US Trade Bravado Hides A Cautious Stance On China

It is no coincidence that the spike in the US dollar against China's offshore yuan on trade war fears last week has now reversed.

Both Washington and Beijing want to avoid a full throttle trade war at a time when inflation risk is still above the Federal Reserve's comfort zone in the US and deflation risk is dangerous in China because of history's most spectacular property meltdown and a consequent plunge in economic growth and consumer confidence.

The Chinese Communist Party's“mandate of heaven” (legitimacy formula) to rule derives from its track record of epic economic growth ever since Paramount Leader Deng's Open Door reforms made China the factory of the world.

China cannot risk jeopardising its access to the $28 trillion US economy that is the destination for 15 percent of PRC exports, even though geopolitical tensions over Tibet, Xinjiang, Hong Kong and Taiwan, and naval rivalries in the South China Sea will continue to poison relations with Washington.

China's central bank also owns $780 billion in US Treasury debt and has no interest in destabilising the global bond market.

The US also knows that systemic financial instability in China can trigger contagion across global markets at the speed of light, exactly as happened in the Asian currency meltdown of 1998.

The blowback from a full-scale trade war with China could well mean recession in the US and the return of a Democratic majority in Congress in the midterm election two years from now that could make Trump a political lame duck in 2027.

This is a price the self-styled Tariff Man cannot afford to pay as he plays the game of nations in his second term.

Trump has granted a 30-day grace period to Canada and Mexico but his threat to impose punitive 25 percent tariffs have damaged relations with America's two strategic neighbours.

The Mexican peso is in freefall and FDI flows into Mexico will drop because global companies will no longer build factories in its booming northern states under the assumption that they could thus gain easy access to the world's largest consumer economy. This damage will endure even if Trump decides not to impose any tariffs on Mexico.

President Sheinbaum will also redouble efforts to diversify Mexico's exports beyond the economic colossus north of the Rio Grande. A former Mexican president once rightly lamented,“poor Mexico, so far from God, so close to the United States”.

It is symbolic of the anti-US sentiment that Trump has triggered with his tariff and sovereignty threats against Ottawa that Canadian audiences at ice hockey games invariably boo whenever The Star-Spangled Banner is played at matches.

Even a 10 percent tax against the 4 million barrels per day of crude that is produced in Alberta and refined in the Midwest would raise gasoline prices in the US heartland and be a de facto ultimate regressive tax against Trump's own low-income MAGA political base.

Venezuela does not have either the technical capacity or the geopolitical provenance to replace Canadian crude imports. So a tariff threat against Canadian energy makes no sense.

Trump has ignited a boycott of US goods in Canada, a traditional ally, whose young men paid with their blood alongside American soldiers in Europe, Korea, Bosnia and Afghanistan. Trump would never dare bully Xi or Putin as he has bullied Trudeau and Sheinbaum.

Trump's order to ramp up“maximum pressure” sanctions on Iran in a bid to strangle its oil exports was predictable at a surreal press conference with the visiting Israeli PM, even if his rhapsodies on a Gaza riviera were not.

So far, Brent at $75 does not reflect any geopolitical risk premium.

Also published on Medium .

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