US-China Trade War: Lessons from US Trade Retaliations against Japan
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By Min-Hua Chiang

US-China Trade War: Lessons from US Trade Retaliations against Japan

Sep. 28, 2018  |     |  0 comments

The US and China have been recently embroiled in a tit-for-tat trade battle. The US has so far imposed three rounds of tariffs on Chinese products, totaling USD 250 billion worth of goods. In return, China has announced it will impose higher tariffs on USD 60 billion of American goods. To some extent, America’s trade retaliation measures against China are similar to that against Japan more than 40 years ago. Looking back to Japan’s experience helps us to make clear the essence of the US-China trade battle today.

“Trade” has been an important instrument for the US in managing the global political economy. Before the escalating disputes over the bilateral trade imbalance, the US had voluntarily opened its market to Japanese goods as promoting Japan’s post-war development was considered essential to align the country with the US against the Communist regimes in the 1950s. In 1953, the US granted the Most-Favored-Nation (MFN) status to Japan, which permitted Japanese goods almost unrestricted access to the American market. Japan’s joining the General Agreement on Tariffs and Trade (GATT) in 1955 further allowed it to enjoy low tariffs when exporting to other GATT countries. In return, America had Japan’s adherence to American policy in East Asia. During the 1950s, the US bought progressively more each year from Japan than all the nations of Southeast Asia combined.[1] Although Japan lost its important trade partner, China (because the US did not allow Japan-China trade), it finally discovered that the US was a more lucrative market to grasp.

The US-Japan trade imbalance became a serious issue in US-Japan relations in the 1970s. According to Japan’s official statistics, Japan has constantly registered a trade surplus with the US since 1976. Its trade surplus increased quickly from JPY 1.3 trillion in 1979 to JPY 9.4 trillion in 1985. However, US figures showed that it has continuously run a trade deficit with Japan since 1965 (Figure 1). From 1967 to 1978, the US trade deficit with Japan increased more than 26 times, from USD 513 million to nearly USD 14 billion. The quick growth of the US trade deficit with Japan provoked protectionist political pressures from the US side. Before 1980, most of the friction was ultimately settled when Japan voluntarily restrained exports of disputed items. After 1985, the US government demanded further Japanese concessions that would benefit American exports to Japan. Beyond the bilateral trade negotiations, the US also made efforts to improve market access to Japan through multilateral negotiations in the GATT during the 1960s and 1970s. Unsatisfied with the Reagan administration’s efforts, a Democratic-controlled Congress passed the Trade Act in 1988 which required the administration to identify countries that were “unfair traders” and then negotiate for solutions to identified problems (also known as the “Super 301” provision). In 1989, Japan was named as a priority country threatened by US retaliation. In the 1990s, the US continued to seek greater access to Japan’s market through intensive bilateral negotiations. Japan-US economic talks continued through the “US-Japan Economic Partnership for Growth” in 2001 and “US-Japan Economic Harmonization Initiative” in 2010, albeit with no significant agreements signed between the two countries.

Figure 1. US trade balance with Japan 1957-2017

Source: CEIC.

Japan’s exports to the US developed relatively slowly after the latter half of the 1980s. As a result, the US trade deficit with Japan also developed relatively slowly during the mid-1980s to the mid-1990s. Beyond the institutional measures, another profound impact on Japan’s exports to the US was the appreciation of the yen. The collapse of the Bretton Woods System in 1971 had already resulted in a sharp appreciation of the yen vis-à-vis the US dollar. After the Plaza Accord, the Japanese yen further appreciated by 60 percent between September 1985 and September 1988. Coupled with the wrong monetary policy (partly due to the fear of yen’s appreciation), the Nikkei Stock Average plummeted by more than half from 38,916 in December 1989 to 15,910 in July 1997. The real estate market also started to plunge severely. The value of financial assets in Japan evidently shrank. Japan has experienced both economic stagnation and deflation, the so-called “Japanese lost decade” since the early 1990s.

China’s emergence as the global factory is an important reason behind the lack of substantive development in the Japan-US trade imbalance. Since Japan has been the main supplier of key components and capital goods to China for their final assembly, its trade surplus with the US has been transferred to China. In order words, the US did not resolve its trade deficit problem but only passed it from one country to another.

Similar to its policy towards Japan after WWII, the US trade policy towards China was mingled with geopolitical considerations. After the Sino-US reconciliation, the US agreed to remove some commercial barriers against China in 1979. From 1980 to 1999, the US restored MFN status to China, offering low tariffs to Chinese exports to the US. In 2000, Permanent Normal Trade Relations (PNTR) status was granted to China before its admission to the World Trade Organization (WTO) in 2001. Incorporating China into the world economy was considered as the best strategy to deal with this giant country on the rise.

The US market opening to China is an important driver behind the export-oriented foreign direct investment in China. China owns a huge labor force and land with less expensive costs. Many multinational corporations use China as a site for final assembly and as an export platform. In 2002, China replaced Japan to become the most significant exporter to the US market in Asia. In 2005, China became the second-largest source of American imports and its third-largest trading partner. Today China is the US’ largest source of imports, accounting for 22 percent of US total imports. Meanwhile, the US is also the top export destination for China, accounting for 20 percent of China’s total exports. China’s economic rise has been accompanied with its growing political assertiveness. With the establishment of the Asian Infrastructure Investment Bank and the Belt and Road Initiative, China has emerged as an important global leader in shaping and directing the new global economy.

The Trump administration is actively renegotiating new trade deals with several countries. In August 2018, the US and Mexico reached an agreement to change parts of the North American Free Trade Agreement (NAFTA). In September, the US and South Korea concluded the revised Korea-United States Free Trade Agreement (KORUS). America’s trade deals with the European Union, India, Canada and Japan are works in progress. It remains to be seen how the global economy is going to be altered after these trade deals are completed. However, China has declined the US invitation for trade talks. China cannot stay isolated if the US reaches trade deals with major economies in the world. Many foreign firms are planning to leave China to avoid being impacted by the escalating US-China trade war. Southeast Asia is considered to be an ideal manufacturing location outside China. With the growing Sino-US trade tension, the Shanghai Stock Exchange and Shenzhen Stock Exchange have declined evidently in recent months. In comparison, the NYSE composite has been rising. The renminbi has depreciated from RMB 6.3 against USD 1 in April 2018 to RMB 6.85 against USD 1 in August 2018. Investors’ confidence towards China and the US during the course of trade war is therefore clear. On the other hand, China’s huge consumption market cannot be ignored. Foreign firms may still want to stay in China so as to meet its huge local demand. The Chinese government will also make efforts to retain foreign investment in the country.

Like Japan 40 years ago, the reason for the US to launch trade retaliation against China is not only the trade deficit but also China’s growing economic power. This can be seen from the US concerns over “Made in China 2025.” China’s rising economic power and technological advancement imply that China will be on an equal footing with other industrialized countries in the future. China’s growing economic power will also strengthen its political influence and military capability. China’s negotiation over the trade imbalance issue with the US, if it agrees to talk, will be very critical for its future development. Japan’s experience shows that the trade negotiation with the US is going to be a long term campaign. The consequences of economic measures against Japanese exports were not merely in the improvement of the bilateral trade imbalance. It also triggered the bursting of Japan’s bubble economy in the following years. In the 1980s, Japan’s growing economic power was considered to be poised to surpass the US sooner or later. After the yen’s appreciation, the Japanese government implemented a monetary expansion policy that inflated the value of the stock market and real estate. Its economy has been waning after the bursting of its bubble economy. Despite some improvement of the US trade deficit with Japan, its overall trade deficit has become larger. The trade deficit with Japan is probably not the most essential issue for America. Its significance is that the US has successfully defeated a potential superpower competing with it in the global political economy.

[1] Rotter A.J., The Path to Vietnam: Origins of the American Commitment to Southeast Asia, Cornell University, USA, 1987, p. 214.

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