China - Bilateral relationships
Understanding the risks associated with the Chinese economy has become paramount for investors, businesses, governments, and other stakeholders. China's rise as a global economic powerhouse that impacts international markets in every sector and industry, necessitates comprehensive ongoing risk assessment.
Conducting accurate economic ‘risk assessments’ on China is notoriously challenging however due to difficulties in obtaining reliable data, vested and politicised viewpoints, and the inherent complexities of the Chinese political economy.
This series of George James Consulting (GJC) articles touches on a range of current and emerging risks to the Chinese economy that are worth watching through 2023 and beyond. It is recommended that this be used for informational purposes and that further research be undertaken as required on specific risk topics. The number of the topic # is not necessarily indicative of the likelihood or impact of the risk discussed.
#3 – Risks emerging from deteriorating bi-lateral relationships
China's evolution as a regional power is closely linked with its rapid economic growth. As it has industrialized, China’s ambition has also risen and it has been able to assert its regional agenda with increasing boldness. China’s investment in its military capabilities and shift away from a ‘soft power’ model has caused inevitable nervousness amongst China’s neighbours and across the wider region. There are growing risks that specific bi-lateral and/or regional relationships could deteriorate to an extent that significantly harms Chinas interests.
In the 20th century, Chinese leader Deng Xiaoping is credited with the early steps in the late 1970’s to make China more externally oriented. Deng initiated economic reforms to open China up to the foreign investment and trade necessary to enable China's rapid economic success. President Jiang Zemin, continued this approach by emphasising "peaceful development" and enhancing relations with China’s Asian neighbours. In the 2000s President Hu Jintao promulgated the idea of a "harmonious world" through cooperation and partnerships via regional stability and economic integration.
Current Chinese President, Xi Jinping has maintained China's outward orientation albeit with a stronger nationalist tone focused on strengthening its regional influence. The Belt and Road Initiative (BRI) launched in 2013 includes explicit goals to enhance economic cooperation across Asia and other parts of the world. BRI has also provided China a framework for deepening trade relationships in the region, undertaking infrastructure projects that project Chinas interests.
Multilateral organisations such as ASEAN (Association of Southeast Asian Nations) and the EU have been a high priority for China because of their economic and political influence.
Relationships with other nations have been carefully curated based upon Chinas economic and developmental goals. China has undertaken significant infrastructure projects globally as a means to build strategic partnerships, gain access to resources, and enable future Chinese expansion.
Despite sustained initiatives over decades, significant foreign aid, and efforts to use soft power, Chinese relationships with its immediate neighbours and key bi-lateral partners have had mixed results. On one hand, China has consolidated its status in the Asian region and built solid trade relationships across the world. China has been able to achieve many of its developmental goals and establish itself as major power.
Conversely however, China has aggravated a number of its neighbours resulting in regional tension, decreasing levels of trust, and the rapid build up of military and regional alliances to counter China’s influence. The further deterioration of some of these relationships could provide problematic to China and create additional risks to its economy.
The following are some of the key relationships that could significantly Chinese interests.
China and Taiwan
The relationship between China and Taiwan is at the core of how China views itself and provides a lens for other bi-lateral relationships too. The two nations are and defined by their shared history with China viewing Taiwan and an inalienable part of China (‘one China’) and Taiwan asserting its democratic sovereignty.
Despite the fact the nations face each other with essentially a war footing across the Taiwan Straits, the relationship between China and Taiwan had been incrementally improving over the years. This has been on the back of significant two way trade and investment activity. Mainland China has subsequently became Taiwan's largest trading partner and many Taiwanese businesses have investments in China.
Despite this warming of the relationship, mainland China has assiduously followed a policy of diplomatically isolating Taiwan in an effort to suppress Taiwan gaining international recognition. China exerts significant pressure on other countries to adhere to the "One China" policy and decline Taiwanese efforts for recognition. China’s apparently long standing patience with Taiwan however, is primarily attributed to China’s need to modernize its military and US protection of Taiwan rather than an inherent benevolence.
The political environment in Taiwan however has also has been somewhat of a pendulum causing China to continually reappraise its strategy. On one side, the Taiwanese Kuomintang party (KMT) was increasingly softening its stance over time towards China to an extent that seemingly reassured Beijing that ‘unification’ was simply a matter of time. The Democratic Progressive Party (DPP) however, has conversely become increasingly forthright about Taiwanese rights and independence and alarms Beijing. This in shift in Taiwan likely reflecting an increasingly negative sentiment from the Taiwanese public about the Chinese ‘one country, two systems’ and repressive mainland government policies.
China’s aggression towards Taiwan could hence be closely associated with whether the KMT or DPP are in power and the degree to which the US government signals its support for the Island nation. The 2022 visit to Taiwan by US speaker of the House Nancy Pelosi’s was a recent example of US action viewed as a provocation by the Chinese side that necessitated a strong response.
These conditions have led to rapidly deteriorating diplomatic and military relations between China and Taiwan in 2023. Chinese military exercises have occurred with increasing frequency near Taiwan's air and maritime zones in the Taiwan Straits, as well as significant numbers of cyber attacks. US and allied countries have consequently also increased their military presence around Taiwan raising the likelihood of serious incidents or miscalculations by China, Taiwan or a number of allied countries.
China and India
Economic and political relations between China and India have expanded significantly over the last twenty years. Bilateral trade in particular grew rapidly with China becoming one of India's largest trading partners with bilateral trade crossing US $100 billion in 2022. India's trade deficit with China however also grew to around US $75 billion and has been a source of consistent concern from the Indian side. India has consequently sought greater market access in China for its goods and services.
An area of contention in the relationship has been the presence of Chinese technology companies in the Indian market. Chinese companies including Huawei and Xiaomi have become prominent in India, however there have been growing concerns about the links between such companies and the Chinese government. In response, India has sought to regulate Chinese technology firms, impose restrictions in government projects, and banning ‘high risk’ Chinese apps. Close scrutiny of these companies by India has also led to penalties such as the freezing of US$670 million of Xiaomi funds.
China’s relationship with other regional nations such as Pakistan have also been a source of tension for India. In particular, India has expressed concerns over the Belt and Road Initiative between China-Pakistan to build the Economic Corridor infrastructure project. Indian sensitivity relates to the projects location in Pakistan-administered Kashmir and the miliary and economic impacts it could have.
It is however, the longstanding territorial disputes in the regions of Ladakh and Arunachal Pradesh that have caused the most tension between China and India. This conflict has been primarily focused around the border areas in the Galwan Valley area (North Eastern Indian/South Western China). The most significant escalation occurred near the so called ‘line of actual control’ in a June 2020 incident where twenty Indian soldiers were killed and four Chinese soldiers. Both countries accused each other of violating territorial integrity and it led to increasing levels of military deployment and strained relations. Further incidents occurred in 2021 and 2022.
Overall, it could be argued that China has more to lose should its relationship with India deteriorate further. Following the border tensions in 2020, there was a discernible impact on Chinese companies in India such as Xiaomi who suffered a significant decline in market share. Broader concerns about China have already led to a shift of some manufacturing out of China and some of this could be in India’s favour. Finally, the international support for a more assertive India in the region (as a counter balance to China) is likely to have a negative impact on medium to long term Chinese growth.
China and the European Union (EU)
China and the EU have maintained a complex and multifaceted relationship over the last twenty years. Trade between China and the European bloc has grown significantly to make the EU China's largest trading partner, and China the EU's second-largest trading partner (after the US). This amounted to around $US 60 billion in 2022 with a trade deficit in China’s favour of around $US 30 billion. Commodities traded are wide ranging including machinery, electronics, vehicles, chemicals, and textiles.
Despite the strong economic ties a number of areas of tension have emerged in the China-EU relationship. This includes EU unease about limited market access for European companies in China, intellectual property rights protection, piracy, counterfeiting, unfair trade practices, and investment restrictions. The trade imbalance is an ongoing source of contention.
The EU has also become concerned and cautious at a strategic level about China's increasing global influence. This has included reservations with Chinese technology services on security grounds, and Chinese infrastructure investments and the long term challenges this poses to EU influence (economically and geo-politically). This has been borne out with the case of Huawei and ZTE where the EU Commission have now strongly recommended member nations ‘restrict the role of Chinese 5G vendors Huawei and ZTE in Europe’.
The EU have also developed policies preventing European companies from making sensitive technologies such as supercomputers, artificial intelligence and advanced microchips in China.
The EU have consistently stressed its view of human Rights and the rule of law with China. This includes the treatment of ethnic minorities, freedom of speech, and political freedoms. Most recently, the EU has voiced its disappointment with China’s tacit support for Russia and failure to directly criticise the Russian invasion of Ukraine.
Overall, the relationship with the EU looks to be at an inflection point that appears more negative than positive for China. Despite the EU’s reliance upon China for trade, China arguably has more to lose overall from a deterioration in the relationship. The EU have likely noted how US trade disputes have evolved and may consider it the right time to revisit their own concerns and trade imbalance with China. The EU might also see increasing need to more actively shape global technology development and embed democratic and environmental values internationally.
China and Japan
China and Japan have a long and complicated relationship that includes particularly dark historical episodes in the 20th century. These provide a backdrop for the two regional powers intertwined cultures and economies that are the second (China) and third (Japan) largest in the world. China is Japan’s biggest trading partner, with the total trade between the two having grown over 100 times since 1972 to $US 265 billion in 2022. To date in 2023, China exported $US 13.9B and imported $US 13.2B from Japan giving China a favourable balance of trade.
Despite its strong economic inter-linkages, China and Japans political relationship is frequently described as ‘cold’. This could be attributed to a number of factors including historical tensions (particularly World War II) and the Chinese perception of insufficient Japanese remorse or memory of this (i.e. education system); rising nationalism and populism in both countries; economic rivalry within which primarily Japan has had concern with issues such as trade imbalances, market access, and insufficient respect for intellectual property rights.
Japan and China also have territorial disputes that raise tensions. This particularly relates to the sovereignty of Islands in the East China Sea, known as the Senkaku or Diaoyu Islands. Both countries claim ownership and this has resulted in ongoing tension and occasional maritime confrontations. Chinese claims over the South China sea and its efforts to secure it through the establishment of island bases, maritime and air patrols has alarmed Japan.
Japans political and military alliances are conversely a source of concern for China. Japan has a longstanding security alliance with the United States and this has resulted in the deployment of US missiles, troops and maritime capabilities. Japan has also formed alliances with other nations in the region including India, Australia, India and other South East Asian nations. Most significantly, however has been Japans assertion of support for Taiwan and guarantee of its security.
The alliance that Japan has with the US has also had impact in the technological sector. In March 2023, Japan indicated that it would tighten rules relating to the exports of 23 types of advanced semiconductor manufacturing equipment to China. This move was made following US and other nations taking similar measures and is seen by China as an attempt to underline Chinese leadership in emerging technological areas. This is not this first time Japan has aligned with a US assessment of Chinese technology with Japan ceasing procuring of equipment from Huawei and ZTE in 2018.
China and Vietnam.
Vietnam and China have a generally cooperative relationship that has seen increasing competition, and occasionally tense moments. While both countries have a communist government, historical and cultural differences still shape the tone of the relationship. China is Vietnam's largest trading partner, and the economic ties between the two countries is significant with Chinese Exports to Vietnam rising to US$146.96 Billion in 2022. Trade between China and Vietnam includes commodities such as electronics, textiles, machinery, agricultural products, and raw materials.
While China and Vietnam have a largely ‘steady’ relationship, Vietnam opposes China's territorial claims in the South China Sea, which directly overlap with Vietnam's. This has led to maritime disputes and heightened tensions between the two countries. Underlying the claims are competing interests around the exploitation of natural resources, such as oil and gas reserves, in the South China Sea.
Vietnam has also increasingly received attention and investment from foreign companies seeking to diversify their supply chains beyond China. Examples include Nike, Samsung, Canon, Apple and Foxconn. This interest in Vietnam has been the result of a number of factors including labour costs in China, US-China trade disputes, China’s COVID response, and challenging Chinese policies being applied to foreign companies. Chinese firms are also investing in Vietnam in pursuit of easier access to international manufacturing and trading relationships outside China.
China and the Philippines
The relationship between China and the Philippines has been generally positive over recent years. Trade between China and the Philippines has grown significantly with China now the Philippines' largest trading partners with bilateral trade reaching around US$87.725 billion. Key commodities traded include electronics, textiles, apparel, machinery, chemicals and food products.
Like other South East Asian nations, China's territorial claims in the South China Sea have been an enduring source of tension with the Philippines. This has resulted in a number of maritime incidents and ongoing legal disputes. Conflict has been centred around the Scarborough Shoal that China took control of in 2012 and subsequently stationed maritime capabilities and undertook extensive construction activities. Other disputes include the Second Thomas Shoal, also known as the Ayungin Shoal that is currently controlled by the Philippines military.
The election of a new President in the Phiilippines, Ferdinand ‘Bongbong’ Marcos has seen a shift in relations between the US and the Philippines with indications that the Philippines will pursue a stronger approach to China. While clear about the need for a balanced approach, Marcos has stressed his concerns about China and the necessity for stronger military ties with the US. This was recently demonstrated with the Balikatan war games which involved over US and Filipino 17,000 troops. The Philippines government have also made it clear that they will publicise Chinese activities in the area through the media to raise awareness.
China and South Korea
At a high level, Chinas relationship with South Korea has been largely focused on its strong bi-lateral trade. China is Koreas main trading partner within an economy where exports contribute 70% of GDP. Koreas high tech industry is particularly connected to China with significant Korean investment and sales occurring within China. An example is the South Korean chipmakers. Samsung and SK Hynix who have invested more than $30 billion building fabrication facilities in China.
Current Korean President Yoon Suk Yeol has largely followed the decades long Korean stance towards China. This could be described as being cautious and the maintenance of status quo. That said, Yoon has concerned Beijing by seeking to strengthen South Korean ties with NATO, re-build its relations with Japan, and strengthen its cooperation with the US in deterring North Korea. The deployment of the Terminal High Altitude Area Defense (THAAD) missile defense system in South Korea by the US was not well received by China who saw it as a security threat.
The risks to the relationship between South Korea and China significantly relate to North Korea and whether North Korean military recklessness causes an incident and/or conflict with South Korea. A serious incident arising from North Korea could drive South Korea closer to the US and Japan and strengthen regional anti-China alliances. China’s influence and ability to constrain North Korea hence remains an important card it can play to retain South Korea in its orbit.
South Korea recognition of its need to reduce its reliance on China and diversify its trading partners are also noteworthy risks for China. This is because of the significance of Korean investment in China, technological influence, and potential to contribute to further isolation of China in the future.
China and Indonesia
China and Indonesia have a steady relationship based upon strong trade and the significant Chinese investment in Indonesia including the Belt and Road Initiative (BRI). The key challenge with the relationship between China and Indonesia is around maritime disputes and China's territorial claims in the South China Sea. This relates particularly to the resource-rich Natuna Islands, which are within Indonesia's Exclusive Economic Zone. Indonesia has taken steps to rapidly militarize the islands over the last ten years in an effort to deter further Chinese activities.
There is risk that the deterioration in US and regional relations with China could negatively impact sentiment towards China and its investment activity in Indonesia. Other issues such as the Chinese treatment of the Muslim minority Uighurs could also attract wider condemnation and a deterioration in the Indonesian view of China.
China and Germany
As with the EU more generally, trade between China and Germany has experienced substantial growth over recent decades. China become Germany's largest trading partner outside the EU with exports of US$113.38 Billion during 2022. Germany is China's most important trading partner within the EU and currently has a trade deficit of $US 84.3 billion euros. Chinese exports include electronics, machinery, and textiles to Germany, and automobiles, machinery, chemical products, and electrical equipment goes the other way.
While the economic ties between China and Germany have been mutually beneficial there has been concern on the German side around fair market access. This primarily relates to intellectual property rights, restrictions on German investment in China, and forced technology transfer.
The relationship between Germany and China is nested within the wider EU relationship and the war in Ukraine has accelerated receptiveness for a more assertive Germany on the global stage. In 2022, German Chancellor Olaf Scholz declared that Germany would need to undertake a ‘Zeitenwende’ or turning point in its role [in the world]. In 2023, Germany announced the provision of US $3 billion to Ukraine including tanks, anti-aircraft systems and ammunition.
The question remains the extent to which Germany takes up this more prominent leadership and ‘stabilizing’ global role and with it a shift away from primarily a trade led approach. This could mean a Germany that is less ‘neutral’ with China and adds further weight to a Western perspective.
China and Australia
While Australia is not one of China’s immediate neighbours and is one of China’s smaller trading partners – the relationship is in some ways a useful 'case study' for China. Australia is China's fifth biggest source of imports and 10th largest export market. Key Australian exports to China include iron ore, coal, liquefied natural gas (LNG), and agricultural commodities.
There is no doubt that Chinese and Australian relations have become increasingly challenging over the last twenty years. Australia's long standing alliances with the US, Japan and other South East Asian countries has long put it in the cross hairs of Chinese foreign policy objectives. Australia was one of the first countries to question China’s COVID response and Australia has raised human rights issues in China for a number of years. Other issues have included cybersecurity, the South China seas and freedom of navigation, and allegations of Chinese foreign interference.
The China - Australia relationship provides an indication of the Chinese view of the region and the extent it does and does not separate its economic and political objectives.
What to watch in 2023:
Escalation of tensions in the Taiwan Straits. The increased volume of Chinese air and maritime forces in the Taiwan Straits raises the probability of a miscalculation and/or incident involving the military forces of Taiwan, the US or another ally. A serious incident would require rapid de-escalation and even if conflict was avoided it would provide grounds for new measures against China.
Signs of increased US political support for Taiwan through elected representatives or government officials. This could include informal/formal visits to Taiwan and military support and exercises. The nature of these visits could be indicative of how the US views Chinese strength and believes there is a window to press an advantage and build longer term stability in the Taiwan Straits. The Ukraine war has provided a clear illustration to China of the political and military risks with an attack upon Taiwan and this will hearten the US and its allies.
Escalation of the territorial disputes with India. Another serious incident along the Line of Actual Control (LAC) would significantly harden Indian resolve and bring with it the possibility of: military conflict, India moving away from non-alignment to ‘take sides’, and a detrimental impact upon Chinese business interests in India.
An escalation in any one of a number of existing territorial disputes in the South China or East China seas could lead to increased tensions and conflict. This could involve the Philippines, Vietnam, Indonesia, Taiwan, Japan and their respective allies. While Chinese military superiority is assumed over its neighbours, the impact if such a conflict could be significant on the Chinese reputation and interests.
Ongoing tension between the US and China corresponding to increased tension within China’s other key bi-lateral relationships and/or in the region. China could suffer a loss of stature towards regional leadership. Non-aligned and predominantly ‘trade’ based bi-lateral relationships could also become increasingly vocal regarding other socio-political issues as public sentiment shifts against China.
The rapid build up of the military capabilities of China’s neighbours in response to China’s territorial claims and military activities. These capabilities will increase the likelihood of a more assertive response by these nations to China.
Increasing levels of economic competition between China and its neighbours as they perceive opportunity to attract foreign manufacturing and investment away from China. Specific industries and regions in China could be particularly impacted as industry shifts away to new regional locations.
Cyber intrusion activity undertaken by Chinese based actors causes significant impact in the target industry and/or country. The extent of the activity could cause hardened policy settings against China and Chinese interests.
More countries to restrict market access to Chinese technology companies to their telecommunications, 5G, and other advanced technology projects based upon security risks.
Strategic concerns about Chinese developed technology and its connection with the Chinese government limits the international demand for collaborative projects, standards development, and market access. This could impede Chinese research and development and reduce the international demand for Chinese goods and services.
Reputational damage to China if further incidents should occur in the disputes in the South China Seas. Falling sentiment towards China across the region could lead to public support for measures to counter China through trade and other means.
Further outbreaks of COVID or any other similar health emergency is attributed to China and causes ongoing political, economic and social disruption. As well as the direct impact upon supply chains, bi-lateral and regional trading partners may accelerate the exit from Chinese suppliers.
More international companies to shift operations out of China and to the likes of India and Vietnam and other regional locations as a direct result of the US-China trade issues, rising costs, Chinese government policies and concern with supply chain security.
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Last updated: May 2023
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