Yukon Huang Populism and China’s trade tensions with the west

Protectionist sentiments are intensifying in the US where the rhetoric of the incoming administration blames China for America’s large trade deficits and job losses. In contrast, most policymakers in Europe have advocated a more considered position to placate populist feelings.

That both the US and to a lesser extent the EU have such deficits provides some credibility for the concerns but the logic is flawed. Aside from their bilateral deficits, there are differences between the two because the EU is now generating large overall trade surpluses while America’s persistent overall deficits have triggered bouts of insecurity in which China has become an easy target. The EU story is also more complicated because some members have significant bilateral deficits with China but others — such as Germany — are running large surpluses. This explains why anti-China sentiment in the EU is more diffuse.

There is no direct link between the emergence of America’s overall trade deficits and China’s surpluses. Neither is it true, as some claim, that China’s accession to the World Trade Organisation in 2001 gave it an unfair advantage.

The confusion comes from misinterpreting the implications of China being the point of final assembly and shipping to the west of parts largely produced by other Asian countries. Studies by the Organisation for Economic Co-operation and Development have shown how difficult it is to determine the country origin for the value of finished products that involve trade in parts and components. As Figure 1 shows, after China joined the WTO, its trade surpluses with the west surged as it began importing parts from other Asian partners that were then assembled and exported to the US and EU. Much of the export surplus from its assembly activities was then used to import commodities to support infrastructure investments. In sum, China has a structural trade surplus with the US and EU that is largely offset by its deficits with other countries.

To see the real picture we need to look at trade balances from both an overall and a bilateral perspective. America’s overall trade deficit became huge around the late 1990s and began to moderate only about 2009 with the global financial crisis (see Figure 2). But China’s trade surplus did not become significant until around 2005. How can China be responsible for the US’s overall trade deficit when this emerged long before China even became an export power?

As for the EU, historically its overall trade has been roughly in balance given the fiscal and exchange rate policies that govern its members. It turned,strongly positive only in recent years, making it now comparable to China’s.

America’s trade deficit is the result of sizeable government deficits and households consuming beyond their means. Moreover, since the dollar is the dominant global reserve currency, it is chronically overvalued and thus cannot adjust to help reduce trade deficits. In such circumstances, a large overall trade deficit for the US is inevitable; which countries show up as the source of the offsetting bilateral trade surpluses is incidental.

America has traditionally generated large trade deficits with east Asia, and in the 1990s these were concentrated among the more developed economies, notably Japan, South Korea and Taiwan. US manufactured imports from the region have remained at about 45 per cent of the country’s total manufactured imports over the past several decades. But China gradually captured an increasing share of Asia’s exports to the US as the last stop in the regional assembly chain after it joined the WTO. In the early 1990s, its share was less than 10 per cent but since 2001, it has risen to around 60 per cent. Thus to link US trade deficits with China’s surpluses is misleading. It is really about deficits with east Asia more generally. This has also been true for the EU.

Regardless of the logic, emotions in the west are likely to remain high because of the perception that manufacturing jobs have been lost to China. But the decline in jobs is not really a China issue either. The share of manufacturing workers in Europe as well as the US has been broadly declining since the end of the second world war due to the rise of the services sector and technological advances. The availability of low-cost labour if not in China then elsewhere such as Mexico, Vietnam and eastern Europe would have made the decline in jobs inevitable in higher income economies. Trying to stop this process with trade barriers will ultimately prove counter-productive, with the cost showing in reduced growth and welfare for all countries.

Moreover, the pattern of job losses has changed in recent years. Contrary to popular perceptions, manufacturing jobs, for example, have actually been increasing in the US since 2010. In China, however, the manufacturing labour force has been declining as salaries have risen by double digit rates annually for more than a decade.

Yet stagnant wage growth among the middle class in the west has given rise to frustrations that can no longer be easily placated. Democratic political systems are under pressure to find ways to address populist concerns without giving up the benefits that free trade can bring. Countries such as China need to play a role in the process by being more sensitive to the external consequences that their own structural shifts have created in the west.

Yukon Huang is a senior fellow at the Carnegie Endowment and a former World Bank Country Director for China