Trump May Find China Harder to Bully on Trade Than Mexico, Canada
President Donald Trump's tariffs are unlikely to prompt capitulation by his Chinese counterpart, Xi Jinping.

President Donald Trump fancies himself one of the world's greatest dealmakers, if not the greatest: "I know deals, I think, better than anybody knows deals," he told reporters on May 22.

For global leaders now looking to beat Trump at his own game, the recently-agreed United States-Mexico-Canada Agreement offers a template for how to get the U.S. president on board: Give him minor concessions to brag about.

"The USMCA is a historic transaction!" Trump tweeted after the agreement was announced earlier this week. "It is a great deal for all three countries." The ebullient tone is notable since Trump criticized the accord's 24-year-old predecessor, the North American Free Trade Agreement, as one of the worst trade deals in U.S. history.

But take a look at how Wall Street has reacted to the agreement: The Standard & Poor's 500 Index is down about 0.7% this week, meaning investors don't agree with the president's characterization of the Mexico-Canada deal as a game-changer.

"What's changed?" Capital Alpha Partners, which conducts policy research on behalf of investors, wrote this week in a report. "Other than removing an overhang, the agreement suggests: not much for North America trade."

Economists, investors and trade experts are now turning to the knottier question of whether Trump's threatened trade war with China, which has cast a pall over financial markets this year, can come to a similarly quick and easy resolution. The answer, according to Bank of America Global Economist Ethan Harris, is that it won't happen anytime soon, partly due to political calculations on both sides.

With the U.S. midterm elections approaching next month, the Trump administration is more likely to "dial back its demands to get a deal through," Harris wrote this week in a report, so it can "present a `win' to voters." However, Chinese President Xi Jinping has an incentive to wait until after the midterms, betting that a loss of Republican seats in U.S. Congress could weaken Trump's negotiating position.

"China's tariffs on politically-sensitive products such as soybeans and cars show they are keenly aware of U.S. politics," Harris wrote. 

The new deal with Canada and Mexico brings key concessions for U.S. dairy farmers and auto workers. But for the overall U.S. economy, they're "mainly symbolic," according to Harris.

Federal Reserve officials including Chairman Jerome Powell have warned recently that U.S. businesses throughout the country are delaying or canceling investments in new plants and equipment due to concerns that trade disputes with China, Europe and Japan could escalate, damaging the economy. Until recently, trade disagreements with Mexico and Canada were also on that list.

Under this week's deal, a car can only be counted as "North American" - and thus duty-free - if at least 75% of its value, including parts, comes from the region. While that's up from 62.5% under Nafta, a vast majority of autos manufactured in the three countries already meet the higher threshold, according to Harris. Another aspect of the USMCA requires at least 40% of the car or parts to be made by workers who get at least $16 an hour.

"This could cause some production to move north, prompting investment in more labor-saving technology and some job increases in the U.S. and Canada," Harris wrote. While workers in the industry may benefit, "both of these measures will add to the cost of cars made in the region, weakening the global competitiveness of North American autos."

And then there's dairy. U.S. exports to Canada of things like milk and cheese could increase by $70 million, Harris estimates. That works out to 0.0003% of U.S. gross domestic product. Not exactly huge.

Says Dec Mullarkey, a managing director at the money manager Sun Life Investment Management, which oversees $47 billion for clients: "These are all just technical adjustments, playing to your political base."

"He can go out touting this hyperbolically, that this is the greatest trade deal ever, and he can go on the campaign trail with that," Mullarkey said in a telephone interview. "But he's basically moving the deck chairs."

On the China front, the U.S. is battling to protect U.S. technology and intellectual property from theft and unfair exploitation, while also pushing to reduce the trade deficit. There may be broader public support for those goals, according to Mullarkey, but it still comes down to politics.

"It could work to his benefit to say he's really getting tough," Mullarkey said. "His supporters will really run with that."

According to the U.S. Trade Representative's office, recently-imposed 10% tariffs on some $200 billion of Chinese imports are set to increase to 25% at the end of the year.

"Ongoing tensions with China remain and now loom significantly larger for the U.S. economy than those with Mexico and Canada," Fitch Ratings said this week in a report.

Rebecca Karnovitz, an assistant vice president at Moody's Investors Service, says it's likely the dispute with China will drag on well into 2019, since the underlying issues are "more complex."

"With regards to China, our baseline projection is that trade tensions will probably escalate further," Karnovitz said in a phone interview. "A quick resolution there will be a lot more challenging."

Even so, the ability to end a trade battle remains entirely within the Trump administration's control. Indeed, the deal with Mexico and Canada shows the president's power not just to stir up a brouhaha, but to resolve it, says Mary Lovely, an economics professor at Syracuse University who's currently serving as a senior fellow at the Peterson Institute, a non-partisan organization focused on fiscal responsibility.

"This was a manufactured crisis on a manufactured timeline," Lovely said in a telephone interview. "This is Trump's modus operandi, to create this crisis that has to be resolved."

An amicable end to the China trade tiff could prompt a big stock-market rally, given the seriousness of the potential economic damage. A full-blown trade war with China could shave one percentage point off U.S. gross domestic product by 2021, according to economists at Standard & Poor's. China, on the other hand, would face a hit of just 0.6 percentage point.

"Higher tariffs or other forms of protectionism, even if well meaning, will raise prices and hurt all consumers, especially poor and middle-class families, not to mention damage the competitiveness of companies that import raw materials and components from other countries and folks who work in export industries," the S&P economists wrote last month in a report.

With that in mind, it's tough to understand the goals of Trump administration's protectionist push, other than pandering to his base of America-first voters.

But it sets up a situation where Trump's could engineer his own October surprise ahead of the midterm elections: Make a quick, easy deal with the Chinese and then proclaim to his voting base of workers in the industrial heartland that a campaign promise was kept.

Big business, historically aligned with traditional Republicans' laissez-faire economic policies, would certainly cheer. Industry associations including the U.S. Chamber of Commerce and National Retail Federation have argued that the tariffs will simply drive up prices for American consumers.

"If he's willing to take a wink-wink, fake deal with China, China will be happy to do it," Lovely said.

But it's unlikely, she says. Trump will instead probably push to resolve trade differences with Europe and Japan first, in a ploy to isolate China. According to the New York Times, there are no currently no plans for trade negotiations with China, although the president's chief economic adviser, Larry Kudlow, has said that Trump might meet with Xi at a meeting in Argentina in late November.

After the midterms.

"China is not going to be pushed around in the same way" as Canada and Mexico, Lovely said.

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