Here’s how the potential trade war between the US and China could affect India

• The US has threatened to impose tariffs on $450 billion worth of imports from China.
  
• A trade war will not only hurt India, but the rest of the world. Trade will contract, money will flow back to the US and emerging market currencies will depreciate.
  
• However, there could be an opportunity for India to expand its trade partnership with China.
  

It’s been a testy last few weeks for markets as speculation of a full-blown trade war between two global heavyweights - the US and China - has become more than just speculation. On June 15th, the Trump administration announced the imposition of a 25% tariff on $50 billion worth of goods from China.

China responded with the threat of retaliatory tariffs on $34 billion worth of US goods, which provoked an even stronger reaction from the White House. The US President promised to expand the tariffs to an additional $400 billion worth of Chinese goods.

While Trump’s rhetoric is mainly aimed at China, from which the US buys nearly four times as many good as it sells, it has also imposed tariffs on all steel and aluminium imports. This provoked retaliatory measures from prominent trading partners such as the European Union and India. For its part, India decided to impose tariffs on around 30 goods, as an attempt to earn back the $241 million it would lose as a result of the steel and aluminium tariffs.

All things considered, this is a relatively small figure. However, in a larger sense, there have been concerns over how a trade war between the US and China will affect India. While some see it as an opportunity for India, the broad consensus seems to be that all countries, including India, will be worse off if a trade war were to break out as it will hurt global growth and demand.

Slumping markets and a falling rupee

Global markets haven’t responded well to the aforementioned trade disputes. In the event of a trade war, money will leave the developing world and flow back to the US as its a safe haven. As a result, emerging market currencies stand to lose out the most as they become less of a draw for investors.

Additionally, higher tariffs on the goods that the US imports from China will result in higher consumer prices. This could cause the Federal Reserve to accelerate its rate hikes to keep inflation in check. This in turn, will attract more money to the US as investors chase higher returns on home soil.

The rupee and the major Indian stock indices, Sensex and Nifty, depreciated last week as fears of a trade war lead to panicked selling. A weaker rupee makes imports more expensive for consumers and hurts companies that import raw materials for production. In the short term, Indians might have to deal with higher prices and lower returns from the stockmarkets.

As interest rates in the US rise and countries adopt more protectionist measures, there will less foreign investment in countries like India, leading to a deterioration in capital flows. A contraction in global trade and lower cross-border flows, in turn, will hurt India’s current account deficit and deplete its foreign exchange reserves.

The difficulty of filling gaps

Some economists have explained that India could benefit from the trade war by plugging the gaps in the US’ imports from China. However, India simply does not have the manufacturing ability and competency over a range of value-added products like high-tech goods that China has.

It could increase its exports of textiles and gems, but will have difficulty meeting demand in other categories. It is already embroiled in a dispute with the US over its farmer subsidies, so the possible gains from higher agricultural exports will be limited.

Greater ties with China?

However, India could step in and meet China’s demand for certain US goods, especially agricultural commodities like soybean and sugar. This could also help it overturn the high trade deficit with China. In recent months, diplomatic ties between India and China have flourished, so the possibility of more expansive trade agreements is high.

In addition, Chinese investment in the US could be rerouted closer to home, in India. We have already seen a rising trend in Chinese investments in India’s technology sector. This could be given a significant boost if Chinese investors retreat from the US.