Coping with US-China Trade War

Kompas

Ari Kuncoro

In game theory, “trembling hand perfect equilibrium” refers to a balance that is considered optimal fails because the parties involved are considered too excessive in strategy and too confident. Donald Trump announced an increase in import tariffs on Chinese goods when almost everyone believed that an agreement had almost been reached. The peace agreement between the United States and China, which had been in sight, instead turned into trade war part two.

Initially, President Trump\'s Twitter messages gave the impression that the two countries would soon reach a compromise and that improvement in US and China macroeconomic data led the world to believe that there would be a solution. However, the positive news turned out to hide the fundamental differences between the US and China. It can be seen from the case of Chinese technology giant Huawei, whose market access to 5G technology in the US was blocked. The core problem for the US is the struggle for technological supremacy. US companies located in China have to transfer their technology.

Impact on Indonesia

Hope that world trade would recover arose when there were signs of improvement in Indonesia\'s exports and imports, which rely on the commodity cycle and the business cycle of developed countries. Indonesia’s trade balance recorded a healthy surplus in March 2019, when the growth of exports was higher than that of imports.

AFP/ WANG ZHAO

A staff member of Huawei uses her mobile phone at the Huawei Digital Transformation Showcase in Shenzhen, China\'s Guangdong province, on March 6. United States internet giant Google, whose Android mobile operating system powers most of the world\'s smart phones, said on May 19, 2019, that it was beginning to cut ties with China\'s Huawei, which Washington considers a national security threat.

Exports of mining and manufacturing products rose 31.08 percent and 9.48 percent, respectively. The exports of the agricultural commodities grew 15.91 percent. This suggested that the commodity cycle and business cycle had reversed, giving fresh air to Indonesia\'s export performance, which has fallen since the fourth quarter of 2017. The hope vanished when the US-China trade war resumed.

China had anticipated it by reducing global purchases, resulting in a decline in international palm oil prices. Indonesia’s vegetable oil exports, which are dominated by palm oil, fell by 19.88 percent year-on-year (yoy) in April, although export volume rose 5 percent.

Overall, exports fell 10.8 percent yoy, while imports also dropped 6.58 percent yoy. As a result, the trade balance suffered a deficit of $2.5 billion in April 2019, the largest since July 2013.

The trade balance deficit is a kind of guideline for short-term investors to enter or exit a country. The trade balance deficit on this scale also added pressure to the rupiah.

AFP/ALAIN JOCARD

People visiting the booth of the Chinese telecom group Huawei look at a screen explaining the 5G (fifth generation cellular network providing broadband access), during the Vivatech startups and innovation fair, in Paris on May 16, 2019.

There have been two phases of the weakening of the rupiah since the beginning of March 2019 until now. First, in March 2019, as a result of the increase in the US dollar index against all currencies due to the strengthening of the US economy. The second phase occurred in the last week of April to mid-May 2019, due to short-term capital outflows from Indonesia in reaction to the trade balance deficit.

Bank Indonesia recorded foreign fund outflow worth Rp 11 trillion on May 13-16. Of the total, Rp 7.6 trillion came from the government securities (SBN) market and the other Rp 4.1 trillion from the stock market.

Until when

The trade war will end only after the two countries realize that they have suffered huge losses. The faster and higher the losses, the bigger the pressure will be for the two countries to end the trade war in order to prevent further destruction.

AFP/GETTY IMAGES/ SPENCER PLATT

Traders work on the floor of the New York Stock Exchange (NYSE) on May 20, 2019 in New York City. The Dow Jones Industrial Average fell in morning trading on continued fears of a trade war with China.

A number of aspects still give hope that the trade war will end, or at least a cease-fire called. Chinese search engine operator Baidu reported a net loss in the first quarter of this year, the first time in 15 years. Technology stocks in the ChiNext Index also fell.

Growth in retail sales in April 2019 was recorded at 7.2 percent, the lowest in the last 16 years. The weakening of the Chinese yuan by 2.7 percent since the announcement of the US import tariffs could lead to capital flight.

In the US, where most believed the trade peace would be achieved, the stock market reacted quickly. The Dow futures fell 467 points, the S&P 500 dropped 37 points and NASDAQ dropped 140 points.

KOMPAS/TOTOK WIJAYANTO

Workers unload bunches of fresh oil palm fruit owned by farmers in the Tungkal Jaya area, Musi Banyuasin, South Sumatra (14/9/2015). For the previous three months, the price of oil palm fruit bunches at the farmer level dropped from Rp 1,500 per kilogram to between Rp 500 and Rp 700 per kg.

So far, the real sector has not seen any impact because most surveys were conducted in April. Based on initial estimates, the deterioration of the agricultural sector continues, while retail and pharmaceuticals are slowing down. The ghost of the recession in the US is also predicted to come earlier in the third or fourth quarter of 2020, when the US presidential election is held.

Short-term measures have been introduced by Bank Indonesia by using foreign exchange reserves to contain the rupiah\'s fluctuation. The weakening of the rupiah can be used to encourage the substitution of exports from commodities such as palm oil to services. In the services balance, there is a significant surplus that can be used, at least to reduce pressure on the rupiah, namely the travel balance and secondary income. However, it is still not enough to cover the entire deficit.

In the medium and long term, in addition to resolving the problem of high-cost economies that hamper exports, industrial structures need to be strengthened, especially the import substitution industry to produce raw materials and intermediate goods for the downstream industry. They have so far contributed 75 percent of total imports. By doing so, a healthier balance of payments structure can be created and can reduce reliance on commodity exports and short-term capital flows.

KOMPAS/KHAERUDIN

An employee of PT Freeport Indonesia is at work in the operator\'s room of the Minegem Deep Ore Zone (DOZ) on the first floor of OB 4 CIP MP 72, Tembagapura, Papua, on a Friday in August last year (17/8/2018). Minegem is a remote control operating system for transporting ore with the characteristics of wet muck or easily collapsed wet mud from underground mines.

Indonesia also has an opportunity to accommodate high-tech supply chains that want to relocate their factories to the country. What Indonesia needs is an industrial estate that is linked to international maritime shipping routes.

Ari Kuncoro, Professor and Dean, Economics and Business School, University of Indonesia