Add a flare-up in the US-China trade relationship to risks. The US, along with other countries including Australia, is questioning China's handling of the coronavirus, from its sharing of information to trade policies related to medical equipment and supplies. China has defended its actions and suggested that mismanagement explains the outbreaks outside its borders. This according to a report published today by S&P Global Ratings titled "US And China Kick Trade Deal Can Down The Road." "The dispute has implications for growth," said S&P Global Ratings chief economist Shaun Roache. "US officials have remarked that COVID-19 has encouraged them to redouble efforts to reduce supply-chain dependency on China. "President Trump has suggested that the US government could impose additional tariffs on Chinese imports as the "ultimate punishment" for China's handling of the coronavirus. The U.S. has continued to tighten rules governing the transfer and trade of technology products." Renewed tension comes as the "Phase 1" trade deal agreed to late last year is already in trouble. China committed to purchasing an additional $200 billion of imports from the US during 2020 and 2021. However, imports so far this year are tracking well below levels consistent with this target. The deal includes a "disaster clause" that seems to cover events such as global pandemics, but this is toothless in substance. China has yet to use it. Clearly, the timing of renewed trade tension could not be worse. One bright spot in Asia's nascent COVID-19 recovery has been the resilience of the technology sector, both in terms of trade and final demand. Technology supply chains have recovered quickly and the prospect of a "new normal" of home working, online shopping, and health tech has lifted demand. The tech sector has become a key driver of China's economic cycle and, by extension, for economies across the region. Incentives are strong on both sides to keep Phase 1 alive for a while yet. A large trade-related hit to market confidence would set back the COVID-19 recovery. If this leads to a fudge on trade, for now, Asia's tech revival will remain on track. However, the threat of higher tariffs and the intensifying technology cold war could yet disrupt technology trade and investment, de-powering what still promises to be an engine for recovery in 2020. China committed to buy an additional $200 billion of US goods and services over the two years through 2021 when it signed up to Phase 1. The point of departure was taken to be 2017, the year before the trade war broke out, when imports of US goods and services totaled $186 billion. This would entail a swing toward US imports of about 1.4% of China's GDP. The purchase commitment was already a tough ask. Phase 1 set annual targets for both 2020 and 2021. Let's assume, instead, that China scaled up its purchases gradually to keep things simple. Starting from the level at the end of 2019, imports would have to grow by a little more than 6% per month for two years. China also faces challenges scaling up its purchases of US services. In 2019, China imported $56.7 billion of US services, about 1% above the level in 2017. Phase 1 commits China to buying $38 billion more in US services over 2020 and 2021 combined, using the 2017 import level as a base line. This means that service imports from the US would need to grow by about 2.4% per month and, by the end of 2021, be about 70% higher than the level at the end of last year. COVID-19 makes China's task of meeting its Phase 1 commitments harder. China's big buyers of US imports, including airlines, manufacturers, and power producers, are unlikely to scale up their purchases with the economy still healing from COVID-19. There may be more scope to lift purchases of soybeans, especially if China's livestock industry recovers as swine flu recedes. But the overall point is that imports normally rise and fall with GDP, and China's GDP over the next two years will be much lower than anyone thought possible when the trade deal was signed. "The most likely outcome is a fudge. China steps up its purchases of US products, particularly those with political resonance in America such as soybeans, but still falls short of the overall deal," said Roache. Even this compromise will come with political noise that could damage confidence and impose real economic costs. As fears about tariff hikes wax and wane during the consultations, financial conditions could tighten as investors price in the risk of a bad outcome. Firms may go even slower on investment plans hampered by COVID-19. Trade and tariffs are important but not the most important issue. We have long thought that, from an economic perspective, technology not trade is the core issue in the US-China relationship. Technology has been and will continue to be the key driver of growth in China. It is at the heart of intellectual property, market access, and level playing field debates. Whatever happens with the Phase 1 trade deal, the long-term dynamics of the US-China economic relationship remain unchanged. Technology is becoming more important for growth and the US and China are on a path toward decoupling. — S&P Global Ratings
