Impact of trade restrictions between USA and China on the Australian economy

Running Head: Economics
Impact of trade restrictions between USA and
China on the Australian economy
Economics
Student Name

Economics
Contents
Trade War between US and China and its impact on Australia.................................................1
1) General Introduction: Trump started the Trade War. Were his reasons economically
sound?.....................................................................................................................................1
2) How did China Respond?................................................................................................6
3) How is the Trade War impacting the Australian economy?.........................................12
4) What is the current state of the Trade War?..................................................................16
References:...............................................................................................................................19

Economics
Trade War between US and China and its impact on Australia
1) General Introduction: Trump started the Trade War. Were his reasons
economically sound?
In 2016, Donald Trump promised during his election campaign to make international trade
fairer for America. Once elected to power, President Trump started imposing duties and
tariffs on the imports from most of its trading partners. This led its trade partners to
reciprocate in a same manner and resulted in a worldwide trade-war. According to Feenstra
(2015), trade-war is an economic situation in which nations use quotas and tariffs to attack
other nation’s trades and such tit for tat practice impacts the international trade and world
economy. This trade war between the USA and China has impacted the whole world because
of the large size of these economies and dependence of other nations on these economies. If
this trade-war worsens further and tariffs are imposed on all the trade between the two
nations, then this could lead to overall market slump. It can contract the global economy by
0.6% (600 billion USD) by 2021 (Edmond, 2019).
Nations use tariffs and taxes on incoming products from other nations to make these goods
less competitive. This is done to boost a particular local industry as the local products are
now favoured over the expensive imports. It can increase the demand of these local products
and boost employment in the sector (Carbaugh, 2015). Till now the US has imposed several-
round of tariffs on Chinese imports and China has reciprocated these moves accordingly.
Trump administration has imposed duties on Chinese products worth USD 250 billion and
China has reciprocated with tariffs on American products worth USD 110 billion (Figure A).
In May 2019, the USA has increased tariffs on these Chinese imports from 10% to 25% and
Trump has threatened to impose tariffs further on USD 325 billion Chinese products (Wong
& Koty, 2019).
1

Economics
Figure A: It shows the tariffs charged by both the nations on each other trades.
Source: Palumbo and Nicolaci da Costa (2019).
Free trade policy promotes friction-less international trade by not implementing any kind of
restrictions like quotas or tariffs on imports/exports (Irwin, 2015). The objective is to increase
world-wide economic output and to improve overall world economy.
Such free trade provides benefits due to the concept of comparative advantage (Krugman,
Obstfeld & Melitz, 2018). A nation is said to have comparative advantage when it produces a
product/service cheaper than other nations. In absence of any trade restriction, nations with
comparative advantages in different products can trade freely with each other for overall
economic benefit as global wealth grows. This will lead to Pareto improvement that means a
change in allocation occurs till it harms no party but helps at-least one party. This will keep
on enhancing overall economic value until Pareto equilibrium is achieved (ScienceDirect,
n.d.).
Due to the technological innovations and free trade policies, Global value chains (GVCs)
have been established to take advantage of the comparative advantages of different nations
(Blanchard, 2019). Example of such advantages is shown in figure B.
2

Economics
Figure B: It shows the comparison in the price change of the products where global supply
chains are available vs. products where no such benefit exists.
Source: Schoen (2018).
Trump administration has initiated a significant retreat from free trade and has led to Pareto
dis-improvement in the economy of the world. According to Moon (2000), nations move to
protectionism by using trade restrictions that is by implementing various tariffs on imports to
protect its local industry from the foreign competition. This change from free trading position
to protectionism due to this trade battle decreased the aggregate economic output of the
nations engaged in this trade war from the exact same total resources. So, this practice has
affected the world economy in a negative manner (O’ Sullivan, 2018).
There are many reasons for this trade war between the USA and China. The main reason that
Trump mentioned is the huge trade deficit of USD 419 that the USA had with China in 2018.
China has a comparative advantage in manufacturing due to cheap labour and this made it the
3

Economics
top exporter of the manufacturing products. As shown in figure C the exports from China has
been exceeding US exports by noticeable margin. Trump claims that this trade imbalance has
caused the USA to lose manufacturing jobs as local firms cannot compete with Chinese
products.
Figure C: It shows the exports of both the countries, USA and China in recent years.
Source: Bloomberg (2019).
Trump thinks that import of smartphones and other goods from China is a big loss to America
but most of these products are actually being made for the US companies by the Chinese
manufacturers due to the cheap labour. Also, this trade deficit is not same as it seems because
of the global supply chains that run via China. For example, out of the total factory cost of
IPhone just 3.6% is earned in China but in trade deficits numbers the total cost is considered
(Dedrick, Linden & Kraemer, 2019). Similar results have been found for overall trade
balance between two countries. So, these numbers are not that high but still there is trade
imbalance between two countries but even that is economically not bad. These activities
provide China with huge amount of low paid jobs and the US companies earn huge profits
4