The U.S.-China trade war has entered a dangerous new phase. Tariffs are up and there’s the threat of more to come. A quick fix is still possible, with Presidents Donald Trump and Xi Jinping set to meet at the G-20 summit next month. But at this point, it looks more likely that the trade war will be long, messy—and expensive.

Bloomberg economists Dan Hanson and Tom Orlik have mapped out the main scenarios. Their headline conclusion: If tariffs expand to cover all U.S.-China trade, and markets slump in response, global GDP will take a $600 billion hit in 2021, the year of peak impact.

On May 10, the U.S. took tariff rates on $250 billion of Chinese exports to 25%. Retaliation was swift, with China raising tariffs on certain U.S. goods in a range from 5% to 25%. Two years out, Bloomberg Economics’ modelling suggests that output in China and U.S. would be lower by 0.5% and 0.2% respectively, relative to a no-trade-war scenario. Global output would also come down a notch.

What about if tariffs increase? The U.S. has threatened 25% tariffs on all Chinese imports if a quick deal can’t be achieved. Such a move would surely be answered. “If you want to talk, the door is open; if you want to fight, we’ll fight to the end,” said a Chinese TV anchor, capturing the mood in Beijing.

Plugging in 25% tariffs on all bilateral trade, the model shows output declines of 0.8%, 0.5% and 0.5% for China, the U.S. and the world in mid-2021.

Financial markets are already wobbling with each new trade-war headline, and China’s stock market in particular has seen a spate of sharp daily moves. Even so, equities in both China and the U.S. are up on the year, suggesting investors are still betting a deal will be done. If they’re wrong, and heavyweights like Apple get slapped with tariffs, that raises the possibility of a sharp correction.

Hanson and Orlik’s nightmare scenario adds a 10% equity market drop to the across-the-board 25% tariffs. In that case, China, U.S. and world GDP would be 0.9%, 0.7% and 0.6% lower in mid-2021. In this situation, the equity market drop acts as a further headwind to consumption and investment, compounding the impact.

The fallout from any of these scenarios would spread well beyond the U.S. and China, the world’s two biggest economies. Bloomberg economist Maeva Cousin has used a unique data set from the Organization for Economic Cooperation and Development to examine who’s most exposed.

Her analysis shows the worst blows from a drop in China’s exports to the U.S. would fall on Taiwan, South Korea and Malaysia—all embedded in Asia’s export supply chain. About 1.6% of Taiwan’s output is tied up in China’s exports to the U.S, with computers and electronics accounting for the largest share. For South Korea and Malaysia, those numbers are 0.8% and 0.7%, with the same industries in the crosshairs.

Industries Most Exposed to Chinese Exports

Share of 2015 industry output dependent on Chinese exports to the U.S.
  • Top affected industry
Rank
1
China
4.71
4.99
5.28
5.44
11.97
4.15
4.37
4.70
6.34
5.19
2.36
0.68
2
Taiwan
1.35
1.14
2.19
2.42
5.81
0.67
0.11
0.50
0.97
1.75
0.46
0.14
3
South Korea
1.03
1.08
1.32
1.36
4.36
0.48
0.24
0.56
0.56
0.91
0.32
0.07
4
Malaysia
0.57
1.25
1.01
1.29
3.87
0.25
0.15
0.62
0.54
0.93
0.28
0.04
5
Singapore
0.57
1.07
1.18
3.14
0.30
0.23
0.65
0.63
0.69
0.58
0.12
6
Thailand
0.50
0.51
0.91
1.14
3.21
0.26
0.09
0.34
0.33
0.58
0.20
0.03
7
Chile
0.43
2.58
0.38
0.37
0.21
0.31
0.03
0.30
0.67
0.34
0.17
0.04
8
Philippines
0.29
1.33
0.42
0.54
4.21
0.06
0.12
0.35
0.20
0.56
0.18
0.03
9
Vietnam
0.65
0.53
0.61
0.66
1.69
0.47
0.09
0.36
0.32
0.45
0.17
0.04
10
Saudi Arabia
0.90
0.41
0.68
0.92
0.01
0.02
0
0.01
0.04
0.18
0.03
0
Note: Data reflects each industry’s share of gross value added exposed to bilateral U.S.-China trade.

Flipping the lens around, Cousin’s analysis also shows which countries are most dependent on U.S. exports to China. Canada and Mexico top the list, though as a share of total output the exposure is smaller than is the case with China’s Asian neighbors.

Industries Most Exposed to U.S. Exports

Share of 2015 industry output dependent on U.S. exports to China
  • Top affected industry
Rank
1
United States
2.53
2.52
2.39
3.63
5.06
3.11
4.53
4.40
0.85
2.06
0.83
0.32
2
Canada
1.11
0.86
0.42
0.95
0.25
0.25
0.27
0.49
0.20
0.21
0.09
0.02
3
Mexico
0.51
0.45
0.23
0.87
0.66
0.12
0.28
0.85
0.08
0.21
0.05
0
4
Ireland
0.15
0.12
0.17
0.15
0.09
0.07
0.02
0.27
0.06
0.07
0.08
0.01
5
Saudi Arabia
0.26
0.03
0.04
0.04
0.01
0
0
0.01
0.01
0.01
0
0
6
Taiwan
0.10
0.14
0.14
0.32
0.16
0.04
0.09
0.19
0.07
0.09
0.04
0.01
7
Singapore
0.05
0.15
0.10
0.16
0.03
0.13
0.17
0.06
0.08
0.07
0.01
8
Colombia
0.54
0.30
0.05
0.39
0.06
0.05
0.02
0.07
0.10
0.05
0.03
0.01
9
Malaysia
0.04
0.07
0.11
0.15
0.26
0.03
0.03
0.24
0.05
0.08
0.03
0
10
Chile
0.07
0.24
0.12
0.08
0.04
0.11
0.03
0.07
0.08
0.06
0.03
0.01
Note: Data reflects each industry’s share of gross value added exposed to bilateral U.S.-China trade.

An escalating trade war would impact foreign exchange markets through multiple channels: shifting trade flows, as well as expectations on growth and monetary policy. Bloomberg economist David Powell combined the OECD data on country exposure with in-house calculations of foreign-exchange over- and under-valuation to show which currencies are most vulnerable. The currency valuations are based on the International Monetary Fund’s real effective exchange rate index model, which adjusts for inflation.

With China the biggest potential loser from the trade war, the yuan—already overvalued according to Powell’s model—stands out, along with the Thai baht and Canadian dollar.

Editor: Andre Tartar