Navigating chaos

Likely policy paths in a trade war

Escalation of tensions. The US-China trade war is now at levels unsustainable to both parties. Eventually, tariffs must come down. However, tensions will continue to loom large, threatening the wider aspects of the bilateral relationship – such as services trade, investment, technology, and finance. This reactive cycle traps both nations, limiting their options as well as increasing investor unease. 

Perceptions of Trump's actions. For China, this presents an opportunity to redefine the global economic order to align with China’s interests. Chinese commentators are incredulous at the speed and scale with which established systems – systems shaped by the US – are imploding. Many consider Trump's mercantilist (‘a system aimed at establishing a positive trade balance’) perspective as ‘a misdiagnosis of the contemporary competitive landscape’. Trump's aggressive tactics have now sidelined any valid concerns regarding China’s trade conduct. Also, ‘US versus everybody’ diminishes the prospects of China becoming isolated. Chinese official statements strive to project confidence, eager to contrast China's stability with the unpredictability of the Trump administration. And even though a recently published white paper articulates China’s ongoing commitment to equitable dialogue, it made plain that meaningful concessions from China are unlikely. President Xi remains unhurried to pursue negotiations because public sentiment in China largely supports a firm stance against the US. Xi’s administration is still seemingly confident it can endure more short-term pain than the Trump administration – which is also subject to domestic political pressures.

Economic landscape in 2025 more difficult. The trade tensions exacerbate the challenges of overcapacity and factory-gate deflation, presenting another hurdle to the improvement of business sentiment, land another blow undermining household expectations around income, job and employment prospects, and will divert already constrained fiscal and monetary resources away from any single-minded allocation and towards boosting consumption and aiding local governments, as well as impel further financial volatility. Of course, Beijing knows that an extended confrontation will be painful – but it believes that it can weather the impact. 

This will test the agility of Beijing’s policymakers. Policymakers will front-load fiscal measures to place a floor under activity, which is likely to centre around special purpose bonds (SPB). Previously, the GWR (Government Work Report) had seemingly broadened the scope for the deployment of bond proceeds by local authorities, but one would assume ensuring a larger proportion of those funds must now make their way to new projects. Monetary policy will have to reflect the accelerated liquidity demands on the financial sector to purchase these bonds. However, a larger fiscal package targeting infrastructure would be foolish as, even though it may prop up GDP growth, it would do nothing to ameliorate the challenges facing exporters. Instead, policymakers will be focused on mobilizing and deploying significant resources towards supporting those directly affected exporters through specific initiatives that lower their costs, keep people employed, and offset falling US orders (domestic markets and other markets abroad). Developing domestic consumption is vital for China’s economic strategy, necessitating measures to enhance consumer sentiment. Previous economic data indicated promising trends, yet the uncertainty and volatility surrounding international trade continue to shape consumer behaviour dramatically.