Trade deal debatable

Prospects for a grand deal in US-China trade following presidents Donald Trump and Xi Jinping’s meeting at the G20 lit a fire under global equity markets as well as crude oil, both of which had been on a downward spiral.

Chemical equities got swept up in the euphoria on 3 December but did not meaningfully outperform the broader markets. Most remain firmly in bear market territory, with declines of well over 20% from their highs. US demands are relatively clear but a big question lingers: What would the US have to offer China in order to strike a deal?

Based on comments from the US administration, China is offering to remove prohibitive 40% tariffs on US auto imports, and to buy massive amounts of US agricultural, energy and industrial products to reduce the US trade deficit with China. The US is also pushing China to halt US intellectual property (IP) theft and forced technology transfers.

However, missing from the conversation is what China wants from the US and what the US would be willing to offer. Just lowering or eliminating existing tariffs is not likely to be enough.

“China cannot climb down without losing face and the US is in no mood for compromise,” said Jeremy Goldkorn, editor-in-chief of independent digital media company SupChina, at the Young & Partners Senior Chemical Executive Conference in New York on 28 November.

Granted, the comments were made just before the latest truce, but the statement hits to the core of the dilemma. The US will demand real concessions from China – a point underscored by the appointment of China hawk US Trade Representative Robert Lighthizer as the lead negotiator rather than the moderate US Treasury Secretary Steve Mnuchin.

The fog of confusion surrounding prior talks with multiple US officials has faded. Now China knows exactly who it is dealing with. Trump is eager to declare a huge victory on trade with China, but Xi cannot allow this without getting something big in return.

With Trump’s willingness to mix politics with business, do not be surprised if a major US concession completely unrelated to trade is given.

CHINA MANUFACTURING SLOWDOWN

China is being pushed to the table as its economic slowdown is exacerbated by the US-China trade war. China manufacturing activity as measured by the Caixin China General Purchasing Managers’ Index (PMI) at 50.2 for November is languishing just above the 50 level demarcating expansion and contraction.

China has badly lagged US and European manufacturing PMI figures for years. Manufacturing PMIs for the US and Eurozone were 59.3 and 51.8, respectively for November. US activity has been strong in the past year while the Eurozone has slowed markedly.

While overall China manufacturing activity increased slightly in the November PMI reading, “the gauge for new export orders dropped further into contractionary territory in November, indicating the impact of the Sino-US trade friction on exports”, said Zhengsheng Zhong, director of macroeconomic analysis at investment research firm CEBM Group.

China’s benchmark Shanghai Composite has plunged 21% year to date, even after the big recovery on 3 December following the trade truce.

Business sentiment is China is being hit – not only by the US-China trade war, but also from uncertainty arising from the government’s political and social policies.

“The government is getting increasingly repressive, which is impacting all facets of life. People are more worried than ever,” said Goldkorn from SupChina.

“Even the China ‘perma-bulls’ are now less confident. We are in a period of great uncertainty – both political and economic,” he added.

PENCE SPEECH TURNING POINT

US Vice President Mike Pence’s speech on US-China policy on 4 October to the Hudson Institute think tank and the lack of any pushback was a big shock to China, noted Anla Cheng, founder and chair of SupChina, and former senior partner in China-focused private equity firm Sino-Century.

In his speech Pence slammed China’s “Made in China 2025” plan, unfair trade practices, growing authoritarianism and military expansionism.

“After the Pence speech, people were waiting for a counter-response, but the shock was that no one [in the US] went against it. At least they did not disagree. This showed the anti-China sentiment is real,” said Cheng.

However, she is hopeful of some kind of trade deal as China’s economic numbers have softened. “China has always talked about IP (intellectual property) protection, but this time they have to be serious,” said Cheng.

FIRM COMMITMENTS

Whether China’s commitments are on tariffs or technology, they will have to be solid to be acceptable to the US.

“There’s a 100% unanimous view on our economic team that this needs to be a real agreement,” said US Treasury Secretary Mnuchin in an interview with the Financial Times. “These can’t be soft commitments from China. There need to be specific dates, specific action items.”

John Richardson, ICIS senior consultant, Asia, is sceptical such a complex and far-ranging deal amid a wide gap in philosophies can be reached in record-breaking time.

“I suspect that when the initial euphoria has worn off, more and more people will focus on just how difficult reaching a lasting deal will prove to be – especially in the space of just 90 days,” said Richardson in the ICIS Asian Chemical Connections Blog. A grand deal would be a huge benefit to both the US and China chemical sectors.

China is the third largest destination for US chemical exports behind Canada and Mexico, to the tune of $11.5bn in 2017, while China exported $15.5bn in chemicals to the US, according to the American Chemistry Council. These figures do not include finished plastics, many of which are also under tariff.

Under the US-China tariffs, today a total of $10.8bn in US chemical and finished plastics exports to China are under tariff. In turn, a total of $22.0bn in China exports of chemicals and finished plastics are under tariff.

Removing tariffs would benefit not only the chemical industries of the US and China, but also countless downstream sectors and consumers. 

Picture credit SAUL LOEB/AFP/Getty Images