Trump's trade war with China and Europe will hit global growth

President Donald Trump’s trade war with China and Europe is forecasted to hit global growth this year and reverberate through 2019, the International Monetary Fund has warned in its latest health check on the global economy.

Background

The protectionist trade policies by the US president seem to overlook the economic history of the country. Donald Trump campaigned for election on a promise to make trade fairer for the US, and his determination has compelled him to disagree with some of America's oldest trading partners. The US has been embroiled in a tit-for-tat trade battle on several fronts over the past few months.

The conflict with China is on the top of this list, as the world's two largest economies vie for global influence. Mr Trump has imposed taxes on imports from China, Mexico, Canada and the EU, to encourage consumers to buy American products. While all these countries have retaliated, China has accused the US of launching the "largest trade war in economic history.” The US president's hard line on trade, which also saw him withdraw from the Trans-Pacific Partnership trade pact (TPP) last year, marks a striking change from the free trade policies that have been the foundation of the multilateral trading system. The trade war is set to take its toll on both the American and Chinese economies in 2019.

Analysis

The US and China's escalation of trade tariffs are expected to impede growth in both countries in 2019 when the boost from President Trump's sweeping tax cuts will also start to wane. The International Monetary Fund said the world economy is plateauing as the IMF  has cut its growth forecast for the first time, censuring trade tensions and stresses in emerging markets.

President Trump had slapped a 25% tariff on foreign steel imports this year, with exemptions for some nations. The president has used the threat of higher border taxes to force countries to renegotiate their trading arrangements with the US, although economists fear the impact could lower both American and global economic growth while unsettling business investment.

IMF Chief Economist, Mr Obstfeld said the world would become a "poorer and more dangerous place" unless world leaders worked together to raise living standards, improve education and reduce inequality. The IMF reported that even without a further deterioration in US and China relations, the global economy would grow this year at 3.7% and at the same rate in 2019 compared to 3.9% which was predicted for both years.

Morgan Stanley has said a full-blown escalation of the trade dispute could knock 0.81% points off the global gross domestic product. This scenario would involve the US slapping 25% tariffs on all goods from both China and the EU.

The car industry has been affected the most so far. Major carmakers recently warned that changes to trade policies were impairing performance. Ford and General Motors have lowered profit forecasts for 2018, citing higher steel and aluminium prices caused by new US tariffs.

There are also concerns that the trade war could hurt other aspects of US-China relations. Mr Trump recently accused China of manipulating its currency - a sign that the row could be spreading to foreign exchange markets. Smaller Asian countries have experienced a decline in their supply chain. According to the Economist, 30% of the value of the goods China exports to America originates from other third-party countries.

Assessment

Our assessment is that the greater use of protectionist measures could hinder business investment, disrupt supply chain, slow the spread of productivity-boosting technologies and slow investment and trade. These tariffs will knock around 0.1% and 0.2% off the US economy and the Chinese economic growth rate respectively. This might not sound too drastic but given the size of the US economy ($19.4 trillion) and Chinese economy ($12 trillion), this would add up to a loss of between &30bn and %60bn. If the threatened trade barriers (25%) becomes a reality, the global output could drop by about 0.5% below its projected level by 2020. We understand that there could be scope for further damage if President Trump follows through on his threats of further measures as it could lead to an associated rise in policy uncertainty, dent businesses and trigger financial market volatility.

We also feel that a prolonged conflict and intensifying trade sanction will lead to the destabilization of the global trade region. Trade war increases the price of consumer goods since they are directly hit with a 10% duty. Domestic manufacturers who rely on the imported raw material are reacting to these higher costs by slashing jobs since their profitability is lower. We believe that, over time, the trade war would weaken the protected domestic industry. The global trade war could end up hitting global GDP by 2.5% over three years, with the UK economy suffering a 2% hit.