Storm clouds over US-China relations

The ‘phase one’ trade deal between the US and China looks safe for now. But friction between the two countries is set to continue.

Thomas Costerg, US Economist, Dong Chen, Asia Economist & Luc Luyet, Currencies Strategist

Storm clouds over US-China relations

The coronavirus health crisis and the recent legislation passed in Beijing regarding Hong Kong have led to an increase in tensions between the US and China already influenced by China’s rapid technological and economic rise.

On 29 May, President Trump spoke directly about China’s move to impose its national security law on Hong Kong, but also alluded to the increasing economic, military and technology challenges to the US posed by China.

But Trump conspicuously failed to hint at revisiting the ‘phase one’ trade deal between the two countries signed in January 2020. We think the deal will be spared now.  

We remain anxious about the possibility of further rises in tensions in the medium term. Trump may not engage in any major concrete actions against China before the November elections. The reason is that hurting China could rapidly backfire on business sentiment, thus hurting a US economy that is only slowly re-emerging from the Covid19 shutdown.

However, If re-elected, president Trump may feel less constrained in his last term of office to adopt more hazardous policies. Tariffs could rise again on Chinese imports. Relations may not necessarily improve that much if the Democrat candidate, Joe Biden, is elected. Biden may not espouse Barack Obama’s policy of engagement with China, which now looks by most observers on the left and right as outdated. A President Biden might instead adopt a more confrontational style.

As for the Chinese side, stabilising the economy and employment is the top priority right now. We do not believe Beijing will want to raise trade tensions given the daunting economic challenges it faces post the pandemic. Instead, Beijing is also likely to work to keep the ‘phase one’ deal, at least in the near term.

However, the Chinese government is willing to pay a very high price to defend certain ‘red line’ issues relating to national security and territorial issues. The dispute around Hong Kong is a recent example. Such issues could lead to spikes in US China tensions.

From a currency point of view, we continue to believe the renminbi will remain relatively stable, although ye have revised our projections for the renminbi slightly lower relative to the US dollar to take into account the recent resurgence of political tensions. Our three- and six-month projections now stand at CNY7.10 per US dollar (vs. 7.00 previously). We are keeping our 12-month projection at CNY7.00 per US dollar unchanged, largely because of our base scenario of a weaker US dollar.

Read full report here

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