Please refer to page 16 for important disclosures and analyst certification, or on our website

www.macquarie.com/research/disclosures.

GLOBAL

23 March 2018

Trump,Trade and China Dogma or Negotiation? During the 2016 US election campaign, a key pillar of candidate Trump’s

platform was the assertion that the US has been “cheated” in trade, and that as

President he would do something about it. In particular candidate Trump

regularly pointed to US’s trade deficit with China.

Fast forward 18 months, and while it remains very uncertain what shape the

administration’s ultimate trade policy will take, and consequently what the

economic and market implications will be, today’s announcement has made it

clear that China will be the focus.

While today’s escalation is alarming, the direct impact on both the Chinese

and US economies of the new US measures remains manageable.

The proposed US measures would impose 25% tariffs on a value of Chinese

imports totalling US$50-60bn per year on current trade patterns.

A product list will be developed near-term. Aerospace, machinery, and

information communications technology are likely to be targeted.

Final details could still change substantially following a public consultation

which will take place over the next 1-2 months.

The proposed tariffs would be around 20 to 25 times as significant for China

as the steel and aluminium tariffs (which affect around US$2.5bn of Chinese

exports).

Nevertheless, the direct effects of the tariffs on China should still be relatively

contained, affecting only 2.5% of total Chinese exports.

Similarly, the proposed policy would be imposed on goods representing

approximately 2% of total US imports, with only small direct effects on growth

and inflation. We also expect the effect on the US trade balance to be small,

as US consumers substitute to higher-priced imports from other countries.

What is less certain is whether these measures are the main game or just

the beginning of the Trump trade intervention. Another key uncertainty is

the degree of retaliation likely from China.

While much commentary has been devoted to Trump’s campaign comment that:

“I would tax China on products coming in… let me tell you what the tax should

be… the tax should be 45%”.

To us the context is important, with those off the cuff comments at one of his

many rallies followed by the following:

“The 45% is a threat that if they don’t behave…It doesn’t have to be 45%, it

could be less. But it has to be something because our country and our trade

and our deals and most importantly our jobs are going to hell”.

If the objective is to materially reduce the US trade deficit, it is unlikely the

administration will be successful. However, if the true Trump game is to get

trade concessions from China, it is possible the end game will be far less

problematic than currently looks possible.

The risk of course is a full on trade war, which could have a very large

impact on global growth. So far the Chinese response has been controlled,

with discussion of the WTO and perhaps measures targeting the “Trump States”.

But the risk of a bad outcome is rising….

Macquarie Wealth Management Trump,Trade and China

23 March 2018 2

Another Brick in the End of the Globalisation Wall

Since the end of the great recession the "Washington consensus" has been on the back foot, with

the share of people voting for populist parties and politicians on the rise almost everywhere, and

several of the pillars of the pre-crisis consensus (the US and the UK) moving to actively unwind

elements of the greater integration that was taken as a given for the first 60 years after WWII.

On 23 June 2016, the UK voted to leave the EU.

One of President Trump’s first acts as President was to withdraw the US from the Trans-Pacific

Partnership and the Paris Climate Accord.

These developments have occurred against a backdrop of generally weaker trade.

In general trade has grown faster than Global GDP since WWII, although we note that there have

been periods when trade growth slowed to the pace of GDP growth – for example the trade to

GDP ratio essentially tracked sideways from the early 1970s to the early 1980s.

Fig 1 Global trade has stabilised relative to GDP, after having increased steadily in previous decades

Fig 2 Global trade has now fallen well below its post-1960 trend as a share of GDP

Source: WTO, Macquarie Research, March 2018. Source: WTO, Macquarie Research, March 2018.

Against this backdrop, developments in Washington in recent weeks have realised concerns that the

US administration will significantly increase the levels of tariffs, which could draw retaliation from key

trading partners, consequently thrusting the world into a major trade war.

While developments to date should have only a minor economic impact, in this note we provide an

overview of the trade promises President Trump made on the campaign trail, and look at early

discussion of retaliation from Europe and China. We also attempt to assess the current level of trade

protection in each of the major blocs to determine to what extent the “current system is rigged”.

We then outline some scenarios to try to gauge the likely economic damage under several tariff

scenarios, drawing largely on a range of model-based estimates. Our bottom line remains that

actions to date, and actions expected, will drive volatility but will not be big enough to derail the

global recovery. However, the game theory of trade disputation suggests that things could change

quite quickly if cool heads do not prevail.

What has been announced to-date?

Tariffs on US$50-60bn of imports from China were announced today. The tariffs will be subject to

a public consultation period, so their implementation could be delayed significantly relative to the

steel and aluminium tariffs. A product list will be developed near-term, but aerospace, machinery,

and information communications technology are likely to be targeted, and the list could span several

more sectors and over 1,000 products.

Macquarie Wealth Management Trump,Trade and China

23 March 2018 3

But how big are the proposed tariffs in a relative sense? The two figures below provide some sense

of relatively, based on 2017 trade flows and macroeconomic aggregates. Assuming tariffs on

US$60bn of imports, the tariffs would be 20-25 times as large for China as the tariffs on steel and

aluminium. Nevertheless, these tariffs would still only represent around 2.5 percent of Chinese

exports, and 2 percent of total US imports, so the direct effects should be relatively contained.

The US is also reportedly planning restrictions on Chinese investment in American technology

companies.

Fig 3 The proposed policy is roughly 25 times as significant for China relative to previous policies

Fig 4 Nevertheless, the direct effects are still expected to be relatively small

Source: US Department of Commerce, Macquarie Research, March 2018. Source: Macrobond, Macquarie Research, March 2018.

China has been asked to reduce its trade surplus with the US, although details are scant. On

March 7 2018, Trump announced on social media that “China has been asked to develop a plan for

the year of a One Billion Dollar reduction in their massive Trade Deficit with the United States”.

Subsequent communication suggests that the request was in fact for a reduction in the trade

imbalance by US$100bn (as opposed to US$1bn), representing a much more significant share of the

US$375bn trade deficit between the US and China in 2017.

Trump signed executive orders to withdraw from the TPP on 23 January 2017, only three days

after being sworn in. While the TPP was deemed unlikely to be approved by Congress, this was a

step that increased the likelihood of Trump following through on many of his stated trade policies.

After threatening to pull out of NAFTA, Trump stated on 27 April 2017 that he would begin the

process of renegotiation. This process was kicked off on May 18 2017, when US Trade

Representative Robert Lighthizer submitted a letter to Congress outlining the negotiating objectives

for the renegotiation of NAFTA. On 5 March 2018, Trump emphasised that “NAFTA, which is under

renegotiation right now, has been a bad deal for U.S.A”, implying that he would be pushing for a deal

much more favourable towards the US.

Trump imposed tariffs on imported washing machines and solar cells and modules on 23

January 2018. The tariffs vary by year and according to certain thresholds, but are as much as 50

percent on imported large residential washing machines and up to 30 percent on solar cells and

modules (see here for details). The tariffs were imposed in response to findings that “increased

foreign imports of washers and solar cells and modules are a substantial cause of serious injury to

domestic manufacturers”.

Macquarie Wealth Management Trump,Trade and China

23 March 2018 4

Trump announced global tariffs of 25 percent for steel imports and 10 percent for aluminium

imports on 1 March 2018 – these were touted as safeguard tariffs for national security reasons

(permitted under Section 232 of US law and WTO). Details released on 8 March 2018 included

exemptions from both the steel and aluminium tariff for Canada and Mexico, as NAFTA negotiations

were ongoing, and stated that Trump “may remove or modify” the restrictions pertaining to other

countries as necessary. It was subsequently announced that several other countries would also

receive temporary exemptions. The tariffs come into effect on 23 March 2018.

What has been the response in terms of retaliatory action?

The effects of the policies proposed to-date are likely to be fairly small, for reasons discussed above.

However, risks to global trade and growth would be much more significant if they resulted in wider

retaliation, such as tit-for-tat increases in tariffs. This section briefly outlines the public discussion

thus far related to potential retaliatory action by the US’s key trading partners.

The European Union

The EU has warned that it will retaliate with tariffs on US imports to ensure global trade remains fair

and to protect domestic employment. The EU was producing a list of goods that could face tariffs,

including US agriculture, industrial, and steel products, with the list likely to be finalised shortly now

that the US measures have officially been announced. A preliminary list of items also includes

bourbon, peanut butter, cranberries, orange juice, Harley-Davidson motorcycles, and Levi’s.

In response to the EU’s statements, Trump has taken to social media, demonstrating the potential for

the situation to escalate further. On 4 March 2018, Trump stated that “If the E.U. wants to further

increase their already massive tariffs and barriers on U.S. companies doing business there, we will

simply apply a Tax on their Cars which freely pour into the U.S. They make it impossible for our cars

(and more) to sell there. Big trade imbalance!”.

The EU has emphasised that it does not want a trade war, with European Trade Commissioner,

Cecilia Malmström, stating “A trade war has no winners and if it does not happen for the better, then

we can work with our American friends and other allies on the core issue of this problem,

overcapacity.” “But if it does happen we will have to take measures to protect European jobs.”

Donald Tusk, President of the European Council, stated “We should have a clear objective in mind:

to keep world trade alive”.

The EU was included in a list of economies that will receive temporary exemptions from the steel and

aluminium tariffs while negotiations are ongoing.

China

China has similarly warned of the potential harm to the global trading system and the global economy

that could result from rising protectionism. A range of senior officials have weighed in on the issue,

with the following statements having been made:

Chinese Vice Foreign Minister, Zhang Yesui stated "China does not want to fight a trade war with

the United States, but we absolutely will not sit by and watch as China's interests are damaged”.

"If policies are made on the basis of mistaken judgements or assumptions, it will damage bilateral

relations and bring about consequences that neither country wants to see".

Foreign Ministry spokeswoman Hua Chunying said that “All countries should make concerted

efforts to cooperate to resolve the relevant issues, instead of taking trade-restrictive measures

unilaterally”.

China Ministry of Commerce official, Wang Hejung, said that China “strongly opposes” the

restrictions will take “strong measures” in response to potential costs associated with rising

protectionist policies.

In terms of more explicit responses, China's Ministry of Commerce is investigating possible

restrictions on imports of US sorghum in response to the tariffs imposed in January. We would

expect to see threats of stronger retaliatory action should Trump announce and implement further

measures in response to the Section 301 investigations (discussed above).

Macquarie Wealth Management Trump,Trade and China

23 March 2018 5

Other comments

Prior to Canada’s exemption being announced, Foreign Affairs Minister, Chrystia Freeland stated

that "Should restrictions be imposed on Canadian steel and aluminium products, Canada will take

responsive measures to defend its trade interests and workers". Japan has also warned that it will

consider taking retaliatory action consistent with WTO framework should Japan not receive an

exemption from the tariffs.

The IMF has also weighed in, with spokesperson Gerry Rice noting that “We are concerned that the

measures proposed by the U.S. will, de facto, expand the circumstances where countries use the

national-security rationale to justify broad-based import restrictions.” In a similar vein, the FT has

suggested that Trump’s planned imposition of the tariffs on the basis of national security reasons is a

double-edged sword – if deemed acceptable by the WTO, similar policies could become more

prevalent elsewhere; if deemed unacceptable, Trump could ignore the WTO (as he has previously

suggested he might), further undermining its authority.

What is the existing tariff situation?

Behind President Trump’s protectionist policies is the notion that other countries have “massive tariffs

and barriers” on imports from the US, rendering the international trade system “rigged” against the

US.1 Trump has repeatedly stated his desire for “fair trade” and has suggested that he would be

willing to enter into bilateral free-trade agreements provided they were significantly more beneficial to

the US than their “horrible” trade deals presently. But is Trump’s notion that the US is disadvantaged

in the current trade system founded in reality? A comparison of tariff rates can provide an informative

first cut in assessing this question, while a full examination is beyond the scope of this note.

Figure 5 below shows how tariff rates currently compare across the US and its major trading

partners, on a simple-average basis. On this basis, the US compares reasonably favourably, with

average Most Favoured Nation (MFN) Tariffs near the bottom end of this comparison group, and

Bound Tariffs in the bottom half.2 Notably, the US and EU have considerably lower tariff rates than

China (and emerging markets more broadly). However, this ignores the strong trend in emerging

markets towards reduced protectionism over the past three decades (Fig 6), the difference between

maximum and applied tariffs, and differing importance of various traded goods.

Fig 5 Maximum tariff rates imply that US trade policy is much less restrictive than many key trading partners

Fig 6 However, this ignores the strong trend in emerging markets towards reduced protectionism

Source: World Bank, Macquarie Research, March 2018. Source: World Bank, Macquarie Research, March 2018.

1 Trump’s comments also go beyond average tariff rates and reflect, for example, the alleged theft of

intellectual property by China (discussed above) and over-capacity in Chinese industries that are being supported by the state (including the steel industry).

2 MFN Tariff rates represent the maximum rates that can be imposed on other WTO members, while Bound Tariff rates represent the maximum MFN tariff level that can be applied for a particular import.

Macquarie Wealth Management Trump,Trade and China

23 March 2018 6

Trade-weighted average applied tariffs provide a more representative measure of relative trade

restrictiveness. On this basis, the US has tariffs that are broadly comparable to the EU, more

restrictive than Singapore, Canada, and Japan, and significantly less restrictive than its other major

trading partners (including China). For example, China’s weighted average applied tariffs are around

3.5 percent, more than double the US’s average of 1.6 percent, with this gap primarily attributable to

China’s much higher tariff rates on imports of manufactured products.

A more-comprehensive measure of trade policy openness has also been developed by the

International Chamber of Commerce. This permits a ranking of countries on the basis of a broader

set of factors affecting the level of trade openness, including average applied tariff levels, the

structure and complexity of tariffs, use of non-tariff measures (such as anti-dumping actions), and

efficiency of border administration. Evidently, the narrative is broadly similar on this basis, with US

trade barriers being similar to the EU, and much less restrictive than China’s.

Fig 7 Applied tariff rates suggest that US trade policy is comparable to the EU and less restrictive than China

Fig 8 This is consistent with a more-comprehensive measure of trade policy openness

Source: World Bank, Macquarie Research, March 2018. Source: ICC, Macquarie Research, March 2018.

Finally, we consider the average tariff rates faced by the US, EU, and China on exports to each

other. These account for differences in average MFN tariff rates, as well as the composition of

exports and imports and any preferential duties. Evidently, the story is broadly unchanged on this

basis, with US and EU exports into China facing higher average tariffs than China’s exports into

these economies. This is true for both primary and manufactured products. US primary exports to the

EU tend to face somewhat higher average tariff rates than the reverse flow (by around 2 percentage

points), but there is almost no difference to speak of when it comes to manufactured exports.

Macquarie Wealth Management Trump,Trade and China

23 March 2018 7

Fig 9 Similar relativities between the US, EU, and China are evident in bilateral average tariff rates

Fig 10 US exports typically face higher tariff rates, except on manufactured exports to the EU

Source: WTO, Macquarie Research, March 2018. Source: WTO, Macquarie Research, March 2018.

How big is the US trade deficit with China?

As noted above, the US goods trade deficit with China amount to US$375bn in 2017, reflecting

imports of over US$500bn of imports compared to only US$130bn of exports. This deficit represents

1.9 percent of US GDP, and accounts for almost half of the US’s overall goods trade deficit of 4.2

percent of GDP. Given the parallels between the current situation and similar concerns over Japan in

the 1990s, it is interesting to note that the US goods trade deficit with China is now almost twice as

large as it was with Japan in the late 1980s (as a share of GDP).

Fig 11 The US goods trade deficit with China accounts for almost half of the US’s overall deficit

Fig 12 The US’s deficit with China is almost twice as large as with the EU

Source: Macrobond, Macquarie Research, March 2018. Source: Macrobond, Macquarie Research, March 2018.

Moreover, the deficit with China is about 2.5 times as large as the US’s next largest deficit (with the

EU), and more than four times as large as with any other trading partner. This demonstrates the clear

importance of China in the current US trade narrative. However, it is less clear whether the proposed

increases in tariffs will reduce the US’s trade deficit (see next section), which appears to be a primary

metric against which Trump will measure the success of the policies (jobs growth in particular

industries is another).

Macquarie Wealth Management Trump,Trade and China

23 March 2018 8

Will higher tariffs reduce the trade deficit?

The economic effects of the tariffs either implemented or proposed to date are highly uncertain.

Theory strongly indicates that increasing trade protectionism will result in worse economic outcomes

on net, despite potentially being beneficial for some parties. The magnitude of this adverse effect will

depend on confidence effects, emerging price pressures as a result of the tariffs (and policymakers’

responses), and a range of other factors. However, the direction of the effect on the trade deficit is

less clear cut, hinging on the following:

The extent to which the tariffs can be successfully applied, given that many of China’s exports are

produced using integrated global supply chains making application potentially difficult.

The prevalence of substitution to imports from other countries, as opposed to substituting to

domestic products. The US will likely instead import the goods from other (higher-priced)

economies, so overall imports may not decline (or may even increase, depending on demand

elasticities) even if imports from China fall.

China’s retaliation and broader escalation. China has stated that they will not “sit by and watch as

China’s interests are damaged” (see above). Retaliation in kind would have an adverse effect on

US exports, potentially offsetting any reduction in imports.

In general we are of the view that ultimately it is the capital account that drives the current account –

or more simply the savings/investment gap must equal the current account deficit. This suggests

that the US deficit will actually increase this year as the tax cuts reduce US savings. Any bilateral

tariffs are therefore likely to have more impact on the composition and origin of exports than on the

overall trade balance.

Macquarie Wealth Management Trump,Trade and China

23 March 2018 9

What does history tell us about potential trade wars?

While we believe that a global trade war represents only a tail-risk scenario at this stage, there are

several factors that could contribute to the US increasing tariffs, resulting in retaliatory action from its

trading partners, including:

The US has comparatively low trade barriers, particularly relative to China. Trump could justify

further tariffs (whether broad or targeted) on the basis of perceived “fair trade”.

The US has a large trade deficit, which Trump believes: 1) to represent “losing” in global trade;

and 2) can be reduced by increasing the cost of imports through tariffs.

The US may impose significant trade restrictions on China in response to the findings of the

Section 301 investigations of alleged intellectual property theft by China.

In such a case, retaliation from trading partners and potential escalation through tit-for-tat responses

would largely determine the extent to which global trade came under pressure. But if a trade war

were to eventuate, what would the likely effects be and can history provide any guide? Economic

theory would suggest that a trade war would boost inflation by directly increasing import prices, and

would be harmful for sentiment, growth, employment, and equity prices. The effects would be

disproportionate, with countries more-heavily exposed to global trade being more adversely affected.

Thankfully, recent history is not particularly informative as to the likely magnitude of these effects,

perhaps speaking to the potential likelihood of a full-fledged trade war. Nevertheless, we briefly

discuss some of the prominent historical ‘trade wars’ relating to the US below:

The Tariff of 1828 – also known as the Tariff of Abominations – raised tariffs to their highest ever

level. The bill was enacted to protect Northern US industries from low-priced imported goods from

Europe, particularly Britain. However, the tariffs were strongly opposed by the South, where import

prices increased sharply and farmers faced the threat of British purchasers finding alternatives.

Growing discontent at the tariff and its successor, the Tariff of 1832, led to the ‘Nullification Crisis’

and the eventual passing of The Tariff of 1833, which resulted in a gradual reduction in tariffs over

the course of several years.

The Smoot-Hawley Tariff Act, which became law in the US in 1930, raised tariffs on dutiable

imports back to levels not seen since the Tariff of 1828 (although average tariff rates remained

well below their historical peaks). Canada and many European countries retaliated by imposing

significantly higher tariffs on imports from the US, contributing to a sharp decline in global trade.

However, there is no general agreement on the extent to which the Act and subsequent retaliation

deepened or prevented a recovery from the Great Depression. Eichengreen and Irwin (2010), for

example, suggest that the Act was not the primary cause of the wave of protectionism that took

hold during the Great Depression.

A more recent example comes from George W. Bush’s implementation of tariffs of up to 30

percent on imported steel on 20 March 2002. Similarly to Trump’s steel and aluminium tariffs,

Bush exempted Canada and Mexico under NAFTA. The US’s other trading partners, particularly

the EU and Japan, threatened retaliatory action, which heightened the risk of a global trade war.

These threats were reiterated when the US failed to remove the tariffs in response to a WTO

ruling that the tariffs were illegal. Eventually, Bush removed the tariffs on 4 December 2003,

thereby averting the threats of a trade war. Estimates suggest that the policies were harmful for

US growth and employment overall, but the magnitude was small given the lack of retaliation and

the relatively contained nature of the tariffs.

Macquarie Wealth Management Trump,Trade and China

23 March 2018 10

Fig 13 US tariffs increased significantly in the 1820s and 1930s, but have since declined

Source: US Census Bureau, US International Trade Commission, Macquarie Research, March 2018.

What does economic modelling suggest about the potential effects?

Evidently, history is informative as to the frequency of trade wars, but less so as to their potential

effects. As such, we look to the modelling efforts of others to inform an assessment of the potential

consequences of a range of alternative trade war scenarios.

Noland, Robinson, and Moran (2016) examine the potential effects of three trade-war scenarios

based on Trump’s pre-election rhetoric. They estimate the impact on the US of a 45 percent tariff on

non-oil imports from China and a 35 percent tariff on non-oil imports from Mexico, based on differing

retaliatory actions. Their high-level results are as follows:

In a full trade war scenario, in which China and Mexico impose identical tariffs on the US,

inflationary pressure in the US increases alongside rising import prices, prompting the Fed to raise

interest rates. Activity is further dampened by greater uncertainty, which pushes up spreads and

the cost of capital, dragging on consumption and investment. As a result, the US enters a

recession in 2019, and the unemployment rate peaks at 8.6 percent in 2020.

In an aborted trade war scenario, in which the US tariffs are imposed for only one year, the

direction of the effects is similar, but the magnitude is much more benign. In this case, GDP

growth troughs at 1.2 percent in 2018, while the unemployment rate peaks at 6.0 percent in 2019.

Beyond 2019, this scenario is broadly comparable to the baseline outcome.

An asymmetric trade war scenario could take many different forms, but the effects are likely to fall

somewhere in the middle. Some of the potential retaliatory responses are discussed in the paper

on a disaggregated basis, such as China terminating imports of particular US products (such as

aircraft) or barring SOEs from conducting business with US firms.

Macquarie Wealth Management Trump,Trade and China

23 March 2018 11

Fig 14 A trade war is estimated to be particularly harmful for investment

Fig 15 Model estimates suggest a full-blown trade war could reduce US GDP by 4.5 percent

Source: Noland et al. (2016), Macquarie Research, March 2018. Source: Noland et al. (2016), Macquarie Research, March 2018.

McKibbin and Stoeckel (2017) also use a global economic model to assess the potential effects of

higher tariffs, both bilaterally and in a global trade war scenario. First, they estimate the impact of a

40 percent tariff imposed by the US on imports of manufactured goods from China (assuming no

retaliatory actions). They find that the effect is relatively neutral for the US (as substitution to lower-

priced products from elsewhere occurs), but harmful for China, both in terms of GDP and investment.

Given the likely retaliatory actions of China, and the potential for a global trade war to ensue, they

also consider the effects of tariff increases being imposed more widely. Specifically, they estimate

how the level of GDP would be affected in one year if all countries were to increase import tariffs by

10 percentage points. Unsurprisingly, all countries are significantly worse off in this scenario, with

each country being harmed materially by their own tariffs hikes and those of other countries.

Considering the average effects across countries suggests that a trade war that took this form could

reduce global GDP by around 2 percent within a year.

Fig 16 US tariffs on Chinese imports are fairly neutral on the US in the absence of retaliation

Fig 17 But all countries are significantly worse off if a global trade war were to ensue

Source: McKibbin and Stoeckel (2017), Macquarie Research, March 2018. Source: McKibbin and Stoeckel (2017), Macquarie Research, March 2018.

Macquarie Wealth Management Trump,Trade and China

23 March 2018 12

Oxford Economics estimated the potential consequences of a Trump victory prior to the election, and

have more recently examined the possible global effects of greater US protectionism. The former

includes the combined effects of Trump’s trade and other policies (such as tax reform and

deportation of illegal immigrants), while the latter isolates the effects of potential US trade policy and

the retaliatory actions of major trading partners. We refer the interested reader to the links above, but

briefly summarise here the high-level results:

In the adverse pre-election scenario, Trump is victorious and implements tariffs consistent with his

pre-election rhetoric on China and Mexico, before imposing wider tariffs as US consumers switch to

importing from other countries. Coupled with a range of other policies, this depresses global GDP by

around 2 percent within five years, with the effect being more than twice as large in the US.

In the more-recent scenario, the US is assumed to impose tariffs of 25 percent on imports from

China, and 10 percent on imports from South Korea and Taiwan (as individuals switch

consumption). These countries implement comparable reciprocal tariffs, and the US exits NAFTA

in 2019. In this scenario, US and global GDP are around 1 percent lower by 2020, with the impact

being highly differentiated across countries.

Finally, work by the IMF in 2016 is also informative as to the potential effects of trade liberalisation (and

conversely, increased protectionism) on welfare. The IMF estimated the effects of eliminating tariffs,

which stood at an import-weighted average of 8 percent, and implementing the WTO Trade Facilitation

Agreement (TFA),3 on consumption. Their estimates, based on a range of models, imply that the gains

are likely to be significant, but highly uncertain, ranging from 0.3 to 10.0 percent. This further reiterates

that increased protectionism, particularly escalation to a global trade war, would be harmful.

Fig 18 Gains from reducing trading costs are significant, but highly uncertain, reiterating that increased protectionism – or worse, a global trade war – would be harmful

Source: IMF, Macquarie Research, March 2018. *TFA refers to the Trade Facilitation Agreement.

3 Implementing the TFA was estimated to be equivalent to reducing value-added tariffs by 14 percent, so

the estimates here relate to a 22 percent reduction in trade costs. The TFA came into effect on 22 February 2017.

Macquarie Wealth Management Trump,Trade and China

23 March 2018 13

What did Trump say during the election campaign?4

During the election campaign, President Trump made a host of protectionist overtures, while

condemning previous US leaders for entering into agreements that benefitted other countries at the

expense of the US. Many of Trump’s comments have been widely publicised, but it can be difficult in

isolation to establish whether these represent genuine intentions or just rhetoric, particularly given

the President’s propensity for off-hand comments. In this section, we detail some of his pre-election

comments on trade policy, and examine whether these were one-offs (and subsequently retracted),

or whether they featured more prominently, perhaps more-closely indicating genuine intentions.

Impose a 35 percent tariff on US companies that move production offshore: Trump frequently

indicated his desire to impose a 35 percent tariff on companies that moved production offshore,

commonly referring to carmakers shifting production facilities to Mexico. Trump detailed this position

in his Presidential Announcement Speech, in subsequent media interviews and speeches, and on

social media (see below). This suggests that, while not necessarily representing specific intentions,

Trump’s statements were indicative of the sorts of trade policy changes he planned to make.

“Every car and every truck and every part manufactured in this plant that comes across the

border, we’re going to charge you a 35% tax, and that tax is going to be paid simultaneously with

the transaction, and that’s it.”

“If you want to build cars in the world, then I wish you all the best. You can build cars for the

United States, but for every car that comes to the USA, you will pay 35% tax.”

“There will be a tax on our soon to be strong border of 35% for these companies wanting to sell

their product, cars, A.C. units etc., back across the border”

Impose a 45 percent tariff on China: This was perhaps one of Trump’s most widely publicised

comments related to trade policy, stemming from comments made at a meeting with members of the

New York Times editorial board. During a Republican debate, Trump subsequently clarified his

comments, suggesting that the proposed tariffs were instead intended as a threat (see below).

However, later comments from his adviser, Peter Navarro, suggested that a 45 percent tariff would

“be an appropriate level” and could be imposed on “any American trade partner that cheats on its

trade deals using practices such as currency manipulation and illegal export subsidies”.

“I would tax China on products coming in”. “I would do a tariff, yes — and they do it to us.” “I

would do a tax. And the tax, let me tell you what the tax should be … the tax should be 45

percent.”

“The 45 percent is a threat that if they don't behave, if they don't follow the rules and regulations

so that we can have it equal on both sides, we will tax you. It doesn't have to be 45, it could be

less. But it has to be something because our country and our trade and our deals and most

importantly our jobs are going to hell.”

Renegotiate or withdraw from NAFTA: Trump’s discontent with the North American Free Trade

Agreement was abundantly clear throughout his candidacy. For example, his intention to renegotiate

or withdraw from NAFTA under Article 2205 appeared in his Presidential Announcement Speech,

Nomination Acceptance Speech, and as a day-one priority in his Contract With The American Voter.

In a CBS interview, he even labelled the agreement “a disaster” and stated that “Every agreement

has an end.”

“That includes renegotiating NAFTA to get a much better deal for America – and we’ll walk away

if we don’t get the deal that we want.”

Withdraw from the Trans-Pacific Partnership: Similarly, Trump discussed his dislike of the TPP in

his Nomination Acceptance Speech (see below) and noted his intention to withdraw from it on the

first day of his term in office in his Contract With The American Voter.

“The TPP will not only destroy our manufacturing, but it will make America subject to the rulings

of foreign governments. I pledge to never sign any trade agreement that hurts our workers, or

that diminishes our freedom and independence. Instead, I will make individual deals with

individual countries.”

4 As noted in our 2017 report, Trump also stated that he would “label China as a currency manipulator”.

We do not discuss this statement separately here, as it is largely related to other policies discussed.

Macquarie Wealth Management Trump,Trade and China

23 March 2018 14

More broadly, renegotiate existing trade agreements: Given his feelings related to NAFTA and

the TPP, it is unsurprising that Trump took aim more broadly at the US’s existing trade agreements.

For example, Trump outlined his plan to renegotiate existing trade agreements in his Presidential

Announcement Speech and Nomination Acceptance Speech (see below). Trump’s advisers even

stated that the US may “go back to ground zero” on all FTAs, while Trump suggested in an NBC

interview that he didn’t care whether his abrogation of present agreements would violate WTO rules

(see below).

“Our horrible trade agreements with China and many others, will be totally renegotiated.”

“It doesn’t matter [whether such a policy would violate WTO rules]. Then we’re going to

renegotiate or we’re going to pull out. These trade deals are a disaster, the World Trade

Organisation is a disaster.”

Appendix 1 – Details behind the USTR action

The US trade representative has published both a fact sheet and a thorough (215 page) report

that details the findings of its investigations into “China’s Acts, Policies, and Practices Related to

Technology Transfer, Intellectual Property, and Innovation”

The investigation was undertaken under the authority of section 301 of the Trade Act of 1974.

This authorizes the President to retaliate against unfair acts, policies, or practices of US trading

partners.

The reports highlight four actions China has taken that are harmful to American business

These reports highlight four actions that China does that are harmful to American business. A

team of subject matter experts has estimated that these policies result in harm to the US economy

of at least US$50bn per year. This is why the US administration is targeting roughly this amount

of imports from China with its tariff action.

The four actions highlighted are

a) China uses joint venture requirements, foreign investment restrictions, and administrative

review and licensing processes to force or pressure technology transfers from American

companies

b) China uses discriminatory licensing processes to transfer technologies from U.S. companies

to Chinese companies

c) China directs and facilitates investments and acquisitions which generate large-scale

technology transfer

d) China conducts and supports cyber intrusions into U.S. computer networks to gain access to

valuable business information

In response, the President has directed the USTR to take action against China

In his March 22, 2018 memorandum the President directed the USTR to take the following actions

against China as a result of the findings of the investigation

i. WTO Dispute. This will target China’s discriminatory technology licensing practices.

ii. 25 percent ad valorem duties on imports from China. The proposed list will include

aerospace, information and communication technology, and machinery.

iii. Investment restrictions on Chinese investment aimed at obtaining key US technologies.

Together with the US Treasury Department, department and agencies will “propose measures

addressing China’s investment practices involving the acquisition of sensitive technologies”.

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23 March 2018 15

Process for tariff action

A proposed list of products subject to the tariffs will be announced within the next 15 days

Following this public comments will be received over the next 30 days

USTR will then review and analyse the comments

Once this process is complete, USTR will announce the final tariffs and product list

Macquarie Wealth Management Trump,Trade and China

23 March 2018 16

Important disclosures:

Recommendation definitions

Macquarie - Australia/New Zealand Outperform – return >3% in excess of benchmark return Neutral – return within 3% of benchmark return Underperform – return >3% below benchmark return Benchmark return is determined by long term nominal GDP growth plus 12 month forward market dividend yield

Macquarie – Asia/Europe Outperform – expected return >+10% Neutral – expected return from -10% to +10% Underperform – expected return <-10%

Macquarie – South Africa Outperform – expected return >+10% Neutral – expected return from -10% to +10% Underperform – expected return <-10%

Macquarie - Canada

Outperform – return >5% in excess of benchmark return Neutral – return within 5% of benchmark return Underperform – return >5% below benchmark return

Macquarie - USA Outperform (Buy) – return >5% in excess of Russell 3000 index return Neutral (Hold) – return within 5% of Russell 3000 index return Underperform (Sell)– return >5% below Russell 3000 index return

Volatility index definition*

This is calculated from the volatility of historical price movements. Very high–highest risk – Stock should be

expected to move up or down 60–100% in a year – investors should be aware this stock is highly speculative. High – stock should be expected to move up or down at least 40–60% in a year – investors should be aware this stock could be speculative. Medium – stock should be expected to move up or down at least 30–40% in a year. Low–medium – stock should be expected to move up or down at least 25–30% in a year. Low – stock should be expected to move up or down at least 15–25% in a year. * Applicable to Asia/Australian/NZ/Canada stocks only

Recommendations – 12 months Note: Quant recommendations may differ from Fundamental Analyst recommendations

Financial definitions

All "Adjusted" data items have had the following adjustments made: Added back: goodwill amortisation, provision for catastrophe reserves, IFRS derivatives & hedging, IFRS impairments & IFRS interest expense Excluded: non recurring items, asset revals, property revals, appraisal value uplift, preference dividends & minority interests EPS = adjusted net profit / efpowa* ROA = adjusted ebit / average total assets ROA Banks/Insurance = adjusted net profit /average total assets ROE = adjusted net profit / average shareholders funds Gross cashflow = adjusted net profit + depreciation *equivalent fully paid ordinary weighted average number of shares All Reported numbers for Australian/NZ listed stocks are modelled under IFRS (International Financial Reporting Standards).

Recommendation proportions – For quarter ending 31 December 2017

AU/NZ Asia RSA USA CA EUR Outperform 51.82% 55.57% 44.05% 45.06% 60.00% 42.51% (for global coverage by Macquarie, 4.36% of stocks followed are investment banking clients)

Neutral 35.40% 28.60% 36.90% 47.59% 28.67% 40.42% (for global coverage by Macquarie, 2.58% of stocks followed are investment banking clients)

Underperform 12.77% 15.83% 19.05% 7.34% 11.33% 17.07% (for global coverage by Macquarie, 0.69% of stocks followed are investment banking clients)

Company-specific disclosures: Important disclosure information regarding the subject companies covered in this report is available at www.macquarie.com/research/disclosures.

Analyst certification: We hereby certify that all of the views expressed in this report accurately reflect our personal views about the subject company or companies and its or their securities. We also certify that no part of our compensation was, is or will be, directly or indirectly, related to the specific recommendations or views expressed in this report. The Analysts responsible for preparing this report receive compensation from Macquarie that is based upon various factors including Macquarie Group Limited (MGL) total revenues, a portion of which are generated by Macquarie Group’s Investment Banking activities. General disclosure: This research has been issued by Macquarie Securities (Australia) Limited ABN 58 002 832 126, AFSL 238947, a Participant of the ASX and Chi-X Australia Pty Limited. This research is distributed in Australia by Macquarie Wealth Management, a division of Macquarie Equities Limited ABN 41 002 574 923 AFSL 237504 ("MEL"), a Participant of the ASX, and in New Zealand by Macquarie Equities New Zealand Limited (“MENZ”) an NZX Firm. Macquarie Private Wealth’s services in New Zealand are provided by MENZ. Macquarie Bank Limited (ABN 46 008 583 542, AFSL No. 237502) (“MBL”) is a company incorporated in Australia and authorised under the Banking Act 1959 (Australia) to conduct banking business in Australia. None of MBL, MGL or MENZ is registered as a bank in New Zealand by the Reserve Bank of New Zealand under the Reserve Bank of New Zealand Act 1989. Apart from Macquarie Bank Limited ABN 46 008 583 542 (MBL), any MGL subsidiary noted in this research, , is not an authorised deposit-taking institution for the purposes of the Banking Act 1959 (Australia) and that subsidiary’s obligations do not represent deposits or other liabilities of MBL. MBL does not guarantee or otherwise provide assurance in respect of the obligations of that subsidiary, unless noted otherwise. This research contains general advice and does not take account of your objectives, financial situation or needs. Before acting on this general advice, you should consider the appropriateness of the advice having regard to your situation. We recommend you obtain financial, legal and taxation advice before making any financial investment decision. This research has been prepared for the use of the clients of the Macquarie Group and must not be copied, either in whole or in part, or distributed to any other person. If you are not the intended recipient, you must not use or disclose this research in any way. If you received it in error, please tell us immediately by return e-mail and delete the document. We do not guarantee the integrity of any e-mails or attached files and are not responsible for any changes made to them by any other person. Nothing in this research shall be construed as a solicitation to buy or sell any security or product, or to engage in or refrain from engaging in any transaction. This research is based on information obtained from sources believed to be reliable, but the Macquarie Group does not make any representation or warranty that it is accurate, complete or up to date. We accept no obligation to correct or update the information or opinions in it. Opinions expressed are subject to change without notice. The Macquarie Group accepts no liability whatsoever for any direct, indirect, consequential or other loss arising from any use of this research and/or further communication in relation to this research. The Macquarie Group produces a variety of research products, recommendations contained in one type of research product may differ from recommendations contained in other types of research. The Macquarie Group has established and implemented a conflicts policy at group level, which may be revised and updated from time to time, pursuant to regulatory requirements; which sets out how we must seek to identify and manage all material conflicts of interest. The Macquarie Group, its officers and employees may have conflicting roles in the financial products referred to in this research and, as such, may effect transactions which are not consistent with the recommendations (if any) in this research. The Macquarie Group may receive fees, brokerage or commissions for acting in those capacities and the reader should assume that this is the case. The Macquarie Group‘s employees or officers may provide oral or written opinions to its clients which are contrary to the opinions expressed in this research. Important disclosure information regarding the subject companies covered in this report is available at www.macquarie.com/disclosures © Macquarie Group

This publication was disseminated on 22 March 2018 at 21:54 UTC.