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China has much to gain by resolving its full-blown trade dispute with US

Mohamed A. El-Erian | Bloomberg/ 15 Apr 18 | 12:44 AM

Almost all economists agree that a full-blown trade war would leave both China and the US worse off. A simple game theory framework shows that international trade is inherently a “cooperative game," especially when consumption and production chains are tightly interconnected across borders. If the game is played uncooperatively, the hoped-for gains for specific activities and segments of the population would pale in comparison to the losses for big majorities in each country. That would be true even if the (few) winners from widespread protectionism tried to compensate the (many) losers. 

For that reason alone, many expect China and the US to find a solution that would result in fairer but still-free trade (similar to the hoped-for outcome in the negotiations to modernize the North American Free Trade Agreement between Canada, Mexico and the U.S.). This hope is enhanced by another argument that hasn’t received sufficient attention: By acceding to mounting external demands on intellectual property and excessive trade barriers, China would be accelerating three longer-term transitions that it has willingly embarked on or knows that it will be necessary to undertake.

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For years, as it navigates what economists call the “middle-income transition" -- one of the hardest phases in economic development -- China has been gradually redirecting its growth engines away from exports and toward internal demand. Along the way, it has been moving from inefficient investments by state-owned enterprises toward private consumption. Further trade liberalization would assist this process.

Reducing trade barriers and adhering to widely accepted intellectual property norms would also be consistent with a second important developmental transition for China: The gradual increase in its willingness to assume greater global responsibilities, consistent with its overall size in the world economy. The hesitation to step up had to do with its sheer size of the country, which attained global systemic importance, economically and financially, at a relatively low level of per-capita income and before joining the ranks of advanced countries.

Finally, China has benefited over several decades from its ability to remain highly focused on long-term goals and successfully run out the clock on various short-term issues that have arisen in domestic and international economic interactions. Yet, with overall durable success both at home and abroad, China is increasingly being pressed to deal with what it would typically regard (and dismiss) as tactical issues rather than simply waiting them out. The spike in trade tensions with the U.S. is one example.

Rather than avoid negotiation, it is in China’s short- and longer-term interest to sit down for talks with the U.S., preferably behind closed doors. And it should expect to do the same with Europe, which would highlight the advantages of supplementing bilateral discussions with more effective multilateralism.  

A successful, orderly outcome would benefit a global system that is now under considerable stress, if not at risk of gradually fragmenting, due in part to a neglect of marginalized and alienated segments of the population, as well as insufficient reciprocity. It would also help China’s tricky middle-income transition, as well as provide the country with an important platform to pursue its legitimate demands for more equal representation and voice in multilateral institutions -- an enhanced status that Europe, in particular, has been slow in granting.  

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