A PERFECT STORM. That’s what one of Washington’s top lobbyists tells me is brewing. It might blow away the decades-long consensus in favour of free trade. It is not only that the Treasury used its latest report to Congress on exchange-rate policies to warn China to unpeg its currency from the dollar, or else. The Treasury was unusually blunt: “Current Chinese policies are highly distortionary ... The peg blocks the transmission of critical price signals (and) impedes needed adjustment of international balances.”

The unstated message is: relax the dollar peg “by a magnitude that is sufficiently reflective of underlying market conditions” (read, more than 5%) within six months, or we will retaliate.

China’s premier, Wen Jiabao, says this threat will “politicise” what he calls “some problems in Sino-US trade”, making it difficult for President Hu Jintao, already concerned by a slowdown in growth in China, to make any concessions when he visits President George Bush in September.

What converts this from your garden variety trade dispute into a more significant threat to America’s relations with China, and to the Doha round of trade-opening talks, is the powerful protectionist coalition that is forming.

Republican conservatives can in most circumstances be counted on to back free trade — a belief in free markets is bedrock conservative doctrine. But these conservatives are less enthusiastic about free trade than they are worried about the threat that China poses to American interests in Asia. As they see it, that threat is magnified by the EU’s decision to end the embargo on arms sales to China imposed after the Tiananmen Square massacre. Even more important, they regard Taiwan as a key American ally, and bridle at China’s threat to attack the island if its government takes further steps down the road to independence. So don’t look to these traditional free traders to oppose protectionist measures.

Then there is the business community. With the exception of some industries that have been hurt by imports, big business can generally be counted on to stand with Bush in opposing impediments to free trade. But so pervasive has been the damage done by China’s pirating of intellectual property that the entertainment industry (music, videos, films, video games), pharmaceutical companies, software developers, manufacturers of branded luxury goods, and a host of others have been meeting in Washington to urge the president and Congress to issue a firm warning to China: crack down on pirates or we will build barriers to Chinese goods.

Add to these groups the traditional opponents of free trade, and you have a powerful protectionist coalition in the making. The trade unions and their Democratic allies have always favoured protectionist measures, often justified as needed to prevent exploitation of Asian labourers by “sweatshop” employers. With a battle brewing over the leadership of the AFL-CIO, America’s largest trade union, the existing leadership is eager to show its members that it can protect them from foreign competition, which domestic manufacturers say has cost 16,000 textile jobs.

Even the Chinese recognise the power of this coalition, which is why late last week they raised export duties on a range of textile products in an effort to head off more draconian restrictions by America.

But the tariff increase does not even begin to offset the huge labour-cost advantage enjoyed by China. So it is likely that Bush will ignore Beijing’s accusation that he is “severely jeopardising the multilateral trade system”, and go ahead with plans to impose quotas that limit the growth of imports of cotton trousers, shirts and underwear to an annual rate of 7.5%. That is a mere fraction of the surge in the first quarter of this year, when imports shot up 62.5% compared with the first quarter of 2004.

All of this has elevated minor skirmishes over trade policy into big battles. Bush is having more difficulty than he anticipated persuading Congress to approve the Central American Free Trade Agreement (Cafta). The president always knew that the sugar producers, whose generous campaign contributions find their way to more than a few congressmen, would provide formidable opposition. But he had not counted on the general weakening of support for free trade that has resulted from the brawl with China.

Nor, a few weeks ago, did it seem likely that Senator Chuck Schumer’s bill to impose a 27.5% duty on Chinese goods to offset the undervalued renminbi would pass. But efforts to kill the measure failed on a 67-33 vote in the Senate, setting the stage for a final vote in July.

What is odd is that today’s general climate is unfavourable to advocates of protectionism. The American economy is roaring ahead, creating so many new jobs that people who have been out of the labour market are re-entering and finding work. The trade deficit, although still high, seems to be dropping — down 9.2% in March. The products at issue — textiles — are those in which America has no future, and will lose market share to India and other low-wage countries if Chinese goods are kept out. Meanwhile, China continues to use the flood of dollars resulting from its sales to America to buy Treasury bonds, keeping American interest rates low and thereby fuelling the continued boom in housing that led to new home starts jumping 11% last month.

Trade watchers should focus on three dates: the July vote on the Schumer proposal; the September meeting in Washington of the American and Chinese presidents; and the October Treasury report on currency manipulation that could set the stage for retaliation. If the Chinese cannot find a way to make concessions without losing face, and Bush cannot find a way to hold off the protectionists, the free-trade system as we know it just might not survive.

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