Who Wins A Trade War Between U.S. And China? 2

China’s shift in growth model includes a compromise

China’s export-driven growth model, while being instrumental in boosting growth for the economy over the past decade and a half, has also been adding significantly to the overall risks faced by the country. For China, the shift from being a supply (exports) driven economy to a demand-led (consumption-driven) economy implies a compromise on growth.

Inefficient allocation of investment and the ensuing build-up of debt are now major challenges that the economy faces, not to mention the substantial financial risk posed by the shadow banking system. All these are domestic risks that the authorities in China have been keeping top of mind.

Emerging risks

A new and major risk that has emerged for this emerging market (EEM) (VWO) economy is the risk of a trade war. With the US president-elect Donald Trump promising to “get tough on China” as he takes his seat in the White House, hints of additional trade tariffs, import quotas,  and the like being imposed on companies engaging in trade between and among the two nations.

Who stands to lose more?

So, who stands to lose more if US (SPY) and China (FXI) get into a trade war? Let’s take a look at some trade statistics. According to US census data, the US has and continues to have a trade deficit with China. This means that China has a trade surplus with the US, or simply stated, China exports more to the US than it imports from it. Now, in a trade war, the country with the trade surplus typically stands to lose more, as its export earnings and currency value get affected immediately.

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What does China have to its advantage?

While this is true, there is something that China has to its advantage. China is the second largest holder of US Treasury securities. According to US Treasury data, mainland China held $1115.7 billion worth of US Treasury securities as of October 2016, second only to Japan with $1131.9 billion of T-secs.

So, if China decides to sell its share of US Treasury (TLT), it could lead the value of these safe-haven bonds and bills to negligible levels, while also entailing substantial repercussions for the global economy.

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