Shock and Awe Won’t Work in a Trade War

US President Donald Trump, who famously said that “trade wars are good, and easy to win,” is about to learn that he has a formidable adversary in China, which has methods of making US businessmen howl for mercy in ways that have nothing to do with tariffs.

The President has picked a war of his own choosing, much as George W Bush did with shock and awe in Iraq in 2003. The United States does have enormous economic power. But he is not likely to win it, nor is China, which no matter how it fights back, can expect to shave perhaps 2 ppt off gross domestic product growth and to see the consumer price index rise by perhaps 0.1 to 0.2 ppt as Beijing has to search elsewhere for soybeans and other agricultural products.

In addition, the uncertainty for businesses and investment could delay or deter business investment decisions, cutting into expansion. But China has enormous, lumbering state-owned enterprises that have grown under President Xi Jinping. Inefficient as they are, they can be expected to do government service in a way that US businesses will not be asked to do.

The United States faces its own bruises and it is already starting as business and agriculture in many of the red states are beginning to suffer. The conservative Tax Foundation found that the proposed tariffs – not the new ones the President is pushing – would cut GDP and wages by 0.1 percent, cut at least 79,000 full-time jobs, and have other deleterious impacts.

But the Chinese have weapons at their disposal that the Americans don’t have. Take, for instance a 2012 squabble between Japan and China over the Senkaku Islands, called the Daioyus by the Chinese. Anti-Japanese demonstrations swept China, forcing the closure of Toyota factories across China for weeks. Chinese citizens attacked Japanese-made vehicles, smashing windows and wrecking property.

Toyota and other Japanese manufacturers were hammered badly. Nor were the Japanese alone. Hyundai sales plummeted by 60 percent after Seoul agreed to the placement of THAAD missiles on South Korean soil. Korean retailer Lotte’s 55 supermarkets were closed in China temporarily as well.

In 2016, China became irked at the Philippines’ decision to take its case over dominion over islands in the South China Sea to the Hague for arbitration under the United Nations Convention on the Law of the Sea (UNCLOS). Shortly after, China’s Administration of Quality Supervision, Inspection and Quarantine issued a notice of non-compliance on Philippine bananas, saying it had detected a pest called Dysmicoccus neobrevipes in a shipment to Shenzhen, a major entry point for Philippine bananas to China. The Philippines exported nearly 450,000 tonnes of bananas to China in 2016 at a value of US$157.5 million. China destroyed 35 tonnes of bananas and suspended 27 exporters to send a message.

There are 2,500 McDonalds in China and 3,000 Starbucks. Both should take a lesson from Giordano, the successful Hong Kong-based clothing retailer once owned by Jimmy Lai, the democracy campaigner and publisher of the outspoken Chinese-language Hong Kong broadsheet Apple Daily, who once called the former Chinese Prime Minister Li Peng "the son of a turtle's egg with zero IQ.” That ended Giordano’s expansion in China. Lai was forced to sell Giordano to save it.

McDonald’s says it expects to increase its China outlets to 4,500 by 2022. Starbuck’s opening a new outlet every 15 hours and expecting to add 2,000 more by 2021. If this trade war gets serious, both may have to revisit their plans. General Motors carmaker Buick outsells Honda, Audi, BMW and Mercedes-Benz in China, delivering more than 1.1 million vehicles in 2016 – as opposed to only 202,000 in the US. Economists don’t think the Chinese consumer will shy away from his or her Starbuck’s latte or McDonalds' Big Mac. But it is a fair assumption that McDonald's and Starbucks won’t get any additional store openings. Other US businesses seeking to expand in China are probably going to be told no when they apply to open new facilities or peddle new items. Apple's Tim Cook has already expressed misgivings to the US government over threats to the company's expansion in China.

Clearly the United States has a huge stake in production in China. US investment totaled US$14 billion in 2017, relatively unchanged from $13.8 billion in 2016. Beijing has no compunctions about putting roadblocks in the way of every company operating there.

The Trump administration has raised both its rhetoric and its game in recent days, with the President’s threat of tariffs of 10 percent on US$200 billion of imports if Beijing retaliates against his previous announcement to target $50 billion in imports, and to target another $200 billion worth of Chinese products if Beijing chooses to fight back. If it makes good on its threats, U.S. actions could affect as much as $450 billion worth of Chinese imports.

What is clear is that neither side is going to be a winner if the President goes through on these threats. While US publications have minimized the danger of Chinese consumer retaliation, with the New York Times reporting that consumers prefer iPhones to Huawei P20 Pros and Chevrolets to Geelys, the extent to which Beijing can whip up xenophobia can be frightening.

As he backed down on the politically disastrous policy of separating families of undocumented immigrants from their children, it is theoretically possible that he could scale down the announced tariffs before July 6 if China makes major changes on a wide range of domestic policies that the US deems satisfactory including China’s policies regarding intellectual property and other issues.

But that appears unlikely. Too much of China remains a command economy despite the entrepreneurial concerns that have sprung up.

Beijing is likely to use other weapons at its disposal. The current credit-tightening measures are likely to be eased. The government, as it has, is likely to support domestic demand, as it has done in the past. In the 2008-2009 global credit crisis, China spent billions on infrastructure, creating the world’s biggest high-speed rail system. It faces capacity problems and its economy remains distorted today because of those 10-year-old decisions. But China has huge reserves and the US has none.

China's commitment to buy more US products such as Boeing aircraft is likely to be delayed, especially while Airbus is waiting in the wings. Can Buick and Chevrolet expand their China dealerships while European and Japanese carmakers are eager to fill the gap?