Avoiding a Chinese burn: how the west should handle China

Aside from the fall of the Soviet Union, the rise of China is the most significant geopolitical event over the past forty years.

For the first time since the US became the world’s largest economy, the west has legitimate concerns about being overtaken by a non-allied state.

The muddled response from Europe shows just how unexpected China’s emergence as a superpower was. Under Cameron, the UK attempted to bring them in close, with both Cameron and Osborne leading trade missions to China, while President Xi was invited to meet the Queen.

Yet now, China is being pushed away as much as possible: in February, the UK announced it would send an aircraft carrier into disputed waters in the South China Sea, and the past few weeks have been dominated by uproar at the news of Chinese government-linked Huawei working on 5G infrastructure in Britain.

The European response has been similarly gargled. In March, Italy caused uproar in the EU when they signed a memorandum in support of China’s Belt and Road initiative.

However, the situation has been made significantly more volatile by Donald Trump’s triggering of tariffs against both the EU and China. These have led to a conflict that threatens to escalate well beyond trade.

All of this leaves the UK and Europe in a precarious position. They no longer feel guaranteed of US support in trade matters, but remain hesitant about siding with China.

The uncertainty arises from a central conflict between China’s importance as a trade partner and how little the west trusts it. This mistrust originates from both economic and political sources.

Earlier, I highlighted that the US fears its GDP being overtaken by China. However, this is not as inevitable as it first appears.

China’s rise began in 1978. The ruling Communist party of China instigated a series of market reforms, including decollectivising agriculture, permitting foreign investment, and allowing for individual entrepreneurship.

By opening up the economy, China’s wealth soared. Trade turnover rocketed from $20bn in 1978 to $4.56tn in 2018, while official GDP growth was between 9.5 per cent and 11.5 per cent every year between 1978 and 2013.

Yet it is a poorly kept secret that China’s economic growth, and its economy as a whole, is not what is claimed. Behind closed doors, Chinese academics calculate that 2018 growth was only 1.5 per cent rather than the officially stated 6.5 per cent.

This is no surprise. Authoritarian states have a habit of overstating the size of their economies. Economist Luis R. Martinez developed a methodology accounting for this and believes that China’s GDP growth has tended to be 29 per cent less than reported. Martinez is not alone.

Using a different methodology in 2014, Harry Wu estimated that China’s GDP in 2012 had been inflated by 27 per cent in official figures.

These estimates are supported by other facts. The Shanghai stock exchange composite index fell by 24.6 per cent in 2018. The idea that this was accompanied by growth of 6.5 per cent is just not plausible.

Additionally, multiple local governments have been found to falsify economic data: Liaoning padded fiscal revenues by 20-30 per cent during 2011-14; Inner Mongolia padded fiscal revenue by 26 per cent and industrial output by 40 per cent in 2016; and the special economic zone of Binhai New Area admitted to having added 50 per cent of value to its GDP. Other regions, such as Hunan, Yunnan, and Jilin, also face accusations of cooking the books.

Then there is the political issue. Since gaining admittance to the World Trade Organisation, China has reneged on its promise to become an open, market-orientated, trade regime.

The debate over whether China should have been admitted to the WTO in the first place is a moot point, but China’s continued protectionism, dumping, and human rights practices have shown how little regard the state has for international regulations.

While Trump’s tariffs are an ill-conceived response, they come from some legitimate concerns. Although the WTO has classed China as a market economy, this has faced serious criticism.

China routinely discriminates against imported products, for example forcing foreign companies to hand over their intellectual property in return for market access. This is reinforced by high tariffs that the WTO has been powerless to counteract.

Indeed, its predatory dumping policy has been part of the recent WTO case brought against China as to whether it qualifies for market-economy status. China’s accession to the WTO in 2001 required other countries to treat Beijing as a market economy after 15 years of the assumption that it was on its way to becoming one.

However, China has pursued definitively non-market economy practices such as giving heavy subsidies to certain domestic industries, with a view towards flooding foreign markets.

Consequently, the EU and the US have argued that China is demonstrably not a market economy. This is important because, as a market economy, other countries face limitations on the measures they can adopt to curb Chinese dumping.

While some argue that state-sponsored dumping benefits importing countries thanks to cheaper goods, the act of distorting the market has severe consequences.

These effects range from stunting domestic producers to the inefficient distribution of production: everyone loses when states manipulate the market.

Consequently, anti-dumping rules form a core part of international trade relationships and, as evidenced by the WTO case, China’s continued flouting of them wins them few friends.

On top of this is China’s desire to be a global player. Since around 2005, it has invested heavily overseas, but, in 2013, Chinese overseas investment was transformed by the Belt and Road initiative. Chinese global investment totalled $686bn between 2005 and 2012; between 2013 and 2018, it reached $1.26tn

In principle, Belt and Road is good for global trade. It sees investment in poorer nations and the focus on infrastructure will smooth the path for trade. However, the investment comes with strings attached. With the investment focused on utilities and infrastructure, China stands to have substantial political sway over nations which struggle to pay off the debt.

Opponents dub it neocolonialism, arguing that the debt incurred by poorer nations will give China control over them. This is hyperbolic, but it cannot be denied that the Belt and Road initiative is being done as much for China’s geopolitical influence as for raw economic reasons.

China stretching its political influence comes just as the US has looked to retreat into itself. While Trump is the clearest embodiment of this, the US has sought to play less of a role internationally since the aftermath of the second Iraq war.

Under Trump, this has translated to trade policy, most notably in the case of dropping out of the Trans-Pacific Partnership (TPP). While this will hopefully be reversed in due course, the damage has already been done.

Without American pressure in the Pacific, China has been able to secure the role of main player in Asia and the Pacific, giving it the freedom to be more expansionist further afield.

Do all these concerns mean that the west should seek to reduce ties with China? No, and it cannot afford to. Even if GDP is 30 per cent smaller than the IMF’s figure of $13.4tn, it would still be comfortably the second largest global economy and equivalent to the UK, France and Germany combined.

Meanwhile, trade between the EU and China was worth €604bn in 2018. This makes China the EU’s second largest trading partner and the EU China’s largest trading partner.

This shines a light onto where opportunities lie. Europe’s importance to China is as a market. If Europe and the UK wish to rein China in, the best way is by utilising this position. The question, then, is how the west leverages its market access, to influence China.

The first port of call is typically the WTO. With whispers going around that they will support the EU and US challenge mentioned earlier, it appears a promising option. Since 2004, China has faced 27 litigation cases through the WTO, and of the 21 completed cases, each one has been resolved to result in greater access to China’s market.

However, this period has seen China as second only to the United States in the number of complaints faced. That it is only second is down to Trump: the current US administration rarely submits complaints, while a third of the cases brought against the US since 2004 have occurred since Trump began introducing tariffs two years ago.

The process brings results in time, but, ultimately, working through the WTO represents an expensive and tedious game of whack-a-mole and, without the US on side, the west is playing with one arm behind its back.

So, while the west waits for a more strategic US trade policy to reemerge, the UK must seek to play a leading role in coordinating efforts to bring China to heel. Currently, China is negotiating thirteen free trade agreements, while employing feasibility studies into a further eight.

Due to the aforementioned lingering mistrust, the EU is not one of them. However, if the EU and post-Brexit UK can hold their nerve to get into negotiations, they can start to push for more stringent adherence to international rules in return for greater market access.

From a UK perspective, this will form a broader part of post-Brexit trade policy, involving a re-orientating of focus beyond Europe. For this, joining the remodelled TPP (now the Comprehensive and Progressive Agreement Trans-Pacific Partnership, or CPTPP) is essential.

Were the UK to join CPTPP, the organisation would represent over 16 per cent of global GDP as well as housing seven of China’s top 15 trading partners. Not only will this shift British focus over to the Asian-Pacific region, but it will also make the UK of greater relevance to China. Countries can choose to keep China at arm’s length or seek to embrace them.

If the European powers commit to a bear hug, they can bring China in close through trade agreements and geopolitical repositioning, while continuing to support WTO compliance. It might just be enough to pull China towards a more open future.

Written by Barney Trimble

Barney Trimble is a researcher for the Initiative for Free Trade.