Commentary | 16 October 2018

Donald Trump begins a conscious uncoupling from China

Originally published in Australian Financial Review 

Originally published in Australian Financial Review 

It is barely a decade since the publication of The World Is Flat, the Thomas Friedman book that painted globalisation as a seemingly unstoppable trend along with the enmeshment of the world's giant economies, the US and China.

But if the world was ever flat, as the New York Times columnist insisted, it doesn't look that way any more. In Washington at least, since the election of Donald Trump, the world has begun to buckle.

For evidence of this mega-trend, look no further than the phrase that has become the talk of Washington, of a "de-coupling" between the US and China.

Much like the phrase actor Gwyneth Paltrow popularised when she announced her divorce a few years ago, this is very much, at least on Washington's side, a conscious uncoupling.

Put another way, the US has decided it should start to disentangle its economic relationship with China in key sectors in its own national interest and security.

It is a radical idea, with unpredictable costs, especially for America's allies in Asia, like Australia.

Donald Trump envisages an extreme version of this policy, to bring all manner of supply chains, not just those involving some form of national security, to create jobs in the US.

National security

A narrower version of the same policy focuses on select product lines, technologies and capabilities which the US government believes it must preserve on national security grounds.

Washington, in turn, will be pressuring allies like Australia to follow suit, in effect asking them to make a long-term bet on US industry policy on the grounds of alliance solidarity and national security.

Washington's policy is to make its friends choose between the US and China, the last thing many of them want to do.

However such a plan is finally designed, Washington is committing itself to upend the foundation block of the global economy since Asian nations began to modernise and grow in the 1950s, starting with Japan.

China represents the pinnacle of this model, in which Asian countries used cheap labour and subsidised capital to attract investment and manufacturing, to generate wealth to build advanced industries of their own.

The US reacted with alacrity when Japan emerged as a direct economic competitor in the late 1980s, and pressed Tokyo to adopt a range of export restraints and market openings.

But Japan and the US were allies, which meant the two sides' trade wars were circumscribed by common security interests. China, by contrast, is a geo-strategic, political and military rival, and a potentially much more formidable economic competitor than Japan ever was, if only because of its size.

US policy towards China, once based on the premise that Beijing's embrace of the market economy would bring it closer to the western political model, has been turned on its head.

Intertwined economies in Asia

In meeting after meeting in Washington in October, I was told the US had decided it would no longer, as officials put it, "enable" China's rise. Instead, the US would pursue policies to protect its own interests more directly.

This is where de-coupling comes in, with Washington designing a range of policies, starting with tariffs, to force US companies in key technology and industrial sectors to manufacture almost anywhere but China.

The Americans argue, with much validity, that they are late to the game of de-coupling. Beijing's signature policies to build and protect local industries, such as China 2025, are all aimed at displacing foreign technology, especially from the US.

Having benefited from an open trading system underwritten by the US, the Chinese want to use their wealth and assets to exclude foreigners from strategic sectors of their economy.

Ironically, the Trump administration's policies will hasten China's instincts to pull up the high-tech drawbridge and keep the US out.

The policy of de-coupling, however, even if it were possible, comes with potentially debilitating flaws for America's allies and partners in Asia, especially countries integral to the regional supply chain, like Japan, South Korea, Taiwan and Singapore.

Their economies are intertwined with China. They supply high-tech components, such as semi-conductors, for the final assembly of products in China, often into factories owned by their multinationals.

It is true some regional centres might benefit from de-coupling by luring multinationals, now based in China, to relocate to their countries. There is already evidence that Malaysia and Taiwan are trying to do just that.

But in pushing China out of the global supply chain, Washington might also damage businesses in friendly countries. Given China's increasing economic ascendancy in the region, countries and companies in many sectors may feel they have no choice but to choose China.