade negotiations cannot be subsumed under import 'deals' redressing the vast trade imbalance between the two countries

Fundamental disagreements regarding China's industrial policies have been voiced by the highest US authorities

Because the issues are structural - and rooted in the global trade of which the US, and American companies, have been fervent supporters - the confrontation will not be resolved easily

Both countries will have to decide to what extent globalization - and the vast benefits reaped by their industries and their consumers - must be put on trial

It is early days but the frailty of companies dependent on Chinese supply chains, and of companies relying on China's economic growth, is a wake-up call, and probably a cause for alarm

In a few short weeks, a 'deal' on goods will be clinched and the markets will hope against hope that the old days are back

They are not, unfortunately




A victorious army first obtains conditions for victory, then seeks to do battle  (the Art of War - Sun Tzu - Chapter 4 - 11)


Complexity in trade negotiations is one of principle and of concept, before being one of detailed regulatory process

In terms of trade, conclusive discussions lead to a status perceived as mutually beneficial while accounting in fairness for each country’s special circumstances

When trading partners do not align on these steps, and on the logical sequence they entail, and when the partners are the largest global markets, concern should be mounting around the world

Reports of the current US-China negotiations (paywall) offer little comfort and succor "Mistakes are a part of life but we can learn from them"


Trade tactics or improvisation under another name ?

China appears to ignore contentious regulatory issues – such as the country’s requirements that foreign companies share technology – and critics of its national industrial policies – favoring domestic companies at the expense of foreign (US) competitors

Intent on placating President Trump with promises to boost US exports to China, the Chinese negotiators have upped their pledges if recent reports are to be believed

  • topping previous commitments to purchase U.S. farm and energy products, including soybeans, liquefied natural gas and crude oil by increasing U.S. semiconductor imports to $200 billion over six years (paywall)

The hope to deflect the structural changes in market access required by the American negotiators rests on an altogether unflattering perception of American interests

  • a short term ‘win’ for President Trump
  • weak-kneed responses of the financial markets


But the Chinese proposals share a whiff of improvisation

  • offering with a straight face to balance trade with imports of commodities from the premier technological world leader
  • committing to buy more semi-conductors from the US while the country is fully engaged in multi-year plans to secure its domestic supplies

Further tying themselves in knots,

  • the Chinese negotiators end up offering to import more semi-conductors to produce electronic products that will presumably be sold in the US, aggravating the US trade deficit with China
  • semi-conductor sourced from the US will impact – and diminish – the orders placed in other countries, where the US, and its allies, have manufacturing facilities
  • possibly unwittingly, China brings the dependence of US technological companies on worldwide supply chains into focus, with semi-conductors bought by Chinese firms often sourced from American firms in Mexico or Malaysia, not directly from the US

China may sidestep the need to define a framework for a potential trade agreement

  • in part because, in their perception of US demands, short-term agreements take precedence, a hiccup of sorts in the long term Chinese economic build-up
  • but also because preeminent US companies have become entirely dependent on sales in the Chinese market – or, critically, to supply chains located in China – ultimately, China’s advocates of choice…


The US negotiators advance an ambitious mandate, backed by the ability to overwhelm China’s trade with rising tariffs, but their options are actually limited

  • Sales on the Chinese market are crucial for many US companies, both in % of current turnover and as driver for future growth, handing the leverage to Chinese companies and ultimately to China’s government
  • The intricacies of the supply chains – and the proven expertise of China’s manufacturers to navigate the supplier networks – cannot be challenged without much forethought, if at all

While both parties are aware of this economic reality, with major US companies hostages of sorts, China has preferred to let the firms – and the stock markets – take the lead and the US seems to take a pass on the issue


Two giants with feet of clay ?

Neither tactic portends well for the future

In staking out its structural claims, the US negotiators define a framework contradicting the very successful Chinese industrial policies of the last 20 years, while discounting the exposure of US firms engaged in these very policies

China, for its part, does not engage, in part because of its achievements, and also because competition between central authorities, regional and local governments, State owned enterprises and private business has taken on a life of its own – out of the purview of the Government


What to expect

Or rather what not to expect from China

  • that China change its ways, regarding terms and conditions of access to its domestic market
  • that China change its medium and long-term goals of independence from American suppliers, specifically from US semi-conductors
  • that China renege on its ambitions to play a premier role in up-and-coming technologies (AI, biotech, cyberwarfare…)

and what not to expect from the US

  • that US companies will kick their addiction to the Chinese market, and its supply chains
  • that US consumers will abandon their love for affordable products, often sourced from China


One who knows when he can fight, and when he cannot fight, will be victorious   (the Art of War - Sun Tzu - Chapter 3 - 18)

The constraints each trading partner encounters in special ways, and the lack of common ground on principle and concept, strongly suggests some sort of short-term face-saving ‘deal’

Fully expected by the stock markets, proffering some political biscuits to the American president and a tactical ‘win’ for the Chinese State, the negotiations do not bode well for the future of global trade

  • awkward agreements to reduce the US trade deficit will be rubber-stamped
  • but the commitments made by China upon entering the WTO in 2001 will still have to be confronted, with dire implications for global trade, and China, its preeminent beneficiary

Because no one expects China to abandon strategies that have been so vastly favorable to the country, investors will have to consider an alternative reality

  • where the US – fiercely protective of its own industrial base – will adopt some of the Chinese tactics, and the recent USMC trade agreements point the way towards ‘made in the USA’ practices, bringing the global ambitions of China to a brutal stop
  • where the US companies will need to engage – or be engaged – in a whole-hearted effort to privilege their home market and address the frailty of global supply chains, when confronted with the geopolitics of today

Concluding on a stark note, the times when a leading member of the defense industry such as Boeing could turn a blind eye on the sale of an advanced satellite to China are over – a case we will discuss in detail in our forthcoming note on R&D – an elusive genie