China: U.S. Preparing Retaliatory Measures

Published on May 5, 2020
SGH Insight
*** Over the weekend, senior sources in China conveyed that they believe the Trump administration will, indeed, move forward with threats to impose sanctions on China. And right on cue, U.S. Senator Lindsey Graham has prepared legislation to put forth this week, most likely Thursday, that will propose sanctions on China in retaliation for that government’s role in hiding, and thus fueling, the COVID-19 pandemic. ***

*** The potential U.S. retaliatory policies being weighed include these sanctions that we believe will target identified individuals or institutions, rather than broad economic tariffs, although its potential timing is being complicated by the scheduled implementation of the “Phase 1” trade agreement, even as President Trump seeks to keep the threat of renewed tariffs also on the table.
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The administration of U.S. President Donald J. Trump, with the help of Congressional allies, is weighing a series of retaliatory measures to hold the Chinese government accountable for the human and economic devastation that resulted from Beijing’s lack of transparency over the onset and spread of the deadly COVID-19 disease from Wuhan.

The White House plans are tentative, and only just starting to be hatched, but even the specter of rising tensions with China has been enough to spook financial markets and to elicit a response from Beijing.

*** Over the weekend, senior sources in China conveyed that they believe the Trump administration will, indeed, move forward with threats to impose sanctions on China. And right on cue, U.S. Senator Lindsey Graham has prepared legislation to put forth this week, most likely Thursday, that will propose sanctions on China in retaliation for that government’s role in hiding, and thus fueling, the COVID-19 pandemic. ***

*** The potential U.S. retaliatory policies being weighed include these sanctions that we believe will target identified individuals or institutions, rather than broad economic tariffs, although its potential timing is being complicated by the scheduled implementation of the “Phase 1” trade agreement, even as President Trump seeks to keep the threat of renewed tariffs also on the table. Another policy option is implicit support to private sector lawsuits – analogous to the 9/11 lawsuits against Saudi Arabia — against Beijing for damages related to the COVID-19 pandemic, in seeking to lift sovereign immunity for China under international law. ***

*** A third retaliatory move is the bi-partisan legislation making its way through Capitol Hill to bring industrial supply chains back to the United States or to “non-hostile” third countries. That legislative path is complicated by the ongoing U.S. dependence on China for badly needed medical and pharmaceutical supplies and may end up instead in a “Buy American” executive order passed by President Trump, already drafted and under legal review. And finally, there is also advancing political movement, most likely again through executive order, to preclude the U.S. government pension fund, the Thrift Savings Plan, from investing about $50 billion in an MSCI Index that includes Chinese shares. ***

China is hardly likely to remain passive in countering the US, and international, pressure, and we understand Beijing is preparing a “Ten Questions” rebuttal of its own against the mounting calls across the globe for an independent panel to investigate the origins of the COVID virus. The intent of those questions, excerpts included below, will be to insinuate that the virus may not even have originated in China.

Sanctions Pressure Mounting

As might be expected, officials in Beijing link the likelihood of sanctions directly to President Trump’s re-election prospects and campaign, and vow to retaliate in a “tit for tat” fashion if those are to be imposed.

But from what we gather in Washington, the prospect for sanctions on Beijing should be taken seriously indeed, even as the U.S. struggles to cautiously re-start its shattered economy, state by state, after a two-month long freeze.

For one, we understand South Carolina’s influential Republican Senator Lindsay Graham, a close confidante of President Trump’s, has been on the front lines in pushing for sanctions on China, drawing perhaps in no small part on his experience in dealing with Iran and other hostile regimes. In this, we believe Graham is supported in the administration by fellow hawk, Secretary of State Mike Pompeo, among others, and by President Trump himself.

Senator Graham has expressed some reservations in private over imposing sanctions without the support of America’s European allies, but that ship has since sailed. The European Union, Australia, and the UK have also started to shift away from China, fueled in no small part by an aggressive, heavy-handed propaganda campaign out of Beijing that is clearly intended to deflect responsibility for its handling of a pandemic that crushed the EU, perhaps, worst of all.

As to concerns over the potential economic and market fallout from sanctions, these are seen to be distinct from broad economic tariffs in that we believe they would be targeted at individuals or institutions, as was the case for Huawei or ZTE, and not at imports. The door is, however, open even to a return of the tariff threat against China, a favored tool of Trump’s.

The White House nevertheless appears hesitant – at least for now – to go down the tariff path so long as both sides can still pay lip service to the hard-fought Phase 1 trade agreement that was struck by the two countries’ trade negotiators last year, implausible as meeting those targets now is.

That charade may not last long, and even the targeted sanctions alone will be an explosive measure, and one that is sure to elicit a strong response from Beijing.

Lawsuits and Sovereign Immunity

A separate, and equally explosive measure under consideration by the White House is to tacitly, if not openly, allow private sector lawsuits against Beijing for damages related to the COVID-19 pandemic, through the lifting of sovereign immunity for China.

We suspect the Trump administration will think twice, and ultimately refrain from messing with a major tenet of international law like that, but the template here could follow that of the private lawsuits that have been lodged over the years against the Saudi government over the 9/11 terror attacks, without the explicit approval of the U.S. government.

Those lawsuits, with usually sympathetic rulings by local courts, have no extra-territorial jurisdictional of import, but have nevertheless cast a shadow over Saudi enthusiasm for holding assets in the United States which could, potentially, suddenly come subject to confiscation – as was the case with Iranians assets held in the United States after the 1979 Islamic revolution.

Just in case, sources in Beijing have been quick to push back on any notion that the sovereign immunity blanket could be lifted over China.

According, they maintain, to the “no jurisdiction” principle between sovereign states derived from the principle of “sovereign equality,” the court of one state does not exercise jurisdiction over another state, which is why it is called “sovereign immunity.”

China, they say, adheres to “absolute sovereign immunity,” which rejects any jurisdiction of foreign courts. And even in the case of the U.S.’s “relative sovereign immunity,” which allows for a commercial activity exception to sovereign immunity, China’s outbreak and control prevention is claimed to fall under government action rather than commercial activity, and as such also enjoys sovereign immunity.

While perhaps a tad garbled, the point is well taken.

“Made in America,” and Supply Chains

But perhaps one of the most serious long-term threats to the Chinese economy outside of the military and geopolitical realm is the movement to bring industrial supply chains back to the United States, or if not home, to third-countries not deemed to be hostile, as the Trump administration has labelled China.

National Economic Council Director Larry Kudlow raised alarm bells in Beijing last month when he suggested sweeping tax incentives for any company that was ready to repatriate its operations to the U.S., and even to fully subsidize their moving expenses “back home.”

While that particular, and hugely ambitious, idea has been largely ignored by markets, Kudlow’s remarks reverberated through Zhongnanhai, to the Politburo and President Xi Jinping himself, as a sure sign of an inevitable, secular shift that Beijing will have to contend with long after the Trump administration has left office (see SGH 4/16/20, “China: A U.S. Supply Chain Salvo”).

On the more immediate horizon, the COVID-19 crisis has highlighted the struggle to obtain necessary pharmaceutical and medical supplies from China, and has accelerated calls in Congress to pass a more targeted, bipartisan, bicameral bill spearheaded by Republican Florida Senator Marco Rubio – the “Strengthening America’s Supply Chain and National Security Act” — originally introduced in 2019, and revised on March 19 of this year to address U.S. vulnerabilities to the drug supply chain in particular.

Rubio has been joined in this bill, intended to reprioritize the “Buy America Act,” by Republicans and Democrats alike, attracting bedfellows as politically divergent as Democratic Massachusetts Senator Elizabeth Warren, and with a companion bill presented in the House of Representatives.

The only issue, ironically, is trepidation that the bill could jeopardize those very supply chains it is seeking to displace, right in the middle of the COVID crisis.

In light of that, White House trade advisor and noted China hawk Peter Navarro was ready as recently as last week to bypass Congress and present a “Buy American” Executive Order for signing to President Trump.

But that order, which included a mandatory requirement that government agencies buy domestically produced pharmaceuticals and supplies, has been blocked by the National Security Council, ostensibly over legal concerns, but perhaps also in response to concerns that the middle of the COVID crisis might not be a good time to risk U.S. supplies from China.

We expect its time also will come, very soon.

Financial Market Pressure

Retaliation against China has spilled over into the regulatory, and financial sectors as well.

In a high profile, and controversial move last year, Senator Rubio, again with strong bipartisan backing, proposed legislation to block the federal government’s savings fund, the Thrift Savings Plan, from transferring around $50 billion, or roughly 10% of its $550 billion in assets, to an MSCI All Country World Index that includes allocations to China, originally scheduled by the Federal Retirement Thrift Investment Board (FRTIB) for implementation in mid-2020.

That pressure went hand in hand with Rubio’s “Equitable Act,” also introduced last year, with senators Kirsten Gillibrand (D-NY),  Bob Menendez (D-NJ), and Tom Cotton (R-AR), that would ban foreign firms that refused to comply with U.S. Public Company Accounting Oversight Board (PCAOB) audits from listing shares in the United States (see SGH 9/30/19, “China: A ‘Mini-Truce,’ with Major Tensions”).

The bulk of those firms, of course, are Chinese: the US-China Economic and Security Review Commission has identified 156 Chinese companies, including eleven state owned enterprises, which are listed on America’s three major exchanges, with a combined market capitalization of $1.2 trillion.

With market volatility in mind, it seems unlikely that either Congress or the administration will mess around with exchange listings by re-opening the Equitable Act now. But with smaller dollars at stake, President Trump, from what we understand, is likely to invoke executive order and block the Thrift Savings Plan from investing in the Index that includes Chinese shares – which by some estimates represents around $2.5 billion of the $50 billion allotment intended for allocation into the MSCI All Country World Index.

Obfuscation and Deflection

Meanwhile, China is lashing out at U.S. requests for an independent investigation into its handling of the COVID-19 crisis and has prepared a response to the U.S.-led inquiry with a set of “Ten Questions” of its own.

For a sense of that rebuttal, from what we understand, China’s list will include innuendo-laced questions such as:

  • US intelligence officials warned of the COVID-19 crisis as early as last November – why were the warnings ignored?
  • The US Department of Health and Human Services ran a scenario last year resembling the COVID-19 outbreak – is this just a coincidence?
  • Among the influenza related deaths in the U.S., can the U.S. clarify how many cases are infected with COVID-19?
  • When did the novel coronavirus first really appear in the United Sates?
  • Did community transmission of the coronavirus start sooner than it was reported?
  • How did the U.S. get the virus strain so early as to start the first human testing of a vaccine against COVID-19?

Beijing will look to further obfuscate the origins of COVID-19 with claims that there is no proof it originated in Wuhan, Hubei province, and will point to new studies by the Pasteur Institute in Paris, and one by a team of geneticists in Oxford University, England to make the case that some local outbreaks could have occurred earlier than originally thought – implying that they were locally born, and not imported from China.

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