By David Stockman as originally published on Contra Corner and reprinted here with permission
With his latest $100 billion tariff volley, it can be well and truly said that the Donald has gone stark, raving bonkers on the China trade war. And, no, he is not playing some kind of clever 5-dimensional chess or 3-dimensional chess that the talking heads were gumming about this AM. He’s not even playing checkers—to say nothing of pick-up-sticks.
What the Donald’s actually doing is attempting to stage an episode of “The Art of the Deal” in a venue where he is so far over his head that nary a single orange strand is visible above the water line. Indeed, there is not a shred of rationality, calculation, shrewdness or guile to it.
To the contrary, the Donald’s rapidly escalating trade war reflects the glandular eruption of a monumentally bloated ego—the play acting of a mind that is bereft of knowledge about global trade and economics and which cannot manage to stay focussed on much of anything for longer than a tweet cycle.
But then our purpose here is not to chastise the Donald for his alleged “unsuitability” for the job. In fact, clumsy or not, he’s now hitting on all cylinders with respect to the real purpose of his election. Namely, to bring the faux prosperity of the Bubble Finance era to a crashing end.
And that’s where the stunning complacency of Wall Street comes in. The conceit down there in the canyons is that Washington everywhere and always marches to the tune of the S&P 500. Ever since the GOP rank and file folded when the first TARP vote sent the market crashing by 8% back in September 2008, the casino has assumed that the politicians are petrified of a hissy fit and will quickly back off from any action that threatens the stock averages.
That’s why the casino assumes the current brinksmanship on both sides is just preliminary huffing and puffing. Eventually there will be a practical nuts-and-bolts negotiation that will resolve the “trade” matter, thereby enabling the S&P 500 to keep on climbing.
Or as the Wall Street’s go-to cheerleader, Jim Cramer, put it on bubblevision today:
“It’s just another kind of negotiating style…..get used to it!”
Presumably he was talking about not just the Donald’s bombast, but that of the Chinese, too. The assumption, apparently, is that no one on the planet—-not even China’s new Red Emperor—-dares to trifle with the stock market’s heavenly ascent.
Even if Beijing now threatens to retaliate “immediately, intensively (and) without hesitation” presumably it’s just China’s way of adopting the Donald’s vocabulary and “kind of negotiating style”. So there’s nothing to see here: Move along and buy-the-dip!
“This latest intimidation reflects the deep arrogance of some American elites in their attitude towards China,” the state-run Global Times said in an editorial.
“The Chinese side will follow suit to the end and at any cost, and will firmly attack, using new comprehensive countermeasures, to firmly defend the interest of the nation and its people……China will “retaliate immediately, intensively, without any hesitation” if the U.S. releases new list of tariffs on $100b additional imports, Chinese Ministry of Commerce spokesman Gao Feng says, adding:
“We Chinese won’t pick fights, but if someone picks a fight, we’ll resolutely meet them head-on. We Chinese always take things seriously; we’ll act as we say.”
Here’s the thing, however. America’s monumental trade problem is just a symptom of its failing main street economy and the destructive central banking regime of the last three decades. The rot goes a hundred times deeper than the absurdity of China’s $506 billion worth of exports to the U.S. last year compared to only $130 billion worth of imports from the U.S.
That’s nuts and there is not even a remote chance that tit-for-tat trade negotiations can ameliorate the deep underlying ailments.
As it happens, we do not think there is going to be much of a negotiation for the reasons outlined below. Yet even if Beijing does blink (not likely) and drop its proposed levies on U.S. soybeans, autos, chemicals and aircraft in return for Washington lightening up the 25% tariff (say to 10%) on Chinese electronics, robotics, aerospace and machinery, the underlying US trade balance would hardly change by a dime.
That’s because the domestic price level for the electronics and other tariffed products now originating in China would rise by roughly the same percentage as the tariff (e.g. 10%)—since China is overwhelmingly the marginal (lowest cost) supplier. This tariff umbrella at the US border, in turn, would mean market share opportunities— and even windfall gains on current shipments of like products—for un-tariffed competitors such as South Korea and Taiwan.
Needless to say, all of this will come out during the turbulent 60-day comment and negotiation period ahead—meaning that the first result will be 100% occupancy rates at the Trump International and every other hotel, motel, hostel and fleabag within the greater beltway radius.
Indeed, the stampede of foreign exporters and domestic importers relative to the $150 billion of goods threatened by tariffs on both sides will give beltway racketeering a whole new definition. The K-street lawyers, lobbyists and consultants may not exactly think they have died and gone to heaven—-but they surely will not hesitate to give lavish praise to the Great Swamp God of influence peddling.
Stated differently, the Donald has now unleashed a lobbying clusterf*ck like the Imperial City has never seen. That’s because there is absolutely nothing stupider than a single country tariff in a dynamic global economy where the US is hopelessly uncompetitive on much of the slate of goods to be taxed.
To be sure, tariffs are supposed to give domestic producers the 5%, 10% or 25% selling price raise implicit in tariffs of those magnitudes when levied at the border. But America’s industrial economy was hallowed out long ago and won’t come back so long as: (1) the Trump Tariffs are facing unrelenting political and legal assault (which is certain); and (2) other low-cost Asian suppliers can access the US market on a tariff free basis.
Indeed, China’s leading Asian competitors will be literally drooling over the prospect of getting a 5%, 10% or 25% raise for their products, depending upon any final deal with Beijing.
Moreover, if Trump ends up going the full monte on $150 billion of Chinese goods at a 25% levy, it will generate a windfall opportunity for foreign (and domestic) suppliers far greater than the $38 billion value of the tariff itself.
The reason is simple: China is a huge supplier, but does not have a 100% market share on most products. Yet a border tariff on a substantial (marginal) source of supply will tend to rise prices for the entire slate of vendors.
For instance, China supplies about $40 billion per year of cell phones (mainly i-Phones), which is about 75% of the total. This means that the potential windfall to all $53 billion of suppliers from a 25% tariff would be $13.3 billion not just the $10 billion on shipments from China.
So if China accounts for say one-third of supply on the entire slate of $150 billion to be taxed, the impacted product markets would total $450 billion. The “potential” tariff umbrella windfall (i.e. higher selling prices) to other suppliers would therefore be $113 billion, not $38 billion.
As Senator Dirksen once famously said: “a billion here, a billion there—pretty soon you are talking about real money!”
And that gets to the heart of the matter. Contrary to Wall Street’s delusional worship of China’s purported growth miracle, the Red Ponzi is actually a frightfully totalitarian country that has recently banned Winnie-the-Pooh from the internet; and which has just conferred virtually dictatorial powers on a nationalist brute who thinks of himself as the latter-day incarnation of Mao Zedong himself.
So we don’t think Xi Jinping is going to rollover in the face of the Donald’s impetuous bluster. In fact, we think a political strongman running a command-and-control economy is going to maneuver circles around the Donald’s moveable Oval Office trainwreck.
For instance, when it comes to products where China has a near monopoly, we see no reason to believe Beijing won’t order suppliers to freeze (or even raise) their current dollar selling prices in order to minimize the loss of netback, if any.
Thus, in the most recent year China exported $4.7 billion of videogames to the US, which accounted for 98% of the total. We wouldn’t be surprised if US consumers pay at least 25% more for their videogames or even higher. That is, 25% more to cover the tariff plus any additional amount Mr. Xi might decide to have Chinese suppliers charge to make up for the hits that China will be taking elsewhere.
Either way, it would amount to a “thanks, Donald!” moment among the homefront consumers who would get clobbered while eliciting a hearty guffaw in riposte from Beijing. And the same goes for laptop computers, which happen to come to mind as we tap away on our trusty Lenovo.
It turns out that the US imports $37 billion of laptops from China and that accounts for 93% of the total. So we don’t think the Donald’s computer tax is going to cost China a dime of lost revenue netback; the tariff will be coming right out of US customer pockets.
Likewise, there is $1.3 billion of ceiling fans from China, which account for 96% of the total and $625 million of wigs, false beards and fake eyebrows, where China supplies 93% of total imports. And not least, there is $516 million of X-mas lights, where China is also a 91% supplier.
In all these near monopoly cases and hundreds of like and similar ones, the “customer”, not Chinese suppliers, will be paying the freight. And we have employed quotation marks because there is an especially luscious irony when it comes to the receiving end of Trump’s tariffs.
To wit, is the “customer” in question Wal-Mart, the mom and pop storefront or the end consumer? Ordinarily, we would say the final customer would pay most of the tariff freight in an honest free market, but not necessarily in one that has been Amazoned.
That is, the predatory monster from Seattle has no problem at all selling goods at cost or even a loss. It’s casino-enabled business model is based on pricing-to-destroy, not pricing for profit. Yet what better opportunity will there be to destroy Wal-Mart, Target and the rest of bricks-and-mortar land than cherry-picking the products on the Donald’s tariff list to sell below cost (i.e. eat some of the tariff) and drive out any remaining competitors once and for all?
On the other hand, of course, China will face withering attacks on its export business to the US where its market share is much lower than in the cases described above. That is, if South Korea or other competitors are willing to sell at less than current landed prices plus the 25% tariff, Chinese suppliers would be forced to loose netback or loose market share and volume.
But here’s the thing. The Red Ponzi is a public employment scheme first; and only a profit making operation later, of at all (based on honest accounting). So when push comes to shove, we don’t think Beijing is going to be giving up much export volume or many export based jobs.
Instead, it will require exporters to eat the losses, or, better still, find ways to abate export taxes or confer production subsidies designed to make these exporters partially or completely whole.
Consider it this way. As economic overlord and dictator, Mr. Xi will tell industries hit by his retaliatory tariffs on American products when, where and how to eat their spinach—- if Beijing believes it’s tactically necessary for the greater good of the communist regime.
To the contrary, if the Donald tells Nebraska soybean farmers to try some spinach in the event they loose Chinese market share to Brazil, the meal in question will be comprised of rhubarb and its the Donald who will be doing the eating.
Beyond all that, we haven’t even begun to address the country-of-origin issues. The Donald is undoubtedly correct that the Chinese economy is comprised of cheaters, crooks and charlatans of every manner known to man. Yet that’s exactly why “made in China” will suddenly become “made (mostly) in China”, and shipped from Singapore or Vietnam.
That is, 90% China made products are going to get painted, coated, final assembled and boxed somewhere else because a 25% tariff is a powerful economic wedge. Retaining the base production in a state-run economy will more than justify the cost and inconvenience of trans-shipping semi-finished products to a third-country for value-added completion.
At the end of the day, American consumers and/or retailers are going to get shellacked; American exporters will be marching on Washington; China’s competitors will be waxing in selling price windfalls; and Mr. Xi will shuffling around the chess pieces of his $12 trillion state-controlled economy with alacrity.
Yet the Donald thinks its going to hurt them more than us. We’d have to wonder what the man is smoking, if he hadn’t told us he never has.
In any event, America’s massive trade problem can’t be solved by a trade war—even if it could be won, which it can’t.
The real cause is an economy that is bloated with high costs owing to the Fed’s 2.00% inflation fetish, and starved for productive investments, owing to the rampant financial engineering in the corporate C-suites.
Suffice it for now to refocus on the obvious. Namely, a nation which has run $19 trillion of cumulative trade deficits (in current dollars of purchasing power) since 1980 can’t grow its imports at a rate nearly twice as fast as the growth of wages and salaries. The only way that circle can be squared is through borrowing your way to calamity.
Needless to say, that is exactly where things now stand. Total wages and salaries of US households currently amount to 3X their 1992 level, while imports are at 5X. We’d call that living high on the hog, and it too is the fruit of the current rotten regime of monetary central planning.
It is to these structural causes of the Donald’s misguided trade war which we will turn in Part 4. Those are the real reason why Wall Street is heading for a giant fall.