What the trade war means for the Indo-Pacific

While escalating trade tensions between the United States and China are causing problems, they may provide an opportunity for states of the Indo-Pacific to diversify their trade options, Amrita Jash writes.

On 15 January 2020, China and the United States signed Phase 1 of a new trade deal, bringing what could be the start of a truce to the two countries’ ongoing trade war. The Economic and Trade Agreement called for Beijing to purchase and import an additional $200 billion of American goods and services – primarily manufactured goods and energy products – over the next two years.

In return, the United States agreed to reduce tariffs from 15 per cent to 7.5 per cent on Chinese products, an improvement for China to the tune of $120 billion. Such a trade-off will provide a significant boost to the American economy, as American exports to China are expected to increase to over $260 billion in 2020, and approximately $310 billion in 2021.

This agreement will probably favour the US in the long term, leaving some to speculate whether Washington has successfully left Beijing with no alternative but to surrender to American protectionism and make overly generous concessions.

To understand how this happened, onlookers must go back to the beginning. What led to the trade war? In March 2018, the United States filed a case to the World Trade Organization against China, accusing it of discriminatory licensing practices. This was quickly followed by the Trump administration imposing restrictions on Chinese investments in key technology sectors.

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Subsequently, Washington imposed tariffs amounting to $550 billion on Chinese imports such as aerospace technology, information technology, and machinery.

This was countered by Beijing imposing tariffs of $185 billion on American goods. Tensions have been high since, with neither side yet willing to make true peace.

For now, a trade compromise can act as a short-term fix for economic outcomes, but it is not a permanent solution to the trade war.

Trade tariffs and a consequent reduction in exports to the United States are a critical concern for China in the long term, and are sure to continue negatively impacting the Chinese economy, regardless of this agreement.

Given prevailing economic uncertainty during the COVID-19 pandemic, it is indisputable that the trade war will continue to have significant implications for the global economy, and present to many states both risks and opportunities.

At the forefront of that list are the states of the Indo-Pacific. The economies of the region are highly interactive with China, and often, like in the case of Australia, provide raw materials and intermediate products which contribute to China’s exports.

This means that when uncertainty caused by the tariffs and the following decline in Chinese exports starts to hit, it will also result in a sharp decline of imports into China from other countries. Clearly, a significant slowdown in China will have a negative spill-over effect on other countries in the region, many of whom are American allies.

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This means that the countries of the Indo-Pacific must start to look to other markets. In fact, many companies are now exploring options outside China that they may not have, thanks to the huge economic impact of the COVID-19 pandemic.

The pandemic’s economic fallout may even have a complementary effect to the trade war, giving rise to new markets in other Asian nations and diversifying the options of American allies, whose reliance on Chinese supply chains became vulnerable to COVOD-19’s disruption at a time when it should be being considered separately for strategic reasons.

The key beneficiaries of this are most likely to be Vietnam, Thailand, Malaysia, India, and Taiwan, and this is already beginning to happen. Apple, for example, which mainly assembles its iPhones in China, is gradually shifting its manufacturing units to other countries, beginning with setting up a manufacturing base in collaboration with Foxconn in India.

Meanwhile, Japanese brands such as Nintendo, Sharp, and Kyocera plan to shift production from China to Vietnam, and Korean tech giant Samsung recently closed operations in China and relocated manufacturing units to both Vietnam and India.

While some important economic diversification may come from the trade war, there remains inevitable negative impact. Outside of simply a discussion of exports and manufacturing, the friction is having seismic global effects, and changing the norms of the liberal order.

The rise in protectionism the United States has signalled in this process constitutes a dangerous departure from the existing free trade principles. With a partial truce in place, what comes next will have significant implications on the future of the region.

The uncertainty this has inflicted on the effectiveness of a rules-based trading system should serve as a lesson to all states, but it also reveals a dilemma for many. On one hand, the lesson should seem clear, ‘never put all your eggs in one basket’. But, on the other, many states have been forced to face up to the fact that currently they only have access to one basket.

This means that the key challenge for states reliant on China is finding alternatives. But can any country replace China to be ‘the factory of the world’? Even if one can, or many can come together to do the same, the fact that businesses cannot know which country or countries that will be will create stress on the economy. Relocation anxiety and the heightened costs of making these changes will show through in the form of strangled investment and uncertainty in the future.

While the trade war has the potential to generate severe stress and uncertainty on the existing rules-based trading system in the Indo-Pacific and beyond, it is also an opportunity for the states of the region to diversify their economies and prepare for a future where they cannot solely rely on China. If they can pull it off, the whole region will be more secure in its future.