Three ways of looking at Chinese economic statecraft

Posted By Daniel W. Drezner Wednesday, October 20, 2010 - 10:01 AM Share

Keith Bradsher reports on the latest move in Chinese economic statecraft:

China, which has been blocking shipments of crucial minerals to Japan for the last month, has now quietly halted some shipments of those materials to the United States and Europe, three industry officials said this week.

The Chinese action, involving rare earth minerals that are crucial to manufacturing many advanced products, seems certain to further intensify already rising trade and currency tensions with the West. Until recently, China typically sought quick and quiet accommodations on trade issues. But the interruption in rare earth supplies is the latest sign from Beijing that Chinese leaders are willing to use their growing economic muscle.

"The embargo is expanding" beyond Japan, said one of the three rare earth industry officials, all of whom insisted on anonymity for fear of business retaliation by Chinese authorities.

They said Chinese customs officials imposed the broader restrictions on Monday morning, hours after a top Chinese official summoned international news media Sunday night to denounce United States trade actions....

The signals of a tougher Chinese trade stance come after American trade officials announced on Friday that they would investigate whether China was violating World Trade Organization rules by subsidizing its clean energy exports and limiting clean energy imports. The inquiry includes whether China's steady reductions in rare earth export quotas since 2005, along with steep export taxes on rare earths, are illegal attempts to force multinational companies to produce more of their high-technology goods in China.

Despite a widely confirmed suspension of rare earth shipments from China to Japan, now nearly a month old, Beijing has continued to deny that any embargo exists.

Industry executives and analysts have interpreted that official denial as a way to wield an undeclared trade weapon without creating a policy trail that could make it easier for other countries to bring a case against China at the World Trade Organization.

So far, China seems to be taking a similar approach in expanding the embargo to the West.

Hat tip to Will Winecoff, who asks, quite reasonably, "What in samhell is China thinking?"

Assuming that the New York Times story is accurate, there are three ways to think about what Beijing is doing. First, this could just be all about domestic politics. Bradsher notes that the decision was made after a Central Committee meeting. It's possible that as the currency wars heat up, and as the U.S. starts complaining to the WTO, there was a need to assuage some nationalist outrage. Of course, no one really knows what Chinese domestic politics looks like, so who the hell knows how much validity to give to this argument.

The second way to look at it is that China's leaders have been reading The Sanctions Paradox. I argued in that book that high expectations of future conflict between the sanctioning and the sanctioned state would lead to frequent episodes of economic coercion, but each attempt would yield only minimal concessions. So far, this model holds up: the past month of China's rare earth export controls have yielded them exactly one returned fishing boat captain. Maybe they are hoping that extending the ban to the United States will force Washington to back down in their WTO complaints. Given rising conflict expectations, that's about the most they're going to get from this action.

The third way to think about it is that China is being ridiculously short-sighted in their use of economic coercion. As Patrick Chovanec notes at Seeking Alpha:

[China] really shot itself in the foot. By flexing its muscles so eagerly, over a relatively minor incident, it alarmed its customers and possibly frightened them off, when a softer approach might have lulled them into continued and deepening dependence. There's no question that China can extract rare earths at the cheapest price, in purely monetary terms. But now China's trading partners must be seriously wondering, what could the real price amount to, when the bill eventually comes due?

China's foreign economic policies with respect to raw materials suggests that Beijing doesn't think market forces matter all that much -- what matters is physical control over the resources. This is a pretty stupid way of thinking about how raw materials markets function, and it's going to encourage some obvious policy responses by the rest of the world. Non-Chinese production of rare earths will explode over the next five years as countries throw subsidy after subsidy at spurring production. Given China's behavior, not even the most ardent free-market advocate will be in a position to argue otherwise.

More importantly, China's perception of how economic power is wielded in the global political economy is going to have ripple effects across other capitals. If enough governments start reacting to China's economic statecraft by taking similar steps to reduce interdependence with that country, then China will have created a self-fulfilling prophecy in which geopolitics trumps economics. Another possibility is that the rest of the world will operate as before in dealing with each other, but treat China differently, developing CoCom-like structures and fostering the creation of explicit economic blocs.

That really would be the worst of both worlds for Beijing. China is growing, but the economic weight of countries that prefer market-oriented ways of doing business is still much, much larger.

In going for the short-term gain, China is inviting a long-term containment policy. That might allow for some rally-round-the-flag support at home, but it's going to be a massive net loss for their economy.

EXPLORE:GLOBALIZATION, EAST ASIA, CHINA, CHINA, GLOBAL POLITICAL ECONOMY, GREAT POWER POLITICS, JAPAN, SANCTIONS, STRATEGERY
 

DANI K. NEDAL

6:12 PM ET

October 20, 2010

Two questions on the embargo

1 - Will it last? China's official statements, denying the existence of any such embargo, seem to suggest that it is a temporary occurrence.

2 - Is it really politically motivated? Or is it just a consequence of measures undertaken to correct imbalances in the rare-earth industry in China, which currently is highly inefficient, highly polluting and unsustainable over the long run?

My take on this:
China didn't strive for control of rare earths markets just so it could use it as political leverage, but acquired it accidentally as Western companies couldn't compete with China's lax regulations and suppressed factor costs. This is how it also became the worlds largest producer of iron ore, steel and coal and the manufacturing and exporting powerhouse it is today.

Corrective measures have been adopted to curb over-exploitation in many extractive activities and rationalize many sectors of the economy (especially steel) in order to reduce over-capacity and increase efficiency (especially energy efficiency). Reduction of export quotas, VAT rebate cancellations, and temporary halts on exportation have been used as measures to cool off inflationary pressures and manage occasional mismatches between local demand and supply in other categories of goods.

China's consumption of rare earth minerals has been creeping up on production for the past few years, and as China increasingly focuses on high-tech and green technologies, it is natural that its consumption of these elements should increase exponentially and that it may even eventually become a net importer, as it did with coal in 2007. In that sense, China probably won't mind that other countries enter the playing field, it might actually welcome it, since it will lower prices when it is already a net consumer.

So it may just be that the halt in rare earth exports is not as much an act of trade warfare or provocation as it is the (mainly) unintended result of a series of policies aimed at correcting serious imbalances in a sector that China sees as vital for its industrial and technological development and national security (just as Japan and the US do).

Cheers,

Dani K. Nedal
Consultant at STRC (dani.nedal@strc.com.br) and blogger at imminentcrisis.wordpress.com

 

UMESHGEETA

4:36 AM ET

October 21, 2010

Another way

To look at China's thinking is that China knows Public Opinion in USA quite well. Mine is a partisan take, but thinking would be as Americans simply become reactive to their economic plight, they are simply not in the capacity to react coherently to this 'ransom' by China.

How did America react to Oil Shock? What did America change then? Conservatives would argue that Rare Earths will not be any different, simply new mines will come up; let us continue our life style of not worrying about these sources in any nationalistic sense.

China would say - good luck to that. If not anything, at least it would take USA and other Western countries backward by 5 years in developing these alternative sources.

Bottom line - USA and Western nations can do 'jack' about this embargo as their own people resist any kind of collective action. When we ourselves are so out to destroy us, why should China worry about intimating USA & Others by this action? Because we are asleep and unlikely to wake up.

(Just test, how many Senatorial Debates ever discuss any of these issues.)

 

JT2010

7:23 AM ET

October 21, 2010

Stop writing about China

Dan,

You seriously need to stop writing about China. I've been reading your columns, your understanding of China is so elementary I don't know how you get away with it.

 

SONGSHU

7:33 AM ET

October 21, 2010

I don't understand...

the Chovanec quote.
This aggression by China is ostensibly a big deal because China has so emphatically cornered the rare earths market but it was ill advised by China because if they had abstained from this demonstration of force they could have eventually emphatically cornered the rare earths market? Nobody else sees a flaw in this logic?
One of the reasons I have a hard time taking this seriously is that no one can seem to agree on just how secure their monopoly in this particular area is (in fact, I remember reading an article on this very website a few weeks ago detailing how overblown these concerns are).
Monopoly aside, this situation is far less complicated than people are making it out to be. I agree with our distinguished Prof that we really have no idea how the domestic political machine of China operates. But we do know one thing. The Chinese HATE the Japanese. Like really hate them. More than you can imagine. And one thing that the Chinese government can never, ever, ever be seen as doing by its people is backing down to the Japanese. This is crystal clear to anyone who has ever spent time here. Go speak sometime with the 100 year old women who survived the rape of Nanjing. Their horror stories are actively imbued within subsequent generations. It is systemic, and pervasive (as are most things here). The legitimacy of this and every subsequent regime rests on the notion of (racial) superiority to and domination of their former colonizers. This is as crucial a domestic issue as currently exists and will be for a very long time.

 

ZATHRAS

3:49 AM ET

October 22, 2010

About Theory No. 1

Dan, if no one really knows what China's internal politics look like, it behooves people in your line of work to find out.

Don't you agree?

 

BLUE13326

3:47 PM ET

October 22, 2010

China knows how it's been

China knows how it's been treated: thousands of western companies have given up their IP to get access to the Chinese market; and nothing has been done when China has simply stolen the IP for itself. How long has it been since Westerners have been talking about enforcing IP laws? And yet nothing is done, because greed is the controlling factor here. China has us pegged: China knows that greed is our controlling factor, where, for example, a small company's market cap can double in a day when it gets access to the Chinese market, and who cares if eventually the company will get put out of business because it's IP gets stolen by the Chinese government; if the tech bubble and financial scandals of the late 90s taught us anything, it is that our business leaders think in short term and how much they can get for their stock options. China will keep pushing and pushing until they hit serious resistance. They haven't yet.

 

GEORGE MIFFLIN

3:07 AM ET

October 31, 2010

maybe -- but if there is no retaliation.. chinese hawks will say

Chinese hawks will call your bluff Dr. Drezner, unless the US imposes tariffs to save its industrial base.

Do you really think the US can be a rich country as a natural resource exporter?

 

GEORGE MIFFLIN

3:13 AM ET

October 31, 2010

change pic please, unemployment at 17%

in this depression -- you really should change your pic: makes you look smug and self-satisfied that you have a great job (+150,000 dollars a year?)

unemployment and underemployment is at 17% and will rise.

Remember:

GDP = C + I + G + I - M + X

US is in permanent depression.

Can C (consumption) rise? NO: everyone's in debt
Can I (investment) rise? NO: who would invest in a depressed economy?
Can G (government expenditure) grow? NO: Republicans will stop it.
Can trade balance (X-M) improve? NO: China keeps its currency devalued, US won't impose tariffs to reduce M.

 

Daniel W. Drezner is professor of international politics at the Fletcher School of Law and Diplomacy at Tufts University.

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