In addition to economic factors, the situation in Hong Kong and China's role in the opium crisis further complicate the path to de-escalation. Read more from Washington Policy Analyst Ed Mills.
Rapid escalation in U.S.-China tensions over new tariffs open the door to potential tariff rates above 30% and increasingly sets the stage for a prolonged conflict. China’s announced retaliatory tariffs on Friday led to President Trump hiking tariffs to 30% effective October 1 on the current tranche of $250 billion in goods and to 15% on $300 billion set to begin to go into effect September 1.
The president is also increasing pressure on U.S. companies to reroute supply chains out of China, as the threat of an emergency declaration invoking IEEPA to control commerce with China re-enters the conversation. Hong Kong, fentanyl, and a rise in nationalist sentiment around China’s national celebrations beginning in October further complicate the path to de-escalation, possibly increasing urgency to schedule another face-to-face meeting between Trump and Chinese President Xi Jinping later this year.
Order to leave China a possible precursor
The first reaction by many observers is this is an order that is unenforceable. While that is somewhat true, many of Trump’s orders are initially dismissed, until he finds a way to enforce them. The original statement over “reciprocal” trade was dismissed, but was a precursor to the tariff war we are in. Since Trump’s declaration, aides have clarified that they are looking at this as a possible option in case of a protracted trade conflict with no immediate plans to pursue a formal order. We will be watching for the Commerce Department rules on protections for emerging and foundational technology. If a technology is on that protected list, Commerce has the authority to prohibit supply chains outside the U.S. to protect national security.
Fentanyl an underappreciated sticking point
We have long written about how the president believes China is engaged in a modern day Opium War. His latest tweets should leave little doubt that he views China as responsible for many of the fentanyl overdose deaths in the U.S. This is an underappreciated dynamic. If he honestly believes China is engaged in the death of U.S. citizens, this is not just an economic fight. The flip side is that China cracking down on fentanyl could be an opening for China to de-escalate the trade war.
President Trump versus the market
There continues to be a strong belief that any negative market impact of the trade fight is temporary and any prolonged sell-off prompts Trump and his team to blink or talk up trade progress. The current escalation follows a pattern of responding forcefully to any Chinese response, but we still do expect Trump and his team to talk up the markets and hope for a response from the Fed in the coming days. However, the bigger question has always been how often he can repeat this trend before severely impacting business and consumer confidence. The tariffs will have an economic impact. The threat of expansion beyond tariffs will cause significantly more uncertainty and potential impact. Near term, the focus will be on the Trump “put” and the Fed “put,” but it should be a concern for investors that the U.S. and China are nowhere close to resolving these trade issues.
How will this de-escalate?
We have seen the U.S. and China divert off the escalatory trajectory following personal phone calls between Trump and Xi. An announcement of plans to hold additional in-person negotiations may also hit the pause button to allow for the talks to take place and calm markets. A possible opportunity could be the coming U.N. General Assembly meetings in mid-September. Trump could further delay tariffs currently planned for September 1 out of concern for impacting American consumers ahead of the holiday season. China’s lack of stepped-up agricultural purchases following the G20 summit has been a particular irritant for Trump, and the resumption of some purchases could be seen as a constructive development.
Hong Kong developments may influence trade relations
There have been signals that the Trump administration views the Hong Kong situation as a potential source of leverage against China. Clashes resumed between protestors and police in Hong Kong this weekend, and an escalation in trade tensions may see Hong Kong become a more central issue as the summer winds down. A more forceful message out of the administration counter to China’s interests could serve as a message that China needs to compromise in the current stalemate in order for the U.S. to remain in more of an observer role.
China’s consistent response: no progress under pressure
Following the president’s latest tariff threats, China’s state media heavily focused on messaging a willingness to fight and endure prolonged U.S. pressure. Throughout negotiations, the official Chinese stance has been “we are not negotiating with a gun to our head.” This dynamic is unlikely to change in the lead-up to the October 1 Chinese national day, which may see a spike in nationalist sentiment to withstand outside pressure. This further complicates the path to avoiding a tariff spike to 30% on $250 billion in Chinese goods scheduled for October 1.