Since the very beginning of US-China trade negotiations we have been unequivocally negative on the likelihood of a deal and we have just kept saying that foreign companies (especially those that sell their products to the United States) need to work on reducing their China footprint. Today’s micro-deal between the United States and China has not changed our position one iota.
1. Don’t Say We Didn’t Warn You.
In October, 2018, we sounded our first warning call on this blog (though we had been warning our own clients about for months). Our warning call post, China, the United States and the New Normal, was our retort to those who had been sending our China lawyers hate mail because we had in a September 2018 post predicted manufacturing orders from China were declining and would continue to decline. See On the Impact of China Tariffs: Is This a Dead Cat Bounce?
In April of this year, the Wall Street Journal quoted me in a cover story, Trade Deal Alone Won’t Fix Strained U.S.-China Business Relations, saying the following:
“There is no way any deal between China and the U.S. will cause everyone on both sides to say, ‘We were just kidding,’” said Dan Harris, managing partner at Harris Bricken, a law firm that specializes in investment with China. “The tariffs and the arrests and the threats and the heightened risk have impacted companies and that will not go away.”
Then on May 4, 2019, (one day before President Trump’s May 5 tariff tweet that changed everything) I wrote The US-China Trade War: Winter is Coming on how no matter what happens in the US-China trade war, things would NOT revert back to the way they had been.
Since May, US-China relations have swung from bad to worse, with the United States blacklisting multiple Chinese companies and China tightening the screws on foreign companies. See China’s New Cybersecurity System: There is NO Place to Hide and China’s New Company Tracking System: Comply, Comply, Comply. Most importantly, see Can Your Business Afford/Stomach the China Risks?
2. Reducing Your China Footprint is Good Business
Why are we being so negative? Because we have seen the impact the trade/cold/technology war has had on our own clients, which can be summarized as follows: those of our clients that immediately worked on reducing their China footprint have, almost without exception, benefited from having done so. On the other hand, most of our clients that chose to wait for a deal are suffering. Most, but not all, as we do have some clients involved with China for whom the trade war has had little to no impact. One client of ours pays ten cents per widget that it then sells wholesale for eight dollars. Even a 30% tariff for this company is almost meaningless. But other of our clients in a whole host of industries are most definitely hurting for having remained in China, some really badly. The ones hurting the most are the ones that stayed in China while their competitors left.
The two clients I describe below are “poster-children” for the benefits of getting out of China. In describing them, I need to be vague so as not to reveal their identities.
The first company is a big U.S. company that makes electronics and I cannot get more specific than that. The head of this company “loves” geopolitics and from day one he was convinced there would not be a quick deal between the United States and China and, most importantly, no trade deal would solve the issues between China and the U.S. and problems between the two countries would be ongoing for decades. This person declared that his company would within six months reduce its purchases from China by 50% and he wanted my law firm’s help to achieve this. What he wanted from us was the following:
- Help in deciding the countries to target for its purchases.
- Help in figuring out how to pressure its existing China-based suppliers to move outside China.
- Help in figuring out whether to manufacture on its own in countries outside China.
- Help in protecting its IP outside China.
- Drafting its manufacturing contracts with the companies outside China.
- Help in making sure that its products that would be made outside China would truly and legally qualify as having been made outside China.
Our lawyers were thrilled to work on a project(s) with such a wide scope, but I have to confess now (I have confessed this to the client previously so no worries there) that I did not believe this company’s 50% goal was achievable, in large part because of the nature of this company’s products: electronics. If it had been shoes or clothes or furniture or even doors or toasters I would have thought it could move 100%. But electronics, no way.
But this client has now moved about 80% of its production outside China and it has made clear to its few remaining China suppliers that if they cannot supply our client with their products from factories outside China (and soon), our client will cease to buy from them. In other words, this company — in the electronics industry — will soon be buying all of its products from outside China. And what has this move out of China done for this company? It has improved its positioning when making sales because it can and does tell potential buyers that its products do not come from China and therefore its pricing is not dependent on which way the US-China trade war winds are blowing.
The second company is a start-up that makes children’s products. This company initially came to us for a China NNN Agreement. I asked whether his products would be subject to any of what I call the Trump tariffs and he said yes. I then asked why then he was having them made in China, rather than Thailand (I picked Thailand both because it seemed like a really logical product to be made in Thailand and because a number of our lawyers have a lot of experience doing manufacturing deals with Thailand — we even have a lawyer and a Thai Business Specialist who speak Thai. His response to my Thailand suggestion was very positive, but he said that he didn’t even know where to start with Thailand. I said that we could help pretty much every step of the way and we did and the new products will soon be coming to market, with costs LESS than they would have been in China and 100% tariff free. I am guessing this client too will use its made-in-Thailand-ness as a selling point, because let’s face it, American and European consumers tend to have a much better “feeling” about Thailand than they do about China.
3. The China-US Relationship Will Not Improve. Act Accordingly.
No matter what sort of final deal the US and China eventually reach — if any — companies need to face the reality of China’s diminished international future. I can “hear” some of you saying this is just a US issue, but that is not true now and that will be even less true later. See e.g., China Hit by EU Tariffs as High as 66%.
We have been saying that we do not see an end to the trade wars against China because those are mere symptoms of the changing relationship between the West and China, not the disease. The disease is China’s unwillingness to open its market or to cease stealing cutting-end technologies.
The United States is aggressively and unabashedly doing what it can to isolate China and to remove it from the world of international trade. The new free trade agreement between the United States and Canada is further proof of this as it essentially blocks Canada and Mexico from engaging in free trade with China. See What Trump’s new trade pact signals about China. Word is that shutting out China is going to become a regular thing in all new U.S. trade agreements. See US Commerce’s Ross eyes anti-China ‘poison pill’ for new trade deals. Will the EU and Japan and Latin America play ball on this? I predict that most if not all of them will.
4. Today’s Micro-Deal is But a Blip. Don’t Be Fooled.
But what about today’s deal? Is it not a good thing? It sort of is, but it appears to be little more than financially induced stop-gap. I say “appears” because neither side has come out and explained the deal and supposedly nothing will be memorialized in writing for another 3-4 weeks — which I have to say is not something I would ever recommend to anyone negotiating a deal with a Chinese company! In any event, it seems the heart of the deal is a financial swap, whereby China buys more farm products from the United States (which it desperately needed) and agrees to limit its weakening of the RMB. In return for this, the United States has agreed not to increase tariffs next week, as originally planned.
Without any deal on existing tariffs or on China’s unfair treatment of foreign companies in China or its technology theft, this deal (if outlined properly above) should be viewed as a “nice” deal overall, but not a core change that should lead anyone to believe that much at all will change. Sure, President Trump will tout the deal as a major coup on his part and he will no doubt keep repeating that in an effort to try to bolster the market and his own popularity, but if this is in fact all we have we do not have much. In the short term, America’s farmers will benefit from this deal and many will benefit from the agreement by the U.S. not to increase tariffs further and the agreement by China not to manipulate its currency further. But beyond the increased farm sales, all we really have is an agreement not to make things worse by escalating. That is no small thing but it should not influence your company’s business decisions regarding China. I also suggest waiting to see what is actually inscribed in writing because it will be that — not political puffery — that will give us a real idea of what has and has not been accomplished.
In the meantime, we will continue to write about what North American and Latin American and European and Australian businesses should be doing to deal with the new normal regarding China.
7:00 p.m. PST Update. After I wrote the above I started seeing a number of articles mentioning that there was no currency deal at all, and I now believe that is the case. More importantly, I started seeing a number of China analysts casting doubt as to whether there was in fact any deal at all. Some of these analysts questioned why if there was a deal there was nothing in writing (see above), while others expressed their doubts about an oral deal — even if made — holding. Some have wondered whether the US and China will be able to resist sanctioning each other long enough for a deal to get signed and some questioned whether this “sign in five weeks” thing is just code for we haven’t really agreed on anything yet. All this just reinforces the advice I gave above, which is to wait until you see something in writing before you start making new plans. See also this Tweet by China expert extraordinaire, Bill Bishop, where he notes that China has yet to announce any deal at all, in either Chinese or in English. Because of all this, I’ve added the word “alleged” too the title of this post.