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Why Trump’s tariffs on China will put Australia in a vulnerable position

Australia wasn't singled out by Donald Trump's tariffs, but it will be impacted by them. (Reuters: Elizabeth Frantz)

A fortnight in and it's on.

If there's one thing financiers and most big investors were banking on, it was that Donald Trump would create far more noise than waves.

Back in mid-December, Deutsche Bank conducted a survey of major global financial institutions about their list of fears for the year ahead.

Front and centre was a global trade war, sparked by the newly installed US president imposing tariffs. Next in line was a plunge on global stock markets, given they have been pushed to nose-bleed levels and are ripe for a fall.

In the past few days, we've witnessed the beginning of both.

Many believed the new president would use the threat of tariffs for an extended period to bludgeon rival nations and bend them to his will. Instead, he's fired off the big cannon as an opening salvo.

Rather than China, which appeared to be his major bugbear through the long US election campaign, he's instead attacked Canada, America's foremost ally and neighbour, and not surprisingly taken aim at Mexico, slapping 25 per cent import duties on both.

In both cases, he has accused his neighbours of facilitating America's crippling wave of fentanyl addiction and death even though the US Drug Enforcement Agency has identified China and more recently India as the sources.

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Photo shows A bag of fentanyl seized in a drug raid

Why Trump's tariffs on China will put Australia in a vulnerable position

US President Donald Trump has cited a need to stop fentanyl flowing into the country as a reason for new tariffs against Mexico, Canada and China. Will it work?

Once manufactured, it is shipped off to Mexico primarily, and to a lesser extent, the US and Canada.

China seemed to get off reasonably lightly, with just a 10 per cent impost, while India escaped punishment altogether — indicating the tariffs had little, if anything, to do with the drug trade.

In Trump's view of the world, Canada has committed the cardinal sin of being resource-rich, very close and unwilling to entertain the idea that it should become America's 51st State.

As for Mexico, he never got around to finishing the wall in his first term in office.

Why Trump's tariffs on China will put Australia in a vulnerable position

The tariffs will come into effect on Tuesday, local time, after being signed off by Donald Trump. (Reuters: Elizabeth Frantz)

Did we just dodge a bullet? Nope

There was a sigh of relief in Canberra that Australia was spared any impost. But markets were spooked.

The stock market benchmark slid 2 per cent in early trade and barely recovered, while the Australian dollar plumbed 4-year lows, only just keeping its head above $US0.61. It's now dropped almost 10 per cent since November.

The tariff fallout has hit markets. Here's what it means for Australia

Photo shows Wall Street sign with the American flag on the New York Stock Exchange behind

Why Trump's tariffs on China will put Australia in a vulnerable position

Tariffs imposed by US President Donald Trump may not be a surprise, but they've certainly caused a shock on financial markets. Analysts say correction (a decline of of at least 10 per cent from the previous peak) on equity markets is now looking more likely.

Government ministers, meanwhile, continue to point out that America has run a trade surplus with Australia for decades.

But that's not quite how these things work.

For a start, the new US president seems to hold little store in old allegiances. Plus, you'd be naive to believe that the 10 per cent charge slapped on China is anything other than an opening salvo.

And it's our exposure to China that leaves us vulnerable. The Middle Kingdom accounts for just on a third of our entire export business. We send off about $220 billion worth of iron ore, gas, coal and agricultural goods each year.

You don't need to be Sherlock Holmes to connect the dots.

Just as China is our biggest customer, Beijing's biggest market just happens to be the US, shipping off more than $US550 billion (about $895.8 billion) worth of manufactured goods each year.

One of the great structural flaws of China's once "miracle" economy is that it doesn't consume anywhere near enough of its own production. With little social security in place, the bulk of China's citizens save much of their income for when they can no longer work.

That means the country has an over-reliance on exports. Anything that limits that trade will hurt China's economy which, in turn, will detract from our national income and curb our living standards.

Why Trump's tariffs on China will put Australia in a vulnerable position

Donald Trump's tariffs on imports from China will flow beyond the US economy. (Reuters: Caitlin Ochs)

Who picks up the tab?

The new US president believes he may be able to replace income taxes with the cash windfall coming in from foreign countries and that will lay the foundations for his vision of a new golden age.

That's where he is very much mistaken.

Those increased charges on Chinese goods entering America will be immediately borne by the businesses or individuals bringing the goods into the country which, in the vast bulk of cases, are American.

If they don't pass on the extra costs, their profits will be squeezed, leaving them little option but to look for alternative supplies. Failing that, they will attempt to recoup losses, which will slow demand at home and in China.

In essence, Trump may well have just signed an executive order that locks in price rises and rules out further rate cuts, which no doubt would pave the way for a showdown with Federal Reserve chief Jerome Powell.

Why Trump's tariffs on China will put Australia in a vulnerable position

By imposing the tariffs, Donald Trump has inadvertently signed the US up for higher prices. (Reuters: Elizabeth Frantz)

What kind of goods are we talking about? Everything from consumer goods such as electronics and clothes, to heavy industrial goods like machinery and construction materials. Then there's semiconductors, medical goods, rural products and an array of renewable energy components.

Australia's biggest exports include basic raw materials such as iron ore and energy, in the form of gas and coal, along with agricultural goods and services such as education.

This couldn't have come at a worse time for China and, by extension, Australia.

China has been labouring under the weight of a largely self-imposed economic downturn for more than five years after Xi Jinping deliberately popped a massive property bubble.

The aftershocks have seen construction plummet and unemployment surge to the extent Beijing no longer files youth unemployment numbers, while the country has been grappling to contain deflation.

Interest rates have been repeatedly cut and a spate of underwhelming stimulus measures have only just started to yield results.

When too much pain is barely enough

The US president has been vague about the extent to which he wants to punish China.

Well before the election, he was talking tariffs of 100 per cent. Then, as campaigning neared the pointy end of proceedings, he scaled back to 60 per cent.

Clearly, the higher the impost, the greater the repercussions.

The Economist Intelligence Unit recently canvassed the damage from a range of tariff imposts.

It reckoned, at a minimum, a 20 per cent tariff hike would curb China's GDP by about 0.6 per cent over the next two years.

If things got nasty and Trump imposed a 60 per cent hike, growth could be cut around 2.5 per cent, which would inflict serious pain on Beijing as it tries to navigate its way through the existing economic mess.

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As for payback, the Economist believes China would "likely respond with moderate and targeted retaliation, while relying primarily on non-tariff measures" as Beijing considers tariffs will hurt its own economy.

His resounding win in the US election appears to have emboldened Trump to not merely bluster, but to follow through with trade sanctions as his weapon of choice and China as his preferred target.

Australia's uneasy position with the world's two superpowers, straddling an economic partnership with Beijing and a security bond with Washington, is about to be put to the test.

Someday soon, we may have to choose.

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