U.S.-China relations likely will get worse: Expert

Eurasia Group Practice Head for China and Northeast Asia Michael Hirson joins Yahoo Finance’s Zack Guzman to discuss how China vowed to retaliate after President Trump said he signed a Hong Kong sanctions bill.

Video Transcript

ZACK GUZMAN: All right, I want to shift gears a little bit here, but sticking with a major problem in terms of what investors are focusing in on right now, and that would be tensions rising with the US and China.

And on that front, we got a bit of an update from President Donald Trump yesterday, speaking to reporters and announcing an end to Hong Kong's special status with the US after he signed legislation that would sanction Chinese officials responsible for cracking down on the protests that we've seen in Hong Kong. And here's what he had to say in that update. And we'll chat a little bit more about it. Here's what President Trump had to offer.

DONALD TRUMP: This law gives my administration powerful new tools to hold responsible the individuals and the entities involved in extinguishing Hong Kong's freedom. We've all watched what happened-- not a good situation. Their freedom has been taken away. Their rights have been taken away. And with it goes Hong Kong, in my opinion, because it will no longer be able to compete with free markets.

ZACK GUZMAN: All right, so joining us now for more on what this means for tensions between the US and China is Michael Hirson, Eurasia Group practice head for China and Northeast Asia. And Michael, I mean, you just heard what the president had to say there in terms of applying pressure on China. But what does this move really signal in terms of where US-China relations are headed?

MICHAEL HIRSON: Well, clearly, the relationship is in a bad state. And I think it is probably headed for worse between now and the election. That said, I think what we see from the president himself is really a balancing act. The president is looking to tap into growing anti-China sentiment across the political establishment. And he feels like he has to take action on Hong Kong.

But you also see the president trying to preserve the phase one trade deal. And so not taking actions that would either roil markets, for example, by destabilizing Hong Kong's financial system or pushing Beijing so hard that the phase one deal collapses. So that's the balancing act that I think he's walking right now.

ZACK GUZMAN: Yeah, I mean, let's not forget this-- you know, this legislation passed Congress. So it's not as if he was acting unilaterally here and really getting this through. I guess, in your estimation, in terms of how major a step this could have been, on a scale of 1 to 10, this seems a bit watered down. I don't know if you'd call it a three or where on the scale it would come, but clearly not the most drastic action President Trump could have gone.

MICHAEL HIRSON: It's not the most drastic action. And there were media reports-- excuse me-- over the last few days that-- last few weeks, that the administration was considering action that would fundamentally destabilize Hong Kong's financial system and knock the peg of Hong Kong's dollar against the US dollar.

We were very skeptical of that because the cost, potentially the blow-back to the US and to US markets and US financial stability would not have been worth the political benefits to President Trump. But I think you're right. What we see right now is probably a 6 on that 10-point scale.

I would just caution we haven't seen the end of it. This is going to be a very tense summer in Hong Kong. There are legislative council elections coming up in September that are really a showdown. It's the opposition movement against Beijing and against the Hong Kong government.

And Congress and the administration are going to be watching that very closely. So that will come into play in particular with how they implement these sanctions. And so there are risks. We are not out of the woods.

ZACK GUZMAN: And as we've kind of been talking about, even-- it seems like those risks would extend even beyond the election here in the US, whether it is President Trump or Joe Biden who would win that, because we have seen this kind of become a bipartisan issue in terms of holding China accountable.

So what's your take on maybe how it might, I guess, shift here in terms of whether or not those attacks are more, I guess, you know, human rights-based or economic-based in terms of how the US wants to really take on China?

MICHAEL HIRSON: No, I think that's a great point. If we are in a Biden administration, there is not going to be a fundamental reset of the relationship. There's no going back to the pre-2016 period. Because a lot of this is not about Trump. It's about a growing rivalry and a growing clash of values.

So these risks that we see in terms of decoupling between the US and China in the technology sphere, US and multinationals getting caught in this political bind between the two sides on issues like Hong Kong and Taiwan and human rights, this is the new normal.

And I think there is-- you know, we have to think about still a tail risk, but a possibility of even sharper conflict between the US and China over issues like Taiwan and South China Sea if we're looking out over into the medium term.

ZACK GUZMAN: Yeah, and I think, you know, obviously, I think the market has been watching this all play out. And obviously, there are risks that could come with the falling apart of the phase one trade deal, as you mentioned. But even beyond that, there's the risk of how China would choose to take countermeasures in this.

They did threaten if the US continues such action, China will resolutely take countermeasures. I mean, it's pretty clear what the foreign ministry is saying in that statement. But what are those countermeasures that you would foresee coming, if this is to become, as you said, the new normal and, really, intensify as we continue to move along in 2020?

MICHAEL HIRSON: Well, I think Beijing is also exercising some degree of restraint as well. They would like to see the phase one deal stay in place.

So when China talks about reciprocal measures, I think they're alluding to actions like they took last week when the US sanctioned Chinese officials over Xinjiang over the treatment of the Uighur Muslim minority population, where China placed several US members of Congress on their sanctions list and their travel ban. I think it's very likely that we see something similar.

So, in the grand scheme of things, it's a bit of political theater on the Chinese side. But, you know, I think the danger here that the markets tend to view the phase one deal as a sign that things are staying in check.

And there's a truth to that, but we need to recognize the two sides are already taking actions against each other in ways that have real impact on firms and global supply chains. You just look at the US strike against Huawei and other Chinese technology companies. These are not as easy to price for the markets as something like tariffs are, but they're very impactful, especially over the medium to long term.

ZACK GUZMAN: Yeah, very good points. And obviously, this is a story that's not going to go away. So we'd love to have you back on to discuss the updates that we get. But Michael Hirson, Eurasia Group practice head for China and Northeast Asia, appreciate you taking the time.

MICHAEL HIRSON: Sure.