The U.S.-China trade war took a dangerous turn for the worse Monday as Beijing allowed its currency to weaken and said it was halting new American farm purchases, sending U.S. stocks in a tailspin and heightening risks of a global economic downturn.
The Chinese actions were seen as retaliation after President Trump last Thursday abruptly announced plans to impose new 10% tariffs next month on an additional $300 billion of Chinese goods, despite having declared a truce in late June.
Then later in the afternoon, the U.S. Treasury Department formally labeled China a “currency manipulator,” reversing years of avoiding the designation so as not to antagonize Beijing.
“This is quite an inflammatory step, there’s no doubt about it,” said Fred Bergsten, founding director of the Peterson Institute for International Economics.
Even though U.S. and Chinese trade officials met last week and had scheduled more talks for next month, the renewed escalation dimmed hopes for a near-term deal and threatened to bring another potent weapon into the confrontation: national currencies.
“The move from retaliatory tariffs to currency depreciation now threatens to become part of the U.S.-China trade war and will impact trading partners,” said Joseph Brusuelas, chief economist at RSM, a tax and consulting firm.
Beijing on Monday let its yuan fall in value to its lowest level against the dollar in more than a decade. The exchange rate on Monday breached a kind of psychological threshold in hitting 7 yuan to the dollar. A weaker yuan would make Chinese exports cheaper for U.S. buyers, potentially blunting the effects of higher U.S. tariffs.
Trump immediately accused China of being a “currency manipulator” and his Treasury secretary, Steven T. Mnuchin, officially made that determination in the evening. In doing so, Mnuchin cited the Omnibus Trade and Competitiveness Act of 1988, and said the Treasury would turn to the International Monetary Fund to get involved.
Analysts said, however, there was no hard evidence that China had intervened to gain a competitive trade advantage or sought to “weaponize” its currency, as some alleged. Instead, experts said the Chinese currency probably had weakened because of market forces partly as a result of Trump’s new tariff threats and China’s economic slowdown.
What’s more, based on 2015 U.S. legislation guiding the Treasury’s criteria for determining a country’s exchange rate practices, China does not meet the definition of a currency manipulator. And in fact, Treasury’s most recent semiannual report in May on international exchange rate policies did not find China as a currency manipulator.
According to Bergsten, who with his colleagues at Peterson has extensively studied China’s currency practices, Beijing was guilty of manipulating its currency from 2003 to 2013, but no longer. Past administrations did not label China a manipulator to avoid publicly embarrassing Beijing, which officials viewed as being counterproductive.
Nonetheless, Trump blasted China on Monday and suggested that the Federal Reserve, which last week cut interest rates partly because of trade worries, should intervene to counter the Chinese move — raising the specter of a currency war.
Trump stopped short, however, of ordering Mnuchin to take steps to intervene in currency markets to weaken the dollar. And China’s central bank said Monday that it is confident in its capability to keep the yuan’s exchange rate basically stable, according to the Xinhua news agency.
Still, the increased tensions and fears of more tit-for-tat measures hammered financial markets on Monday and ricocheted to Europe and in Asia on Tuesday.
After weeks of hovering at record levels, the Dow Jones industrial average fell as much as 961 points Monday afternoon before ending the day down 767 points. That was still the worst drubbing this year, the sixth-largest point drop in Dow history, and the fourth straight session of losses that now total nearly 1,500 points.
Dow futures sank further after news of the Treasury’s designation.
“I’m worried because now the risk of further escalation seems greater,” said David Dollar, a senior fellow at the Brookings Institution and formerly the World Bank’s country director for China. “The Chinese seem committed to retaliating to each move, but then you might have the U.S. raise the latest round of tariffs to 25% or maybe increase some beyond 25%.”
Dollar added: “I think this escalation is very bad for the world economy.”
Global trade and economic growth already have been slipping, thanks in part to the U.S.-China trade war. Although the American economy has been performing relatively well, with solid job growth and consumer spending, there’s concern the global slowdown and deteriorating trade relations with China — the world’s second largest economy — will further erode U.S. business sentiment and undermine the nation’s record-long economic expansion.
Trump did not say what further actions he might take. But in tweets Monday, the president took aim at China for its trading practices, alleging Beijing “has always used currency manipulation to steal our businesses and factories, hurt our jobs, depress our workers’ wages and harm our farmers’ prices.”
Any move on the part of Beijing to target U.S. agricultural products as part of its retaliatory action is likely to add fuel to fire. American farm goods have been a major point of contention in the trade war, with China having diverted billions of dollars of soybean purchases from the United States to South America.
China’s state-run news agency said Monday that Chinese firms had suspended purchases of U.S. farm goods in response to Trump’s plan to step up tariffs. Trump has provided two rounds of financial relief to American farmers, an important base of political support.
Trump’s backers and China hawks applauded the president for his actions.
“The markets are going to go up and down, but we need to be very tough,” said Dan DiMicco, a former top steel executive who advises Trump’s trade officials.
He called on Trump to ratchet up tariffs even further on Chinese goods and for the Fed to keep cutting rates, as the president has repeatedly demanded.
But analysts said the Fed doesn’t want to be seen as enabling Trump to carry out his aggressive trade policies by lowering rates and softening the blow to markets.
At the same time, the central bank wants to keep the U.S. expansion going, and last week it nudged down rates for the first time since 2008 mainly because of threats from trade and global turbulence.
“It’s a true dilemma for the Fed,” Bergsten said.