BREAKINGVIEWS-EU’s China-US trade weakness only goes so far

By Yawen Chen

LONDON, July 4 (Reuters Breakingviews) - Ursula von der Leyen is fighting a European Union trade war on two fronts. The European Commission president already faces a 10% flat tariff from U.S. President Donald Trump, and also has to contend with the risk that failed U.S. negotiations see this spike to 50% with additional levies on sectors like chips and pharmaceuticals. Meanwhile she’s also embroiled in a tussle with Beijing over what she claims is Chinese trade “coercion”. On the face of it, Europe has limited sway over what happens next – but that only goes so far.

The European Union is figuratively as well as geographically caught in the middle between the U.S. and China. Trump justifies tariffs against the bloc on the basis that Europeans sell 156 billion euros more goods to the Americans than they buy from them. With the U.S. goods trade deficit with China even bigger, an obvious risk of tariffs like the 100% U.S. one on Chinese electric vehicles is that Beijing goes hunting for alternative markets for its cheap goods that have lower levies. In the European Union, for example, the charge on Chinese EVs maxes out at only 35%.

Von der Leyen has options, but none of them look great. She could threaten to raise EU tariffs on China imports, yet the bloc’s manufacturers from automakers to defence system producers need its rare earths, on which Beijing slapped export restrictions earlier this year. Alternatively, she could let the flood of Chinese trade in, and offset it by striking a deal to export more European goods to the U.S. But given Trump’s trade tariffs aim to cut his goods deficit with the EU, that seems hard to do.

Still, Trump and Chinese President Xi Jinping don’t hold all the cards. Consultant McKinsey’s “rearrangement ratio” charts how easy it might be for Washington to devise plan Bs to Chinese imports that now sit behind high tariff walls, by expressing the volume of Middle Kingdom trade for any particular product as a share of the total available remaining global export market. In some products like pharmaceuticals, other countries’ high exports create a low replacement ratio – meaning they are relatively easy to source elsewhere. In others, including rare earths and consumer electronics products like laptops, China’s dominant supply position means the ratio is high – around 1 – and there are limited near-term alternatives.

The opportunity for von der Leyen to exercise leverage is products that Europe produces plenty of, but where Washington has fewer good options. Europe supplies 55% of the available global export market for products that the United States imports from China, McKinsey says. That leaves it well positioned as a key alternative seller.

One example, with a replacement ratio of just 0.25, is lithium-ion batteries. The U.S. receives about 70% of its $20 billion in lithium-ion battery imports from China. Meanwhile, Poland is the world’s second-largest exporter of lithium-ion batteries – currently with 80% of the total $12 billion destined to be traded within Europe. As such the EU could rearrange its exports by sending more Polish batteries to the U.S. and accepting more Chinese imports.

This doesn’t guarantee Trump will go any easier in final negotiations on an EU-U.S. trade deal, due by July 9. The U.S. president may, for example, want to push homegrown manufacturers to deal with any Chinese gaps by ramping up their own supply domestically. But that’s not easy, even for low-tech goods. It also usually takes years.

If Trump winds up confronted with unhappy American consumers, empty shelves and rising prices, it’s at least possible that he dials down his hostility to more European imports. Meanwhile, China this week struck a relatively emollient tone on both brandy and rare earth trade with the EU, and Chinese automaker BYD 002594.SZ in April for the first time sold more products in Europe than Tesla TSLA.O. Hence some sort of trade rearrangement looks inevitable. Von der Leyen doesn’t hold many good cards, but she can at least point that out.

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CONTEXT NEWS

The European Union’s top diplomat Kaja Kallas told Chinese foreign minister Wang Yi on July 2 that Beijing needed to rebalance its trade relationship with the EU, and warned Chinese companies’ support for Russia’s war in Ukraine posed a serious threat to European security.

Speaking in Berlin during a joint news conference with his German counterpart on July 3, Wang said rare earths “have not been, are not, and will not be a problem between China and Europe”.

China’s Commerce Ministry issued its final ruling on brandy originating in the European Union on July 4, implementing duties of up to 34.9% for a period of five years starting from July 5. But the Ministry said it accepted minimum price commitments proposed by the relevant EU industry associations and companies, and these products will be spared the higher tariff rate unless those commitments were breached.

In a statement to the G7 on June 16, European Commission President Ursula von der Leyen said that China was using its quasi-monopoly on rare earth permanent magnets as a bargaining chip, while also weaponising it to undermine competitors in key industries. She warned of the risk of a new “China shock” if Beijing flooded global markets with subsidised overcapacity that its own market cannot absorb.

Donald Trump has threatened to impose 50% tariffs on goods from the European Union, unless both sides can clinch a deal by July 9, the U.S. president said in May.