Richard Aboulafia: March 2018 Letter

Dear Fellow Aero Trade Worriers,

Artificial intelligence. Election-manipulating trollbots. Dumb, bird-themed emojis. It’s just a matter of time before something computerized starts a war. And now, we’re part of the way there: a trade database is on the verge of starting a trade war. This month, the Trump Administration announced tariffs on 1,333 items imported by the US from China. US Trade Representative Ambassador Robert Lighthizer said the list was algorithmically generated and taken from the US International Trade Commission (ITC) Harmonized Tariff Schedule of the United States (HTSUS). Since China won’t confine its retaliation to US algorithms, the aerospace business may be in danger.

The problem is that the many aerospace items on this “algorithmically generated” list (courtesy of a deeply clueless intern who clearly wrote the algorithm) make absolutely no sense. Lighthizer stated that tariffs targeted industries or sectors that China had targeted for growth in its “Made in China 2025” plan. Yet here are a few examples taken from the list (found here):

  • 84111140; Aircraft turbojets of a thrust not exceeding 25 kN
  • 84111180; Turbojets of a thrust not exceeding 25 kN, other than aircraft 84111240; Aircraft turbojets of a thrust exceeding 25 kN
  • 84111280; Turbojets of a thrust exceeding 25 kN, other than aircraft

Reality check: China’s jet engine industry is embryonic, at best, and has never exported an engine to the US. It won’t for decades, if ever. Similarly, consider one big category on the list:

  • 88024000; Airplanes and other powered aircraft…with an unladen weight over 15,000 kg

China has never exported any airplanes to the US either. It won’t for decades, if ever.

And then you get items that China doesn’t export, and just sound ridiculous:

  • 40113000; New pneumatic tires, of rubber, of a kind used on aircraft
  • 40121300; Retreaded pneumatic tires, of rubber, of a kind used on aircraft
  • 88051000; Aircraft launching gear, parts thereof; deck arrestors or similar gear, parts thereof 94011040; Seats, of a kind used for aircraft, leather upholstered

All of these items, as US imports, might as well be flying unicorns; they are completely imaginary as a factor in global aerospace trade. But I’m not making an academic point here. It shows that the Trump administration and its resident trade warriors seem to believe that somehow China is a big aerospace player, and that this rising threat needs to be dealt with.

Yet consider the ITC’s own trade numbers. In 2017 US aerospace exports to China came to $16.3 billion. US aerospace imports from China came to $956 million. The US enjoys a 17-1 advantage in aerospace trade with China. Listing an absurd collection of airborne unicorns subject to tariffs is a good way to mask this reality. And if they think that China’s Made in China 2025 plan will actually alter this trade balance any time in the next decade, they are completely unaware of the realities of the aerospace industry.

This gross exaggeration of China’s aerospace exports also explains why Trump and co. moved first on aerospace. They had been focusing their trade war efforts on aluminum, steel, and other commodities. China had responded with pork, wine, and other consumer goods. The side with a 17-1 trade advantage in aerospace has to be completely crazy to be the first to mention aerospace. It’s like throwing pebbles from inside a crystal palace, daring the other guy to respond.

China responded. But they were polite about it. “As the Chinese saying goes, it is only polite to reciprocate,” said a statement from the Chinese embassy here in Washington DC. China proposed a 25% tariff on aircraft with an empty weight between 15,000 and 45,000 kg. That includes all 737NGs (just a few dozen on backlog for Chinese airlines and lessors) and the 737MAX7 (unordered by China). It falls a mere 70 kg short of including the 737MAX8, the single most common Boeing jet currently on backlog for Chinese customers. It also includes high end business jets, particularly the larger Gulfstreams.

This is a measured, carefully calculated Chinese response – a surgical strike, as opposed to the US’s “algorithmic” bludgeon. It has no serious impact on most of the US aero industry, but it sends a clear message: don’t go any further. China’s proposed response would slightly hurt Gulfstream (rather smart of the Chinese because Gulfstream’s in a red state) while largely sparing Boeing (in a blue state). But the next Chinese step would be a move up to 45,100 kg, adding the 737MAX8. And, of course, they’d switch future Chinese government-coordinated orders away from Boeing and towards Airbus, for as long as the situation lasts.

Will it come to that? The stock market’s reaction over the past few days reflects the same uncertainty and confusion we all feel. One minute, a panicky market seems to say, “Hey! These trade actions seem impulsive and reflect unpredictable infighting in the administration. Are we in trouble here?” and we see a wild sell-off. Then, the market reassures itself, seeming to say. “Oh, he’s just blustering, and the confrontation will lead to calm negotiations. This will all vanish like a bad dream,” and industrial stocks recover, or at least stabilize. I don’t know what will happen next, but Trump’s “Trade wars are good, and easy to win” tweet hangs over the situation.

In the short and mid-term, Boeing has considerable protection from China’s very strong airline traffic growth, and capacity constraints at Airbus. But China is taking steps to hedge its bets in the long term. In January Airbus and its Chinese partners agreed to ramp-up the Tianjin A320neo line from the current four per month to five by early 2019 and six per month by early 2020. And since Chinese money now plays an enormous role in the leasing and finance business, China can count on tapping the hundreds of used jets coming off lease in the next few years.

We can hope this problem is solved before all this plays out. Let’s just hope the negotiators don’t rely on algorithms.

Yours, ‘Til The Database Mobilizes Its Army,

Richard Aboulafia