What if Trump Starts a Trade War With China?

Since the election, the U.S. stock market has been breaking new highs, encouraged by the prospect of lower taxes and higher growth under President Trump. However I believe investors have not paid sufficient attention to the prospect of a trade war.

To a large extent, the election of Donald Trump is a repudiation of globalization by a large segment of the U.S. electorate. Even though the country as a whole has benefited tremendously from globalization, those benefits have by and large bypassed working-class folks. (For related reading, see: How Globalization Affects Developed Countries.)

Before 2000, for example, Apple made all of its computers in the U.S. and its market cap never rose above $10 billion. Since then Apple has subcontracted all of its production overseas and only keeps design and marketing in U.S. soil. The result? Apple has become the most valuable company in the world with a market cap of over $600 billion even though they only have 66,000 employees in the U.S. At the same time, Apple's contract manufacturer Foxconn directly employs over 1 million workers in China, making it the largest private employer in China. And the supply chain to Foxconn employs another two million people.

While the success of Apple has lifted millions of Chinese workers out of poverty, it has made a relatively small number of Americans, mostly Apple employees and shareholders, very rich. There lies a picture of Americans’ discontent with globalization.

Donald Trump was carried to the finish line on this wave of discontent by promising to withdraw from nearly all trade agreements and slap a 45% tariff on Chinese imports. If he should carry out his campaign promise, here are some examples of things that could happen domestically:

  1. Apple’s value could evaporate substantially since its manufacturing base is in China, plain and simple. It would take years for it to reconfigure its global supply chain.
  2. Walmart would have to raise prices since most of its merchandise is imported from China.
  3. Inflation would be higher.

There is also a good chance that China would retaliate against any protectionist policies towards global trade made by President Trump:

  1. Cancelling all Boeing orders – China being Boeing’s biggest international market, it will hurt Boeing badly.
  2. Slapping a 45% tariff on U.S. imports – GM sells as many cars in China as in the U.S., so does Apple with its iPhones. Apple truly gets a double whammy here since their products are manufactured in bonded free-trade zones in China. When they sell in China, they are considered imports.
  3. Divesting U.S. treasuries, causing higher borrowing costs for everybody in the U.S.

Now there are people who argue that campaign rhetoric is just rhetoric to be forgotten, like “Lock her up!” It was never meant to be carried out. But trade is different, Trump has been very consistent with trade. With his appointment of Peter Navarro, author of “Death by China,” to head the future White House National Trade Council, Trump has shown that he meant what he said. (For related reading, see: Why Hedge Funds Do Not Belong in Your Portfolio.)

We are talking about a trade war between the largest and the second largest economies of the world with disastrous global consequences. As a point of reference, some historians argue that the Great Depression was triggered by a trade war between continental Europe and the United States. That’s how serious it is. 

Should it come to pass, I know how to there are ways to deal with it. But I think it's important to understand what could happen, so investors aren't caught by surprise. (For more from this author, see: Know the Risks of Your Employee Stock Purchase Plan.)