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This article is more than 2 year old.

The current trade war may do to India what US-Japan conflict of 1980s did to China

Mini

This war will open the way forward for the world saddled with mountains of debt, sitting on the verge of environmental disaster and struggling for growth.

The current trade war may do to India what US-Japan conflict of 1980s did to China
The global markets have been held hostage by the Sino-US trade war for the past couple of years. Billions of reams of paper and zillions of terra bytes of data have been consumed to discuss the various dimensions of the trade war and its potential impact on the global economy. A lot of discussion has taken place as to whether this episode of trade war is a threat or an opportunity for India.
In this context, it is pertinent to note that this is neither the first instance of a major trade war among large global economies, and nor the last one. The trade wars in fact are as old as the trade itself. Some noteworthy instances of trade wars could be noted as follows:
  • In the year 1689, British monarch William of Orange put steep tariffs on French wine. He wanted to encourage the British to drink their own booze -- make and drink. It was not a great idea because without wine, Britain turned to the hard stuff -- gin. So for the next 50 years, England was in the grip of the so-called gin craze. Consequently, there was a conspicuous surge in the crime, death and unemployment.
  • In the 18th century, Britain put trade restrictions and taxes on tea being shipped to the colonies. This eventually led to Boston Tea Party, an iconic event in American war for independence.
  • In the 1800s, the Brits were importing a lot of tea from China, and they didn't like the trade deficit, so they started to export opium to China, which caused an opium epidemic in China. China put a tariff on the opium and then banned it altogether. This led to the very bloody Sino-British Opium Wars. The Qing lost the war. This defeat is popularly believed to be the first step in the direction of establishment of modern day China.
  • Restrictions on the trade of cotton textile, indigo and salt etc. by British Empire on India inspired many key events in India's war of independence (Champaran Satyagraha, Dandi March, etc.) which eventually led to independence of India.
  • Soon after its unification in 1871, Italy turned to protectionism to foster its ‘infant’ industries. It terminated its trade agreement with France in 1886; raised tariffs as high as 60 percent to protect its industries from French competition. The French government responded by passing the highly protectionist Méline Tariff of 1892, which famously rang the death knell of the country’s flirtation with free trade. This eventually pushed Italy closer to Germany and Austria-Hungary in the years leading up to the First World War.
  • In post-WWII era, US trade restrictions on Cuba, Iran, Iraq, Russia, North Korea and Syria have had significant impact on global strategic balance.
  • Wider economic sanctions on India in the wake of 1998 nuclear tests helped the country develop indigenous technologies and evolve as a major power in nuclear and space technology.
  • There is a strong view that America’s last ‘trade war’ with Japan in the 1980s was one of the best things that ever happened to American industry and consumers, because American businesspeople rose to the challenge of the time. The ‘quality movement’ spread across the country. Businesspeople, previously outraged by the Japanese ‘stealing’ trade secrets, decided to join the club and took to ‘benchmarking’ on an industrial scale, often with Japanese companies as their targets. The benefits of all that attention to quality were large and durable for US businesses and consumers. In the end, the ‘war’ did not prove to be destructive.
  • The point is that there is evidence of trade wars causing structural shifts and paradigm changes in global economy. However, there is little evidence to suggest that but for trade wars, world would have been a better place.
    The current episode of trade war, the US administration is seeking to raise tariffs on imports from countries which run a trade surplus with the US. China being the largest trade surplus country with the US is at the centre of the conflict.
    Sino-US trade conflict may be about things beyond trade
    In the post-Cold War era of past three decades, the world has largely been unipolar, mostly dominated by the US.
    China has laboured hard for over five decades, since the beginning of cultural revolution in 1966, to emerge as a potent global force. In the past three decades it has subsidised the global economy by providing cheap labour and capital. It has funded a large part of the US and EU fiscal deficit by investing in their treasuries, which in turn has kept global markets afloat during the global financial crisis. It also helped the developed economies in protecting their environment by letting them relocate most of their polluting industries to China.
    There is no surprise if China now seeks to move into higher orbit by asking to be treated at par with developed countries. To meet this end, it has cracked down massively on polluting industries by shutting huge capacities. Tightened financial regulations and committed more access to its markets.
    The US obviously finds its hegemony challenged, and making efforts to protect its dominance. Besides, the incumbent US leadership also has a large constituency to please for his re-election in 2020. This constituency desires protection from cheaper Chinese imports, local manufacturing growth and larger market for US agriculture produce.
    Impact on India
    In my subjective and mostly intuitive view, this war will open the way forward for the world saddled with mountains of debt, sitting on the verge of environmental disaster and struggling for growth. The war if escalated will rebalance the global equilibrium and open opportunities for many emerging economies. To the question, whether the gains will happen without pain, I must answer with an emphatic NO.
    Nonetheless, I feel India may actually emerge winner in post trade conflict. It is pertinent to note the outcome of US-Japan trade conflict in 1980s.
    In the 80s, the US had massive conflict with Japan as trade deficit of the US with Japan increased to over 80 percent of total deficit. This was higher than the current deficit with China.
    In September 1985, Japan signed Plaza Accord with the US to settle the dispute. This deal was signed after the US threatened to impose 100 percent import duty on Japan. The US also had alleged that Japan had stolen technology from it. Key market reactions to Plaza Accord were as follows:
    1. Japan let its currency appreciate. This led to sharp rise in JPY vs USD.
    2. Appreciation of JPY led to property bubble and stock market bubble in Japan. This eventually collapsed in early 90s which was followed by 20 years of bear market.
    3. The US stock market did quite well from 1985 onwards led by IT sector. October 1987 crash of Dow was only big drawdown following Plaza accord.
    4. China replaced Japan as the big exporters to the US.
    5. Now the question is how will China react under the current circumstances?
      Scenario 1
      China may further devalue currency to mitigate hikes in imports duty by the US. This implies worsening of trade conflict and is unlikely.
      Scenario 2
      China undertakes structural reforms which will be good for it in the long term. These include (1) allowing capital account conversion; (2) make economy less reliant on exports.
      China has already seen significant reduction in trade surplus. It will certainly see massive capital inflow if it cuts restrictions. These reforms in fact would be the current equivalent of the Plaza Accord.
      There is greater chance of this scenario emerging, without the damaging impacts of the Plaza Accord, like the property bubble in Japan, assuming that China shall learn from Japan's mistake and will successfully avoid them. Though, it may mean that China will be less accommodative than Japan was in post Plaza Accord period.
      In the worst case, if a global recession does ensue, the failure of trade resolution talks, the fear is that India and other emerging economies may suffer as global capital would seek refuge in safe havens. However, this fear of ‘risk off’ may be premised on wrong notions.
      Higher import duties could lead to some rise in US inflation and put pressure on Fed to hike interest rates. However, this looks highly unlikely, since the worst anticipated negative impact is seen as 50bps on US inflation. This will be still below the normal level. Moreover, if rise in duties and consequent fiscal improvements lead to stronger US dollar and lower global commodity prices even 50bps rise in inflation may not materialise.
      Another, strong view in the market is that the US administration is raising the trade war tempo just to cloud the growth outlook and keep US Fed, and perhaps ECB also, on the path of easing monetary policy. An adjustment in policy stance and a new episode of quantitative easing shall automatically slow down the trade rhetoric.
      We in India therefore need not worry a lot about the ongoing trade conflict. For, this may enable us to establish a strong manufacturing base that has eluded us for the past seven decades. We may get to share a larger pie of manufactured export to developed countries especially the US. Implying that this trade conflict may do to us, what US-Japan conflict of 1980s did to China. But remember, availing this opportunity shall require much more than tax rate cuts and rhetorical ease of doing business improvement. A serious change in the mindset of entrepreneurs, policy makers and most notably bureaucrats, is a prerequisite.
      Vijay Kumar Gaba explores the treasure you know as India, and shares his experiences and observations about social, economic and cultural events and conditions. He contributes his pennies to the society as Director, Equal India Foundation.
      Read his columns here.
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