Retaliation or escalation? Trust between the US and China is rapidly fading

BEIJING – Escalating tensions between the United States and China over the weekend highlight the deepening mistrust that divides the world’s two largest economies.

In the two days since the Chinese government ended its Golden Week holiday on Wednesday, the country announced a new framework to restrict rare earth exports, blacklisted more U.S. companies and charged U.S.-linked ships more fees to enter Chinese ports.

US President Donald Trump then threatened to raise tariffs on Chinese goods by 100%, prompting Beijing to insist that rare earth regulations were “justified.”

“The root cause of tensions is a lack of mutual trust,” Larry Hu, Macquarie’s chief China economist, said in a note on Monday.

He said, “At the London talks in June, the two countries agreed to an agreement on ‘technical rare earths.”’ “Understandably, both parties feel betrayed when they realize that the other person is acting with malicious intent.”

Hu said the escalating trade tensions were the result of “misunderstandings” between the two sides. He and other analysts say both sides see things differently.

While the Chinese government may feel it needs to respond to new U.S. rules announced on September 29 that extend export controls to majority-owned subsidiaries of companies on the U.S. list, the U.S. government likely views the changes as a technical adjustment.

On the flip side, while Beijing may see the rare earths regulations as emulating broader US efforts to restrict China’s access to high-end technology, the US perception is that the restrictions are a negotiating strategy aimed at generating leverage ahead of a potential meeting between the two presidents.

The impact on businesses is clear, and Friday’s stock market decline was a contributing factor.

“One of the rules of the new packaging requires companies to obtain a license from China’s Ministry of Commerce to export products manufactured anywhere in the world if the product contains Chinese rare earths equivalent to at least 0.1% of the product’s value,” Teneo managing director Gabriel Wildo said in a memo on Saturday. “Theoretically, this rule could require companies like Nvidia, TSMC, and Intel to obtain permission from Chinese regulators to sell their products in the United States.”

“This Chinese rule is modeled after the U.S. Department of Commerce’s own ‘Foreign Direct Product Rule,’ which imposes licensing requirements on products made with U.S.-origin technology, regardless of where the product was produced,” Wildau said.

Chinese stocks fell on Monday following a decline in the U.S. stock market, but U.S. stock futures rebounded on hopes that the tensions were not as bad as initially feared.

“The two countries could still come back to the table to find a short-term solution for certain episodes that the market is watching, but it won’t be a permanent solution,” said Jianwei Xu, senior economist for Greater China at Natixis. “Trust between them has already been lost.”

President Trump has indicated his intention to meet with Chinese President Xi Jinping at the APEC meeting to be held in South Korea at the end of October. China has not yet confirmed or denied such a plan.

Liu Weidong, a researcher at the Institute of American Studies at the Chinese Academy of Social Sciences, a state-run think tank, said there was a sense in Asia that the United States would maintain pressure on China despite the planned meeting between the two leaders.

“History has shown that U.S. pressure is ineffective and will only further exacerbate the rivalry between China and the U.S.,” Liu said in comments translated by CNBC.

He said the latest rare earth regulations are a demonstration of China’s efforts to warn against “unfriendly” foreign companies while welcoming other countries, and an attempt to maintain bilateral stability through “moderate and controlled countermeasures.”

Trump and Xi spoke by phone last month but have yet to meet in person since the US leaders began their terms in January. President Trump has previously hinted that he may visit China next year, followed by a visit by Xi to the United States.

Ting Lu, Nomura’s chief China economist, said the two countries were still negotiating as the effective dates for some of the announced measures were set after the APEC summit in South Korea.

“Despite the heightened tensions, there is still an opportunity for a diplomatic solution as the timeline provides a strategic buffer. President Trump’s tariffs, scheduled for November 1st, are a full month ahead of the December 1st deadline for Beijing to restrict rare earth exports.”