The global implications of an all-out trade war

An all-out trade war between the United States and China will slow growth not only in these two countries, but also in countries that sell substantial amounts of goods in both markets—which means most countries in the world. Growth will decline not just because of the direct quantitative effects of tariffs and other barriers, but also because of major disruptions to supply chains, adverse effects on profitability of many companies, investment uncertainty, and fears about the future course of the confrontation.

Both China and the United States are also likely to attempt to establish “zones” or “spheres” of economic/trade/investment/rule-making influence, or preeminence, to broaden and deepen their market positions in their regions, and worldwide, at the expense of the other. This will be particularly true with respect to advanced telecommunications and information technology. Recently, for example, Chinese President Xi Jinping and Russian President Vladimir Putin agreed that the Chinese telecommunications firm Huawei would cooperate with MTS, Russia’s largest mobile operator, to develop a 5G network for Russia.

An all-out trade war will also likely cause both Beijing and Washington to press other countries to take sides in this dispute. Most countries will want to continue trading extensively with both the United States and China, but there would be intense pressure  from Beijing and Washington, for example, over which country’s advanced technology a given nation should purchase and which country’s technological/intellectual property/data protection standards it should adopt. Third countries also will be pressed by each to provide support in what are likely to be a series of heated disputes in the World Trade Organization (WTO). This process was already underway—to a lesser degree—before the trade war began, and almost certainly will intensify to become a far more visible factor going forward.

Segmenting the world into techno zones or digital spheres of influence runs the risk of balkanizing —or perhaps a bifurcation of key elements—of the Internet and the global information network. The odds of this leading to hard barriers and “digital iron curtains” are low because of the need of both countries—and the rest of the world—to remain connected to important facets of the global data system, and the continued importance of integrated supply chains for many products. And most countries will want to retain the flexibility to use technology from the United States as well as China to impose standards that could borrow from both countries.

Pressure could manifest in the form of US arm twisting of foreign governments to prevent their companies from selling various high-technology products to China or to specific Chinese companies—or curbing critical items the United States deems beneficial to advancing certain Chinese technologies. This would amount to “multilateralizing” these prohibitions. It would, of course, lead to new tensions with US allies and China as well. It would also strengthen the determination of Chinese leaders to achieve greater self-reliance and to retaliate. This is all highly speculative, but in a heated and unpredictable environment, lots of possibilities—including highly disruptive, mutually escalating technology-related measures—that could scarcely have been imagined a couple of months ago could emerge.

In the event of a prolonged US-China trade war, characterized by the imposition of very high tariffs on each other, and imposition of other types of restrictions such as export controls, import barriers, prohibitors or tough screening for incoming and outgoing investment, or broader technology transfer embargoes, there are several possible scenarios.

US and Chinese companies increasingly would look to alternative sources of supply, if they can find them. And both Washington and Beijing also are likely to support the development of domestic alternatives.

Supply chain adjustments away from China have been underway by US companies—particularly to increase sourcing in East Asia, South Asia, and Mexico —for several years due in part to higher production costs in some regions of China. Shifts in sourcing will likely accelerate. However, for a lot of companies the rapid alteration of international supply chains—and sharp shifts away from China—can be very disruptive and might not be possible, at least in the near term.

Many US companies have long-established supplier relationships with Chinese companies. In a large number of sectors, finding alternatives will be neither quick nor cheap. Doing so would involve finding skilled workers and experienced managers in other countries, creating new training programs, establishing production plants with similar standards of quality and compatibility, establishing new logistics relationships, assuring effective infrastructure to move goods, etc. One reason China has become a supplier for large numbers of US and other foreign companies over the years is that it has a well-established and integrated production network, highly entrepreneurial people, and excellent infrastructure. For numerous US companies, China has been a supplier of choice and changing this will not be easy.

Rapid development of China’s Belt and Road Initiative (BRI) has given Beijing a broad horizon for establishing closer trade and investment arrangements and promoting Chinese-influenced rules, norms, and standards for 5G, AI, data privacy, cyber activities, etc. with a growing number of countries. It is worth noting that it is not only backbone hardware that is critical to successful 5G systems or other forms of the emerging information and telecommunications infrastructure. A critical factor in the way these systems evolve will be the rules, laws, product standards, regulations, norms, and practices that countries and groups of countries adopt. China has been especially effective in promoting its version of all of these in various parts of the world, especially in countries linked to BRI.

The United States has not had a well-coordinated effort on a broad international scope, although it has recently taken a series of bilateral initiatives, primarily with key allies. And US negotiators obtained agreement on some relevant passages on IT rules in the new US-Mexico-Canada Agreement on trade (USMCA). The United States also has entered into the early stages of trade negotiations with the European Union and Japan. The Trump administration might attempt to use these to pin down not only closer market integration and greater access for many US products, but also to seek agreement on standards, norms, rules, and practices that serve US interests, or are consistent with US practices, on information technology and that conflict with those of China.  If both China and the United States actively pursue these efforts in competition with one another, and each can enlist enough partners, the earlier-mentioned “techno-spheres” or “zones” could begin to materialize.

Washington’s new Development Finance Institution also will likely be used to counter BRI in order to win or expand markets for US products; Washington might also see it as a vehicle to edge out Chinese goods and influence, especially in advanced technologies.

Whether Beijing or Washington will intensify efforts to seek formal agreements, or informal understandings, that limit purchases of the other nation’s high-tech products—or press them to reject proposed rules and norms of the other in favor of its own—remains to be seen.  But it is highly possible. The willingness of other nations to comply is less likely.

Most countries want to engage in a substantial amount of trade with both China and the United States. They do not want to be stuck in the middle of a trade war.

There are, to be sure, positive elements for some countries, companies, and regions. In a number of cases, and a number of products, new opportunities will present themselves.  Some countries will be able to sell more of certain products to China if China buys fewer from the United States. And some will be able to sell more of certain products to the United States if the United States buys fewer of those products from China.

A great many companies in third countries, of course, will want to take advantage of the opportunities presented. But the number of products that are interchangeable in this way—or at least quickly substitutable—is limited. These are primarily in the realm of agricultural commodities, various types of energy products, and light manufactures. In any case, in the event the trade war triggers a significant decline in global growth, and especially a downturn in China or the United States, the overall negative effects are likely to greatly offset benefits from additional sales of specific products for most countries.

Robert Hormats is an Atlantic Council board member, vice chairman of Kissinger Associates Inc., and a former US undersecretary of state for economic, energy and environmental affairs.

This is part of a series of blog posts on the US-China trade relationship in the runup to the meeting between US President Donald J. Trump and Chinese President Xi Jinping later this month at the G-20 Summit in Japan.

Image: The Huawei logo is pictured outside the Chinese telecom giant’s research facility in Ottawa, Canada, on February 14. (Reuters/Chris Wattie)