The Trade Issue That Most Divides U.S. and China on Trade Isn’t Tariffs

Posted March 26, 2018 5:21 p.m. EDT

BEIJING — China has struck a hard stance on the issue at the root of the looming trade fight between Beijing and Washington: China’s government-led drive, which Washington describes as breaking international rules, to build the cutting-edge industries of the future.

Chinese officials in recent days have been defending the government’s ambitious plan, known as Made in China 2025, to create globally competitive players in industries such as advanced microchips, driverless cars and robotics. While Beijing has signaled a willingness to compromise on other matters, the intractable standoff over its core industrial policy could prolong a trade fight that has already shaken markets and led to concerns about a full-blown trade war.

“We are three years into the implementation of Made in China 2025, and we will keep going,” Miao Wei, China’s minister of industry and information technology, said on Monday, the last day of a three-day economic policy forum in the Chinese capital.

The Trump administration has threatened to impose 25 percent tariffs on imports involving many of the industries being developed under the Made in China 2025 program. Administration officials strongly object to the program’s goal of having Chinese companies dominate these advanced industries, particularly in the Chinese market.

Washington has also protested that companies in the targeted industries have been offered loans at low interest rates by state-controlled Chinese banks. The White House argues that will result in global capacity gluts that could drive down prices and destroy the viability of tech companies in the West, as well as in countries such as Japan and South Korea that are allied with the United States.

“China has engaged for a very long time in the theft of our intellectual property as well as practices like forced technology transfer,” Peter Navarro, President Donald Trump’s trade adviser, said on CNBC on Monday. “We’re hopeful that China will basically work with us to address some of these practices.”

Navarro on Monday tried to calm financial markets, which were rattled last week by the prospect of a trade war. He emphasized that “growth and stability” were the aim of Trump’s policy goal of ensuring that trade with the United States is fair and reciprocal.

Investors’ fears of a trade war seemed to subside some Monday. The S&P 500 climbed 2.7 percent, the Dow Jones industrial average rose 2.8 percent and the Nasdaq composite jumped 3.3 percent.

Whether an agreement that forestalls a protracted economic conflict can be reached remains unclear. The two nations, whose markets are highly integrated, have engaged in discussions for years with little to show as a result. Talks between the United States and China stalled last summer, and the Comprehensive Economic Dialogue between two countries has produced little progress.

The Trump administration has largely shunned the highly structured discussions of past administrations, which were used to try to reach agreement on economic and security issues. The White House now views those channels as producing largely hollow promises by the Chinese and has shifted toward engaging directly with senior-level Chinese counterparts.

On Saturday, just two days after the administration announced tariffs on up to $60 billion worth of Chinese imports, Steven Mnuchin, the Treasury secretary, called Liu He, China’s economic czar, to congratulate him on his new role of vice premier. The two discussed the trade tensions, including reducing tariffs on U.S. cars and opening up China’s financial services sector to U.S. firms.

“They also discussed the trade deficit between our two countries and committed to continuing the dialogue to find a mutually agreeable way to reduce it,” a Treasury spokeswoman said.

China’s official news agency, Xinhua, characterized the call between Mnuchin and Liu as confrontational, with Liu warning Mnuchin that U.S. trade actions against China were straining economic ties between the countries.

Chinese leaders contend that their country’s economy is still developing. They openly reject Trump’s call for reciprocity in trade relations. They have instead offered concessions such as raising caps on foreign investors’ stakes in Chinese financial institutions, and proposed eliminating import tariffs in narrow categories such as drugs to treat cancer.

Beijing says that opening up some services sectors would improve the efficiency of the Chinese economy as well as make money for foreign companies. Improving health care, particularly for the aging, has also become a national priority.

But Chinese officials argue that their country is still dangerously reliant on smokestack industries of the past, such as steel, aluminum and cheap manufacturing. The average Chinese household lives on a quarter of the income that U.S. and Western European households do, and standards of living remain very low in rural parts of the country, and across central and western China.

Wang Shouwen, China’s vice minister of commerce, and Pascal Lamy, a former director general of the World Trade Organization, squared off at the Beijing forum over precisely that issue.

Wang insisted that China had made considerable strides in opening up its health, agriculture and shipping sectors to international competition. He noted that the United States and the European Union had higher tariffs than China on some imports of shirts and dairy products. He argued that China meets its WTO obligations; the WTO has long allowed developing countries to have higher tariffs to protect certain industries from international competition.

Lamy, a longtime critic of protectionism and government intervention, dismissed those arguments. China — which has the world’s second-largest economy, after the United States, and is the world’s largest manufacturer by far, of everything from steel and cement to laptop computers — had made too much progress to be lumped in with poor countries, he said.

“Pretending it is like India, or like Senegal, or like Botswana is pushing the envelope too far,” Lamy said. He added that China still had to do more to “ensure a level playing field between Chinese producers and foreign producers, whether they produce inside China or outside of China.” On crucial issues, China and the United States appear to be talking past each other, not even agreeing on what is being debated.

Take semiconductors, for example.

China is a major customer for microchips, which are used to power computers, smartphones and an ever-widening array of other electronics. Chips from the United States account for just 4 percent of China’s $260 billion in annual chip imports. While Chinese trade officials have been willing to discuss buying more chips from factories in the United States, that could take market share from Japan and South Korea. Washington has resisted that solution.

U.S. officials say the problem is that China’s national, provincial and municipal governments are working with state-owned banks to rush the construction of factories, particularly to make memory chips.

The new factories often rely on technology that foreign companies have had to transfer as a condition of competing in the Chinese market, according to the United States. Global trade rules ban mandatory technology transfers.

Numerous factories are nearing completion, which will unleash an avalanche of additional output. China contends that it has assisted the sector partly to upgrade its economy and partly because the factories will mainly be supplying its domestic market.

But since factories in China are the world’s main assemblers of electronics, the country’s drive for self-sufficiency in microchips could pose a threat to chip producers in the rest of the world.

For now, China seems to be pinning its hopes on heavy lobbying in Washington by Wall Street, traditionally Beijing’s most reliable ally in bilateral disputes. China’s sovereign wealth fund owns stakes in a variety of U.S. financial institutions. Estimates of Chinese outbound investment over the next decade run as high as $2.5 trillion, a rich source of advisory fees in the United States.

Wang said Sunday that China might go beyond its earlier offer to raise caps on foreign ownership in Chinese financial institutions. “It is even possible we will remove those caps altogether” in some categories, he said.

But he also made clear that China would not be intimidated if its offers are not enough to satisfy the Trump administration, which has focused on reviving U.S. manufacturing.

“If China’s interests are impaired,” he said, “we will have to take measures.”