Editor's Note: This assessment is part of a series of analyses supporting Stratfor's upcoming 2019 Fourth-Quarter Forecast. These assessments are designed to provide more context and in-depth analysis on key developments over the next quarter.
For much of August, the United States and China have followed a tit-for-tat pattern of tariffs as they wage their trade war, with Beijing answering the round of U.S. tariffs announced Aug. 1 by President Donald Trump with some of its own. But a bombshell announcement by Trump on Aug. 23 has the potential to change the rules of the game.
With one tweet — "American companies are hereby ordered to immediately start looking for an alternative to China" — Trump offered a glimpse of where he might take the trade fight next. Although Trump followed his stark warning only with an announcement of higher tariffs on Chinese goods, he later reiterated that the White House had the power under the International Emergency Economic Powers Act of 1977 to force U.S. companies to divest from China, keeping the option of an economic withdrawal on the table.
If all of its threatened tariffs come to pass, by Dec. 16, the United States will have subjected 95 percent of imported Chinese goods to tariffs ranging from 15 to 30 percent. Beyond increasing the percentage of the levies, this leaves little room for escalation, meaning the leverage gained in negotiations by threatening more tariffs is reaching a point of diminishing returns. Applying more pressure on China to reach a trade deal could, therefore, necessitate a change in tactics, which a mandatory U.S. business divestiture from China would certainly provide. But the downsides of starting down that path, including an increase in domestic political opposition and the collateral damage to the U.S. economy, could deter such a move.
Won't Back Down
At present, the chances for movement in the China-U.S. trade talks appear slim. The G-20 truce earlier this year between President Xi Jinping and Trump lasted just 33 days before the United States announced a tariff increase; another escalation came just three weeks later. The climate appears ripe for the next round of threatened U.S. tariffs — 15 percent on about $140 billion worth of goods — to snap into place on Sept. 1. Before Trump's latest announcement, U.S. and Chinese trade negotiators had been preparing to sit down in September, but those talks now appear to be up in the air. While talks to head off or delay the rounds of U.S. tariffs coming down the road may still be possible, recent history suggests that they won't be successful. On Oct. 1, the United States plans to increase existing tariffs of 25 percent on about $250 billion worth of imports to 30 percent, and on Dec. 15, an additional $160 billion worth of Chinese goods will be subject to 15 percent tariffs.
In April, Beijing clearly made the strategic decision to adopt a harder negotiating position over certain trade issues. For instance, Xi made it clear that any trade deal with the United States would have to be balanced. He stressed that China would not make major concessions on its core economic policies, such as continued support for state-owned enterprises, a state-led industrial policy and protection for the domestic high-tech sector. These are crucial areas that allow the Chinese Communist Party to fulfill its social contract with the population: Economic development in exchange for allowing the party to maintain its political monopoly.
China has interpreted the Trump administration's moves, including the tariff barrage, as an attempt to prevent its rise as the countries engage in increasing global competition. Tactics such as targeting Chinese tech giant Huawei Technologies and pulling the United States out of arms control treaties with Russia with the aim of renegotiating them to include China as a signatory, reflect that aim. Even more, the strategic importance of countering China is recognized by U.S. leaders on both sides of the political divide. So while U.S. tactics may shift under a different president, the grand strategy is likely to remain on course.
In this atmosphere, the inevitable hardening of China's position appears irreversible and further rounds of trade talks will remain hard-fought and inherently fragile as China digs in and U.S. patience wears thin. If talks again break down, White House options for pushing China back to the table in the absence of new tariff targets would be limited to either an increase in the existing levies or something more severe.
A Pyrrhic Option
The International Emergency Economic Powers Act gives the president considerable authority to regulate commerce with certain countries whenever there is an "unusual and extraordinary threat [...] to the national security, foreign policy, or economy of the United States." Its provisions have frequently been used as the basis for sanctions and embargoes, such as those targeting Iran, Nicaragua and Venezuela. By invoking the act, Trump could try to block not only all Chinese-made imports from entering the United States but also all foreign goods containing materials sourced in China. The president could also use the law to halt U.S. exports to China and restrict transactions with certain Chinese entities. But despite Trump's claim, it's not clear whether the law indeed gives the president the authority to force U.S. companies to leave China, and any attempt to make that happen would draw a legal challenge. But courts tend to favor presidential discretion in matters of national security, and the act, as written, is incredibly broad.
The harm to U.S. companies would likely restrain Trump's efforts to use the International Emergency Economic Powers Act to its fullest potential.
While the presidential authority to enforce such an order remains debatable, the economic damage of a compulsory divestiture would be significant. After all, it would hardly be a simple matter for U.S. companies with operations in China to pull out. Foreign companies that have made extensive investments in China don't necessarily see it as just a manufacturing hub, but also as a vital sales market. China accounted for 17 percent of Apple Inc.'s revenue in the nine months ending in June, for instance. For many businesses, China's deep knowledge base, trained workers, concentration of suppliers and well-developed infrastructure offer advantages difficult to find elsewhere. The lack of solid alternatives explains why some companies have decided to stay put after initially considering relocating away from China to reduce their exposure to the trade war.
For large U.S. companies with sizable supply chains, moving even a fraction of their established production and assembly outside China would take years, rather than months. Relocation would first require substantial investment to establish new supply chains, damaging profit margins, limiting research and development spending, as well as dragging down dividends and share prices. This, in turn, could force layoffs of U.S. workers and drive up prices for U.S. consumers to boot. Ironically, one of China's strongest retaliatory responses to U.S. tariffs would be to harass and restrict U.S. companies within its borders — but because of the economic damage that would entail, Beijing has refrained from doing so on a large scale.
The harm to U.S. companies would likely restrain Trump's efforts to use the International Emergency Economic Powers Act to its fullest potential. If the White House decides to go that route, it would likely have to grant a multiyear grace period that would allow U.S. companies to wind down Chinese operations. It also would likely restrict the sectors affected. Moreover, any absolute restrictions of Chinese-made parts and equipment would likely be narrow. The industries most at risk of being targeted include those associated with China's geopolitical ambitions, like the high-tech sector, and perhaps those doing business with Chinese state-owned enterprises.
Beyond imposing restrictions on U.S. companies in China, Trump could invoke the act, along with other mechanisms, to justify sanctions against Chinese officials suspected of human rights violations or Chinese companies facilitating crackdowns. Moreover, if the United States wants to widen the net, it could institute secondary sanctions designed to limit the abilities of companies outside the United States from working with China.
While Congress has the authority to cancel any national emergency declared under the act, lawmakers have so far allowed Trump to broadly interpret U.S. law involving trade policy. Revoking an emergency act would require Congress to pass a joint resolution by a veto-proof margin — meaning that Republican lawmakers would have to cross the aisle. For Republicans to buck the putative head of their party in an election year would be unusual, but deteriorating economic circumstances could force their hand. Of course, if the economy suffers and Trump sees potential reelection slipping from his grasp, he could reverse the decision.
A Strategic Move or Just a Negotiation Tactic?
Ultimately, Trump's tweeted order that companies look for alternatives to China may be mere rhetoric that he has no intention of acting on. Nevertheless, he continues to make the threats in the hopes of influencing the long-term strategies of U.S. multinationals. Even if an emergency order is not a likely outcome, the threat itself provokes two questions: What are Trump's options beyond tariffs to try to force China to capitulate? And perhaps most importantly, what are the president's strategic goals in intensifying the trade war, and how far is he willing to go to achieve them?
The International Emergency Economic Powers Act remains the last tool of substance Trump has to hit China economically. But options in the geopolitical realm remain, including penalizing Chinese companies doing business with countries under U.S. sanctions. This may not be a potent option given that most large Chinese companies with U.S. exposure have complied with sanctions for the most part. But the White House has used its sanctions on Iran to legally justify placing restrictions on Huawei. Trump can also increase political, economic and military support for Taiwan and in the South China Sea. But those actions would reinforce China's hardening position in trade talks, making it all the more difficult to reach a trade deal.
On the 2016 campaign trail, Trump talked about subjecting Chinese goods to tariffs as high as 45 percent — a figure the United States is approaching. Trump has an ideological affinity for tariffs, and he may truly feel that as long as the blowback to the U.S. economy remains limited, keeping tariffs in place is the way to go. While Section 301 tariffs were an effort to get China to change its intellectual property and tech transfer laws, the U.S. wish list has always been broader, including seeking fundamental changes to Chinese industrial policies and reducing the U.S.-China trade imbalance.
But with none of these objectives appearing immediately achievable, the White House may eventually decide to keep tariffs in place as an incentive structure to force U.S. companies to seek alternatives to China over the long term. If that's the goal, then the emergency powers act can be used as an accelerant. But invoking it to do so would cause economic disruption and incur a political penalty. If Trump feels that his other policy positions, such as on immigration, won't protect him from a loss of political support, he may have no choice but to compromise to seal a face-saving trade agreement. But if he feels that he can stand the political heat, then the White House's policy of uncoupling from China could get a shot in the arm.