A Chinese Port in the US Storm

By Jacob L. Shapiro

July 27, 2016

Leaders of the two countries have recently overlooked some disagreements to emphasize their common interests.

Chinese President Xi Jinping is meeting with U.S. National Security Adviser Susan Rice from July 24 to July 27. Susan Rice meets with many people, often to great fanfare but with little political result. What caught our eye about this meeting was how it was structured and what China’s most powerful leader since Mao had to say about U.S.-China relations. Vice Chairman of the Chinese Military Commission Fan Changlong was there and said what you would expect from a Chinese military official: Chinese sovereignty in the South China Sea will never be violated and U.S. missile defense deployments in South Korea are bad. But Yang was the junior official in attendance. Xi, according to Xinhua News Agency, said that China-U.S. “common interests outweigh their differences.” 

We said two weeks ago that the Permanent Court of Arbitration’s ruling against China would not matter much in the grand scheme of things. We also noted last week that much of China’s posturing in the South China Sea comes from a place of weakness, not strength. The third point that follows on top of this, and which Xi made explicitly clear yesterday, is just how much China currently depends on the United States. China depends on free movement in international waters to deliver its exports; the U.S. guarantees that movement. The U.S. consumes more Chinese exports than any other country – 18 percent of all Chinese exports went to the United States last year. 

China and the U.S. have their differences and they are not going to simply drop those disagreements. If China is able to massively restructure its economy away from a dependence on exports in the long term and if it continues improving its military (particularly its naval forces) over the course of the next decade or two, the U.S. and China might very well come into direct conflict. But those are a lot of ifs – and we are not sure they will ever come to fruition. And besides that, they are far ahead in the future. In the here and now, China needs the U.S. and Xi knows it. 

The flipside of this is that the U.S. needs a stable China as well and that is why this works. Xi knows he needs the U.S., but he also needs his countrymen to see that the U.S. needs a collaborative relationship with China, not one that subordinates China. The U.S. has the reputation of being somewhat of a bull in a china shop when it comes to foreign policy, often fixating on particular domestic issues in various countries. Not so in Rice’s meeting with Xi and Yang. Rice’s direct talks with Yang weren’t just about disagreements in the South China Sea. The White House press release on the meeting noted bilateral cooperation at unprecedented levels. It added that the two officials “agreed on the importance of managing differences constructively” and the stabilizing role that bilateral confidence-building measures – particularly with military relations – play in the region.

The Rice meeting was not the only point of high-level diplomatic contact between China and the U.S. recently. Chinese Foreign Minister Wang Yi met U.S. Secretary of State John Kerry in Laos on the sidelines of an ASEAN conference on Monday. His words sounded remarkably like Xi’s yesterday. According to Xinhua, Wang said that the U.S. and China share more common interests and that cooperation between the two powers is of great strategic significance. Kerry was similarly optimistic in his remarks after that meeting as well. Notably, there was no critique of Xi’s Communist Party purges, no harsh judgement on human rights nor dredging up sore issues like Taiwan. Just an agreement that the two sides have many common interests and must work together to achieve them. 

The U.S. right now has quite a lot on its plate. It is pushing for some kind of agreement with Russia in Syria; Kerry also said in Laos that he hoped to be able to announce some details of U.S.-Russian cooperation in August. Russian Foreign Minister Sergey Lavrov, at least according to the Associated Press, didn’t dismiss the possibility outright. He said that he and Kerry had discussed issues relating to Syria. But Russian-U.S. relations are still fundamentally tense, as there is no breakthrough understanding on Syria and Ukraine continues to dominate Russian strategic thinking. The Islamic State’s territorial holdings have decreased but it remains firmly in control of its core and increasingly capable of either masterminding or inspiring terrorist attacks across the world. The U.S. is losing that war overall, as George Friedmanpointed out yesterday. And in the wake of an attempted coup in Turkey, one of the U.S.’ most important relationships is suddenly tenuous as the Turks maneuver to reposition themselves in a new reality.

All these issues are important and yet the U.S. has gone out of its way over the last few days to point out that China is among its most important partners, that President Barack Obama is placing a strong emphasis on his visit to China in September and that there is a shared set of interests between China and the U.S. It would be a mistake to call this an entente as China and the U.S. weren’t enemies before and they will still have their disagreements. But when you see the current state of flux that many of the U.S.’ strategic relationships are in, it is striking that Xi should declare that the U.S. and China have shared interests and should work together to achieve common ends. 

Behind all of this are the specific economic policies Xi has chosen to push in China. Xi sees the weaknesses in the Chinese economy just as well and likely better than we do. There have been internal debates about the best way to tackle those issues and the debates have become so serious that many think it is indicative of a major struggle at the top between Xi and Premier Li Keqiang. As we said earlier this week, we think talk of this struggle is overblown.

Also yesterday, the Political Bureau of the Chinese Communist Party released a statement that, according to Xinhua, said “supply side structural reform” was becoming more important than ever as China enters a “new normal” of continued downward pressure. Significantly, there is no sign of a struggle between Xi and Li in this statement. There is just a statement that Xi’s policies, which he calls supply-side reforms, are the priority. 

China has weathered the storm thus far in 2016 by pumping massive amounts of money into its domestic economy. This was necessary because Xi and the Communist Party on at least some level want to have their cake and eat it too – they may be able to accept lower levels of growth but they need this to happen in a manageable fashion to avoid the panic that was being threatened earlier in the year. Xi says he wants to get away from stimulus. His supply-side reforms mean cutting taxes (which a People’s Bank of China official touted as important on July 22), encouraging investment and not relying on monetary stimulus or manipulating interest rates. There have been signals that this is happening. But China also expects between 6.5 percent and 7 percent economic growth this year. Really embracing supply-side reforms means embracing “L-shaped” growth and not just making statements about it. 

We aren’t the first to notice that Xi’s stated economic goals produce overtones of the same policies former U.S. President Ronald Reagan pushed in the United States in the 1980s. There is an irony in the president of China, obsessed with reinvigorating the Chinese Communist Party with new legitimacy while re-emphasizing communist ideology, turning to strategies used in the U.S. economy in the 1980s to manage China’s problems. Beyond the irony, there is geopolitics: the U.S. and China each have bigger things to deal with than their problems with each other.

Want to learn more about the future of China? Become a premium subscriber and access our insightful report, China’s Successors: The Manufacturing Migration. 

In this report, we identify 13 countries poised to reap the benefits of China’s economic downturn. It’s critical to understand the implications of this for each country, individually. Investors and concerned citizens alike will benefit from the analysis needed to navigate the changing global landscape The full version of this special report – available only to premium subscribers – goes into all the details of each country, its economy and what the future will hold.