EconVue Spotlight May 2021 - Two if by Sea

posted by Lyric Hughes Hale on June 1, 2021 - 2:09pm

In 2006 economist David Hale wrote a special report for his clients "Will China Need a Blue Water Navy?" He reasoned that due to China's growing dependence on imported commodities, Beijing would begin to project military power in order to protect its trading sea lanes, just as other world powers have done over the centuries. I will quote two paragraphs:

There is a major new challenge looming in global geo-politics which has so far attracted little attention from either policymakers or pundits.  It is the emergence of China as the world’s largest consumer and importer of many industrial raw materials.  After several years of robust growth, China has displaced the United States as the dominant market and price setter for copper, iron ore, aluminum, platinum, and other commodities.  This development has occurred so quickly that governments have not yet had time to ponder its implications.  But just as the need for commodities has driven the foreign policy of Britain and the United States on many occasions since the mid-19thcentury, so now will China’s need for commodities force her to develop a new strategy for foreign policy and security policy.  China’s appetite for raw materials will also have profound implications for the foreign policies of the United States, her Asian neighbors, and the countries in the third world which will now emerge as China’s primary suppliers.  Economic factors have long played a role shaping foreign policy and security policy.  The transformation now occurring in China’s economic status is likely to be as transforming an event in global geopolitics as America’s arrival as a world power during the early decades of the 20th century. 

Such a large change in the composition of global commodity demand and trade flows will have political consequences.  China is going to develop far more intimate relationships with many developing countries than have existed before.  She is going to redefine her national security strategy to include protection of critical raw material supplies.  It is too soon to speak of a new era of Chinese imperialism in the third world, but China will certainly play a more influential role in the affairs of many developing countries.  The U.S. has been so obsessed with the issue of trade that it has not developed any long-term strategy for managing the consequences of China’s new role.  The U.S. can regard China’s new role as an opportunity for cooperation on many geopolitical issues or as a further threat to its own economic interests.  There is no way to predict exactly how policy makers will respond to China’s new status.  At this point only one thing is certain. China’s new role as the world’s largest consumer of many industrial commodities will force everyone to rethink their assumptions about foreign policy, military policy, and even the conduct of monetary policy during the early decades of the 21st century. 

Fifteen years later, China's appetite for commodities has continued undiminished, even after the shock of a  global pandemic. With just under 19% of the world's population (and shrinking- only 12 million babies were born in China last year) and a similar percentage of the world's GDP, China consumes more than half of most global commodities and in certain cases such as iron ore, nearly 80%. Of course, part of this consumption is round-tripped as exports, upon which China's economy remains dependent. 

China will protect what it sees as its national interests by continuing to increase spending on its military. This is neither surprising, nor without precedent.  In spite of my aversion to anything about China with the word dragon in the title, I have rediscovered a book by Bruce Swanson Eighth Voyage of the Dragon, a History of China's Quest for Seapower published in 1982 to critical acclaim. As Swanson wrote, China has debated whether or not to become a sea power since the early Qing Dynasty. In Republican China, the building of naval forces was opposed by Chiang Kai-shek as he concentrated scarce resources on a fierce ground battle. "Continentalists" also held sway over China's tiny navy during its post-1949 isolation. However, when China engaged with the world once again, that quickly changed.

Maritime operations to control the South China Sea coincided with China's reopening. In keeping with Deng Xiaoping's famous 24-character prescription to "hide our capacities and bide our time" naval operations were quietly relaunched under Deng's leadership, just as China's trade relations resumed. Largely unnoticed, Chinese naval forces forcibly took over the Paracel Islands from South Vietnam in 1974. By 1982, China's navy was already the third largest in the world. By some measures, it is now the largest. The pace of this continued buildup has worried its neighbors, especially Japan.  In 2019 China including the PLAN (People's Liberation Army Navy) continued to build capacity at breakneck speed

As China's search for commodities outgrew its region, the ambitions of China's naval forces have grown alongside its trade routes. As EconVue expert Evan Ellis describes below, China has now extended its reach far beyond the South China Sea, seeking to protect its interests in the Caribbean and South America, and recently strengthening relations with Cuba for example, where the US maintains naval operations. What could go wrong?

Given its appetite for agricultural commodities it is all the more remarkable that China has not fulfilled its obligations under the Phase I trade agreement with the United States. According to the Peterson Institute, under 75% of the quotas negotiated by the Trump Administration have been met.  It could be fairly argued that China's demand for commodities saved the world economy in 2020, however even though 2021 has been off to a strong start, there might not be a return engagement. African swine flu has decimated hog supplies and decreased demand for corn, and there could be similar slowdowns in specific commodities.

What could stop the Chinese commodity juggernaut and associated geopolitical risks? Just as the Nixon Administration engaged with China in order to stymie the USSR, the US could engage the Quad, and India in particular, in the same manner. President Biden's "Asia Czar"  Kurt Campbell speaking at Stanford last week said that the age of engagement with China has ended, and we are now entering a new era of competition.

There are also domestic policy headwinds: the Chinese government has mandated lower steel production and coal consumption and China's 14th 5-year plan has set ambitious climate change goals. However, in a world in which GDP is set to rebound by almost six percent, the incentives might just be too strong for local industrial producers to resist and for Beijing to control.

Chinese central government policy on coal usage has implications for the new economy as well. Last week local officials in Inner Mongolia issued regulations for comment which restrict mining of cryptocurrencies. Although a recent fall in the price of Bitcoin was initially ascribed to remarks made by Elon Musk, a more likely reason is that Chinese miners (and investors) learned of the coming restrictions and sold their stakes to finance their relocation to Eurasia and other destinations. The existence of these digital assets tied to the consumption of certain commodities was not foreseen in 2006, and could upend global finance. 

Which leads me to the subject of my upcoming podcast on the implications of blockchain with Sheila Warren, head of Data, Blockchain, and Digital Assets at the World Economic Forum.  Sheila's background as a Wall Street lawyer has served her well in Silicon Valley; she approaches the subject of cryptocurrencies and blockchain with clarity and objectivity. Some quick takes: crypto is not going away, and we are just discovering how it can be used to increase inclusivity, economic equality, and innovation. She envisions a future in which today's money coexists with central bank digital currencies and cryptocurrencies to serve a broad range of financial needs.

Also coming soon as part of our 3-part series on the Future of Digital: a Hale Report podcast with University of Toronto professor Dan Breznitz to discuss his book, Innovation in Real Places, Strategies for an Unforgiving World. It seems we have been looking in all the wrong places for the secrets of successful innovation. And finally, next week I will be talking with Winston Ma about China's place in the tech race and his new book, The Digital War, How China's Tech Power Shapes the Future of AI, Blockchain and Cyberspace

You'll be seeing these new podcasts arriving in your inbox soon, and on our new website. If you have suggestions for future subjects we should be covering or people we should be interviewing for the Hale Report, please let us know. 

Research from EconVue Friends & Experts

March 23, 2021 / U.S.-China Economic and Security Review Commission
Hearing on "China in Latin America and the Caribbean"  VIDEO
R. Evan Ellis

Dr. Ellis' testimony to the US-China Economic and Security Review Commission.  Reflecting the questions posed by the Commission for the hearing, this work focuses on the Chinese activities in Latin America and the Caribbean and their impact on the region and the US.

May 21, 2021/ the Jamestown Foundation
China's  Bid to Dominate Electrical Connectivity in Latin America
R. Evan Ellis

This article looks at how Chinese companies have made significant advances in the generation, transmission and distribution of electricity across the region.  Dr. Ellis argues that in addition to the commercial logic, such advances should also be examined in in the context of Chinese effort to expand its position in activities key to the "connectivity" underlying Latin American economies.  This is a concept that also extends to the construction and operation of ports, roads, railroads, telecommunications, ecommerce and other infrastructure, and arguably supports PRC economic advances in other strategic sectors.

May 26, 2021 / EconVue/ Freemarkets Inc.
Powell Is Unlikely to Be Renominated as Fed Chair
Michael Lewis

This would be a shocker: Once upon a time, the chairmanship of the Federal Reserve was a lifetime appointment. Or so Alan Greenspan made it seem. Like J. Edgar Hoover at the FBI, “Maestro” Greenspan rode out changes in presidents and parties effortlessly for decades. Greenspan did not even have to blackmail anyone (that we know of…). Those days are gone.

May 28, 2021 / Los Angeles Review of Books
Risk Management & Its Discontents
Vesper North

Michele Wucker is a fellow Chicagoan, author, and the person who coined the phrase "Gray Rhino". She has a new book out, You Are What You Risk: The New Art and Science of Navigating an Uncertain World. Terrific review and in keeping with the subject of our newsletter, navigating the 21st century.

Links & Research: 

US Economy

May 17, 2021 / Peterson Institute for International Economics
How much have childcare challenges slowed the US jobs market recovery?
Jason Furman, Melissa Kearney and Wilson Powell III 

Surprising research finds that childcare challenges did not affect employment among parents, and mothers specifically, during the pandemic. 

May 3, 2021 / the American Prospect
Janet Yellen’s Deficit Preoccupation Could Bring Down Biden’s Agenda
David Dayen

Yellen, a longtime deficit hawk, has made clear that the infrastructure investments should be paid for. That could prove hazardous to negotiations with Congress.

December 2020 / National Bureau of Economic Research
Economic Analysis and Infrastructure Investment
Edward L. Glaeser & James M. Poterba

This paper summarizes economic research on investment in public infrastructure and introduces the findings of several new studies on this topic.  What we are investing in now will affect both the physical and digital infrastructure of the US for many decades to come. 

May 2021 / Semiconductor Industry Association
Chipping in: The U.S. Semiconductor Industry Workforce and How Federal Incentives will Increase Domestic Jobs

Robust federal incentives for domestic chip manufacturing would create an average of nearly 200,000 American jobs annually as fabs are built, and add nearly $25 billion annually to U.S. economy.

December 2020 / National Institute of Economic and Social Research
The Economics and Politics of Productivity (video)

The aim of this workshop is to explore the relationship between economics and politics in the study of productivity, with a particular focus on institutions and public policy.

April 1 2021 / The Scholar's Stage/
Welcome to the Decade of Concern
T. Greer

Geopolitics and the US role in the Pacific as seen from Taiwan.

China & The World

April 28, 2021 / the Diplomat
China’s Coast Guard Law Challenges Rule-Based Order
Wataru Okada

A call for the international community to respond to China’s maritime operations.

June 2 2020 / Balding's World
Why Europe is Irrelevant to Challenging China

Given that many have built a counter Trump foreign policy contingent upon attracting European allies to confront China, the importance of Europe in the unfolding geopolitical tragedy becomes even more important. The only problem with the Old World obsession? Europe is almost entirely irrelevant to the China problem.

May 8 2021 / Twitter
This map illustrates the extent of China's influence in Africa
Samuel Ramani @SamRamani2

March 18, 2021 / South China Morning Post
Why China is cooling, not deflating, the property market bubble
Andy Xie

Beijing depends on China’s property bubble for revenue and has been managing it by keeping a lid on inflation. But the yuan’s soft peg to the dollar means Washington’s decisions – and addiction to stimulus – have an impact on China’s asset prices.
I would add: China's addiction to industrial stimulus inflates global commodity prices with the same effect. 

May 12, 2021 / Caixin Global
Beijing Sends Another Signal That Property Tax Reform Is on the Agenda
Cheng Siwei & Guo Yingzhe

Not holding my breath story #1: China has sent a clear signal about its plans to push forward with a long-awaited property tax, as equally long-standing concerns about market speculation come to the fore again amid price increases and local governments seek more revenue sources.

April 21, 2021 / China Banking News
Chinese Central Bank Calls for Renminbi Internationalisation to Become National Strategy, Says Time Is Right for Capital Account Liberalisation

Not holding my breath story #2: A senior official from the Chinese central bank has called for greater prioritization of efforts to internationalize the usage of the renminbi, as well as further liberalization of China’s capital account.

Global Macro

May 16, 2021 / Bloomberg
The World Economy Is Suddenly Running Low on Everything
Brendan Murray, Enda Curran & Kim Chipman

April 2021 / International Energy Forum
International Energy Forum Dialogue Dispatch: Exploring The New Map with Dan Yergin (Podcast)

Energy authority Dan Yergin joins IEF Secretary General Joseph McMonigle in this new episode to discuss his book, The New Map; the outlook for the world economy and energy market recovery post-COVID; and the divergent views of the energy transition between 700 million in the developed world and the 7 billion in the developing world.

May 17,, 2021 / Medium
How I Learned to Stop Worrying and Love the Lab Leak Theory
Donald G McNeil Jr

The author was the lead journalist on the COVID-19 story for the New York Times. While we are all anxious to get back to our lives, this story which has been gaining momentum will impact the course of China's relations with the rest of the world. Finally, in keeping with the nautical theme of this Memorial Day newsletter, a new movie exploring the past few decades in China through the eyes of three writers promises to be a treat if you can find it at a local theater, Swimming Out Till the Sea Turns Blue. Asia Society has a program with the director and the writers on June 2nd open to all. 

With all best wishes, and many thanks for your continued support of this newsletter.