Trade, tariffs, and accelerating US/China strategic decoupling

Thomas Mucha, Geopolitical Strategist

2025-05-29T12:00:00-04:00 | S4:E6 | 29:22

The views expressed are those of the speaker(s) and are subject to change. Other teams may hold different views and make different investment decisions. For professional/institutional investors only. Your capital may be at risk.

Episode notes

Strategists Thomas Mucha and Johnny Yu discuss US-China strategic decoupling, trade tensions, and the implications for global markets and supply chains.

2:25 – Pause of US “reciprocal” tariffs on China
6:00 – National security concerns and market takeaways
10:10 – Impact on global supply chains
15:20 – Effects on other strategic allies and international relationships
23:10 – US self-isolation and long-term investment themes

Transcript

Johnny: This is a very important question. Right now, clearly we are on the verge of a very tremendous structural shifts, seismic shifts going on in terms of the global markets, as we have seen, the dollar movements over the last, you know, a few weeks. And, the S&P, as well as the Treasury yields. This is extraordinary. This is not something that we have experienced in the past episodes of market stress. This is clearly telling us that global investors are mobilized. They're rethinking what the future would look like, and in that future, how should their strategic asset allocation be.

Thomas: As the world continues to absorb evolving rhetoric and policy on global trade and tariffs, there is no more important geopolitical relationship to watch than what's happening between Washington and Beijing. US-China strategic decoupling has been in motion for several years, rumbling in the background of the global economy. But for all their enormous strengths, these two great powers, the current and the emerging hegemon, also have their weaknesses. More to the point, and despite the political rhetoric from Washington and Beijing, these two countries need each other. And this relationship is nothing if not complicated. So here to help us untangle the knot and explain the consequences ― and potential trajectory ― of the trade war is Johnny Yu, a macro strategist and an expert on China, based in our Hong Kong offices. Johnny, I've been really looking forward to this conversation. So, thanks for making the time.
Johnny: Absolutely. Thanks, Thomas. Thanks for having me.

Thomas: So, as we sit down to record this conversation, the US and China this morning announced a 90-day suspension on the heaviest reciprocal tariffs. They've got further negotiations planned in the interim. It's an extraordinary, but not entire entirely surprising, development. The negative effects of the US-China trade war were quickly becoming apparent for both sides. So, let's start with the Chinese perspective here. In your mind,
Johnny, what finally brought Beijing's negotiators to the table?

Johnny: Thanks, Thomas. That's a great question. So, over the last few months, Beijing has actually been struggling with the new White House approach, which I think has been a hallmark of chaos. There is this thinking that it will be a very difficult situation for Chinese economies to cope. But also at the same time, having been through the first round of trade war in 2018 and 2019, I think there is also a level of consensus from top to bottom in China, that they have to fundamentally change their approach in engaging with the Trump administration. They decided to reciprocate as well as to retaliate on US tariffs. Then we get to this episode of escalation to this level of tariffs — unsustainable level on both sides and that eventually culminated in this weekend's meeting that led to a reduction of tariffs.

Thomas: Does it surprise you that this pause happened so soon? Because it seemed to a lot of people over here that China was going to let the Trump administration dangle a bit longer.

Johnny: I would definitely say that this is a surprise to the market, to me as well. I think that at some point in time we are going to see a reduction because clearly this is not sustainable. But I think, what surprises me in terms of timing is that we haven't really seen meaningful pain on either side of the economy to induce the head of state to actually step up and actually try to shake their hands. So, that's why I think this is a meaningful and positive surprise to us all.

Thomas: So, you do think this signals a positive shift in the trading relationship?

Johnny: Absolutely, And I think even though you can argue that we are taking this “two step ahead, one step back” type of approach, still heading towards a very, contentious or confrontational relationship, I think this 90-day pause, at least gives the market, the business, and all the households in the private sector, the time to actually adapt and adjust to the new environment and ease into a situation.

Thomas: I love your optimism here, Johnny, but let's bring in the other side of it. What happens if these negotiations stall or fail? Are we back to square one then?

Johnny: Yeah, I think it's very likely. And in my view, I think right now, what’s the puzzling part is that the very harsh tone from the US side to China ever since the beginning of the new administration has seemed markedly different from the message that we're seeing out of this weekend. This puzzling, in fact, makes me wonder how long this goodwill will be able to last. Obviously, I think back in Washington, there are still many camps in Congress as well as in the US administration that want to proceed with the decoupling. That's why I feel like it's really difficult to put a timeline on. But I think at least in the near term, I think both sides have, strong incentive to actually push forward, towards some kind deal for the economy's sake. We can probably have a period of quietness before, I think, eventually things get complicated again.

Thomas: Johnny, I've been meeting with a lot of policymakers in the Trump administration outside the Trump administration in Washington, and I'm struck by the degree to which national security concerns are still at the center of this. I heard Robert Lighthizer, the former US Trade Representative, speak recently. And when pressed about, you know, what's the rationale here, he continues to point towards an acceleration of strategic decoupling between the US and China. So those voices, on the national security side are still out there. And so, I think that adds to both the urgency of the path here, but also the higher uncertainty here. Now, the global markets, of course, are rallying on the news. At least they are today. Big market swings have roiled investors over and over and over again this year. From your perspective, Johnny, what's the market takeaway?

Johnny: Right now, markets are somewhat confused, just like we are, but also at the same time, rush to correct some of their positions — who got, wrongfooted at the onset of this announcement. The expectation is very much that strategic decoupling is just a matter of time. Maybe we have a pause, but I think we are likely to go back very significantly towards what we had maybe at the beginning of the year or maybe last year. I think that has been the expectation for Chinese investor as well as for Beijing. That's why I feel like the market is going to take a few days, or maybe weeks, in digesting, and assessing the longevity of this goodwill and how long we are going to see somewhat of a reversal of all the market turmoil that we have seen starting from the beginning of April. And then we are also going to likely have to assess where do we go from this point. And depending on how both sides are engaging with each other, as well as the news coming out, I think the market will then have an idea of how much this market rally can go on and whether we need to make long-term, strategic asset-allocation shifts.

Thomas: So, do you think the market reaction then comes down to the ultimate number, meaning what's the level of tariffs between the US and China?

Johnny: Yeah, I think tariff is just one way to perhaps to achieve a US-China decoupling. There is some level of awareness in Beijing as well. That's why they see tariff as only at the economic front of how this broader great-power competition is manifesting. I think in a lot of other ways, including and not limited to, for example, in rare earths. Now, how much or whether or not we can roll back on that one will be also an important indicator of where the future relationship goes. And I think for the global markets, they are keenly also watching on the non-tariff discussions and to see how much we can get in terms of extensive agreements beyond this tariff, to see if we can stabilize the relationship in the near term.

Thomas: Yeah, clearly, it's a complicated relationship. There are all sorts of variables and levers that both sides have to play here. I want to move this discussion into my favorite topic, which is the geopolitical relationship. Do you think this recent announcement is purely economic practicality, with no change to the negative trajectory?

Johnny: To some extent, I don't see this as a fundamental shift in terms of the trajectory. But obviously, economic pains on both sides are something that they have to consider, and how quickly, the economies are able to adjust towards this type of pain. Empty shelves have been discussed a lot and empty docks and all the shipping containers that are not coming through between these two countries. The factory closures and labor layoffs now are very severe situations. Economy is one of the concerns that will constrain the pace of decoupling. But at the same time, a lot of other aspects are driving that decoupling as well. So, I think geopolitical tension has actually been high. And the level of involvement by both the US and China, I think will be critical going forward to see how things can either quiet down or ratchet up further, like, for example, Russia-Ukraine, and what we have also seen over the weekend, India and Pakistan.

Thomas: I would underscore that in my discussions with policymakers, the national security piece of this, the instability of it, is all one big calculus, and the trade aspect of it, particularly the US-China trade frictions, isn't helpful to these broader geopolitical friction points. I want to go back to something that you just said about rare earths and other sort of strategic sectors. What's your sense of the trajectory here, particularly around global supply chains and how that's likely to affect markets?

Johnny: This is a great question. I think all of the investors are keenly aware of the big disruptions that are coming through in many of the critical supply chains, as well as on many of the non-critical supply chains. In terms of rare earth, I think China is having a very frustrating time of thinking about how to weaponize this or not. I think, in their view, they obviously control over 80 to 90% of the refining capacity of the world. So even if the US might be able to diversify their source of those rare earth material ― by the way, they're not as rare as the name suggests ― but also at the same time, the refining capacity is very rare across the world. So, this is really a choke point where I think Beijing may find some leverage to push back. But they are also keenly aware that this is just a matter of time before alternative suppliers can be able to ramp up. So, if they don't, take advantage of this choke point, well, they are only going to erode their ability to use this as a leverage in the future. It's a double-edged sword. And similarly in other areas, I think we are already seeing supply chain for normal consumer goods are having moved a lot outside of China as well as restructuring inside China. That's something I think the markets are watching very closely to see out of this tariff reduction, how is it going to change the landscape of this supply chain relocation situation?

Thomas: So, Johnny, we've talked a lot here about supply chain disruptions, those other signals that we should be watching. What other specific indicators are you paying most attention to here to gauge the escalating tensions, if we have them, between the US and China? I mean, what to you raises the red flag here?

Johnny: Right now, so many of the indicators we're watching just to see how broken the supply chain is as a result of the heightened uncertainty, due to the tariff as well as the flip-flop of the tariff situation. These indicators to me are also very good indicator of telling us how widespread the pain is across the industries. That includes, for example, the maritime flow indicators, the port traffic, container shipping rate, as well as the retail inventories, both in the US and in China. And there are also other indicators like, the transshipment rate in terms of level of exports from China to Southeast Asia versus the level of exports from China to the US. I think these are good indicators of telling us how the economy is adapting, absorbing this pain, or lack thereof, which would indicate that there are bigger problems of that, of coming out.

Thomas: Yeah. One of the observations that I've had so far in my role here with regard to the Trump administration versus the Biden administration is I haven't really seen that much change in focus away from identifying, well, what are the strategic sectors that need to be pulled away from China and towards friends or towards domestic production? For me, you know, rare earths is one of them. Critical minerals, of course, semiconductors is obvious, but also anything having to do with space like low Earth orbit, right? The strategic military and economic importance of space, biotech, robotics, automation, and of course, artificial intelligence is driving a lot of this, policy direction. So, you know, it's a very complex backdrop here. But one that I think will produce just as many opportunities for investors as risks. So, I appreciate your perspectives on that. Now, Johnny, you know, what we're dancing around here is, you know, sort of the potential for military conflict, less cooperation globally, I think. These are facets of our new reality here. Of course, I have plenty of views on this, but how do you think about these darker aspects of the geopolitical competition, specifically with regard to investor confidence and market volatility going forward?

Johnny: This is a question on top of my mind as well. Beijing has been adopting an approach of just no communication, including the military. I think this is a very dangerous setup. Both sides are keenly aware the danger of that could spiral into something accidental as well as bigger fallout. But I think, luckily, thankfully, over the weekend, the tension got dialed down a lot. Almost makes me think that the prior scenario is no longer that applicable. In this new scenario, they can find a peaceful way to resolve their trade imbalances or other competition to maintain at a reasonable level. I think the risk of heading towards a military situation is much, much less. And also, I think from Beijing's perspective, the US way of alienating its core strategic allies actually gives them more time, not less.

Thomas: My next question actually was going to be about US relationships across the region, you sort of hinted that. The Trump administration has, focused a lot of its attention first on China. But one of the actions that I found quite interesting in this early administration is they went quickly to Japan to negotiate the tariffs, to Korea, to Australia, right, to other key partners and allies, particularly with regard to China, the UK, of course. So how do you think China will respond over the short term, medium term, and long term to continued efforts by the US to use its strategic allies in this deterrence fashion?

Johnny: Beijing is, also slowly finding out, its own leverage as well as how much its close neighbors are willing to comply with the US request to isolate China. So, I think this is very much a moving target because for all these countries that you mentioned, the election can change the overall rhetoric and overall attitude for that country completely. So, I think this is also something Beijing has found out over the years that it's very difficult to actually have a consistent message from this country in terms of having a long-term alliance. So, they are also learning by doing, trying to find a better way to cooperate and work together with this. And that doesn't necessarily mean always making concessions. And they are also, you know, being strong and, you know, trying to make a deterrence whenever it's possible. As the example we have seen in South Korea and Japan as well as Australia, who have all recently gone through the different level of, elections, across the presidency as well as the congress. So I think you can see the dynamics of going on, on China as well as the US has been very critical issue for these voters. And I think China is doing a lot of the charm offense in these countries trying to win their favor, not just by bullying, not just by, you know, making crazy demands, but also by showing goodwill, trying to establish and cultivate the relationship, so that in the great-power competition, they are in a better position to win friends around there. But of course, it's not going to be as easy because all of these countries, although they have stronger economic ties with China, they very much have even stronger security ties with US. This is something that it will not be able to easily overcome by Beijing. They are keenly aware of that. So, I think their approach is more hedging their bets, but also at the same time trying to deepen their economic leverage or economic ties so that it will be more painful for these countries to actually decide to take one side or the other.

Thomas: Yeah, that's consistent with the messages that I'm hearing. And Washington too, when I'm talking to Republicans or Trump administration officials. They keep emphasizing the national security interests are aligned, even though there's a lot of friction in the trade relationship. I'm curious, Johnny, of your views on how, President Xi and China might try to use these frictions in the US transatlantic alliance. There's a lot of loss of confidence in the US security umbrella. Do you think China will try to exploit these new fractures? And do you think they'll be successful?

Johnny: In terms of whether or not they would try, I think we both know the answer. Strategically, they have already made many clear moves, you know, clear as daylight. Even the US can see a lot. And the whole world sees that they have made those strategic attempts to, you know, bury the hatchets, as well as to establish new connections with these countries to varying degrees of success.
I think Beijing realized that while there is an opportunity to actually pick the relationship, try to repeal these traditional allies from US, one, it's very difficult to actually make themselves look as good as US in terms of these traditional allies. And the other is that the traditional allies always have the incentive of waiting out the current US administration so that we get back to some sort of like equilibrium, status quo before this current White House administration. So, I think these are the obvious challenges that China faces. And I do feel like some of them are insurmountable obstacles that will stand between whether or not they can actually, you know, win these friends over to the Chinese side.

Thomas: Johnny, I think you highlight something that's really important, and maybe it's not as appreciated by investors, which is what's happening in this great-power relationship, what's happening in the trade side, is leading to a much more fragmented and less coherent geopolitical backdrop. And I think that's creating a lot more differentiation across the board at the country level, industry level, company level, asset class level. One of the messages that I try to get across all the time is to try to look at these big shifts in the structural backdrop with a more opportunistic lens, rather than sort of a sense of doom. But I do think we're in a period where it's much more transactional, and that creates opportunities alongside the risks. You mentioned some leverage points, Johnny, that China has — another one that I want to get your views on has to do with the level of the renminbi, whether Washington can apply additional pressure on Beijing through its Treasury holdings. I'm curious how realistic do you think these actions are? And from your mind, what are the implications here for investors?

Johnny: Both of these — renminbi as well as the Treasury holdings — are viable and possible retaliation tools by Beijing. They have absolutely considered that. But also, at the same time, just like the rare earth lever, which they have pulled, but to some limited extent, they realize that these both of them are double-edged swords. So, China stands to lose as much, if not more, versus the US if they actually pull these levers. And as we have, in the last point we discussed about winning friends around the world, I think what, the rest of the world currently concern very much is potential dumping of Chinese goods, cheap Chinese goods into their market and crushing their industries. And that's achieved by redirecting your goods, but also at the same time, by weakening your currency. And Beijing's approach last time around is very much in line with depreciating your way out of the tariff, but we have noticed that this time around, they have taken a distinctly different approach by trying to hold renminbi strong. And I think that message sent out is that we are not trying to disrupt our bilateral relationship simply by repairing the loss of exports from the US. I think that's a very helpful and a welcoming message. And there are other discussions, for example, European president von der Leyen actually has had a discussion with Li Qiang, and they talked about creating a trade redirection monitor, something that they want to create this mechanism so that they ensure that this excess capacity does not create bigger problem as a result of the trade-tariff situation. So that, I think, is a very new approach, and I do believe that Beijing intends to stick to this one. And towards the second point about the Treasury. I think that's a problem that's even probably more damaging for China if they were to use that. So, first of all, the level of, Treasury holdings by China right now is not enough to actually create a lasting bond rout in the market that we'll call sustained pain for the US because the Fed at the end of the day can always come in and stabilize the market. It's their job to do that, regardless of inflation situations. The other is that once you pull that trigger, you better make sure that you win, because otherwise you face huge, significant backlash and including and not limited to, you know, kicking you out from, the SWIFT system, which, by the way, is the global banking payment system that allows to transfer of funds, across the different geographies and different countries. And then you're left with a couple of hundred billion dollars divested from the Treasury with nowhere else to go. By the way, there are no other, as you know, safe asset reserve market that can absorb that level of Treasury. So, I think this is very important considerations for China that deters them from actually pulling this lever.

Thomas: Now, Johnny, you know, you and I could talk for six or seven more hours. But, out of respect for our audience, I do want to begin wrapping it up. So, in conclusion, I'm very curious on your views about the potential and, let's say, structural impacts, of US self-isolation, like how far this goes, and, you know, how isolated will the US end up being? How do you think about this related to long term investment themes — particularly in areas that I'm quite interested in, which is national security, climate resilience, like, you know, how are you squaring the circle here?

Johnny: Yeah, this is a very important question. Right now, clearly we are on the verge of a very tremendous structural shifts, seismic shifts going on in terms of the global markets, as we have seen, the dollar movements over the last, you know, a few weeks. And, the S&P, as well as the Treasury yields. This is extraordinary. This is not something that we have experienced in the past episodes of market stress. This is clearly telling us that global investors are mobilized. They're rethinking what the future would look like, and in that future, how should their strategic asset allocation be? So, I think one of the direct consequences of US withdrawing from providing many of the public goods is that someone has to step up or it will fall into it, every country for themselves situation. And in that situation, a lot of the public funds will have to think about: Where do I deploy my fund if our nation requires us to actually use them for its own goods? And we are also seeing that fiscal policy being mobilized across the country in order to filling the void of disappearing quickly, vanishing external demand. I think these are all, you know, sort of like strategic shifts in terms of structural policies that the country hasn't needed to face in the last decade. These, including also the military side, how much they need to think about self-defense, as well as building the defense capacity. I think these are the questions that would have a significant impact of how it's going to change, how money is deployed, and where money is deployed. And I think that has a lot of implications to the theme that we have talked a lot about is US exceptionalism. And the future productivity growth where it's going to come from. So, I think these are things that we need to watch. But also, at the same time, I would think that on the industrial and supply chain, there are also going to be a lot of structural shifts going on. In the past, the world has been so used to this just-in-time manufacturing supply chain system, you are optimized to the maximum of your profitability and minimizing of your overhead and waste. But now we are going to a system where many of the businesses will have to think about creating a redundant, a duplicate, a backup copy of their supply chain. That, first of all, would mean additional capex. That would probably mean, good for investment, good for global financing, and also good opportunity for some of the EM to come to ramp up their industrial capability, but also at the same time, very importantly, this means the loss of productivity, loss of efficiency, that will eventually come into the end consumer goods prices, as well as the overall cost of production for everything that we use from daily life to the strategic capital goods as well. So, I think these are important things that US investors need to think about that affects the company we invest in, as well as the countries we invest in.

Thomas: I do want to emphasize that, yeah, these are structural shifts. They're long-term shifts. And, you know, the way I think about it is, is policymakers all around the world are trading economic efficiency for national security, and that's going to come at an economic cost, but that's the world that we live in. And at the same time that produces all kinds of long-term investment, thematic opportunities. And so again, think opportunity, not doom here. And I really appreciate your partnership on this and hearing the perspectives that you offer from your home base in Hong Kong. So, Johnny, Johnny Yu Wellington macro strategist and China expert, thanks again for joining us on WellSaid.

Johnny: Thank you, Thomas.

Views expressed are those of the speaker(s) and are subject to change. Other teams may hold different views and make different investment decisions. For professional/institutional investors only. Your capital may be at risk. Podcast produced May 2025.

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