China Risks Hurting Itself by Hitting U.S. Over Hong Kong Bill

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China had a swift and forceful response after the U.S. Senate passed legislation supporting Hong Kong’s pro-democracy protesters, with multiple government agencies threatening some sort of unspecified retaliation.

“Don’t say I didn’t warn you,” said a statement issued on Wednesday by the foreign ministry’s office in Hong Kong, using a Chinese phrase that prior to this year was used only in rare cases like before a 1962 war with India.

But President Xi Jinping’s government has a problem: Any strong measures against the U.S. also risk backfiring on China. That’s particularly dangerous as he struggles to contain escalating violence in Hong Kong and negotiates a trade pact with the U.S. all while the economy grows at its slowest pace in decades.

China’s retaliation since President Donald Trump kicked off a trade war last year has mostly been tit-for-tat tariffs, and always with the caveat that it was left with no other choice. In other areas where it’s been hit by the U.S. -- Taiwan arms sales, sanctions over human-rights abuses in the far west region of Xinjiang, putting Huawei Technologies Co. on a blacklist -- China has held fire despite threats to hit back.

“It’s worth noting that the U.S. can do more damage to China than China can do to the U.S.,” said Shi Yinhong, an adviser to China’s cabinet who is a professor of international relations at Renmin University in Beijing.

The Hong Kong Human Rights and Democracy Act would require the State Department to determine each year whether the city remains sufficiently autonomous from Beijing to justify special trade privileges. It also outlines potential sanctions on mainland officials who suppress human rights.

The biggest concern among those in the markets is whether the bill will derail talks on a phase one trade deal that are entering their final stages. Hong Kong stocks slumped on Thursday, while the yuan weakened to a three-week low amid signs of a widening rift between the U.S. and China.

“The imminent retaliation from China would be on the on-going trade talks,” said Huiyao Wang, another adviser to China’s cabinet and founder of the Center for China and Globalization in Beijing. “The Hong Kong bill will do tremendous damage to the prospect of a trade deal and stall the negotiation process as China’s side won’t engage positively with U.S. counterparts.”

Trump Dilemma

For Trump, that presents a dilemma. A major reason he wants a deal now is so China can buy large amounts of agricultural products from swing states he needs to win re-election next year. If that doesn’t happen, his own political future is in doubt.

His position is even trickier because Congress would easily be able to override any veto. A person familiar with the matter told Bloomberg that Trump plans to sign the bill, a move that could set back trade talks. Still, refusing to sign it would give his political opponents a chance to attack him for being weak on China.

As a one-party state, China doesn’t have to worry about that type of electoral pressure. But it also wants to stop the bleeding and avoid more tariff increases, including one still due to take place in December. And Xi may be under pressure within the Communist Party: A rare leak to the New York Times this week of internal documents showing human-rights abuses in Xinjiang signaled some dissent in China’s opaque political system.

Beyond delaying trade talks, China has a number of options. It could hit out at U.S. companies, halt cooperation on enforcing sanctions related to North Korea and Iran, recall the Chinese ambassador to the U.S. or downgrade diplomatic relations.

China’s Trump Retaliation Options Range From Soybeans to Boeing

In May, after the U.S. blacklisted Huawei, China signaled it would curb exports to the U.S. of rare earths that are critical to everything from smartphones to electronic vehicles to wind turbines. The government also said it will establish a list of so-called “unreliable” entities it says damage the interests of domestic companies, a sweeping order that could potentially affect thousands of foreign firms.

Around that time, the flagship People’s Daily even used the same phrase “don’t say I didn’t warn you” that at one time carried enormous weight. Yet China still hasn’t implemented those measures, preferring instead to head back to the negotiating table.

‘Cry Foul’

When it comes to Hong Kong, Trump already has enormous leverage. Under the Hong Kong Policy Act of 1992, the U.S. president can issue an order removing the special trading status that underpins its economy, potentially with devastating consequences.

Beijing realizes the U.S. is unlikely to do that, so is likely to limit itself to “very high-sounding, rhetorical responses” rather than concrete actions hitting American economic interests, according to Willy Lam, an adjunct professor at the Chinese University of Hong Kong’s Centre for China Studies, who has authored numerous books on Chinese politics.

“The Chinese will, of course, cry foul, but the real reaction may not be that severe,” Lam said. “They will watch the situation and make a judgment later.”

(Updates with stocks, report on Trump planning to sign bill)

To contact Bloomberg News staff for this story: Iain Marlow in Hong Kong at imarlow1@bloomberg.net;Dandan Li in Beijing at dli395@bloomberg.net

To contact the editors responsible for this story: Brendan Scott at bscott66@bloomberg.net, Daniel Ten Kate, Karen Leigh

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