The Economic Cold War Between The US And China Is Here To Stay

The economic cold war between the US and China is here to stay

The prospect of a settlement to the conventional elements of the trade war is helping sentiment. As discussed by Mark Tinker, Head of AXA Framlington Equities in Asia, it is in everybody’s interest to settle the tariff issue. He explains:

Firstly the next round of tariffs will hit US imports of intermediate and final goods where there really is no alternative and thus will either squeeze US manufacturers or US consumers, or both. Second, as the map from my colleagues in AXA IM Research illustrates, much of the origination of the value added in Chinese exports comes from elsewhere, so hitting ‘China’ is actually hitting a lot of other countries.

According to Tinker, there is a lot of coincidence of self-interest here.

China is happy to buy commodities such as Soya and LNG from the US and it is equally happy to encourage competition in areas such as autos and financial services, where observation of other North Asia mercantilist economies such as Japan and Korea has revealed that allowing large domestic quasi-monopolies to evolve is not necessarily a good thing for consumers. This would all appeal to President Trump and especially his ‘base’.  Equally a lot of America’s strategic allies, especially ones in Asia that it wishes to court such as Japan, Taiwan, and Australia are currently suffering collateral damage from this clash with China and would obviously be grateful for resolution.

However, this is not to lose sight of the fact that the other element of the Trade War, the specific policies aimed (“perhaps quixotically”) at trying to limit Chinese growth, are very much still on the table. The issues over Huawei are perhaps the most visible aspect of this, but it does introduce a level of policy-dependent idiosyncratic risk for portfolios.

Policy is not always negative however, particularly in China, where it is noticed a clear shift away from coal towards natural gas, encouraged by government with a strong focus on the environmental aspects, particularly air pollution. China Resource Gas confirmed that 70% of their new customers are coming from the coal to gas conversion initiative. At the household level, the government plans to increase connections from 340m people today to over 500m by 2030 while an even larger initiative is underway at the industrial level including power. There is a long way to go clearly, natural gas will still only be 10% of the mix by 2020, while coal will be 58%, but this is up from 5% in 2013 and represents a long term structural trend.

Around 50% of the imported gas will be LNG, making terminals and ships promising areas for investment while in the North more will be provided by a pipeline connection to Russia. Of course, imports of LNG from the US are one of the available discussion points in the trade talks. With the dramatic turnaround from importer to exporter of LNG thanks to the fracking revolution in the US, President Trump is keen to encourage the rest of the world to buy US LNG. This has so far taken the form of trying to persuade the Europeans not to take so much gas from Russia, notably with reference to the Nordstream gas pipeline, but also for the Chinese to take more gas to improve the trade balance. Mark Tinker believes that China will be more than willing to do this – at the right price.

“Anti-pollution, along with anti-corruption is a keystone of a policy aimed at social stability. This is also reflected in initiatives such as Shenzhen having switched to all electric buses and a significant portion of their electric taxi fleet. As previously discussed, my last trip across the border a month or so ago felt noticeably different at ‘street level’.  The city has transformed itself into a tech hub in the last five years and now has the second most skyscrapers (buildings more than 200m high) in the world after Dubai.”

While this shift to electric and gas rather than coal will undoubtedly please environmentalists, on the other hand, data on China energy consumption shows that China’s net imports of crude oil is now exceeding 10m barrels a day as wage growth at the lower end is taking a large number of migrant workers above the threshold of around RMB3,500 a month at which they increase personal mobility. This does not mean car ownership, but it can involve ride sharing and taxis and also weekend trips and occasional flights. As with everything in China, a lot of people having a modest shift in spending can have a big impact.