US-China Watch

America First is the functional equivalent of Globalization Last. As a result, downside risks to global trade are mounting by the day. With the global trade cycle long one of the most powerful engines of global growth, the world economy could be headed quickly toward the danger zone of full-blown global recession.

I have no compunction about blaming it on the “own goal” of Tariff Man. While I’ve never had much sympathy for the economics blame game, this time is a painfully obvious exception. With US tariffs surging to levels not seen since the 1930s, the world’s most powerful nation, which also happens to be the world’s largest economy, has changed the rules of engagement with its long-standing trading partners. It’s payback time, insists President Donald Trump, for all those who have been “ripping us off” for far too long. Under the guise of reciprocal tariffs, MAGA views a tariff war as fair play for long abusive foreign trade practices—tariff and non-tariff barriers, alike. In the sweet innocence of Trumpspeak, the long overdue actions of early 2025 are simply intended to level an unfairly tilted global paying field.

This is not intended as another one of my rants on why this course of action is so tragically wrong. I’ve done enough of that on these pages in the past few months. Instead, what follows is a relatively straight forward macro assessment of how Trump’s policies should be seen through the lens of the global trade cycle. As I usually do in an exercise like this, I start with the baseline prognosis of International Monetary Fund, contained in the latest World Economic Outlook, as the best approximation of consensus views of the future.

The solid line is the sum of exports and imports, combined, (for goods and services) as a share of world GDP. The bars measure annual changes in world GDP as measured in purchasing power parity terms. For both trade and global growth, the dashed and shaded plottings represent the IMF’s latest projections for 2025-29, forecasts that are expected to be revised on April 22.

The chart above stresses the interplay between world GDP growth and the trade cycle, highlighting three of the most dynamic features of the global baseline:

• The big surge of global trade is over. Over a 22-year period, global trade of goods and services nearly doubled as a share of world GDP, moving from 32.5% in 1986 to 61% in 2008. Over that timeframe, surging world trade of exports and imports, combined, was the equivalent of about 70% of the cumulative growth in world GDP.  Starting in 2008, the world economy was hit by two massive shocks—the Global Financial Crisis of 2008-09 and the Covid-19 pandemic of 2020. Looking through the resulting volatility of these twin shocks, the underlying trend in global trade (measured by a five-year moving average) has drifted slightly lower over the past decade; the five-year moving average of the trade share of world GDP fell fractionally from a peak 58.9% in 2014 to 57.2% in 2024.
• The trade linkage to global growth has been key. There is a close correspondence between the ups and downs of global GDP growth and shifts in the trade cycle. Not only did both shocks—the GFC and Covid—result in sharp declines in both output and trade, but post-shock snapbacks were equally pronounced. Moreover, each of the more modest slowdowns in global growth—namely, during the Asian Financial Crisis in 1998 and after the bursting of the (dotcom) equity bubble in 2000—were accompanied by dips in the global trade cycle.
• There are downside risks to a global soft landing. The IMF’s baseline forecast calls for relatively modest slowdowns, or a soft landing, in both global GDP growth and trade. I have warned for some time of the heightened perils associated with such an outcome—namely, that a diminished margin of above-trend growth leaves the world economy without a  buffer, a limited cushion of resilience in the event of a shock. Over the past fifty years, this diminished growth cushion has, in fact, always presaged global recession.

Reflecting the likely impacts of the Trump tariff shock, the risks to this global baseline have shifted decisively to the downside. The first-round impacts should hit the US economy both as an inflation shock to consumer demand and as an uncertainty shock to business decision-making that has negative repercussions on capital spending and employment. The first-round impacts are also likely to hit the Chinese economy through a shortfall in external demand from its largest export market (the United States) and a diminished potential for export diversification in a weakening global trade cycle; the Chinese economy will suffer from a limited offset in household consumption due to the lingering excesses of fear-driven precautionary saving.

Since the US and China have collectively accounted for 41% of the cumulative growth in world GDP since 2010, the first-round impacts of the tariff shock are bad enough on their own to derail a global soft landing, but the collateral damage of second- and third-round repercussions as transmitted through global supply chains will only compound this damage. Second-round impacts hinge importantly on the response of the rest of the world to Trump’s multilateral “reciprocal” tariff shocks of 2025. Significantly, the World Trade Organization is now warning of a nearly 13% plunge in North American exports this year. Moreover, downside risks are mounting in Asia, reflecting recent worrisome signs in pan-ASEAN trade; this is particularly disconcerting in that the WTO’s pre-tariff war baseline had called for Asia to account for fully 44% of the 3.3% growth in world trade in 2025.

Trump’s “reciprocal“ tariff actions should also raise the cost of US imports from nations who have benefited from trade diversion away from China—namely Mexico, Vietnam, Taiwan, South Korea, Canada, Ireland, India, and Germany. Of those eight countries, only two (India and Vietnam) have labor costs that are significantly lower than those in China; this underscores the negative feedback effects of US tariff pressures on China, actions that should intensify the forces of trade diversion to higher-cost foreign producers.  That, in turn, will trigger third-round impacts through further increases to US inflation and concomitant pressures on real disposable personal income and consumption.

All in all, the world economy is being hit with a major shock right where it hurts the most—at the foundational core of the global trade cycle. This is not only a serious external demand shock to export-led Asian economies, especially China, but it will also lead to a wholesale reworking of supply chains, the internal plumbing of modern globalization. Moreover, this shock will continue to have lasting repercussions on global financial markets, including but not limited to a sharp correction in a long-overvalued US dollar.

The Trump tariff shock, in many respects, is a combination of the two worst shocks the  world has faced in the post-World War II era. It has the disruptive supply-side manifestations of a Covid-like shock, but it is likely to last longer as tit-for-tat tariff and non-tariff retaliation plays out in the years ahead. And it could well have a financial market contagion like that of the GFC; while banks are in much better shape today than was the case back then, it’s hard to believe there won’t be any breakage elsewhere in the financial system after nearly a decade of near-zero policy rates. As always, only when the tide goes out will systemic excesses in the financial system be evident.

I am not in the Wall Street forecasting business anymore. But if I was, I would be telling my team, as well as my clients, to look out below. A full-blown global recession will be exceedingly difficult to avoid.