Pacific Money | Economy | East Asia

Rebalancing vs Decoupling: China-US Economic Ties and the Global Economy

The hyper-competitive international production chains that have long characterized Asia’s economies now face a significant political recalibration.

Rebalancing vs Decoupling: China-US Economic Ties and the Global Economy
Credit: Depositphotos

The China-U.S. economic relationship has arguably dominated much of the globalization narrative for over 40 years now. The economic integration of the two nations was framed until recently as a win-win partnership. Foreign investments into China generated millions of jobs first in manufacturing, and much later in services, driving China’s poverty reduction, industrialization, and modernization. Between 1978 and 2021, more than 770 million Chinese were lifted from poverty.

Meanwhile, China funneled the vast export revenues from its manufacturing engine into foreign reserve holdings in U.S. dollars, stabilizing the competitive Chinese exchange rate and sustaining the appetite of U.S. consumers for cheap imports.

Unsurprisingly, as China itself modernized, Chinese investors (and foreign investors in China) eventually began to tap other Asian countries’ comparative advantages in a larger way. China’s modernization and technological ascent made space for other countries in the manufacturing narrative. To cite one relevant statistic, over 60 percent of world trade by volume and about one-third of world trade by value transits through the South China Sea, reflecting highly integrated production chains in the Asian region.

Rebalancing the China-U.S. Relationship

The China-U.S. economic relationship faced tensions at least as far back as the late 1990s and early 2000s, when allegations of China’s so-called mercantilist policies began to fuel talk of trying to rebalance the relationship. Back then, China was accused of rigging its exchange rate and accelerating deindustrialization in the United States. Part of the goal at the time was to rebalance the relationship in favor of more U.S. exports to China, rather than to break the link altogether.

Breaking the relationship was the economic equivalent of mutually assured destruction. If the relationship was severed, China’s poverty reduction and modernization engine would grind to a halt, while the U.S. economy would go into a tailspin if its supply of cheap debt and cheap products dried up.

By the turn of the 21st century, international economic integration seemed to reach its peak, but tensions were also high, as the seeds of populism had already been planted. Scholars noted how the losers of this globalization process turned to populist parties and politicians, who rode into power on the back of inequality, uncertainty, and mounting dissatisfaction with the globalization process.

The United States was no exception. In the earlier globalization period, U.S. trade and investment policies reflected a deep tolerance of the China-U.S. interdependence – attempting to recalibrate it rather than take it down altogether. Things changed staring in 2016, with increased populist pressure and rising anti-China rhetoric. From 2017, in the face of renewed charges of currency manipulation, the newly elected administration of President Donald Trump ramped up various retaliatory measures, including wide-ranging tariffs on Chinese imports.

One key difference from earlier spats between the two nations is that economic issues are now increasingly meshed with national security concerns. China’s growing economic and technological ascendance is increasingly viewed as a national security threat by the United States. In December 2017, the congressionally mandated U.S. National Security Strategy talked about “a new era of strategic competition.” “Adversary,” “rival,” and “strategic competitor” were among the words used to describe the once close economic partner.

Tit-for-tat trade strategies on tariff escalation quickly gave way to stronger policy measures. In August 2022, the Biden administration passed the U.S. CHIPS and Science Act, which promised to boost domestic semiconductor chip production in the United States, while also countering China’s (and Asia’s) dominance of this sector. A White House factsheet noted how:

America invented the semiconductor, but today produces about 10 percent of the world’s supply – and none of the most advanced chips. Instead, we rely on East Asia for 75 percent of global production. The CHIPS and Science Act will unlock hundreds of billions more in private sector semiconductor investment across the country, including production essential to national defense and critical sectors.

In addition, the United States introduced sweeping export controls in October 2022, designed to stifle China’s access to certain semiconductor chips and chip-making equipment. The following month, the U.S. Federal Communication Commission decided to ban the import or sale of certain technology products from China that allegedly pose security risks to U.S. critical infrastructure.

These measures form part of many now refer to as the China-U.S. “tech war,” which signals a stronger attempt at decoupling – potentially forcing a broad array of economic actors, not just in these countries but in other parts of the world, to rethink and recalibrate their participation in international value chains that also involve China.

Decoupling the China-U.S. relationship?

Recent U.S. policy measures are creating ripple effects beyond U.S. companies, as investors from other countries expect they will be forced to choose between the United States and China. The Financial Times reported on one example:

On Wednesday, the huge chipmaker SK Hynix broke ranks among South Korean companies and admitted publicly that, despite the waivers in place for now, it might not always get away with the bloc-straddling game it and many other groups, particularly in South Korea and Japan, still hope to play. In a call with investors, the company’s chief marketing officer, Kevin Noh, said that it was making contingency plans for an “extreme situation” in which the restrictions enforced by Washington threatened the operation of Hynix’s huge memory-chip factory in China and obliged a reshoring back to Korea.

In the face of U.S. sanctions and export controls, similar decision-making processes are playing out in multinational giants around the world.

On the Chinese side, the country’s 14th Five-Year Plan emphasized its “dual-circulation” strategy. The plan envisions China remaining open to the world (the “great international circulation”), while also developing its own domestic market (the “great domestic circulation”). With economic modernization, the hundreds of millions lifted from poverty over the last four decades now form part of a vibrant middle class in a large and growing domestic Chinese market. Continuing to build on these gains and strengthening the country’s independence and resilience appear to be central to the new plan.

If this decoupling becomes permanent, an array of firms within and outside these two countries will likely adjust in ways that imply significant economic costs. The once much-vaunted and hyper-competitive international production chains that characterized the manufacturing muscle across Asian economies now face a political recalibration with attached economic costs and benefits. Clearly such investment decisions can be a boon for some Asian economies, like Indonesia, the Philippines, and Vietnam, that may take advantage of the realignment.

Some analysts also argue that the weakening of this complex interdependence through a costly and deliberate process of decoupling can also result in a weaker security environment. Economic integration and interdependence, embodied by deeply connected supply chains, are thought to be incompatible with conflict. Hence unwinding this relationship could also disturb the moderating effect of shared interests.

Ultimately, these sweeping changes may not necessarily reverse globalization, but they can certainly slow it down – further fanning some of the political flames that have produced populism and protectionism. How nations will adapt to the changing economic, political, technological, and security environment this decade remains to be seen. However, clearly the search for efficiency and the need to moderate costs will span both the public and private sectors, as governments, companies, and other economic stakeholders navigate a period of greater uncertainty and possibly slower growth.