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"China has been running an economic war against the industrial democracies for now 20 years," said the hardline ex-White House chief strategist, who helped craft Trump's nationalist message.
Bannon said previous presidents — Bill Clinton, George W. Bush and Barack Obama — passed the buck on addressing and fixing the problems of China's protectionist economy. But Trump is not shying away from the fight, he added.
"There is no chance that Donald Trump backs down from this. I think he's looking at the good of people on a global basis," Bannon said in the "Squawk Box" interview.
Under Trump, Washington has taken a tougher stance on China than his recent predecessors. In addition to disputes around trade and the alleged Chinese theft of U.S. intellectual property, American intelligence chiefs expressed their distrust of Chinese tech giant Huawei and Chinese telecom company ZTE.
The standoff with China "cuts to the core of what the United States is going to be in the future," Bannon said. "With 'Made in China 2025,' 'one belt-one road,' and Huawei's 5G rollout, this is a master plan to become an economic hegemon, " he added, referring to Chinese policies on its economy and trade.
U.S. officials have repeatedly said the Chinese stock market and economy have suffered more than those in the U.S. from the tariff fight, and will continue to bear the brunt. On Wednesday, China reported surprisingly weaker growth in retail sales and industrial output for April, adding pressure on Beijing to roll out more stimulus as the trade war with the United States escalates.
"We have all the cards," Bannon said. "The Chinese business model cannot continue. It won't continue."
For its part, China's Communist Party has remained defiant, putting out a rallying cry in state media.
The deal that Trump has said China backed out of was not really about trade, Bannon said. "They refused and basically walked away from the deal because they understood that they've been running an economic war in this. And this is not a trade deal. This is a truce in an economic war, an armistice so to speak, and that they weren't prepared to do it."
With trade talks at a stalemate, the U.S. is considering putting tariffs on the remaining billions and billions of dollars worth of Chinese goods coming into the U.S. Last week, the Trump administration followed through on its threat and increased duties on $200 billion worth of Chinese products from 10% to 25%. On Monday, in retaliation, China announced plans to raise tariffs, some to as high as 25%, on $60 billion in U.S. goods.
Trump's tweets and tough public rhetoric aside, negotiators for both sides — led by U.S. Trade Representative Robert Lighthizer and China Vice Premier Liu He — need to get behind closed doors, "take the heat down" and work hard on getting an agreement, Bannon said. "This is not going to take place overnight."
Addressing a question about whether the Chinese would have rather negotiated with Treasury Secretary Steven Mnuchin than China-hawk Lighthizer, Bannon praised Lighthizer. "There is no gap between Lighthizer and President Trump."
Since May 5, when Trump surprised investors with tweets threatening higher tariffs on China, the S&P 500 had lost about $1.1 trillion in value — the type of decline that if it were to persist could put a real drag on U.S. economic growth. The index made some of that back with Tuesday's nearly 1% recovery after Monday's 2.4% decline. Despite the knock from trade concerns, the S&P 500 was still only 4% away from its May 1 all-time intraday high as of Tuesday's close, and up more than 20% since the 2018 low on Christmas Eve.
The China dispute certainly makes for strange bedfellows, with Trump facing calls from allies on Wall Street and free-trade conservatives to reach a deal. U.S. stocks opened lower Wednesday. Meanwhile, Democrats including Senate Minority Leader Chuck Schumer are urging the president to extract the most concessions possible from China.
Bannon, a Goldman Sachs alum who became a proponent of nationalism, said he believes the China issue will frame the 2020 presidential campaign in favor of Trump. "This is history in real time. This is the most significant thing that any president can possibly do," he said, adding that Trump won't bow to the pressure and make a superficial agreement that doesn't address all the ways Beijing is cheating economically.
— CNBC digital correspondent in Singapore Yen Nee Lee and Reuters contributed to this report.