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Q3 2020 Outlook: Heading into the great unknowns (2) – Tough on China redux

Ags - Grains/Beans 251 Ags - Meat/Dairy 204 China 2605 Consumer Staples 625 Elections 106 Energy - Conventional 385 Energy - Crude Oil 264 Energy - Natural Gas 124 Health Care 258 Industrials - Aero/Defense 174 Info Tech - Tech Hardware 622 Outlook 68 Tariffs 1648 Trade Deals 907 U.S. 4635

This report is the second of three providing a guide to developments we expect for global supply chains in Q3 2020. The whole outlook series is available here. The U.S.-China trade war has been somewhat on hold during the COVID-19 pandemic. The longer term developments will depend crucially on the result of the U.S. elections in November.

In November 2016 everything changed for global trade policy with the Trump administration bringing a more muscular, bilateral, tariff-driven approach to international trade policy when compared to previous administrations. The remainder of 2020 will reveal the trade policy positions of the next President of the United States – whether it is President Trump’s second term in office or the first of Vice President Biden.

In terms of Trump administration policy there are unlikely to be many changes from the current course: a preference for bilateral trade deals focused on goods; a desire to reform multilateral institutions; a hawkish stance with regards to China; and a focus on the U.S. trade-in-goods deficit as a measure of trade policy success.

On the latter measure alone the administration has failed in its objective of bringing the deficit down. Panjiva’s data shows that in the 12 months to May 31 the U.S. trade-in-goods deficit reached $815 billion, compared to $737 billion billion in 2016, though it is at least below the $877 billion reached in 2018. Exports in the past 12 months have expanded by 5.8% compared to 2016 while imports expanded by 7.5%. 

The latter includes a significant switch away from China however, with imports from China in the 12 months to May 31 having fallen by 10.3% while those from the rest of the world climbed 9.4% higher. As a consequence the trade deficit with China specifically has fallen to $311.0 billions the past 12 months from $346.8 billion in 2016.

Figures for the past three months are distorted by COVID-19 of course, so it may be unfair to judge performance until later in the year.

TRUMP’S CHINA STRATEGY PAYS OFF IN PAST 12 MONTHS

Chart segments change in U.S trade with China by direction. Source: Panjiva 

The Biden campaign has yet to lay out a specific policy on trade, rather couching it within a multilateralist approach to U.S. foreign policy. There are references though stating “there is not going back to business as usual on trade” as well as “joining with our fellow democracies“, a desire to “integrate climate change into our approach to trade” and an aim “to win the competition for the future against China or anyone else“. Notably though the Vice President has stated that sanctions will be strengthened in response to China’s new national security policy for Hong Kong, Nikkei reports.

That would suggest a “tough on China” approach will be followed by both candidates, even  if the policy instruments used vary significantly.

Tariff policy and statistics are hardly the stuff of rousing campaign speeches, with the focus likely to be on the addition or detriment on state exports resulting from the Trump administration’s policies with regards to China. That may be particularly important in battleground states, as defined by the Financial Times as being Arizona, Florida, Michigan, North Carolina, Pennsylvania and Wisconsin.

A comparison of the change in total exports from a state in 2019 versus 2016 to its exports to China indicates whether the trade war has “hindered” a state or not. At the national level, total exports grew by 13.2% year over year whereas exports to China fell by 7.9%, representing a “drag” of 21.1%. It’s notable that for battleground states only Arizona (-22.3%) had a significant drag while Wisconsin (-6.8%), Michigan (-2.8%) and Pennsylvania had minor relative declines. In Arizona’s case the drop in exports has been largely down to a 58.3% slide in exports in the aerospace sector, a 6.6% slip in electronic circuit shipments and a 89.6% slump in copper exports.

The other three have all seen exports to China grow faster than the total. In North Carolina’s case exports to China have jumped 48.4% compared to a 13.8% rise in total exports as a result of the initiation of shipments of vaccines and antisera to China, as well as a 206.3% jump in shipments of pork related to the phase 1 trade deal (see more below).

ARIZONA LOSES, NORTH CAROLINA WINS DURING THE TRADE WAR

Chart segments change in U.S exports by state of origin and destination. Source: Panjiva 

The phase 1 trade deal faces a panoply of challenges. One is from increased tariffs applied by the U.S. in relations to side issues. In one example President Donald Trump has signed a memorandum that will authorize increased tariffs on imports from China if phase 1 trade deal commitments on purchasing seafood – specifically lobsters with a value of $150 million – are not met.

Another near-term risk comes from any U.S. decisions to formally react to China’s new national security laws for Hong Kong. At the minimum that will need to include the removal of Hong Kong’s privileged trade status. The mainland Chinese government has already warned that such intervention would represent crossing a “red line” could damage the sustainability of the phase 1 trade deal, the Wall Street Journal reports.

Indeed, the Chinese government may choose to flex up- and downwards its regular purchasing of products agreed under the phase 1 trade deal. 

Panjiva’s analysis shows exports of products covered by the deal climbed 11.5% higher year over year in May and by 11.0% compared to May 2017, the baseline year for China’s commitments in the deal. Exports of agricultural products climbed 39.8% on the back of increased meat shipments while energy exports surged 148% due to increased crude oil deliveries. Yet, exports of cars and pharmaceuticals dropped with the result that total manufactured goods exports to China covered by the deal fell by 4.2%. 

Overall the exports of 548 products covered by the trade deal reached $6.53 billion in May compared to the phase 1 trade deal’s implied target of $11.9 billion per month. Making up the existing shortfall would require exports of $16.6 billion to meet the deal’s commitments by the end of 2020. 

Taken together a mixture of policy action and reaction combined with the Presidential candidates each looking to be “tougher on China” could result in significant uncertainty for U.S. supply chains that are reliant on China during Q3 and into Q4.

CHINA’S PURCHASING SHORTFALL IS RAPIDLY WIDENING

Chart shows U.S. exports to China of products specified in the phase 1 trade deal. Rebased figure assumes the gap in 2020 year to date is made up during the remainder of 2020. Source: Panjiva 

While U.S.-China trade relations appear to be a debate about tariffs and soybeans on the surface, they’re based on a much deeper rivalry regarding access to technology. Indeed, it was China’s policies regarding technology that drove the original section 301 review that provided the legal basis for tariffs.

It’s more likely than not that even if the phase 1 trade deal remains in place for the rest of 2020 there will be a widening range of restrictions on technology trade. One example is the U.S. Department of Defense’s recent inclusion of an extra 20 firms that have alleged ties to the Chinese military, raising the prospect that the Trump administration may seek to reduce those firms’ access to U.S. technology exports or other sanctions. Aside from Huawei and Hikvision there is a wide range of firms across the shipbuilding, aerospace, telecoms and power generation sectors identified.

Panjiva’s data shows that, thus far, there has not been a significant change in exports of high technology products versus the average. Exports of semiconductors to China, including Hong Kong, have increased by 12.2% year over year in the 12 months to May 31 compared to 2017 while total U.S. exports have increased by 16.2%. That’s in part due to a 28.9% year over year surge in the past two months as semiconductor exports have avoided the restrictions on other factories on a global basis.

Shipments of computer components meanwhile have actually increased quicker than average. Exports to China rose by 8.8% in the 12 months to May 31 compared to 2017, including a 16.9% surge to mainland China and a 7.2% drop in shipments to Hong Kong. Total U.S. exports meanwhile rose by just 0.6% even with only a minor decline in the past two months due to COVID-19 disruptions.

NO SIGN THAT TECHNOLOGY EXPORT RESTRICTIONS ARE WORKING

Chart segments U.S. exports by product and destination. Source: Panjiva 

The electronics industry also faces disruptions from U.S. import duties. As discussed in Panjiva’s Q3 Outlook for the impact of COVID-19, firms facing ongoing trade policy uncertainty have a handful of options to pursue. In our prior report we identified the personal computer industry as having already gone through a significant restructuring in response to U.S. import tariffs across components and completed machines. 

Panjiva’s data shows a significant number of firms have cut their exposure to imports from China when measuring U.S. seaborne imports in 2019 for PCs and components compared to 2016. The most extreme is Chenbro Micom whose share of products from China dropped to zero in 2019 from 65.0% in 2017. Similarly NCR and Fujitsu cut their already lower proportion of imports from China with NCR dropping to 5.7% from 36.0% and Fujitsu’s fell to 19.0% from 31.4%. Samsung Electronics and Casio Computer have made smaller adjustments with reductions of 7.3% points and 3.2% points respectively.

Other firms have gone the other way, which may reflect non-tariff related decision-making as well as a need to meet new product or growth targets. The proportion of U.S. seaborne imports linked to Jabil from China rose to 68.9% in 2019 from 11.3% in 2017. Similar shifts can be seen from Sony and HP Inc. whose share of shipments from China increased by 50.7% points and 48.9% points respectively.

CHINA EXPOSURE REDUCTION BY NO MEANS A UNIVERSAL STRATEGY

Chart segments U.S. seaborne imports of computer components by shipper or consignee. Source: Panjiva 

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