The Real China Challenge: Imperial Overstretch

February 24, 2018 Topic: Security Region: Asia Tags: National SecurityChinaLeadershipWarEconomy

The Real China Challenge: Imperial Overstretch

At some point soon, Beijing will be unable to fulfill commitments and therefore make itself vulnerable.

Finally, Chinese society for some time has been restless, unsettled, volatile and angry. Xi has aggravated the situation by encouraging what Arthur Waldron, the University of Pennsylvania historian, calls a “feral anti-Western reflex.” That xenophobia underpins Xi’s goal of creating “confidence in our culture,” an element of his “Four Confidences” initiative.

As part of that effort, the Chinese media has been cheering the destruction of symbols considered foreign—such as, most recently, Santa Claus. “We all know that race hatred and xenophobia are pure poison, never to be touched, but there are times when such reasonable sentiments frustrate a militaristic government,” Waldron told the National Interest, referring to Xi’s China. He continued:

“Then it will reach deep into its medicine chest, pull out the small bottle of race hatred labeled with the sinister skull and cross bones, thinking ‘a few drops of this will do the trick’ as they seek to whip a calm population into a mob consumed by primitive hatred and destructiveness.”

That is, in broad outline, what Mao Zedong did, except that where Mao used “rightist forces,” Xi targets those who are not Chinese. Xi’s veneration of the first leader of the People’s Republic, evident from the start of his rule in late 2012, shows he thinks the country should look back to one of the darkest times in its history for inspiration.

In sum, China has passed an inflection point. “The really extraordinary thing about 2017 is how abruptly the China story has reversed,” wrote Douglas Bulloch for Forbes. When that year began, the country appeared to own the century. Now, many are worried that China is regressing into a dangerous era.

No wonder many Chinese these days are living—or are preparing to live—anywhere but China.

SO WHAT is Washington capable of? It can, should it so choose, trigger economic and financial crises in China. The Trump administration can accomplish that by doing nothing more than enforcing American law. Chinese banks have been laundering North Korean money through New York for decades. At the end of June, Treasury Secretary Steven Mnuchin designated Bank of Dandong a “primary money laundering concern” pursuant to Section 311 of the Patriot Act, thereby imposing what is essentially a death sentence on the small Chinese bank. That bank can no longer clear transactions in dollars, the world’s dominant currency.

The Trump administration obviously intended the designation to be a signal to the Chinese to stop cleaning up cash for the Kim regime. Beijing seemed to get the message when, in September, the Chinese central bank ordered commercial banks to sever some ties with North Koreans, but there are clear indications that the order has been ignored.

“Chinese customers are still violating U.N. sanctions by buying coal from North Korea,” sanctions expert Joshua Stanton told the Hill in December. “They’re almost certainly paying North Korea through our financial system, using a Chinese bank. Justice Department documents have implicated large Chinese banks in coal purchases from North Korea.” And evidence suggests that Chinese entities since October have been transferring oil to Pyongyang, again requiring the assistance of China’s banks.

“If the Obama administration was willing to impose heavy fines on Europe’s biggest banks for violating Iran sanctions, the Trump administration must be willing to hold Chinese banks accountable for breaking our laws and U.N. sanctions, too,” says Stanton, who runs the One Free Korea site.

China’s largest banks, from all indications, would be principal targets of new Section 311 designations. Bank of China, one of China’s Big Four banks, was named in a 2016 UN report for operating a laundering scheme in Singapore for the regime of Kim Jong-un. From all appearances, the bank has been engaging in this criminality in other locations, especially Chinese cities bordering the North.

Moreover, Bank of China, which does business in the United States, is probably not the biggest Chinese bank participating in cash cleaning for Pyongyang. That honor may go to China’s largest bank—and the world’s largest bank as measured by assets—the Industrial and Commercial Bank of China.

The effect of a Patriot Act designation on a large Chinese institution would rock the Chinese banking system, destabilize Chinese markets and perhaps trigger the final loss of confidence in the Chinese economy.

THAT ECONOMY is also subject to other American pressure. In August, Robert Lighthizer, the U.S. trade representative, initiated, pursuant to Section 301 of the Trade Act of 1974, an investigation of China’s persistent theft of American intellectual property. These investigations permit the imposition of extraordinary remedies, such as across-the-board tariffs. There is also an investigation pursuant to Section 232 of the Trade Expansion Act of 1962 into Chinese steel and aluminum imports. In November, the Commerce Department initiated antidumping and countervailing-duty investigations pursuant to the Tariff Act of 1930.

China is particularly vulnerable to American action. In 2016, the U.S. merchandise trade deficit with China amounted to $347.0 billion, which constituted a staggering 68.0 percent of China’s merchandise trade surplus. And from all accounts, China’s dependence on the United States widened in 2017 as its surplus against America surged to a record while its overall surplus declined.

China’s dependence on the United States undercuts the oft-heard narrative that Beijing could hurt the U.S. economy through retaliation. Yes, the two countries are, as the official China Daily tells us, “increasingly interwoven,” but that does not mean America should be afraid of using its power. For one thing, trade-deficit countries have relatively little to lose from trade wars. Therefore trade-surplus countries, like China, are usually hesitant in sustaining trade friction.

Moreover, there are other reasons for Beijing to shrink from a fight with Washington. The United States does not have an economy geared toward selling to China. China, however, does have an economy geared toward selling things to America.

Finally, the American economy in 2016 produced $18.62 trillion of gross domestic product. China claimed its 2016 GDP was $10.83 trillion. Bigger combatants have decisive edges in trade wars, especially when the gaps are this large.

Beijing, of course, has cards of its own to play. It could, for instance, use the American debt it holds—about $1.19 trillion of it—to influence Washington. Chinese state media has, since mid-2007, talked about employing the “nuclear option”: selling American debt to punish Washington. In January, Chinese officials evidently whispered to Bloomberg that they might stop purchasing American debt.

Beijing’s foreign exchange regulator refuted the report, and China has never employed the nuclear option, for good reason. For one thing, China’s central bank has already been selling Treasury obligations since 2014 to defend its currency, the renminbi, as a tactic to reduce capital outflow. Since then, China’s foreign currency reserves have fallen by almost $900 billion according to official reports, and more according to unofficial tallies. So Beijing has, for its own reasons, already been unloading dollars during the period, while America has remained unaffected.

Moreover, selling debt is not much of a weapon. Sales of dollar debt—all of America’s sovereign obligations are denominated in its own currency—would net China greenbacks. If Beijing were selling debt to target Washington, it would have to convert its dollar proceeds into assets denominated in other currencies. That means those currencies would, due to the pressure generated by China’s purchases, soar in value. And that means the central banks of those countries would have to buy dollars to bring their money back to the levels that prevailed before Beijing’s purchases. In short, China’s actions would have little long-term effect on the dollar’s value. Sustained Chinese sales would mean, however, that American debt would be held by Washington’s friends, rather than by the Chinese.

Beijing does have considerable leverage over American companies doing business in China—these businesses have always been akin to hostages—but Chinese power is less significant than first appears. Beijing has, during Xi Jinping’s rule, attacked foreign businesses in especially predatory ways, so they have already suffered much. Beijing could do more to injure them, but it will, in all probability, do more anyway as Xi seeks to close off market opportunities to foreign competitors.

IN ANY event, the Trump administration is not helpless. It can always retaliate against Chinese businesses operating in the United States and, in the case of a formal expropriation by China, freeze Beijing’s hoard of U.S. obligations. Chinese leaders can always huff and puff—and they will—but they are not holding the aces in the deck.

China’s leaders have one important advantage, but it is one that Americans, on their own, have conferred on Beijing. And it is an advantage Americans can take back anytime they choose.

China holds a special place in the imagination of Washington policymakers, and that gives Beijing, as a practical matter, power. Since Nixon, Americans have believed the integration of China into the international system—the liberal world order—was one of their most important goals. Over time, they also came to believe the United States had a stake in the maintenance of Communist Party rule.

That perception is changing fast. Now, virtually no one believes in what Washington-based journalist James Mann aptly termed “The China Fantasy.” Beijing by now has disappointed those who had accepted—and who had based American policy on—the notion that sustained economic development would ultimately lead to a democratic China, or at least a China playing the role of a “responsible stakeholder,” as Robert Zoellick famously termed it in 2005.