The global market is in fears over a looming trade war between China and the United States. In particular, South Korea’s economy which is 50% depended on export would suffer from a direct hit when global trade recedes. Korea’s combined exports towards China and the US take up almost 40% of total exports. China is the largest trading partner making up 25%, followed by the US with 12% (in the year 2017). Because raw materials and intermediaries account for more than 70% of Korea’s total exports to China, a reduction in China’s final product exports to the US would slash Korea’s intermediate product exports to China. As a result, the China-US trade war should heighten tail risk in the Korean equity market.
As fears for damaging effects on the global economy deepen, related parties tend to actively engage in negotiations for smooth resolution of the issues. As we recall the result of the Brexit vote on 23 June 2016, the global equity market plummeted 6.87% with developed markets suffering a 7.10% plunge and emerging markets a 4.89% drop, lifting the volatility index from 17.25p to 25.76p by 38.26%. However, this market turmoil soon eased as related parties started to actively engage in negotiations to ensure a smooth resolution. It was not an exception in the summer of 2017 when the geopolitical tension on the Korean peninsula hiked due to a verbal war between North Korean leader Kim Jong-un and US President Donald Trump. Months of belligerent exchanges between the two leaders had increased market uncertainty and fears of a physical war on the Korean peninsula. Right after President Trump’s “fire and fury” comment on North Korea on Aug. 8 2017, North Korea initiated its nuclear testing causing the Korean main index Kospi to drop by 3.3% and the secondary Kosdaq index by 3.1%. The Volatility index soared 56.2% from 9.93p to 16.04p. But a war didn’t break and market jitters eased as the two countries stepped away.
After President Trump won the hearts of American people with his pledge to cut the US trade deficits, he has been slapped its trading partners with hefty tariffs. Last week, the Trump administration announced a 25% tariff on $46bn of Chinese imports, on top of the steel and aluminum duties imposed last month. After China announced equal-sized retaliation, President Trump further upped the ante by threatening with tariffs on another $100bn of Chinese imports. These additional tariffs—if implemented—would affect about 7% of US imports and raise the average US import tariff rate by 1.6 percentage points (pp) to 3.1%. China would be by far the most affected trading partner with around 3.5% of exports covered by US tariffs. President Trump has claimed that winning a trade war this way is “easy.” But how easy is it really?
If the market believes that the trade protectionism will bring about actual benefit for the US economy, the dollar index should strengthen. However, to date, the dollar has remained sluggish against major currencies. What Trump really wants is not a trade war but to use the trade card in order to improve US net exports by pressuring the US’s trade partners
Over the past decade, a number of countries (eg, Japan, Europe, and China) have seen increased trade surpluses with the US. In particular, China’s trade surplus with the US has surged more than 80%.
Whereas Japan, China, and Europe’s trade surplus with the US has trended upwards, Korea’s trade surplus with the US has narrowed. Korea has responded to strengthening US protectionism by reducing its trade surplus with the US. A country with a trade surplus with the US above US$20bn is labelled by the US as a currency manipulator; Korea is below this threshold.
Korea’s reduced trade surplus with the US stems from a rise in its US imports (2017: +17.4% y-y). Among Korea’s top-20 imported goods from the US in 2017, natural gas and crude oil imports jumped 7,373% y-y and 474% y-y, respectively. These developments are to help Korea defend itself during potential trade conflicts with the US. Korea’s trade surplus with US-to-GDP ratio stands at 1.2% (vs China: 2.3% and Japan: 1.3%), a level indicating that China and Japan’s dependence on the US to keep their forex reserves stable is higher than that for Korea. Accordingly, China and Japan appear more likely to succumb to US pressure regarding forex rate policies.
Korea’s trade surplus mainly comes from trade with China, rather than the US. Korea’s trade surplus with China-to-GDP ratio stands at 2.9%, with most of surplus coming from the semiconductor sector (Korea’s chip trade surplus with China-to-GDP ratio at 1.7%). Considering that China is still lagging behind Korea in the semiconductor sector, Korea is likely to maintain its semiconductor trade surplus with China for now.
Over January 2009~March 2018, the number of protectionist US trade measures against Korea came in at 2,192 (calculated by product category; and including any measures that make US-bound imports more difficult). By product category, the largest number of these protectionist US trade measures pertained to steel products. The US has placed heavier regulations on US-bound steel imports than upon auto/parts, IT, and chemical imports. Over the same period, the number of protectionist US trade measures against China stood at 2,546. As with the Korean case, the largest number (by product category) of these protectionist US trade measures pertained to steel products. However, reflecting industrial structure differences between Korea and China, the US has also taken protectionist measures against textile, rubber, and paper imports from China. The number of China’s protectionist trade measures against Korea stood at 604. Although China has taken protectionist measures against Korea across a wide range of sectors (eg, chemical, steel, IT, and auto/parts), these actions have had only limited impact on Korea’s exports. Rather, Korea has been hit notably harder by decreased Chinese tourism after Korea’s decision to deploy an U.S. anti-missile system (THAAD).
Recently, concerns have risen that being the main target of the US trade protectionism campaign, China might adopt a protectionist stance against Korea in order to make up for related losses. However, we view the chances of such scenario materializing into reality as being low. Korea’s main export items to China are capital goods and intermediate goods, which China is currently unable to manufacture locally. Since imports from Korea are used to manufacture China’s export items, imposing tougher trade regulations on Korean goods would threaten to hurt China’s exports
Due to China’s retaliatory actions against Korea’s THAAD deployment decision last year, Korea’s exports of consumer goods to China have declined sharply. However, exports of capital goods and intermediate goods have not been affected. Import bans on Korea’s capital goods and intermediate goods would result in falling utilization rates at Chinese plants. Against this backdrop, it is unlikely Korea will fall victim should a US-China trade war break out. Market’s fear of being caught in the middle of trade war is excessive. 【The contributions from outside analysts are unrelated to the views of the publisher. They have been contributed in English and the wordings have been mildly edited.】
By NH I&S Strategy Department Analyst Julie Cho
[ⓒ Pulse by Maeil Business News Korea & mk.co.kr, All rights reserved]