Everybody, breathe...
The US–China 90-day deal shows that actual outcomes are typically less bad than the ambit claims the Trump administration first announces.
Once again, the US administration has shown that its initial announcements are usually ambit claims. These claims are rolled back to something less self-destructive, so long as the other party is willing to offer something in return. It is all part of the deal ‘process’, as well as something of a dominance display.
Trade between the US and China was never going to come to a sudden stop, except by accident. That would have been too damaging to both parties. Neither was the US in a position to demand that its allies break trade ties with China – a question that we have been asked several times in recent months.
For these reasons, we have maintained the view that the US would not fall into a serious recession, though it would take a noticeable hit to growth; that China would manage to reach its 5% growth target for 2025; and that the RBA did not need to and would not panic. It is early days, but so far these core assessments have been borne out.
Some of the initial market reaction therefore proved overblown. To be fair, though, this was partly because pricing needs to reflect the whole range of possibilities, including the downside scenarios that now look less likely. It is only after those uncertainties are largely resolved that we see pricing converging to be in line with a base-case view. Once again, it is worth keeping one’s head and not overreacting to short-term fluctuations. This will be particularly relevant in the coming months. Trade and other data flow will be unusually volatile as the rush to beat the tariffs and the payback slump afterwards work their ways through, making it hard to see underlying trends.
The reduction in trade uncertainties supports the reduction in other uncertainties. While it is not clear where US–China tariffs will settle after the 90-day pause, it seems more likely that it will be close to (or even lower than) where they are now, not the three-digit trade-stopping rates that were previously announced. This means a smaller hit to growth in China from the trade war, and thus a smaller task for the Chinese authorities to achieve their 5% growth target for 2025. We can therefore be a bit more confident that the task will be achieved and our base-case view for China will also come to fruition.
There is still a longer-term partial disentanglement to come. A complete decoupling into separate trade spheres is too self-destructive to be realistic, at least in the short term, and no longer looks to be a material risk. Plenty of Western companies and governments might nonetheless decide that they do not want to be quite so dependent on China as a single source of supply of key inputs, whether that be specific minerals or ingredients for pharmaceuticals, and so on.
This cuts both ways, though. Given the recent behaviour of the Trump administration on the USMCA trade deal, rule of law and defence issues, plenty of European and Canadian companies and governments may well be coming to the view that they also do not want to be quite so dependent on US providers of defence systems, cloud computing services and other specialised exports that the US has dominated up to now. Certainly there were a few mutterings along these lines related to me by our offshore customers in recent months.
Implications for Australia
Australia was always a small target for the Trump administration’s trade policy. A 10% tariff rate is entirely survivable, especially when the exchange rate of the destination country is at least that much overvalued. The Trump administration has proven that it will indeed do deals, as well as negotiating with itself to offer unilateral concessions like the original 90-day pause and the electronics carve-out. There is nonetheless an argument it might be better to avoid drawing attention to ourselves by attempting to get carve-outs that other countries are not getting.
There is, however, a role Australia can play by telling our own story. Australia tried hiding behind a tariff wall for decades. It was not the path to prosperity, as it turned out. It certainly did not create a vibrant manufacturing sector that could compete on the world stage. Manufacturing exports did eventually blossom – some even called it a boom – but only in the 1990s and early 2000s after the tariff wall was dismantled. While the boom in iron ore and LNG exports since the mid-2000s has squeezed manufacturing’s share of Australia’s total export volumes, at around 6½% it is still noticeably higher than in the late 1970s and early 1980s.
There are certainly protections that other countries have used to develop their manufacturing sectors as they begin to engage with the rest of the world. As well as the more obvious policies such as subsidies and tariffs, these include keeping one’s exchange rate low by building up foreign exchange reserves. But these are tactics of poor countries growing richer. There is no real evidence that the same tactics work for countries that are already rich, as Australia’s 20th century experience showed. If only the US administration understood this.
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