China Is Hurting Global Investments With The Trade War

Summary

• China is becoming a global national security threat through continued intellectual property theft.
• Global, interlinked economies seemingly have no choice but trade barriers and tariffs to bring China into the rules based, global order.
• The United States under the Trump administration is leading this geopolitical, trade fight.

A recent, “striking comment,” from former White House Economic Advisor and renowned, free-trader Gary Cohn said this about the US-China trade war:

“What the Chinese have done to us (the United States) for the last two decades is just wrong…If the Chinese are just stealing [technology] and knocking it off, the global economy and globalization doesn’t work.”

Cohn then says President Trump is “correct,” for his “unpredictable path of negotiation,” with China, but the end goal of fair trade between the United States (US) and China is what needs to occur over Chinese theft of intellectual property (IP) and a hostile model of state-capitalism. Cohn’s comments matter since he exited the White House in March over disagreements with Trump over steel and aluminum tariffs the same evening the administration, “levied another round of tariffs,” on Chinese goods. The counter is Cohn has broken with free trade between nations and open markets that has worked for over seventy years since World War II (OTCPK:WWII). Additionally, this could spark into security risks than what is currently taking place – which is economic retaliatory tit-for-tat and decoupling– between China and the US. Unfortunately global markets are witnessing the clash of domestic politics, international geopolitics and nation-state gamesmanship.

Now prominent Chinese economists, “blame the ‘China model’ for US trade war.” Other leading Chinese intellectuals believe Trump’s far-reaching trade war is pressuring Beijing to reevaluate their state-capitalism model that has provoked western outrage. Breaking with Communist Party orthodoxy is risky – but state-led-capitalism has caused Trump to try and block China’s rise – and this has far-reaching implications for global growth and investments that could hurt economies into 2019.

The criticism highlights the split between the reform and statist-minded camps among Chinese policymakers and bureaucrats. Zhang Weiying, professor of Peking University’s National School of Development claimed in a recent speech:

“China’s economic ascendancy since 1978 is not the result of a distinctive ‘Chinese model’ of development, that this is incorrect interpretation has contributed to the current trade conflict provoking alarm among western countries.

This speech was widely dispersed online (link takes you to a leading Chinese language website) but keeping with China’s rising domestic repression was removed when the content came to Beijing’s attention. But there are profound concerns that “trade tensions,” could lead to “military confrontation,” and questions have to be asked if this is the best approach? No policymaker, Central Bank leader or Head of State seems to have answer at this time to that question.

A two-part report on trade abuse in the South China Morning Post emphasizes the US and Trump has to do “something to curtail mass transfer of technology to China in the context of US efforts to rein in abuse of intellectual property rights.” But the problem with US-Chinese negotiations is Beijing is listening to critics of the Trump administration instead of understanding this trade war has bipartisan support from the previous and incoming US Congress and that’s continued troubling news for global investors even with the ninety day “pause” in the trade war struck between President Xi and Trump at the G-20.

After a failed July 2017 meeting in Washington between Chinese Vice-Premier Wang Yang, US Commerce Secretary Wilbur Ross and US Treasury Secretary Steven Mnuchin over Chinese violations of US IP rights Trump began increasing pressure on China. But this isn’t the first time a US President has threatened China – Bill Clinton in 1996 proposed tariffs on China over the same issue – theft and non-protection of US IP rights. Clinton wanted 100% tariffs on $2 billion in US dollars on Chinese imports. President Bush imposed steel tariffs on China in 2003 and President Obama ordered tariffs on Chinese tires in 2009. Nothing worked then but is a better response for investors to ask how they believe China being a global leader is alerting global growth and market stability?

Trump’s resolve though seems fortified on the grounds of national security, balancing China’s rise using economics over military adventures of past US administrations, and the loss of hundreds of billions a year in US IP business to China. On August 14^thafter US Trade Representative Robert Lighthizer’s investigation into China’s IP practices were revealed, Trump announced:

“The theft of IP by foreign countries cost our nation millions of job and billions and billions of dollars each and every year. Today, I am directing the United States trade representative to examine China’s policies, practices and actions [regarding US intellectual property]”

Richard Ellings, head of the US Commission on the Theft of American Intellectual Property (IP Commission) on October 10^thgave public testimony justifying the Trump administration’s stance:

“Forced transfer of IP is a near ubiquitous phenomenon experienced by American companies seeking to sell products in China. Over the past four years it has totaled US $1.6 trillion.”

Ellings also quoted former head of the National Security Agency, Keith Alexander who called cyber espionage, “the greatest transfer of wealth in history.”

Where this trade war is different is the convergence of geopolitics and economics. But this time the 2018 U.S. National Defense Strategy (NDS), “announced the return of great power competition,” (China, Russia, Iran, North Korea are examples). The NDS branded China a “strategic competitor,” and called for a “free and open Indo-Pacific.” This new geopolitical-economic-balancing has also caught India's attention by recalibrating how it checks and counters Chinese influence in Southeast Asia and the Indian Ocean. New Delhi now backs Trump to pursue China with vigor. The seriousness of these announcements has to be considered when making new investments in the United States, China and India.

What has captured Trump, the US Congress and other Allies attention is the issue of IP and technology theft. The trade imbalance is a cover to protect the US economy from future stolen IP technology, but also is a national security issue. For decades technology transfers to China have, “enabled the People’s Liberation Army (PLA) to modernize,” which now allows their military to effectively shut down the South China Sea if so inclined. Technology pilfering and reverse engineering of US IP has garnered the PLA un-paralled cyber and information capabilities to suppress their society and conquer 21^stcentury battlefields and that has the potential to suppress capital investments since capital used for those expenditures will be allocated for non-revenue, cyber-security investments.

Where geopolitical, global investments will suffer is how Beijing aims to shut out other companies from its technology sector and manufacture all future technology only in China. Bloomberg News wrote in September:

“Beijing has set market-share targets for Chinese companies, ‘that would virtually lock foreign companies out of many industrial segments in China’ and threaten market disruption for businesses across the globe.”

Before Trump began this war, President Obama and EU leaders began stopping Chinese acquisitions of advanced, country-specific technology. These macroeconomic trade imbalances have morphed into a technology transfer question. Tariffs are a blunt instrument and Trump’s trade war isn’t meant to address IP problems; instead national security and investments are colliding where alternatives to address China’s theft and aggressive foreign policy haven’t stopped Beijing from fixing their internal and external problems.

Widespread condemnation over Trump's tariffs are well known though quietly, “American executives are becoming sceptics,” and “agitating for a confrontation,” with China. However, the most interesting point about Vice President Pence’s aggressive speech in November to the Hudson Institute and another blunt speech in mid-November at the Asia Pacific Economic Co-operation (APEC) summit in Papua New Guinea that twice now has sent the Chinese and Trump’s critics a message is this: Trump isn’t alone in this fight within his administration and “the gauntlet against China on trade and security in the region has been thrown down.” Supply chains, fragile trading systems and Alliances likely will fray the longer this trade war continues.

Global investors should understand a new economic and geopolitical Cold Waris underway and should plan accordingly by trading and investing in secure, growing sectors like energy, cyber-security, technology, and financials, “though Fed tightening, geopolitics and trade disputes will continue weighing on markets.” Chinese and international investors should also be deeply concerned that this trade fight will topple the domestic Chinese housing market that has over 50 million empty units and Xi’s Keynesian policies could undo decades of economic growth and reform.

Analyst’s Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.