THE ECONOMIST: China’s export controls, US tariffs cook up global supply chaos in race for battery dominance

Making a lithium-ion battery, of the sort that can power an electric vehicle, is a bit like baking a cake. The ion-rich powder is first mixed into a lump-free batter, then spread evenly on foil. The solvents must be dried in an oven, just as baking removes water, then the results must be carefully stacked. The underlying chemistry is fairly well understood. But the best battery makers, like the best bakers, improve their craft over years in the kitchen.

Many masters of this craft now reside in China. On October 9 its Ministry of Commerce said battery-makers would soon need a licence to export goods, kit or ingredients. Its new rules were part of an overhaul of China’s export controls, which also included limits on rare earths.

The regime has rattled China’s trading partners and enraged President Donald Trump. In response, he has threatened an extra tariff of 100 per cent on Chinese goods and retaliatory controls on American exports to China.

The two superpowers still seem confident of avoiding a ruinous trade crunch. China has denounced America’s tariff threat but not matched it. Officials from both countries met on October 13 and are scheduled to talk again at meetings of the World Bank and IMF on October 15.

Hopes remain that Mr Trump can strike a deal with Xi Jinping, his Chinese counterpart, on October 29 before a summit in South Korea. But for a lasting truce, each side needs to grasp its rival’s strengths and weaknesses — and its own. That does not look like it will happen any time soon.

Mr Trump seems to believe that America’s economy can withstand a triple-digit tariff on China. This is despite its experience earlier in the trade war, when America’s average levy on Chinese goods briefly exceeded 100 per cent and markets plunged. That — and China’s retaliation — proved too painful to bear for more than a few weeks. Hence America sought a truce in May.

America’s giddy stockmarket should be no source of comfort. It has rallied since April partly because Mr Trump dropped his worst threats. Stocks rebounded after a fall on October 10 because investors think he will back down again. Should he follow through with a 100 per cent tariff, all bets are off. If investors conclude Mr Trump does not fear them, they will fear him.

Nonchalant about their country’s weaknesses, American officials also exaggerate China’s. True, it suffers from low demand and persistent deflation: its factory-gate prices fell year-on-year in September for the 36th month in a row. Its growth this year has also been propped up by exports. But that does not mean China is cripplingly dependent on the American market.

In fact, China has so far had great success in switching the destination for its wares from America to other markets. In the year to September, for example, goods exports grew by over 8 per cent, even though those to America fell by 27 per cent. And if China’s overseas sales did falter, the state could fill the gap with stimulus, including greater public spending. A higher American tariff will change how China meets its growth targets, not whether it meets them, argues Larry Hu of Macquarie, a bank.

China, then, may calculate that it can endure tariff pain better than America can. But tariffs are not America’s only economic weapon. It also has its own export controls. Officials can withhold a wide range of sophisticated technologies on which China remains uncomfortably dependent.

In May, for example, America suspended the sale of equipment to COMAC, China’s domestic aircraft-maker. America could go further, denying parts for China’s fleet of Boeings, which might then struggle to get certified and insured in the West, points out Capital Economics, a consultancy. And Mr Trump has already said he will restrict exports of “any and all critical software”.

During the spat in May, America curbed the sale of electronic-design automation (EDA) software, a chip-design tool. The big three firms in this industry — Cadence, Synopsys and Siemens EDA — are all based in America and retain an 82 per cent share of China’s market, notes Morgan Stanley, another bank.

Although China has more EDA firms than any other country, none can match the breadth of services provided by the big three. America could also work with European allies to further restrict China’s access to chip-making kit.

China still fears these controls. On September 29 America announced the “50 per cent rule”, which extended its blacklist of firms to cover majority-owned subsidiaries as well.

American officials saw this as the mere closing of a loophole. Why would they have cared if China saw things differently? Well, they do now. “Think of how a child learns to fear hot things,” wrote Ren Yi, the grandson of a former Communist Party leader, on social media. “They get burned once and learn to be cautious.”

The new controls mimic America’s own. China’s licence requirements encompass foreign products made with its kit and technologies — an imitation of America’s “foreign direct product rule”. China’s definition of “advanced” chips is very near to America’s: logic chips with nodes of 14 nanometres or below, for example.

Chinese officials have long complained about the “long-arm jurisdiction” exercised by American regulators beyond their borders. Now they assert their own. Can they enforce such far-reaching rules? “Definitely,” says Mel Sanderson of American Rare Earths, a miner.

“The Chinese government has a very good grasp on who is making what, with what and selling to whom. They have been tracking things closely for quite some time.” Even if the authorities cannot trace everything, firms with any presence in China will not want to risk being caught breaking the rules.

The country’s commerce ministry was keen to point out that requiring export licences was not the same as a ban. It said it might approve broad licences and offer exemptions, so as not to disrupt supply chains too much. But it may have miscalculated, overestimating the credibility of its assurances.

On October 15 Scott Bessent, America’s treasury secretary, kept up the pressure, warning that, “If China wants to be an unreliable partner to the world, then the world will have to decouple.”

China may also have underestimated how burdensome its new requirements will be, even for customers it wants to keep serving. The new rules, for example, apply to products with even trace amounts of Chinese rare earths. Foreign firms buying permanent magnets (or coatings or catalysts) must therefore trust their suppliers to tell them whenever these elements exceed 0.1 per cent of the product’s value. The exact weight is often a trade secret.

Many of the companies covered by the new rules will not have previously applied for a licence. It will take them time to gather the required information, even if they are willing to share it.

Applications must be made in Chinese, to unfamiliar regulators. Even the annexes to the new regulations are in a format developed by Kingsoft, a Chinese software firm, rather than PDFs. The regulators, meanwhile, will have to learn about many more industries and firms. Tentativeness by low-level officials could cause greater licensing delays than China’s leaders intend.

The problems could extend well beyond the carmakers who were most visibly affected by the dispute in the spring. Some American states, for example, need high-energy batteries for their electricity grids, especially to power new data centres. If they lose access to Chinese suppliers, they will “likely have to scramble to fill this gap”, points out S&P Global, a ratings agency.

Disruption seems inevitable. Even if Mr Trump meets Mr Xi in South Korea, China is unlikely to repeal its new controls. It could offer reassurances about how they will work, or other gestures of goodwill. Mr Trump’s advisers may then urge him to declare victory, if only to avoid a tariff that will hurt America as much as China.

The world must then hope that China implements its new regime as unobtrusively as possible. There could eventually be an uneasy truce, with each side refraining from disrupting critical exports too much, for fear the other side will do likewise. But getting there will not be a piece of cake.