An Unhappy Anniversary for the US-China Phase 1 Deal

Summary

• Chinese exports have outperformed this year, resulting in a rising global market share. And imports contracted, leaving China’s trade surplus at a five-year high of $535bn.
• Imports from the US were up 10%, yet Phase 1 US imports are at just 56% of target.
• Low commodity prices and COVID justify some underperformance, but China’s strong recovery prompts questions over the continued import lag.
• Next month’s review will be an important gauge of the incoming Biden administration’s approach to China trade policy.

This week marks the one-year anniversary of the signing of the US-China Phase 1 trade deal. The world has changed significantly since then. But China’s trade surplus with the US has continued to rise, now 7% higher than a year ago. As the Biden administration is expected to take a tough, albeit coherent, line on China, next month’s review will set a precedent on the future policy stance.

Under Trump, China’s Trade Surplus With the US Has Risen

China’s first-in, first-out COVID situation served its export sector well. The country’s ability to produce PPE-related goods saw repeated outperformance on exports through the second half of the year. Three consecutive double-digit gains in Q4 clawed back the contraction at the start of the year to leave exports up 3.6%. Global exports have fared less well, leaving China with a rising share of world exports (Chart 1). And that comes despite ongoing yuan appreciation since May.

Lower commodity prices last year combined with weakness in domestic demand saw imports drop 1.1%, taking China’s trade surplus to $535bn (Chart 2). This compares with $421bn in 2019, a gain of close to 30%.

China’s surplus with the US accounted for more than half of the total at $317bn last year. The 7% gain from a year earlier is still below the mid-2019 high of around $330bn, but it remains higher than at the start of the Trump presidency. The rising surplus with the US also came despite the Phase 1 trade deal, effective from 14 February 2020, committing China to expand its imports from the US. Imports from the US were up 10% last year (and 47.7% YoY in December) and outpaced the 8% gain in exports. But given exports are more than three times larger than the import base, this was too little to prevent the surplus from widening.

Imports From the US at Just 56% of Phase 1 Agreement

The Phase 1 deal covers around 70% of China’s imports from the US, versus the 2017 baseline in the agreement. It commits China to increase purchases of certain goods (and services) by $200bn through 2020 and 2021, relative to 2017. PIIE estimates put this equivalent to an additional $63.9bn by end-2020 (versus 2017), implying a $173.1bn purchase target for the year.

China’s imports from the US totalled $135bn last year, but imports of products covered in the agreement amounted to just $86.9bn through November (Chart 4). This leaves China’s imports running at just 56% of the target (pro-rata basis). Energy imports are running furthest below target (36%), followed by manufacturing (60%) and agriculture (62%).

The exact level of targets, and current shortfall, is sensitive to assumptions on imports of goods not covered in the agreement, and whether Chinese import data or US export data are used. But there is no doubt that China’s imports from the US are running significantly behind Phase 1 commitments.

China’s US imports were running well below target at the six-month review in August. Despite this, the US Trade Representative’s office said at the time, ‘Both sides see progress and are committed to taking the steps necessary to ensure the success of the agreement’. As it is the year-end targets that really matter, it will be trickier for the new Biden administration to issue a similarly vague statement, particularly with imports so far short. Low commodity prices and the hit to China’s economy from the pandemic are viable reasons for imports to underperform pre-COVID targets. And more generally, the wider US trade deficit has been driven by the increased demand for medical goods, many of which are produced in China. But China’s subsequent strong recovery still makes it difficult to justify purchases being so far short versus the agreed amounts.

It is unclear how the US will deal with the Phase 1 anniversary. But when the official review is done some time around mid-February, it will set an important precedent on the incoming administration’s future trade policy with China.