Europe Isolates China Trade Cheat

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Yves here. I’m faithfully replicating the MacroBusiness headline as an indicator of unhappiness in some circles in Australia about the degree to which the government has opened the floodgates since I was there to investment from China, particularly in real estate. When I lived in Sydney in 2002 to 2004, property struck me as awfully fully priced by global standards, and it’s been on a moon shot trajectory since then, in part due to Australia also liberalizing immigration. When I was there, the intent of policy was to have immigration in certain skilled categories, and then with an eye to maintaining population levels, not goosing them. Since then, the population in Australia has grown from 20 million to over 24 million.

But in addition, even though imposing tariffs on cars and car parts would hurt quite a few US employers, it would also hurt European multinationals (many of whom happen to be US employers), to the degree that they’ve pushed the European officialdom to see if they can cut a deal with Trump. If that happens, Trump gets a win he can brandish for the midterms and the tariff brinksmanship presumably eases off a bit, potentially a lot.

By David Llewellyn-Smith, founding publisher and former editor-in-chief of The Diplomat magazine, now the Asia Pacific’s leading geo-politics website. Cross posted from MacroBusiness

Recall that China has tried to play Europe for the chump, via Reuters:

China is putting pressure on the European Union to issue a strong joint statement against President Donald Trump’s trade policies at a summit later this month but is facing resistance, European officials said.

In meetings in Brussels, Berlin and Beijing, senior Chinese officials, including Vice Premier Liu He and the Chinese government’s top diplomat, State Councillor Wang Yi, have proposed an alliance between the two economic powers and offered to open more of the Chinese market in a gesture of goodwill.

One proposal has been for China and the European Union to launch joint action against the United States at the World Trade Organization.

But the European Union, the world’s largest trading bloc, has rejected the idea of allying with Beijing against Washington, five EU officials and diplomats told Reuters, ahead of a Sino-European summit in Beijing on July 16-17.

Instead, the summit is expected to produce a modest communique, which affirms the commitment of both sides to the multilateral trading system and promises to set up a working group on modernizing the WTO, EU officials said.

“China wants the European Union to stand with Beijing against Washington, to take sides,” said one European diplomat. “We won’t do it and we have told them that.”

Despite Trump’s tariffs on European metals exports and threats to hit the EU’s automobile industry, Brussels shares Washington’s concern about China’s closed markets and what Western governments say is Beijing’s manipulation of trade to dominate global markets.

“We agree with almost all the complaints the U.S. has against China, it’s just we don’t agree with how the United States is handling it,” another diplomat said.

But it’s China that looking more isolated today, via Quartz:

The US may have been accused by China of “opening fire on the world” with its punitive trade tariffs, but it looks like officials may be making more progress in Europe’s largest economy Germany.

Richard Grenell, the US ambassador to Germany, has caused quite a stir since he arrived in Berlin in May, lecturing German companies to stop trading with Iran, and saying he planned to “empower” anti-establishment conservatives in Europe. However, with the threat of punitive US tariffs on its cars looming, Grenell certainly has the attention of Germany’s powerful car bosses.

German business daily Handelsblatt reports (link in German) that Grenell met Daimler CEO Dieter Zetsche, BMW CEO Harald Krüger, and VW CEO Herbert Diess on Wednesday evening to discuss both sides abolishing all tariffs on each others car imports. Right now, the European Union adds a 10% tax on imported US cars, and the US puts 2.5% on EU car imports, and is threatening to ramp that up to 25%. As part of the deal, president Donald Trump would reportedly want German carmakers to invest more in the US.

Last night’s meeting was not the first time the carmakers and Grenell have talked about abolishing two-way tariffs. The Wall Street Journal (paywall) reported on June 20 that the ambassador had been meeting with all Germany’s most important car companies, and that they were already behind the idea.

Chancellor Angela Merkel is worried about the damage a car trade war could do to one of Germany’s core industries. “We now have tariffs on aluminum and steel and we have a discussion that is far more serious,” she told parliament, referring to auto tariffs. “It’s worth every effort to try to defuse this conflict so it doesn’t turn into a war.”

More from Yahoo:

German Chancellor Angela Merkel said Thursday she would back opening talks with trading partners on lowering automobile tariffs, in what appeared to be an olive branch to US President Donald Trump as the EU battles to dissuade him from imposing hefty levies on European cars.

But Merkel said that any negotiations on lowering tariffs in one area could only be conducted with “all the countries with which we have trade in cars,” rather than just with the United States.

A deal with the US alone “would not conform with WTO” rules, she said.

“We can either have negotiations about a wide range of tariffs, for 90 percent of goods,” Merkel said in a reference to the stalled talks for a transatlantic free-trade deal known as TTIP.

“Or we can talk about one type of goods, but then we must accord the same treatment to all trading partners of the world. That’s an option I could imagine,” she added.

Interestingly, Nomura sees it all as deflationary:

US pursuit of beggar thy neighbor policies: is it leading to a whole new world for global automakers?

Automakers have set up an intricate web of suppliers and assembly plants globally to leverage the benefits of trade agreements, while keeping FX risks at acceptable levels. The pursuit of beggar thy neighbour policies by a large, connected, and heretofore open Now 3 mths 12 mths US Europe Japan Korea Brazil Russia India China Thailand Indonesia Nomura | Global Autos Outlook 4 June 2018 4 economy such as the US threatens to upend this structure.

In this edition of the Global Autos Outlook, we therefore look at trade-related challenges (and opportunities) facing global automakers, possible strategies they could adopt to cope, and potential winners and losers over the near-to-medium term. Risk of “No NAFTA” has risen, although our base case remains NAFTA 2.0 Trump’s openly protectionist policies have increased the risk of a “No NAFTA” outcome, although our base case still remains that NAFTA will be renegotiated.

Nearly 25 years of NAFTA have integrated the North American auto industry very tightly. If NAFTA is dissolved, it will impact all automakers operating in North America. In particular, we think GM and FCA could be hit the hardest (higher import tariffs cut 40% of GM’s FY2018E EBIT, 23% of that for FCA). In our opinion, it increasingly appears that the US President’s decision-making is centered on autoworkers, even if that is to the detriment of the automakers. Thus, US automakers getting hurt might not hold back Trump from making such a move.

Auto industry staring at global excess capacity, no matter what the outcome of the Section 232 drama

The US Department of Commerce has started a Section 232 investigation into US imports of autos and auto parts. Under the worst case scenario, this may result in broadbased import tariffs slapped on US automotive imports after the investigation concludes and reports back to the President in several months. US imports of new passenger vehicles and auto parts totaled $333bn in 2017. Import duties on such a large volume of goods would be highly disruptive and impact all the major car exporting countries/regions such as Mexico, Canada, Japan, the EU, and South Korea.

While we think that the threat of tariffs is largely Trump’s negotiation tactic to get a better NAFTA deal, we caution investors to pay attention, as the tail risk (of import tariffs materializing) is not negligible. Furthermore, no matter whether new auto tariffs are imposed or not, global carmakers, irrespective of nationality, are feeling pressured to build plants and increase employment in the US. This is likely to lead to increased capacity in the US, where car demand is no longer growing.

On the other hand, non-US carmakers are unlikely to cut capacity at home or elsewhere, leading to excess capacity globally. This will impact most markets except for relatively closed ones such as China, India, and Southeast Asia, due to their existing high import tariffs. For global automakers, we therefore see a binary outcome from a growing list of protectionist measures being deployed by the US. Neither outcome is good news, with automakers staring at excess global capacity in either case:

 If Section 232 tariffs are imposed, it (largely) cuts off imports into the domestic US market. However, that would mean that there is excess capacity outside the US, as existing foreign plants supplying to the US (7.88mn/$192bn new PVs, 8.2% of global volume, and $141bn auto parts in 2017) have to find markets elsewhere.

 If new tariffs are not imposed, we still have additional capacity coming up in the US as automakers are goaded into doing so to avoid political pressure. This also leads to a global supply-demand imbalance in the auto industry.

Silver linings: China’s import tariff cut, forthcoming JEEPA

Although US protectionism is a real threat, we see a couple of silver linings. China announced an import tariff cut for autos, from 25% currently to 15% beginning 1st July 2018. The Japan-EU Economic Partnership Agreement (JEEPA) was agreed upon last December and is likely to become effective in spring 2019, benefiting Japanese car exporters. One of the biggest beneficiaries from both China and the EU’s tariff cuts would be Toyota Motor.

Full report here.

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  1. EMHO

    “US lure carmakers with tariff offer – but the proposal is illegal”
    That’s the title in WirtschaftsWoche. A premier german language trade and economics magazine. It had an interview(in German) with Ewald Pum attorney at internal law firm Wirtschaftskanzlei Rödl & Partner.
    He states that what Ambassador Grenell proposed is illegal under international WTO law, and the EU could therefore not support it. Also, the EU had historically supported rules based free trade, and this could only be accomplished via an bilateral trade deal in goods, what he called TTIP on a diet.
    Here is the article(in German):

  2. Jim Haygood

    Nomura sees it all as deflationary: the pursuit of beggar thy neighbour policies by a large, connected, and heretofore open economy such as the US threatens to upend this structure.

    So does UK-based Russell Napier, who sees the US obsession with shrinking its trade deficit provoking a seismic shift in China:

    Investors need to prepare for a formal widening of the trading bands for the RMB relative to its basket and the problems such a move will create for all emerging markets. That first move in the RMB is inherently deflationary. This is no counter-punch in a trade war; it is the beginning of the creation of a new global monetary system.

    The ability of China to extend the cycle has come to an end as its current account surplus has all but evaporated. It has also come to an end because Jay Powell has warned China, and other emerging markets, that he will not alter the course of US monetary policy to assist with any credit disturbances outside his own jurisdiction.

    Who can run the current account deficits necessary to make their currency an attractive anchor for smaller countries seeking to run current account surpluses?

    It seems well nigh impossible to believe, following almost 40 years of mercantilism, that China would opt to become a country running large current account deficits. Such a change in mindset may seem revolutionary, but it is just another necessary shift in the long game in the attempt to make China the pre-eminent global economy.

    The initial shift to a more flexible Chinese exchange rate is deflationary and dangerous. The USD selling price of Chinese exports will likely fall, putting pressure on all those who compete with China – EMs [Emerging Markets] but also Japan. The USD will rise, putting pressure on all those, particularly EMs, who have borrowed USD without having USD cash flows to service those debts. With world debt-to-GDP at a record high, such a major deflationary dislocation can easily trigger another credit crisis.

    Following the great dislocation, China will be free to reflate the world.

    Free to reflate the world‘ … much as the US did post-WW II with its Great Inflation that flooded the world with dollars.

    But getting from here to there is the tricky bit. As Napier insists, a deflationary ditch lies between. Combine Llewellyn-Smith’s comments on the auto industry’s overcapacity and supply-chain disruption with a deflationary break in the global economy, and you’ve got the recipe for a nasty little crisis and perhaps a second bankruptcy in GM, whose long-term debt is rising rapidly.

    Flake-o-nomics may be creative destruction, but folks are not going to like the interim results. The purblind Hoover-Trump will be blamed, rightly.

  3. The Rev Kev

    This whole tariff fight really seems to be about derailing China’s plans to be a world leader with its ‘Made in China 2025’ plan. Maybe Trump and his advisers reckon that if this fight is not carried to the Chinese soon, then it will be too late. Europe, though under attack by Trump, is also seeing the dangers where the EU will be eclipsed by a single country.
    It may be that Europe is giving Trump a message that if he plays nice with Europe’s tariffs, then the EU will cooperate with the US against China. I hope that the calculation is not to push China into financial chaos as serving Europe’s and Trump’s interests. Supply chains are far too meshed to make that a good option and I can easily see a recession in the making which will hit the world hard.
    China may have a long term advantage in that it has invested in infrastructure, transport, education and training whereas the west has been devaluing these things due to neoliberal policies for decades now. They may start pulling their money back which will hit places like Australia, Canada and the US hard as to my eye Chinese money keeps things like property values high in those places. We’ll find out soon enough.

    1. Damson


      I’ve been following CGTN on the tariff war, and it looks like China is going to go the ‘proportional reciprocity’ route, just as Russia has with sanctions.

      The latter has benefited from sanctions, while Europe has lost billions in trade.

      As for the ‘five EU officials’ – all anonymous – cited in Reuters’ report, I would take their statements with a large dose of salt.

      EU is in ferment, and Merkel is not doing well in the polls.

      There is strong anti-US sentiment in Germany, albeit not reported in the media. A combination of Trump’s policies and the perpetual wars – now implicated in the greatest mass migrantion crisis since WWII – has led to a disenchantment with US.

      Then there is OBOR, with various interest groups – particularly in European industry – beginning to look East rather than West.

      Thus there is no real unified resolve at EU level to warrant such claims.

      Dedollarization is continuing apace too, and new alliances are emerging like the SCO and the reported deals between the major oil producing countries like Russia and Saudi.

      China plays a much longer game than the US, so it is hard to estimate what the consequence will be within the short – tern assessment models used by the Western powers.

      1. Thuto

        I’ve gotten into the habit of rolling my eyes whenever an establishment media outlet qoutes “anonymous sources”. Looking at the prospects in the global automotive sector, surely the smart money is on the east (and other emerging markets) being where the long term growth is going to emerge, so why the EU would bet on a jockey riding a horse that’s falling behind the pace would be rather difficult to fathom. One assumes that CEOs of the big three german automakers play as long a game as anyone, so being brow beaten into an anti-china stance by a US ambassador would be incredibly shortsighted, to say nothing of raising investor ire…

        1. Jim Haygood

          Captains of the German auto industry kowtowing to US ambassador Grenell make a remarkable scene, not unlike the Chinese capitulating to the British and handing over Hong Kong in the opium wars.

          But Germany is an occupied and humbled nation, with tens of thousands of US troops garrisoned on its soil for three generations now. And Grenell, a product of the John F Kennedy School of Gubmint at Hahhhhhvid, was born to rule.

          It’s good to be king ambassador.

          *summons his liveried steward to fetch oysters and mimosas for brunch*

  4. Susan the other

    I agree that this is looking like creative destruction -but more like intentional creative destruction. Bringing down the dinosaur auto industry – now that’s definitely a step in the right direction, imo. So it’s curious that Trump has such a strategic focus, no? And he just started Space Force. So clearly that is where the technology is. I do not agree that this is hyper-nationalism (that’s just the cover) and it seems absurd for anyone to suggest that Trump is actually doing anything to benefit domestic auto workers… he’s just not that dumb. And of course Merkel is in a tizzy. She’s going to do everything she can to soften the impact of the inevitable.

  5. Ignacio

    So, is the EU, particularly Germany, accusing China for market manipulation?
    The hypocritie game is in gaining track.

  6. ChrisAtRU

    Ha! As discussed and promised ’round the table at D4 last night … ;-) #ChicagoNCMeetup

    Thanks again Yves!

    Part of me wants to believe that the capitalist nations were always destined to circle the wagons against communist China, despite all the hand wringing about Trump. The political aspect of this is more interesting to me at the moment. Given all we know about the loyalty Trump still enjoys from those who put him in office, a yuge trade “win” this year will play to the theme of tempered expectations of a “Blue Wave”.

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