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Mar 13, 2017 | 08:16 GMT

9 mins read

Trading a Battleground for Common Ground in Washington

As Berlin adjusts its approach toward its longtime partner across the pond, it will have to decide whether to defend the multilateral institutions that underpin its success, or adapt to a new reality in which Washington no longer supports them.
(Stratfor)
Forecast Bullets
  • Faced with growing U.S. protectionism, Germany will try to work with the new administration in Washington to defuse the tension mounting between them.
  • At the same time, Berlin will adjust its positions on some EU policies to preserve the single market that is so critical to its own economy's success.
  • Germany will seek out new destinations for its exports as well, spurring the European Union's free trade negotiations with emerging markets forward.

Since taking office on Jan. 20, U.S. President Donald Trump has put shrinking the U.S. trade deficit at the top of his economic agenda. After he doled out criticism to countries with which the United States holds the largest trade deficits and threatened to slap punitive tariffs on their exports, Washington's trade partners have scrambled to come up with strategies to address the new administration's concerns. Japanese Prime Minister Shinzo Abe has already sat down with Trump to defend his country's policies, and German Chancellor Angela Merkel isn't far behind. She will head to the United States on March 14 to meet with Trump for the first time, a day before German Finance Minister Wolfgang Schaeuble will hold talks with U.S. Treasury Secretary Steven Mnuchin in Germany.

Because exports are the lifeblood of the German economy, the prospect of a trade war with the United States is a source of deep concern for Berlin. The same can be said of Washington's threats to ignore the rules of the World Trade Organization, the global framework that Germany's economic model is built upon. As Merkel's government adjusts its approach toward its longtime partner across the pond, Berlin will have to decide whether to take steps to defend the multilateral institutions that underpin its success, or adapt to a new reality in which Washington no longer backs them.

Trading Barbs

Since the beginning of the year, high-ranking U.S. and German officials have held a flurry of meetings in an attempt to settle their differences. After German Vice Chancellor Sigmar Gabriel flew to the United States in early February, U.S. Vice President Mike Pence paid a follow-up visit to Germany a few days later. Merkel and Schaeuble's approaching meetings with Trump and Mnuchin underscore Berlin's determination to keep the lines of communication open at the highest levels of government. Germany's current position in the rotating presidency of the G-20, moreover, gives it avenues for addressing global trade issues with Washington that reach beyond their own bilateral relationship.

But Berlin's attempts to steer the dialogue in a more positive direction won't change the fact that U.S. officials have repeatedly accused Germany of using its eurozone membership to secure an unfair advantage. After all, the argument goes, the deutsche mark probably wouldn't be as cheap as the euro. By tying itself to the European currency area, Germany has undervalued its own currency relative to the dollar, to German exporters' gain. The U.S. administration has hinted that it may consider this a case of "currency manipulation," though German officials have pointed out that the European Central Bank — not Berlin — controls the value of the euro

German companies, including behemoth carmakers BMW and Mercedes, have also come under fire for their practices. According to the United States, German auto manufacturers should make more vehicles on U.S. soil rather than exporting them to the United States by way of other countries such as Mexico. But Berlin has disputed these claims, arguing that German firms are actually sizable employers in the United States and include many U.S. companies in their supply chains. In fact, BMW is the biggest car exporter in the United States. Germany has also been quick to note that the success of its exports can be explained by their quality, attributing its economic heft to the simple forces of supply and demand that dictate a free-market global economy.

Berlin Keeps Its Options Open

Though the United States is the largest destination for German exports, it accounts for less than 10 percent of them when all is said and done. The vast majority of German goods go to countries elsewhere, and in the months ahead, Berlin will do all it can to protect and nurture its ties to trade partners in other parts of the world.

Germany's current account surplus (a measurement that includes trade balance), reached 8.5 percent of gross domestic product in 2015, making it the largest in the world. Germany's current account was in deficit when the euro was created in the early 2000s but has grown steadily since then. The International Monetary Fund and the European Commission have urged Germany to reduce its external surplus by, for example, increasing public investment.

The backbone of this policy will be preserving its access to European markets. Berlin's newfound friction with Washington has already prompted the German government to shift its stance on certain EU issues. For instance, Berlin has welcomed a recent proposal by the European Commission to permit some members to deepen their economic and political links while allowing others to opt out of them. This flexibility is meant to protect Europe's single market, in which goods, services, capital and people can move freely, while acknowledging that EU members have different visions of what the bloc should someday look like. Though the idea of a "multispeed Europe" has a number of shortcomings, it proves Berlin's willingness to take a pragmatic approach to protecting the single market that is so critical to its own trade policies.

Germany will also hedge its bets by seeking out new markets for its exports. Berlin has already thrown its weight behind Brussels' plan to resume several stalled free trade talks. In early February, for example, the European Union and Mexico agreed to speed up the negotiations to update their free trade agreement, scheduling meetings in April and June. Later that month, EU and Japanese officials vowed to continue talks that began in 2013 on signing a free trade agreement. Then, in early March, European Commissioner for Trade Cecilia Malmstrom met with Singaporean leaders to mull ways to accelerate the ratification of a free trade deal that was struck in 2014. The European Union, meanwhile, has also renewed its efforts to revive free trade negotiations with India that were shuttered in 2013.

Germany has a close eye on the opportunities China can offer as well. China is the European Union's second-largest trade partner after the United States, and the Continental bloc is Beijing's biggest trade partner. China, moreover, may be receptive to closer economic and political ties with Europe. Merkel has voiced her concern about growing protectionism around the world, echoing similar statements made by Chinese President Xi Jinping. In the coming weeks, Chinese Premier Li Keqiang is set to visit Germany, sending a clear signal of Beijing's shared interest in seeking out a new partnership with Berlin.

Even so, strengthening the bond between the European Union and China won't be easy. The Continental bloc demands reciprocity in its bilateral relationships, and it would expect European companies to have the same access to China that Chinese companies have to Europe. But European officials have repeatedly denounced the barriers China has imposed on EU companies, including non-tariff measures that discriminate against foreign firms, as well as Beijing's support for state-owned companies and weak protection of intellectual property rights. In fact, the European Union recently imposed anti-dumping duties and tariffs on Chinese goods such as steel and solar panels.

Germany's aggressive stance on Chinese takeovers of German companies is also a thorny issue that would complicate any push for deeper ties. In the past, Berlin has asked Brussels to build the legal architecture to allow EU states to intervene in technology sector takeovers led by foreign companies flush with state funds. Ironically enough, though Germany has worked tirelessly to counter protectionism in global trade, it has positioned itself at the forefront of a global movement to defend national interests and companies against merger and acquisitions by foreign corporations.

Germany at a Crossroads

Germany's strategy for coping with U.S. protectionism may also include a third and much riskier tactic. High-ranking members of the ruling Christian Democratic Union have called for Berlin to ask the European Union to impose punitive tariffs on U.S. goods, should Washington target German products with its own measures. The chances of this proposal bearing fruit are slim, since it would fly in the face of Germany's aim to defuse the brewing trade war. Berlin would more likely react to targeted U.S. measures by seeking to open a case against Washington in the World Trade Organization (WTO). If, however, the United States were to ignore the organization's ruling, Germany might resort to responding in kind with similar tariffs levied through the European Union.

Of course, Germany is not the only state worried about Washington's thinly veiled threats. Trump has repeatedly proposed a border tax, and Republican lawmakers are trying to push through a border adjustment tax — both of which may violate WTO rules. But as of now, it is still unclear whether Germany (or any other nation) would try to challenge these changes to the U.S. tax code. Should Germany take the United States to court, the WTO could authorize anywhere from $100 billion to $400 billion in retaliatory measures, depending on which aspects of the proposed taxes are deemed violations of the organization's regulations. Germany may even choose to advocate against retaliation, since damages that large would probably persuade the United States to ignore or reject the WTO framework as a whole — something Berlin hopes to prevent given the body's central role in the global trade system.

In the meantime, though, Germany and the United States will continue to spar over yet another aspect of German trade policy backed by the WTO: value-added tax (VAT) rebates. White House trade council chief Peter Navarro has argued that these rebates, which German exporters are permitted to claim, have made for an uneven playing field between U.S. and German companies. Though many countries use VAT and other tax rebates, Navarro's statements suggest that if Washington cannot go after Germany's monetary policies because Berlin does not control the euro, it may focus on the country's fiscal policies instead.

This isn't the first time Germany has heard this critique. Berlin's fellow eurozone members have asked it in the past to increase public spending, raise the minimum wage and give Germans more tax breaks (including a lower VAT) to encourage consumer spending and, by extension, boost German imports. But even if this strategy could bump up Germany's imports from its European partners, such as France and Italy, it wouldn't necessarily reduce the United States' trade deficit with Germany. It would also run counter to the German government's strategy of keeping its budget deficit to zero. 

The German chancellor's approaching trip to the White House will center on the two countries' relationship, particularly since Trump has prioritized the use of bilateral talks over multilateral frameworks for discussing trade, investment and currency policies. But as the United States continues to publicly question the efficacy of international institutions such as the WTO, Germany will be faced with a tough choice: stand in their defense, or accept the consequences of Washington's fading desire to support and participate in them. Either way, Merkel will do what she can this week to find some common ground with Trump as each administration charts its own course forward.

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