President Donald Trump keeps threatening trade spats with China, then retreating. A new report from the Institute for International Finance warns of the risks of a trade war. Trump’s view ignores the benefits of open trade for the world’s two largest economies.

President Donald Trump has a confusing relationship with China.

The fiery populist ran on an anti-free-trade platform that blamed China and Mexico, in addition to “terrible deals,” for America’s economic and employment troubles. He then came to office and suddenly became best friends with Chinese President Xi Jinping, reversing a campaign promise to label the country a currency manipulator.

Now, Trump is again testing China’s patience on trade by initiating a national security review of America’s use of Chinese steel, a thinly veiled first step aimed at increasing protectionism in the sector.

More broadly, while Trump has surrounded himself with Wall Street bankers in a break with another campaign promise – to “drain the swamp” and cut off the links between moneyed banking interests and Washington – he is not taking their advice in the key area of trade.

The news website Axios reports that Trump is bent on imposing tariffs despite the advice of some Cabinet members and widespread fears that such aggressive measures could spark a damaging trade war.

The Institute for International Finance, a banking lobby group in Washington, says in a new report that Trump's philosophy on trade is at best misguided and at worst destructive.

The US and China are the world's two largest economies, together accounting for 40% of global gross domestic product, 25% of goods exports, and 30% of foreign direct investments, the IIF said. The report contends that "the two sides should better understand the nature of their bilateral trade imbalances and solve the problem by more trade and investment, not trade war."

The report flies in the face of Trump's argument that a deteriorating trade deficit has put American firms at a competitive disadvantage. "Contrary to the popular impression, the US trade deficit didn't deteriorate in the past decade," the IIF said.

Rather, the US deficit of goods trade decreased from $837 billion in 2006 to $753 billion last year, the report said. This chart shows how the US goods trade deficit has mostly leveled off in the years after the Great Recession:

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Foto: source Institute for International Finance (IIF)

"The manageable trade deficit and low unemployment rate do not support the protectionist inclination of Washington policy," the report concludes.

It's true that the US trade deficit with China specifically has widened sharply, from just a fifth of the total trade gap in 2001 to 50% in 2016. Also, China's exports to the US are primarily in manufacturing and therefore have a disproportionate industry-specific impact.

"Yet the trade picture looks quite different from China's perspective," the IIF says. From 2007 to 2016, China's current account surplus dropped to 1.9% of its GDP from 10%, and its trade surplus dropped to 2.2% of its GDP from 8.7%.

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Foto: source IIF

China's goods surplus with the US has climbed in absolute terms, but it has shrunk relative to its total surplus and GDP. It has dropped from more than the total goods surplus a decade ago to just 50% today.

This difference in the US and China's perspective explains why Washington has been fixated on the US-China bilateral trade deficit, yet Beijing views the bilateral trade surplus as less of an issue. This chart illustrates that difference in viewpoints, with the trade deficit widening as a percentage of US GDP since 2000 but dramatically shrinking as a percentage of China's GDP:


Foto: source IIF

US total exports and imports about doubled from 2001 to 2016. Yet US imports from China during the same period rose 3 1/2 times - while US exports to China jumped nearly sixfold. In the past decade alone, US exports to China surged at twice the rate of imports and three times the rate of total exports, the IIF said, showing the benefits from trade accrue to US firms as well.

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Foto: source IIF

China's total market shares for particular US exports are pretty startling. In 2016, China imported 62% of American soybean exports, 14% of its cotton, 17% of autos, 15% of semiconductor exports, and 25% of Boeing passenger planes, the IIF says.

"China is the largest market for US soybeans and airplanes, and the second largest market for auto, cotton, and semiconductor products. In the past decade, US service exports to China increased five times and the service trade surplus increased to $57 billion in 2016, 40 times where it stood in 2006," according to the report.

"US-China trade has been an important driver for both US and Chinese economic growth," the IIF said. "A trade war will do no one any good. A trade war between US and China will hurt not only Chinese manufacturers, but also upstream suppliers and downstream distributors such as US retailers."