Penn's Jacques deLisle and Wharton's Minyuan Zhao discuss the likely outcomes of President Trump's meeting with Chinese President Xi Jinping.

The much-awaited meeting between U.S. President Donald Trump and Chinese President Xi Jinping got off to a warm start on Thursday at the Mar-a-Lago resort in Florida. But more troubling issues will surface as the meeting extends into Friday, with either side trying to strike hard bargains on trade, containing North Korea and Chinese investments in the U.S.

Jacques deLisle, Penn professor of law and political science and director of the Center for East Asian Studies, and Wharton management professor Minyuan Zhao discussed the major issues facing the two countries and the possible outcomes from the meeting on the Knowledge at Wharton show on Wharton Business Radio on SiriusXM channel 111. (Listen to the podcast at the top of this page.)

Here are the key takeaways from their discussion:

High Stakes on the Table:

According to Zhao, geopolitics and trade issues would dominate the talks. North Korea is at the top of the list, and issues related to the South China Sea could also come up, said deLisle. “On the Chinese side, the concern is about managing downside risk,” he added.

Xi faces pressure to demonstrate his credentials ahead of the Communist Party’s 19th Congress later this year, where he faces a re-election as general secretary of the party, deLisle noted. “Xi has to show to his party that he is tough,” he said. Against that setting, he has to avoid “an economic blowup” with the U.S. on trade and accusations of currency manipulation, while securing a mutually acceptable arrangement on dealing with North Korea’s rogue regime, and securing some U.S. reaffirmation of the One-China policy on Taiwan, among others. “It’s mostly not to have anything bad happen.”

“The world is scratching its head [as to what] the two countries are trying to do.” –Minyuan Zhao

Zhao noted that both countries have set the rest of the world on a guessing game as to how they would relate to each other, with conflicting statements on various issues including trade, globalization and security issues such as tensions over China’s military activities in the South China Sea. “The world is scratching its head [as to what] the two countries are trying to do,” she said. “If anything comes out of this meeting, they will hopefully send a signal to their home countries as to where they stand.”

Contrast with the Abe Visit:

According to deLisle, the Chinese are closely studying the “success” of a February visit to Mar-a-Lago by Japanese prime minister Shinzo Abe. They have taken note of the change from Trump the campaigner to Trump the president with respect to Japan, he added. Trump had taken to bashing both China and Japan while on the campaign trail, but he adopted a cooperative approach in his meeting with Abe.

Zhao didn’t expect Trump to score much in raising the issue of the U.S. trade deficit with China. That trade deficit is similar to borrowing by the U.S., where China collects IOUs for its exports, she said. In fact, China has a complaint that instead of hard cash for its exports to the U.S., it receives IOUs that could lose value over time, she pointed out. As it happens, the U.S. trade deficit with China decreased in February over that of January 2017, thanks to lower U.S. imports from China and higher U.S. exports, according to the latest U.S. Census Bureau report on Tuesday.

Zhao said China has taken an unfair share of the blame for the trade deficit. “China has been the assembly site for all the components from [other countries like] Germany, Japan, Korea and the Philippines; it puts them together and ships them to the U.S.,” she said. In reality, China’s input in the final product’s value may be just 2% or 3%, she added. For example, Chinese labor accounts for just 2% of the total value of the iPhones produced in that country, she pointed out.

Wrong Economic Issues Targeted?

According to deLisle, there is “a curious misalignment” between what should be the economic issues and what Trump has on his agenda for the Xi Jinping visit. For example, he agreed with Zhao that the bilateral trade deficit between the two countries is “meaningless,” as many components of the products China exports to the U.S. come from other countries. He also found Trump’s charge that China indulges in currency manipulation to be a non-issue. “The renminbi is not way out of line,” he said, adding that China is on track to make it free-floating and allow its value to be market-determined.

The issues that Trump must focus on are Chinese industrial policy that promotes certain industries and creates an uneven playing field for U.S. firms going into China. He also listed a variety of “mercantilist and somewhat protectionist policies” that have indirect effects. Trump and Xi could have “meaningful discussions” on many nationalistic policies disguised as industrial policies, said Zhao. She noted that it’s “very hard” to gauge the real intent of the two leaders. She pointed to Xi talking about globalization, the One Belt, One Road project and about China taking a leadership role in free trade negotiations, while continuing with policies that fly in the face of the spirit of free trade.

“Xi Jinping has to show to his party that he is tough.” –Jacques deLisle

“China has been using the U.S. as an excuse for some nationalistic policies,” said Zhao. For example, the country cites U.S. actions against China’s technology company Huawei or on other fronts to justify retaliatory action against companies like Cisco or Intel, she added. She hoped that face-to-face communication could help reduce the distrust between the two countries.

It isn’t uncommon in such meetings for some “showcasing of economic activity,” deLisle noted, referring to earlier reports about China’s interest in investing in U.S. infrastructure. China doesn’t want to be left out of Trump’s plan to invest $1 trillion in U.S. infrastructure, he added. However, Trump has also called for increased scrutiny of Chinese investments and acquisitions in the U.S., Zhao pointed out.

Brain, not Brawn:

Zhao noted that China has begun to focus on automation, R&D, deep learning, artificial intelligence and other knowledge-intensive industries. She said the mentality now gaining ground within the country is: “We’re not going to produce shoes and clothes, but [instead] produce the machines that produce the shoes and clothes.”

DeLisle added that China is now focusing also on IT, robotics and clean energy, which he saw as the right approach, given the country’s aging population. “They must focus on the brain jobs and not the brawn jobs,” he said. “The real threat to the U.S. is not the nominal trade deficit or the manipulated currency; it’s that China is catching up on all these industries, partly by IT theft, partly by indigenous development, partly by industrial policy that encourages local development and local purchasing, and partly by acquisition.” He noted that Chinese companies have of late begun acquiring IP-intensive companies. Earlier this week, China National Chemical Corp., or ChemChina, received antitrust approval from the U.S. Federal Trade Commission to acquire the Swiss agrichemicals, seeds and biotechnology company Syngenta in a $43 billion deal.

The North Korea Dilemma:

The situation with respect to North Korea is “intractable,” according to deLisle. “North Korea has chosen a strategy of survival by being dangerous,” he said. The chief problem facing Trump and Xi here is that both countries have “fundamentally different concerns” about North Korea, he added.

“China has been using the U.S. as an excuse for some nationalistic policies.” –Minyuan Zhao

“China has gotten impatient with [North Korean leader] Kim Jong-un, and it is embarrassing to be propping him up all the time. He gives them headaches, and he costs them some money in terms of support,” said deLisle. “China’s bad-case scenario is a disorderly collapse of the North Korean regime, unification under South Korean leadership, which is a U.S. ally, and a flow of refugees.”

The U.S. bad-case scenario is the proliferation of nuclear weapons in North Korea, the country’s ability to threaten the U.S. with nuclear missiles, and its ability to cause destruction in the region, deLisle continued. “When you have such different bad-case scenarios, it is very hard to get cooperation.” For now, Xi Jinping needs to decide how seriously China should take U.S. Secretary of State Rex Tillerson’s statement last month that the period of “strategic patience” was over and that the U.S. may have to take direct, unilateral action against North Korea.

Zhao compared the North Korea situation to a game theory proposition that there is a strategic advantage to playing mad, even if you are not. “One possibility is that they are playing mad and the second is they are truly mad,” she said. The strategic response would be different in either of those cases, but one cannot tell one from the other, she added. “The Chinese leadership hates the status quo of what’s going on here, but they hate the alternative even more.” Zhao said the risk of being very tough on North Korea is that “you are going to irritate a truly mad man and have really bad consequences.”