China Has Only Itself to Blame for a Trade War

A global trade war is starting, and China is at the center of it. A reckoning for Beijing’s economic model, which is designed to promote Chinese industry at the expense of the rest of the world, has long been coming. China’s trading partners have had enough. The result will be a wave of protectionism, with potentially dire consequences for both China and the global economy.

The most obvious and dramatic evidence for this was unveiled yesterday by President Joe Biden, who announced that his administration would quadruple the existing tariffs on imported Chinese electric vehicles, to 100 percent. He will also hike tariffs on steel, aluminum, medical equipment, semiconductors, solar cells, and lithium batteries. The Chinese government instantly protested and threatened action of its own. “The United States should immediately correct its wrong practices,” the Chinese Ministry of Commerce said in a statement. “China will take resolute measures to defend its own rights and interests.”

Yet China’s leaders have no one to blame but themselves. They joined a global trading system and then gamed that system. Biden’s tariffs are the natural response, though not an entirely positive one. Protectionism raises costs, hurts consumers, shields unworthy companies from competition, and punishes worthier ones. Disputes over trade will only intensify the rivalry between the world’s two great powers.

This souring of trade relations wasn’t always foreordained—but it had become virtually unavoidable. Chinese leader Xi Jinping has failed to reform his economy in ways that would have made this trade war less likely. Facing this confrontation with the United States, he is even less likely to make reforms today. The result is trade conflict and heightened political tensions that benefit no one.

[Derek Thompson: Trade wars are not good, or easy to win]

Biden targeted EVs for a reason. Beijing’s leaders wanted to dominate that industry and threw the weight of the state behind Chinese companies. The program was undeniably successful. China is at the forefront of the EV industry, while the United States, with the exception of Tesla, has barely gotten out of the parking lot. But electrical automotive is also a sector in which China’s government has played such a heavy role, and created so much manufacturing capacity, that other governments believe their own industries are at risk.

Both that prowess and that excess were on display recently at the Beijing Auto Show. The exhibition included no fewer than 278 EV models. That’s indicative of a market jammed with 139 EV brands. The already gridlocked Chinese car market didn’t dissuade the Chinese smartphone maker Xiaomi from jumping in, with its first EV offering in the show’s spotlight.

China simply has too many car companies with too many factories making too many cars. Counting both EVs and internal-combustion-engine vehicles, China’s auto industry now has the capacity to produce almost twice as many vehicles as Chinese consumers are buying, according to the Shanghai-based consultancy Automobility Limited. Although oversupply in the EV sector, where demand is still growing, is not as severe as in the legacy business, Chinese automakers are still adding assembly lines. BYD, for instance, plans to more than double its EV production capacity by 2026.

China now has the largest domestic car market in the world, but even Chinese consumers cannot sustain so many factories, especially as the country’s economy slows. So automakers are off-loading their surplus products into the global marketplace. China vied with Japan for the title of world’s largest car exporter last year

This hefty outflow of Chinese cars has earned unwelcome attention from policy makers in the U.S. and Europe. They contend that the Chinese government unduly supports and promotes China’s bloated automobile sector; as a consequence, their own automakers are threatened by a deluge of cheap Chinese vehicles. During an official visit to China in late April, U.S. Secretary of State Antony Blinken said that the issue of China’s excess capacity was “front and center” for Washington. Chinese industry, he added, is “flooding markets, undermining competition, putting at risk livelihoods and businesses around the world.” While also visiting China in April, Germany’s chancellor, Olaf Scholz, expressed similar concerns.

“The one thing that must always be clear is that competition must be fair,” Scholz said in a speech in Shanghai. China’s leaders think it already is. They retort that the success of Chinese automakers is due entirely to their competitive advantages. Premier Li Qiang told Scholz that greater supply “is conducive to full market competition and promoting the survival of the fittest.”

[Michael Schuman: To China, all’s fair in love and trade wars]

The state news agency Xinhua argued that China’s edge “has been honed through diligent efforts and genuine expertise, rooted in market competition, innovation, and entrepreneurship,” and went on to claim that “the world doesn’t want less of China’s capacity, but wants more.” Therefore, the criticism of China’s industry “may look like an economic discussion,” a spokesperson for the Chinese foreign ministry said, but it “ignores more than 200 years of the basic concept of comparative advantage in Western economics.”

The fact that some Chinese EV companies have developed highly competitive products and technology, and benefit from real cost advantages in a relatively low-wage economy, is certainly true. Yet the government’s role in building and sustaining that sector is undeniable as well. Chinese economic planners wished to accelerate the EV sector’s development, so, almost a decade ago, they targeted electric vehicles for special state assistance through their Made in China 2025 industrial program. The assistance was controversial from the start because American and European business leaders and policy makers feared—rightly, it now appears—that Beijing’s backing for its favored industries would distort global markets. Tax breaks, low-interest loans, subsidies to make EVs more affordable, and other aid followed.

These interventions encouraged private capital to jump in as well. The result was an explosion of investment in start-ups, factories, and supply chains. As Bert Hofman, an expert on China’s economy at the National University of Singapore, told me: “If the central government says this is the new growth area, electric vehicles are the future, everybody and their grandmothers start something in electric vehicles.”

All governments place their thumb on the scale to promote their national industries to some degree. China’s thumb simply weighs more heavily. A 2022 study by the Center for Strategic and International Studies in Washington conservatively estimated that China spent $248 billion supporting its industries in 2019. That’s twice as much as the United States did.

“It’s the whole financial system, the whole economic system that is leveraged for industrial policy, which is very different than what’s been happening in market economies,” Camille Boullenois, an analyst of Chinese industry at the research firm Rhodium Group, told me. Where electric vehicles are concerned, “it’s very hard to imagine the industry growing as fast without government support.”

The excess capacity, however, is not so much by design. As the automobile industry in China was revving up, the economy was slowing down. Bill Russo, Automobility’s founder, explained to me that automakers overestimated the growth of the Chinese car market and ended up building factories to churn out vehicles for customers that never materialized. Passenger-car sales are still below where they were in 2017 thanks to a stumbling economy, the ravages of the pandemic, and other factors. Such investment, he said, “has been the formula for cashing in on China’s growth, and you’re going to have a reckoning at one point in time—and that’s what we’re faced with right now.”

This problem is not confined to cars. China’s steel industry has maintained its output even though demand at home has been declining. The Australian bank Westpac said recently that steel exports, which are approaching record levels, have become a “release valve” for this excess. Even as China’s leaders rebutted foreign criticism of its bloated industries, they released draft regulations in early May to rein in expansion of lithium-battery manufacturing. Chinese state-owned media are reporting that a glut of solar panels—another sector dominated by Chinese companies—is depressing prices and squeezing profits. A surge of Chinese investment into manufacturing “legacy” microchips (those using older technology) is sparking fears they could flood the global marketplace.

[Richard Fontaine: The China problem isn’t going away]

Facing this Chinese onslaught, governments around the world are stepping in to protect their own industries. The European Commission is currently conducting an investigation into China’s subsidizing of electric vehicles with an eye to imposing its own tariffs on their import. Rhodium anticipates that the EU will apply a duty of 15 to 30 percent on EVs, but the group argues that even this may not be sufficient to deter Chinese automakers. The Biden administration’s move to a 100 percent EV tariff no doubt reflects similar thinking. Chile has already slapped tariffs on some Chinese steel products, while Brazil imposed quotas and duties to stave off an influx of cheap steel, mainly from China.

Beijing could fend off these restrictions by reforming its domestic market. The flip side of China’s excessive supply is weak demand. This is caused not just by slowing growth, but also by its entire economic model. As Michael Pettis, a specialist in China’s economy at Peking University, recently pointed out, Beijing’s dirigiste policy has a side effect of subsidizing China’s industry even more than it appears, by both directly and indirectly transferring wealth from families to factories: Rather than encouraging spending on goods, all of the economic incentives are to make capital investment in manufacturing. China’s economic model favors producers over consumers, which holds down household incomes and limits their spending. Lacking customers at home, Chinese industry is forced to seek them abroad.

New policies that nudge Chinese families to spend more and save less could alleviate the problem. One way to do this would be to strengthen the country’s feeble social safety net. But Chinese leaders have done little to encourage that transition, perhaps because the necessary liberalizing reforms could weaken the Communist Party’s control over the economy and society. That leaves China’s industrial giants little option but to spew their excess into the global marketplace, in an effort to sustain growth and employment. The outcome is that China sells to the world more goods than it buys from it. Hofman calculated that China recorded trade surpluses with 173 economies in 2023 and deficits with only 50. That added up to a merchandise trade surplus of more than $800 billion.

Xi Jinping seems set on making matters worse. His principal economic goal of achieving “self-sufficiency” aims to reduce what China purchases from other countries and substitute goods made by foreign companies with Chinese alternatives—especially in industries, such as green energy, that other governments find strategic. In doing so, Xi is practically inviting more intense trade disputes.

In Xi’s thinking, economic growth “is going to come from churning out a lot of this stuff and exporting it to the world,” Leland Miller, a co-founder of the research firm China Beige Book, told me. “Why they think they can get away with that when they are already running giant, politically charged trade surpluses with most of the world, including the United States, and they’re going to supercharge those surpluses and think that’s going to be successful … it doesn’t make much sense.”

The big point is that China is not just exporting too much stuff; it’s also exporting its economic problems. Xi intends to maintain Chinese jobs and factories at the expense of other countries’ workers and companies, to avoid necessary but potentially disruptive reform at home. That means Xi is actually undermining the great hope of China’s rise. A wealthier China was supposed to be an engine of global prosperity. Xi’s version is promoting protectionism and confrontation that threaten that prosperity.

Facing political pressure at home, politicians around the world are forced to defend their economies from Xi’s strategy, even if that leads to trade wars that sour relations with Beijing. This is not a good outcome for the global economy or for geopolitical stability. But Xi’s policies have made it inevitable.