Deal or No Deal, Trump Trade War With China Scars Global Economy

(Bloomberg) — A deal between the U.S. and China to drop tariffs couldn’t come soon enough for a global economy already showing strains from the trade war.

Economists predicted that eye-for-an-eye tariffs by the U.S. and China could eat into world growth, and there’s evidence that’s happening. Export orders in China slumped last month to the lowest level in a decade amid signs of a deepening factory downturn in the world’s second biggest economy. In the euro area, a key gauge of manufacturing activity has dropped to a level consistent with contraction.

“A deal is going to be a huge sigh of relief,” said Ethan Harris, head of global economics research at Bank of America Merrill Lynch (NYSE:). “In the last year, you’ve had this general chipping away of global confidence, and the trade war is a big part of that. But there’s probably been some permanent damage here, so the recovery won’t be as substantial as the damage.”

The darkening economic picture raises the stakes for a push by the U.S. and China to end their eight-month trade war, or at least reach a lasting truce that avoids any further escalation. The two sides are closing the gap on issues such as Chinese purchases of U.S. goods, buoying hopes that President Donald Trump could hold a deal-clinching summit with his Chinese counterpart Xi Jinping as early as the middle of this month.

Widening Deficit

But Trump’s trade war isn’t having the effect he hoped on one measure: the U.S. trade deficit, which widened last year to a 10-year-high of $621 billion. For December, U.S. exports fell 1.9 percent from the previous month, the biggest decline since early 2016, while imports rose 2.1 percent.

Trade tensions started weighing on business sentiment last year, and there’s evidence since then that companies are pulling back on capital spending, said J.P. Morgan chief economist Bruce Kasman. “This is not primarily about the tariffs themselves,” he said. “The bigger channel is the way companies around the world are reacting.”

The dollar has strengthened more than 2 percent since President Donald Trump began slapping tariffs on Chinese goods last July. That raised the cost of imports for products priced in dollars, such as oil, noted Charles Dumas, chief economist at TS Lombard in London.

Over the same period, the yuan has weakened just about 1 percent, though it was down about 5 percent at the end of October. A weaker Chinese currency made the exports of other countries less attractive, said Dumas. The combined effect of a stronger dollar and softer yuan has contributed to growth slowing outside the U.S. and China, he said.

“The fascinating thing to me is the degree of damage being done outside the two main principals, the U.S. and China,” said Dumas. Other countries “were kind of being squeezed on both ends.”’

The trade war with China has shaved 0.1 to 0.2 percentage point off the annual growth rate of the U.S. economy, said Greg Daco, head of U.S. macroeconomics at Oxford Economics. If Washington and Beijing roll back all their tariffs, it will be roughly equivalent to one rate cut by the Federal Reserve, in terms of the economic boost, Daco said.

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