In a brief news article, tucked neatly towards the bottom was one sentence with incredible global implications:

“The big drop in China’s holdings meant that it lost the top spot in terms of foreign ownership of U.S. Treasuries, dropping to second place behind Japan”

Chin ahas long been the largest holder of US Treasuries.  They are (were) our go-to group when we (the US) needed to raise some cash.  If the demand for our Treasuries from China drops off, that could lead to the US paying higher interest rates and a double dip recession for our economy.

It now appears that they are in fact reducing their holdings.  In fact, China has been reducing its exposure to US Treasuries for some time now.  While they are not out in the market selling them (that we know), they are trending towards purchasing shorter  duration notes.  This gives them a quicker “out” when the time comes.

When will that time be?  Well, that’s the $64,000 question.  If they were to dump their holdings onto the market at once, they would devalue the holdings they are trying to sell and do more harm to themselves than they care to.  If they become gradual sellers, they would damage the US economy and potentially we would not be able to buy as many Chinese made goods – again hurting their economy.

What China is doing is making every effort to create a burgeoning middle class that can replace the US as the consumer of their manufactured goods.  With 2 billion people to work with, that shouldn’t take too long to replace the 300 million or so US consumers.  Once that middle class is in place, China has much more freedom in their financial policy because they are not as tied to the US consumer.

This is one that will definitely take some time to play out, but it will play out and it will have dramatic consequences for our economy.

On the eve of September 11th, 2009 the United States fired the first shot in the trade war with China.  That was the day that the President signed an order to increase the tariff on imported Chinese tires by 875%!  With a swift stroke of the pen, the tariff went for 4% to 35% and the trade war had begun.  China responded almost immediately accusing Washington of “rampant protectionism”.  According to Beijing, the action is not only ill thought out in a time of economic mayhem, but also violates WTO rules and goes against specific promises made at the G20 summit this April.

China has promised a retaliatory action and is currently scrutinizing the imports of American poultry and autos.  The United States claims that any retaliatory effort would be “inappropriate”.

In signing the order, the President was responding to a petition from the United Steelworkers Union who was concerned about not being able to be competitive with Chinese tires.  The President stated that the new tariffs would save the jobs of 7,000 Americans.

What is interesting in all this is that the American consumer is left out of the discussion.  The consumer wants choices and value.  By implementing this order, the President is insisting that the American people pay more for their tires.  He has removed a low cost choice from their available options.  In the end, it is the consumer who pays more, buys less, and suffers the most.

What, exactly, did the US expect to happen.  As we all know, an integral part of the American Recovery and Reinvestment Act of 2009 was the “Buy American” provision.  This clause stated that, where doing so did not increase the cost by over 25%, any projects that utilized ARRA funds were to be constructed of American made materials.  While the outrage from China drew the most press, other countries were also voicing their disgust at the protectionist efforts.  Others discounted the Buy American clause as nothing more than a nuisance.  However, we have already seen some very real consequences of this “nuisance”.  There is one example of a project where the sewer pipes were American made, but he joint pieces were Canadian.  Every bit of pipe that had been laid had to be ripped up and redone at the governments expense.

Now, China comes out today and says that all of their projects completed under their $585 billion stimulus plan must utilize Chinese raw goods, where possible.  This has again sparked shouts of anger.  But this time it is the US that’s angry.  Although they have enacted the very same regulations domestically, several US groups are demanding that China remove these isolationist requirements.

Well, I’m not sure exactly what the US groups expected.  When we take the lead and implement it here, we can’t be too upset when it is implemented elsewhere.  I think we are seeing the beginnings of a significant trade war with China.  (Keep in mind we are already fighting the beginning stages of one with Mexico).  We may end up on-shoring our manufacturing not out of choice, but because we have no other options.

China gets much more favorable and optimistic stories in the news than the US does.  Recently, China’s Federation of Logistics and Purchasing announced the the country’s purchasing managers index (PMI) increased to 45.3 in January, up from 41.2 in December.  That represented a 9.95% increase in the manufacturing sector, although still less than the 50 that is inflection point for expansion and contraction of the sector.  So, north of 50 – expanding, south of 50 – contracting.  If you read the news articles surrounding the release, you notice that they focus on the fact that the number isn’t as bad as December and they talk of the recovery having begun.

This is in stark contrast to the US’s recent release of its PMI numbers – see story below.  The US soundly beat expectations, posted an improvement over December (8.21%) and the media could only focus on the fact that we were contracting and not expanding.  There may still be some pain to endure through this downturn, however, there are some bright spots.  You just have to look very hard in the traditional media to find them.

Keep up the good work China.  You make it and we’ll buy it.

The US is caught is somewhat of a discrepancy in its foreign trade policy.  On one side, the House stimulus package has a very protectionist “Buy American” clause.  Among other things, the clause requires any projects funded by the stimulus package to utilize American iron and steel.  The clause has met with such foreign opposition that President Obama has vowed to review the policy.  In fact, a European Commission spokesperson said the clause was “the worst possible signal” the Obama administration could send out.  The Commission went on to call the clause protectionist and would trigger retaliatory moves.  In addition, they would file a grievance with the World Trade Organization if the clause were to be included in the final package.  Vice President Joe Biden feels that the clause is somewhat justified and said it was “legitimate” to have some portion of it in the final legislation.

Were charges to be brought in front of the World Trade Organization, the US might be caught in an awkward position.  Just this month, the US filed charges with the World Trade Organization against China for using WTO-illegal protectionist policies.  In regards to those charges, Trade Representative Susan Schwab said, “We are going to the WTO because we are determined to use all resources available to fight industrial policies that aim to unfairly promote Chinese branded products”.  The US asserts that the Chinese government has provided numerous subsidies including incentives, grants, and preferential loans to companies in an effort to increase exports of China made products.  Schwab goes on to say, “China’s policies favoring domestic brands also raise questions regarding China’s commitment to providing a level playing field for foreign owners of important intellectual property rights, namely the trademark rights of US brand owners”.

The Stimulus Bill “Buy American” clause amounts to little more than the same type of subsidy, incentive or preferential loan that the US accuses China of.  I am doubtful that, “do as I say, not as I do” will end up being a successful foreign policy dogma for the US.

GlobeSt.Com today had an interested article on China’s role in the demand for industrial space in the US.  The gist of the article is that China’s economy and production is slowing to the point where it might have an effect on the US industrial market.  The author points out that many of the industrial REITs have made big bets in port markets and those bets may not do as well as previously expected.  One of the important things to note is that we are talking about a shift from 35% growth to 23% growth.  By any measure, that is still tremendous growth and a trend worth paying attention to.

However, the growth is projected to slow and the author is correct that this slow down may have an effect on demand.  However, it just goes to further emphasize the importance of picking the right locations.  When the demand does decrease, it will certainly not decrease proportionally across all port markets.  Some will be much harder hit than others.  As an example, just look at Maersk’s recent decision to leave Charleston in 2010.  Bad news for Charleston, but great news for other markets which will benefit from Maersk redirecting that traffic.  Norfolk and Savannah should both profit from the decision.

Again, making wise investment decisions is the key here.  Any box in any port industrial market won’t get the job done anymore.