A Post-Engagement US-China Relationship?

Through 2017 many in China and elsewhere came to doubt White House bluster, but as the year progressed the Administration grew real teeth.  Moreover, forces bigger than individual personalities were at work, and built momentum. Those forces go beyond the White House, they go beyond partisanship, and they go beyond the United States. On December 18 the Trump Administration released a new National Security Strategy (NSS): the shift toward bellicose working assumptions was jarring to those who viewed the Administration’s aim as a better deal, not a strategic overhaul. In the first weeks of 2018 many are still catching up to the reality of shifting deep forces in US-China economic relations. Many in China think this is a rough patch and will blow over.  It won’t.

Engagement, embracing China’s WTO accession and optimism were absolutely the right US strategy for the post 1978 China that risked everything to shift away from Communism; but unless Beijing demonstrates recommitment to that course now Washington and others will go a different way.

What Changed

The shift now taking place reflects a fundamental sea change in perceptions of US interests. From Nixon in China until 1989 America’s interest was alignment to contain the Soviet Union.  After 1989, with the Soviet bloc disintegrating, that logic was antiquated. It was made obsolete by the attraction of market capitalism as an economic system.  By 1992 China was pursuing economic policies convergent with our market ideas, and curtailing the ham-fisted hand of the state in its economy. The US post-Soviet era replacement strategy for China became engagement to lock-in China’s evolution toward norms we recognized as our own.  President Clinton’s dictum was that the United States was on the right side of history, and we would remain there.

By rewriting history to suggest that China has not been working toward a more market-oriented and less Party-directed economic system future, the premise under US strategy is disrupted.  US strategy was engagement; now that changes.Daniel H. Rosen

This was not deluded. China was converging, to an extraordinary degree, and intended to continue. The withdrawal of the state from the economy, the rise of private business, the expansion of market pricing and resource allocation, the opening to foreign businesses: all of these indicators and more were real. Given such epic changes – taking place by China’s choice, not under pressure from the US – what strategy other than engagement, including WTO inclusion, could possibly have made sense? Those disillusioned with engagement today forget, or more likely didn’t know, how successful it was in the decade after 1992, as the world asked what would replace a four decade old Soviet containment strategy.

The problem arrived in the 2000s, though it is hard to say exactly when. President George W. Bush, like President Clinton, endorsed engagement and believed it was facilitating convergence in transition economies including China. From his 2002 National Security Strategy (page 26):

We are attentive to the possible renewal of old patterns of great power competition. Several potential great powers are now in the midst of internal transition—most importantly Russia, India, and China. In all three cases, recent developments have encouraged our hope that a truly global consensus about basic principles is slowly taking shape.

Thus were our eyes open to great power rivalry, while our minds were open to evidence of the power of our ideas. There were indeed transitions taking place, and our basic principles were part of the conversation in China. Unfortunately, after the attack of 9-11 US policy modeled a different set of principles. We felt compelled to act unilaterally to overthrow regimes perceived to be hostile, through overt military intervention and encouragement of local uprisings in Europe, Asia and the Middle East. We bent international norms on matters such as treatment of combatants. Just as critically, the notion that US economic strength was invincible came crashing down with the Global Financial Crisis of 2007-09. By the end of the decade the attraction of the US model based on principles and on economic results was diminished. This undermined China’s liberals and empowered those who counseled a chauvinistic course. The conversation had changed, partly due to China’s rising confidence and partly due to America’s missteps, and the seeds of doubt about China’s convergence with US-led norms were sown.

No serious analyst had expected China to democratize and become a liberal beacon overnight. But economic marketization had been the dominant tendency from 1978 through the mid-2000s, and the role of state intervention had been reduced. Even at the start of Xi Jinping’s era Chinese voices were still calling for constitutionalism and rule of law to underpin the institutions needed for the future. The economic reform manifesto Xi delivered at the 2013 Third Plenum meeting of the 18th Party Congress was striking for the range of reform called for: the usual language about the state and Party were there too, but the scope of policy adjustment, and justification for it in an accompanying explanatory document, were more significant.

China’s reform impulse had not petered out with WTO accession in 2001, but was sapped by repeated attempts at implementation, especially 2013-2017, revealing new challenges to doing so. A stock market meltdown, a capital flight surge, a near seize-up of the interbank market, a pervasive misreporting of GDP. Are these just excuses for a deeper reluctance to embrace western reform in any case? Debate about this remains unsettled. Some think China’s leaders never envisioned transition to market regimes, and only let westerners think that was their intention. Others argue that China demonstrated clear convergent intentions and convictions – and progress – but that this impulse has been overtaken by renewed enthusiasm for state control in the face of challenges and risks.

What is Shifting in US Strategy?

Regardless of which of these lines is right (and I am squarely in the camp that believes China’s reform efforts over the years were deeply earnest, having known many of the reformers well), one thing is not debatable: previously China did not claim to have a sustainable alternative economic model, but now it does. The key distinction drawn is that the western model is just market oriented, while the Chinese model uses markets to allocate some resources but the state, represented by the Communist Party, to run the economy. The notion that this is a long-standing truth westerners willfully choose to look past is incorrect. In fact it is not even clear how China’s collection of characteristics amounts to a model. Since the 1990s China’s leaders have actively pruned back the role of the Party and the state in the economy.

US engagement strategy was contingent on this expectation. By rewriting history to suggest that China has not been working toward a more market-oriented and less Party-directed economic system future, the premise under US strategy is disrupted.  US strategy was engagement; now that changes.

This shift in label was made public, and official, with the release of the new NSS in mid-December. China is now described, alongside Russia, as a “strategic competitor.” The change is not standalone.  It will be echoed in forthcoming National Defense Strategy (NDS) and National Military Strategy (NMS) documents.

While the competitive aspect of the US-China relationship has been creeping up for years, what really created foreboding at the end of 2017 was the connection of economic affairs to the China national security equation in the NSS.  The Strategy suggests that hundreds of billions of dollars of commercial technology are nefariously conveyed to China every year, taking advantage of the permissive US attitude in the economic relationship. The strategy pledges to end this, and this line is already evident in policy: trade actions against imports, action to make investment screening stricter, and disengagement from government to government dialogues are happening, now. President Trump will tie these threads together (and likely add to them) in his State of the Union address January 30.

So to sum up what has changed:

• China: No longer maintains ambiguity about the nature of the Chinese system and whether it will converge with OECD norms: it emphasizes the differentness and says it won’t.
• The US: Now defines China as a strategic competitor, not a transitional nation converging with our norms, and sees economic dynamics as core to this competition: engagement is now a verb – sometimes the right action – not a noun describing policy.

The Commercial and Economic Consequences

It will take time to sort out the full consequences of this sea change, just as it took time for the upside economic magnitude of globalization to be recognized after the fall of the Berlin Wall. The first question is whether this shift is really set in stone already. The White House may be prone to instability this year. But the changes afoot are bigger than the Oval Office. Many in the American China-watching community has long advocated this sort of recalibration, and are eager to consolidate the present sense of finality: that there is no turning back, so let’s move to talk about what this means going forward, quickly, while there is still time to do something about it. They are loath to slowdown for more debate.

This view will encounter less pushback today than in the past, for several reasons. First, most American analysts have believed that changing fundamentals justifies a US rethink for several years. Consider the notion of “pivoting” born in the Obama Administration.  Second, the strongest lobby for US moderation has been the business community, but today much of that community actively favors a shift in strategy. Third, the sentiment behind this adjustment is not just American: there is emerging alignment found in Europe, parts of Asia, Oceania and elsewhere. The prospect of a coalition is novel, after years of expectation that each economy would chase the best deal it could get to secure benefits, and the US blunder of pulling out of TPP. And finally, the nascent US strategic shift is more likely to be sustained because Chinese leaders are doing relatively little to counter it – either because they still doubt it is serious, or because they think this is inevitable, or because they cannot think of a way to assuage US concerns without unacceptable compromises at home.

Some consequences of a strategic shift are already evident.  Of four bilateral dialogues President Trump kicked-off at Mar-a-Lago, three are frozen (economics, law-enforcement, and people-to-people: only the military-to-military channel is still operational, largely on the topic of North Korea).  Dozens of agency-to-agency channels of engagement set up over the past decades are in hiatus. Very few American officials are visiting China. China is not alone in this regard, but the US-China bilateral agenda is more important that virtually any other. This reduces the channels for managing and delivering solutions on the broad spectrum of bilateral issues in the future.

The strategic redirection means stepped-up trade and investment confrontation. It remains unclear whether US economic policy will be tailored and specific, or very broad. Tailored looks like high dumping duties on specific types of steel and aluminum products; broad means arguments such as that Chinese capital costs, energy prices, land rents, intellectual property costs and other fundamentals are all inherently subsidized, and should be countervailed by high duties on virtually anything shipped from China (including goods from US firms in China).

Likewise on the direct investment (FDI) front, the US could reasonably step-up screening for truly security-relevant concerns and yet still leave plenty of room for a multifold rise in inflows (this is essentially current policy); or, it could go beyond narrowly security-oriented issues and make it hard for Chinese investors to do even basic deals in mature industries. That would satisfy the US appetite for “reciprocity”, but it might not do the US any good.

Where on the spectrum these US policies come out in practice over the coming months will make all the difference. Steps by Beijing to compromise may yet help mitigate the outcome, although so far there is little indication that this is in train. China will of course retaliate, to different degrees depending on the breadth of US actions and its own strategic analysis.

Some analysts conclude that the US would “lose” a trade war, because Americans are less ready to tolerate the pain of economic disruptions (high import costs, closing export opportunities, diminished dividends from US business operations in China, lost incoming investment dollars). Others scratch their heads at the thought that a trade surplus country (China) could win a trade war. The US is going into a temporary surge in growth due to the tax reform stimulus, which might give it resilience the next several years, whereas China is wrestling with the need for difficult deleveraging.

Finally, the shift to strategic competition will squeeze people-to-people engagement.  For instance some analysts question the presence of 300,000-plus Chinese students studying in the US. Some political scientists object to the unlimited provision of visas to Chinese journalists and researchers to visit and work in the US while their American counterparts are routinely barred from China. There is intense scrutiny of Chinese campaigns to influence politics and civil society abroad, not just in the US but as far afield as Australia and Germany. These activities are likely to get more publicity in the period ahead, further turning up the heat in the bilateral relationship and fostering a more difficult environment in which to work on the cooperative elements that still demand attention.

This shift in US-China relations is a serious concern. In a relationship predicated not on the expectation of convergence but of rivalry and competition, opportunities for cooperation will be missed.  In security, we must work together on North Korea. On the global environment, we must work together on water and air pollution alleviation, let alone climate change. In politics, many other nations loath the notion of a protracted US-China competition over political models.  And in economics, there are trillion-dollar opportunities at risk, accumulated over the coming decade, if the deals discussed by President Trump in Beijing (which are just a fraction of global potential) turn out to be forfeit.