One of the oddities of the ongoing trade war between the US and China, is that while Beijing has been hammered with a stock market now deep in bear market territory, sliding commodity prices and an economy which may soon stumble as a result of a collapsing credit impulse resulting from the crackdown on shadow banking and P2P online lenders, the US has been mostly spared from the consequences of this trade feud, with stocks near all time highs and with consumer and company confidence at euphoric levels.
Which brings us to the biggest question on investor minds today: when will the US be finally feel the pain from trade war?
In a recent note, Deutsche Bank offers an answer: as soon as the $200BN in additional tariffs proposed by Trump goes live.
As the bank's strategist Zhiwei Zhang notes, the coming round of tariff targets 200bn Chinese exports (not including the latest proposal of an additional $267bn in tariffs floated last Friday) is four times larger than the tariffs already charged on the 50bn Chinese exports. But the actual "damage" to the US economy and consumers is likely to be a lot more than four times bigger. Deutsche Bank reached this conclusion by analyzing the US government's decisions on tariffs announced so far.
According to the analysis, it turns out there are a lot of interesting details from the US announcements that can help to gauge the coming "pains" from the trade war.
The first $50bn list contains 1,333 tariff lines of products. It was based on "extensive interagency economic analysis", and would "target products that benefit from China’s industrial plans", such as Made in China 2025, while "minimizing the impact on the U.S. economy". The second $200bn list share the same considerations on US economy and consumers, though China's industrial policy was no longer a focus. All finalized lists also took into account public comments received.
What do these criteria mean in practice? Zhiwei built a model to explore what Chinese exports the US government has preferred to target for tariff, and what they have preferred to avoid. The US government has so far made four rounds of decisions related to tariffs on China's exports, as illustrated in the chart above. Thousands of tariff lines were considered and 1097 lines (50bn) were eventually picked in the first three rounds of decisions, and the 6031 lines (200bn) now under review for the fourth round of announcement. A number of explanatory variables seem to fit the official claims which could actually explain these tariff choices. Two factors appear critical to their choices:
- Current tariffs largely avoided consumer products. This is in line with the US government's goal to limit the impact on US consumers. Among the 50bn of goods currently being tariffed, only 3.7bn are consumer products.
- Reliance on China exports is important too. This is measured by China's share in total US imports of the same product. If China's share is low, it shouldn't be too difficult for the US to switch to suppliers in other countries. The higher China's share is, the more difficult it would be to find substitutes, and the more disruptive the tariff would be on the US economy. Average China import share was only about 20% in the 50bn list.
So far the US have carefully avoided consumer and China dependent products. As a result, the trade war so far has had little impact on US economy and consumers.
But this is becoming harder as the tariff list expands to the next 200bn. Within the currently proposed 200bn list, about 78bn are consumer products (Figure 7). These include different types furniture (24bn), travel bags(2.2bn), vacuum cleaners (1.8bn), vinyl flooring(1.7bn), window/wall air conditioners (1.3bn), etc. Similarly, reliance on China increases sharply for the 200bn products in tariff pipeline. China import shares are above 20% for most of the products, and for about half of them, China's share are more than 50% ( Figure 8).
Furthermore, many of the consumer products subject to tariff also happen to have very high China import share. China's import share is about 93% for air conditioners, 78% for vacuum cleaners, and 60-90% for various types of furniture. Therefore, we believe each dollar of tariff imposed on this 200bn list is a lot more painful for the US than one dollar of tariff imposed on the first 50bn list.
Not surprisingly, US domestic resistance on the latest $200bn list appeared stronger than before. The majority of the industry representatives were against it during the six-day public hearing. Will the US be able to accommodate their complaints by exempting these products and finding other products to tariff instead?
Meanwhile, despite Trump's insistence of taxing virtually all (in fact more than all) Chinese imports, the scope for finding more product to tariff is very limited. This is because the rest of the products---240bn or so that have not yet been included in any tariff lists - generally appear more prone to tariff increases. To be specific, (1) they are mostly consumer goods. among the 240bn, 200bn are consumer goods. These include big items such as cell phones (43bn), personal computers (37bn), and toys (12bn); and (2) they are also difficult to substitute from other countries. China import accounts for, on average, 70% of total imports from the world.
In other words, while so far US consumers - and capital markets - have been spared from the tit-for-tat escalation, once Trump greenlights the next round of $200BN in tariffs, US purchasers of cheap Chinese imports will find them not so cheap anymore, hitting not only the pocket book of the US consumer, but also downstream corporations who will see their profit margins shrink rapidly, and which also explains the recent panic in various Fed and private sector surveys about the growing threat of ever greater tariffs.