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Gathering Storm: America and China in 2020

E ach week adds a new item to the growing list of grievances between the United States and China. The value of China’s currency, arms to Taiwan, human rights in Tibet, carbon emissions, military spending, sanctions on Iran, cyber attacks, and, of course, North Korea have all made headlines in the past few months. But there are far more profound problems that tend to get covered up by this landslide of daily disagreement, problems that raise the specter of a new kind of cold war. The most fundamental is Beijing’s newfound belief that there has been a substantial shift in the balance of power within its relationship with America, and that the United States is no longer indispensable to China’s development. Added to that is China’s deepening commitment to a state-driven form of capitalism that increasingly pits the two counties in a zero-sum competition for resources and wealth.

There is still considerable mutual dependence in U.S.-Chinese relations, grounded mainly in the complex commercial ties of the two nations. But there are also risks that are more dangerous for Washington than anything produced by the long U.S.-Soviet stalemate. The Berlin Wall separated East and West, but it also acted as a kind of shock absorber, ensuring that economic bankruptcy on the Communist side had little impact on the freer world. There is no such buffer between China and the United States. The financial crisis of the past twenty months has produced significant aftershocks in China. And in the coming decade, economic developments inside China will have profound implications for America’s financial well-being—and, therefore, its security.

The risk of an intensifying cycle of recrimination between the two sides is increasing; such a cycle could take on a life of its own, growing beyond the ability of the two governments to contain it. To manage this risk, U.S. policymakers should find every available means over the next decade to ensure that American economic and military power remains indispensable to China’s rise, a strategy that will require considerable patience, political maturity, and more than a little good luck. But they must also enlist friends and allies to ensure that where U.S. and Chinese interests diverge, it is the latter, not the former, that ends up isolated.

 

F or three decades, Washington and Beijing have defied predictions of an inevitable conflict, mainly because American power has helped support China’s rise by providing customers for its exports, predictability in East Asian security, and protection for international sea-lanes—and because China’s success has created lucrative long-term opportunities for American companies and provided low-cost products for U.S. consumers. In the late 1970s, the Chinese leadership began to experiment with capitalism and to slowly open the country to trade and investment. The massacre in Tiananmen Square in June 1989 put plans for expanded commercial ties on hold, and, as European Communism began to implode later that year and the Soviet empire collapsed in 1991, China’s hard-liners, fearing a similar loss of political control, slowed the drive for market liberalization. But in 1992, an increasingly frail Deng Xiaoping put market reform back on track with his “southern tour” of China’s special economic zones, the enclaves of managed capitalism his government had opened to foreign investment years before. In the 1990s, Jiang Zemin used the momentum Deng had created to accelerate China’s development as an export powerhouse and a magnet for Western investment.

Champions of market reform within the Chinese leadership used the collapse of European Communism as a different sort of cautionary tale by making the case that only by delivering on the promise of an ever-rising standard of living could Beijing succeed where Moscow had failed, allowing the leadership to maintain its monopoly on domestic political power. Mikhail Gorbachev had tried to invigorate the Soviet economy by reforming Soviet politics. China’s leaders attacked the problem from the other side, reforming the economy to ensure long-term political stability. China’s own experience had proven that no state can simply mandate growth. The creation of jobs meant empowering manufacturers to sell products to those who could afford to buy them by winning access to consumers in the world’s largest markets—America, Europe, and Japan. It meant welcoming foreign companies and investors on an unprecedented scale. It meant an irreversible drive toward capitalism that has only intensified in the years since this strategy was put in place.

The 1990s marked an important shift in China’s relations with America. As a candidate for president, Bill Clinton had denounced China’s leaders as “butchers” in the aftermath of Tiananmen Square. Once in office, he acknowledged the unique power of trade with China to fuel U.S. growth. American manufacturers won access to low-cost Chinese labor and the world’s most promising new market, and the flood of Chinese imports provided Americans with newly affordable consumer products that helped keep inflation in check. In March 2000, Clinton signed legislation that granted China “permanent normal trade relations.” The U.S.-Chinese trade relationship had become too big to fail.

To fuel the next phase of China’s growth, the party committed in the late 1990s to a policy known as “Go Out,” a concerted state push to send Chinese companies abroad to establish new trade ties and to lock up long-term supplies of the energy and other commodities on which future economic growth would depend. In 2001, China formalized its commercial ambitions by joining the World Trade Organization, a commitment that gave Beijing all the more reason to value American power and Washington’s willingness to use it. Developing trade and investment relationships with potentially volatile emerging states in Africa, the Middle East, Southeast Asia, and Latin America—and depending more than ever on sending tanker traffic through troubled waters—exposed China to unprecedented levels of foreign political risk. America’s role as global policeman helped open and maintain trade routes and sea-lanes for Chinese companies. Expanded access to American purchasing power helped China’s economy create millions of jobs. In short, by protecting China’s hard-won gains and allowing it to build a capitalist future on a solid foundation, American power—hard and soft—proved indispensable for China’s expansion, and China’s growth kept America’s good times rolling.

China’s commitment to foreign trade and investment has generated an astounding three decades of double-digit growth, a trend impressive enough to inspire some to believe that it just might last forever. Western firms, large and small, are now banking on the promise of steady long-term profits as China develops what is expected to become the largest middle class in history. This investment boom has also lifted a fast-growing number of Chinese companies onto the commercial playing field, inside China and around the world.

 


Y et over the past several years, China’s leadership has also been forced to embrace the natural volatility and often toxic side effects that come with decades of hypertrophied growth in a developing country. Rapid industrialization has done enormous environmental damage, displaced huge numbers of people, and widened wealth gaps between increasingly affluent coastal cities and the slower-to-develop interior. Among the results has been an annual spike in the number of large-scale public protests across the country. To engineer a more “harmonious” economic expansion, President Hu Jintao and Prime Minister Wen Jiabao have crafted a more direct state role in managing capitalist growth, one that allows the political bureaucracy much greater control over how and where jobs are created, to whom and how much banks lend money, and which companies dominate strategically important economic sectors. In other words, certain that command economies are doomed to fail but fearful that truly free markets will spin out of control, the leadership has invented something new: state capitalism with Chinese characteristics.

Beijing continues to rely on a wide variety of state-owned companies in several economic sectors to secure long-term access to the resources China will need to feed future growth, to develop China’s technological prowess, and to create jobs in decades to come. China’s finance ministry has reported that state companies produced $3.3 trillion in sales in 2009, about seventy percent of the country’s GDP.

The bureaucracy uses select privately owned companies to dominate key industries. They use sovereign wealth funds, created from the country’s enormous reserves of foreign currency, to direct huge flows of capital. In sum, China’s political leaders are using markets to create wealth that can be used to maximize state control of the next phase of the country’s development—and their own chances of political survival. This is a form of capitalism in which the state uses markets primarily for political gain. It is a model that has so far proven strikingly successful.



T he financial crisis and global recession have given that model a new sheen—and shifted the balance of power in U.S.-Chinese relations. The international market meltdown hit China only indirectly, but had a dramatic impact nonetheless. Its banks were not exposed to the contagion as much as Western financial institutions were, but a loss of purchasing power in America, Europe, and Japan sharply reduced demand for Chinese products, led to enormous overproduction in China, and temporarily cost millions of Chinese their jobs. Beijing moved quickly to stop the bleeding with a massive stimulus package, directing hundreds of billions of dollars through state-controlled lenders to state-owned companies for use on large-scale, job-creating infrastructure products. The robust recovery that followed has further persuaded the leadership that state capitalism heals the wounds inflicted by under-regulated free markets.

Put bluntly, China’s leaders no longer believe that American power is indispensable for their country’s prosperity—or their own long-term political survival. The financial crisis has underlined the risk that China has accepted in relying on exports to developed states for economic growth. This has increased the urgency with which the leadership works to build domestic demand for Chinese products. Chinese officials have made news in recent months with the occasional call for the establishment of a new reserve currency to replace the dollar. That cannot happen overnight, but as China reduces its dependence on market conditions in the West, the need to purchase dollars will gradually ease, and much of the reserves will flow toward the purchase of commodities. This is a long-term project and one that will have to be undertaken carefully to ensure that the creative destruction that accompanies this transition does not force so many people out of work at one time that widespread social unrest reaches critical mass.

In addition, now that a growing number of Chinese firms have developed the management, marketing, and technical expertise needed to compete, they increasingly see foreign companies and investors as commercial rivals for local market share. As China’s need for foreign investment wanes, so will the influence of foreign companies, and in a growing number of cases, Chinese companies are already using their new leverage within the political bureaucracy to win advantages and protections that force their competitors onto a less-than-level playing field. In 2009, Coca-Cola was hoping its lead role as a sponsor of the Beijing Olympics the year before would warm official attitudes toward its $2.4 billion bid for the Chinese juice maker Huiyuan. During the negotiation process, Huiyuan owner Zhu Xinli stoked popular anger over the proposal, even as he courted the bid in case the state approved it. The Chinese government ruled that the proposal violated antitrust legislation, and Coke came away empty-handed.

In July 2009, the New York Times published a surprising account of the public backlash inside China against foreign players in the country’s professional basketball league. Just a year earlier, league officials had moved to generate more excitement for Chinese fans by attracting larger numbers of high-talent foreign players, mainly Americans. The league eased restrictions on the amount of money that players could earn and eliminated limits on their playing time. Within one season, the game won a wider audience throughout China. Now the fans want to see Chinese power forwards and shooting guards on the court.

This patriotic pressure has also become a growing problem for foreign companies and investors trying to make a name for themselves within China’s state-dominated system. The state itself now faces unprecedented pressure to satisfy public demand for all kinds of things. Ironically, it is one of globalization’s primary engines, the Internet, that makes this possible. According to a recent report from McKinsey & Company, an international management consultancy, there are now more than three hundred and eighty-four million Chinese online, an increase of fifty percent from 2008. Like Web surfers everywhere, the vast majority of Chinese users appear to spend the vast majority of their time discussing popular culture, their personal lives, and local issues. But in the past two years, the Chinese leadership has repeatedly found itself reacting to waves of angry popular sentiment pushing through Chinese cyberspace. Far from swelling popular demand for pluralist government and better relations with foreign governments, the Internet has on many occasions become an incubator of wounded national pride and demand for a government that better defends China’s interests in the face of Western criticism. This helps explain why, though economic decoupling will take years to accomplish, a process of political decoupling is already well underway.

A growing number of U.S. companies have begun to complain both publicly and privately about the Chinese government’s plan to support homegrown intellectual property via its promotion of “indigenous innovation.” Beyond claims of espionage, high-tech firms in the United States and Europe now charge that China’s policy of favoring products made with domestically created intellectual property in government procurement proves that Beijing has lost interest in even pretending that it will observe international intellectual property rules and maintain a level playing field for foreign firms throughout the next several years.

American media continue to cover the recent story of the hacking of Google as if the crux of the conflict is a dispute over cyber attacks, censorship, and state persecution of dissidents. All those issues are important, but Google’s battle with China is also about the market dominance of Baidu, Google’s primary Chinese rival. Baidu already holds larger Chinese market share than Google. If the American firm leaves or is forced out, Baidu will be the beneficiary. In fact, Baidu represents all the Chinese companies that have developed the skills and market muscle to compete with foreign rivals. These firms have become points of pride in China for the government as well as the public, both of which appear pleased to see the home team whip the foreign competition.

The new nationalism was apparent in China’s reaction to the recent announcement by Washington that the United States would sell Taiwan $6.4 billion in new weaponry. There is nothing new about U.S. arms sales to Taiwan, or angry public responses from the mainland. But this time, Beijing punctuated its frustration with an extraordinary threat: the imposition of sanctions on U.S. aircraft manufacturer Boeing, which has dominated China’s airline market and expects to do $400 billion in business with China in the next twenty years. Taken together, the Google and Boeing stories illustrate how a perceived shift in the balance of power within U.S.-Chinese relations—not to mention the increasingly obvious incompatibility of the American and Chinese brands of capitalism—are pushing Washington and Beijing toward conflict.

Political decoupling takes many forms. U.S. policymakers, focused mainly on problems at home and eager for assistance on major foreign and security matters, want China to play a larger (and more cooperative) international role. On climate change policy, rebalancing of the global economy, Iran’s nuclear program, violence in Sudan, counterterrorism, and other issues, Washington needs and wants Beijing’s help. But the Chinese leadership, preoccupied with its own domestic challenges, has made it clear that it has acquired the confidence to look inward, and that its primary goal is to create new jobs and to ensure steady and predictable economic growth. Beijing has every incentive to resist any commitment that distracts from that ongoing project or exposes China to unnecessary risk. Americans will have to get used to a China that is ever more ready to just say no.

 

B eijing’s new assertiveness comes at a bad time in America. As China’s growth rates surge back toward ten percent of GDP, the United States finds itself slowly emerging from its worst recession in decades, with President Obama and congressional leaders facing volatile public frustration over a painfully slow economic recovery and an unemployment rate close to ten percent.

Beijing is implicated in these developments. In a survey conducted by the Pew Research Center in late 2009, forty-four percent of U.S. respondents named China as “the world’s leading economic power,” while just twenty-seven percent chose the United States. In the same poll, forty-nine percent (up from thirty percent in December 2002) said the United States should “mind its own business” in international politics and “let others get along on their own.” These findings were confirmed by a Washington Post-ABC News poll published in February 2010, which found that U.S. respondents were evenly divided on whether the twenty-first will prove an American or Chinese century. By a margin of forty-one to forty percent, more respondents predicted Chinese rather than American economic dominance. On the geopolitical front, the margin was forty-three to thirty-eight. The presidential election in 2008 was clearly the last in which the average voter will neither know nor care where the candidates stand on China.

It seems inevitable that U.S. lawmakers of either party will try to shift the blame for the country’s woes onto someone else. Cultural conservatives of the right and labor champions of the left will tell voters that their problems are made in China, and more Americans will want to know why a country with ten percent unemployment can’t persuade a country with ten percent growth to respect trade rules and play a more “responsible” role on the international stage.

To address the issue of diverging interests, U.S. officials must first accept that there is a problem. Washington continues to behave as though Beijing resists calls for greater international burden-sharing only because China’s developing economy is not yet ready—and that once it reaches some undefined point of maturity, Chinese leadership will see the virtue of partnering with Washington on projects that bring stability to international politics and the global economy. This assumption is grounded in the view that U.S.-Chinese relations remain positive-sum, that developments that benefit one will generally benefit the other.

Over the longer term that may be true, and Washington is wise to continue to seek closer economic integration with China, to formalize the strategic dialogue between the two sides, and to try to work toward eventual realization of a G-2 model of cooperation. But between now and 2020, Washington and Beijing will have to grapple with the fact that China’s decoupling, the friction generated by the collision of free-market and state capitalism, and competition for scarce resources will push the two sides toward confrontation. Beijing recognizes this change. Washington apparently does not.

 

I f China and America are to coexist with a minimum of conflict in 2020, U.S. policymakers should separate the positive-sum and zero-sum elements of the relationship. Where the two sides’ interests coincide, U.S. officials should work to ensure that American economic power, political influence, and military might remain as valuable as possible for the next stage of China’s development. Resisting the temptations of protectionism won’t be easy, particularly if historically high unemployment continues to plague the U.S. economy, providing lawmakers with ample reason to scapegoat China. In Washington’s poisonous political climate, opportunists from both left and right will cast engagement with China as “appeasement.” But America cannot afford unnecessary political grandstanding on the value of China’s currency, on the trade imbalance, or on the supposed dangers of Chinese investment in U.S. assets. Sustained pressure in defense of U.S. economic interests is one thing. Protectionist posturing is another. In short, U.S. policymakers should do everything possible to cultivate mutually assured economic destruction—and to ensure that Beijing knows that a bad day for America’s economy is still a bad day for China’s.

Where U.S. and Chinese interests are truly irreconcilable, Washington will have to get by with a little help from its friends. For example, U.S. officials know well that Beijing will not simply allow the value of its currency to float freely. If it did, China would quickly shed huge numbers of jobs as demand for Chinese exports fell. But pressure can be applied to encourage the Chinese leadership to allow the yuan to rise gradually but significantly. Here, U.S. and European interests coincide. Both would profit from pooling their negotiating leverage and coordinating their strategies. China will have to let the yuan rise anyway as plans to rely more heavily on domestic consumption pick up steam. Washington should stick with a policy of ensuring that sanctions on international troublemakers—Iran, for example—are the product of multi-state coordination. The goal here is to ensure that Beijing, not Washington, is isolated in its position.

The U.S. government should also invest in its area of greatest comparative advantage, its “hard power.” Soft power played a crucial role in helping America outlast the Soviet Union, and it will continue to help extend U.S. political and cultural influence. But hard power can ensure that the United States remains internationally indispensable for political and economic stability—including as a protector of China’s increasingly complex web of international commercial ties—for decades to come.

China’s determination to defend its territorial integrity, its ambition to extend its influence in Asia, and its plan to form new commercial partnerships in far-flung places to feed its economic growth have added momentum to military modernization plans. With 2.3 million soldiers under arms, the People’s Liberation Army is already the world’s largest. Its investments in cyber warfare technology continue to feed anxieties in Washington. Its military budget is believed to have doubled between 2003 and 2009 to about $70 billion—a sum significant enough to pose future challenges in East Asia and the Indian Ocean. But that’s about twelve percent of what the United States now spends on its military each year—and an even smaller percentage if supplementary U.S. spending on the wars in Iraq and Afghanistan is included. For the projection of power around the world, no weapon is more valuable than an aircraft carrier. The United States has eleven carrier groups; China has none. In short, the gap between the U.S. and Chinese militaries is considerable, and widening in America’s favor.

In addition, Beijing has no incentive to mount a global military challenge to U.S. power. China will one day possess a much more substantial military capacity than it has today, but its economy has grown so quickly over the past two decades, and its living standards improved so dramatically, that it is difficult to imagine the kind of catastrophic, game-changing event that would push Beijing to risk it all by posing the West a large-scale military challenge. It has no incentive to allow anything less than the most serious threat to its sovereignty to trigger a military conflict that might sever its expanding network of commercial ties with countries all over the world—and with the United States, the European Union, and Japan, in particular. The more familiar flash points are especially unlikely to spark a hot war: Beijing is well aware that no U.S. government will support a Taiwanese bid for independence, and China need not invade an island that it has largely co-opted already, via an offer to much of Taiwan’s business elite of privileged access to investment opportunities on the mainland.



C hina will expand its political, economic, and cultural influence, particularly in East and Southeast Asia. But China has no reason to gamble its economic future and political stability by challenging U.S. hard power outside of Asia since China will rely for decades to come on oil and gas supplies from unstable parts of the world—the Middle East, the Caspian Sea basin, and West Africa in particular. The presence of U.S. troops in Japan and South Korea also limits the risk of an Asian arms race, saving all of Asia’s most powerful governments, including China’s, considerable amounts of money.

There will be plenty more battles—like those with Google and Boeing—as Beijing responds to threatening words and deeds from Washington by limiting the access of U.S. firms to Chinese markets. There are frustrations to come over Iran as Washington tries to build support for sanctions with little support from Beijing; and over North Korea, China’s neighbor and client. American firms will find themselves competing for increasingly scarce natural resources across the developing world with Chinese state-owned companies armed with subsidies and political backing. Charges of Chinese-sponsored corporate espionage will complicate the efforts of Chinese firms to invest in the United States. China will respond with investment restrictions of its own. China and other authoritarian governments that embrace state capitalism will increasingly direct trade flows toward one another, sharply lowering the trajectory of economic growth in the West.

But the shape of U.S.-Chinese relations in 2020 will depend largely on choices that have not yet been made. Confrontation is a lurking possibility. But cooler heads on both sides may yet realize that—despite the divergence of their interests and the risk that opportunistic populists in both countries pose to their relations—America and China will have more than ever to gain from closer political and commercial ties, and take steps to avoid a cold war, or worse.

Ian Bremmer is the president of Eurasia Group and the author, most recently, of The End of the Free Market: Who Wins the War between States and Corporations?

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