Payne’s great leap forward for China ties
Action is afoot against Beijing’s expansionism
After more than two years of strain, Australia-China relations have taken a huge leap forward this week with visits by Foreign Minister Payne and Trade Minister Simon Birmingham, as well as a contingent of business leaders, Queensland Premier Annastacia Palaszczuk and the Queensland Ballet.
The week has seen the first visit by an Australian foreign minister since Julie Bishop’s frosty reception in Beijing in February 2016, and the first official visit by a trade minister to China since the former minister Steve Ciobo was in Beijing in September last year.
The events coincided with a big showing by Australian companies at China’s first big import expo in Shanghai.
On Thursday morning Senator Payne met her Chinese counterpart Wang Yi at the Diaoyutai guesthouse, held a series of meetings and then, in the evening, launched the hardcover version of 45 years, 45 stories produced by the Department of Foreign Affairs and Trade to mark 45 years of Australia-China relations.
Last night in Shanghai, the Queensland Ballet opened the first night of its four-city China tour with Liam Scarlett’s production of a Midsummer Night’s Dream under the artistic direction of Li Cunxin, famous for his autobiography Mao’s Last Dancer.
After many ups and down in the relationship, to use the words of Mr Wang, the Australia-China relationship is looking a lot better than it has for some time.
Now three months into the job of Foreign Minister, a confident Senator Payne made repeated comments during her one-day visit to the Chinese capital about the warmth of her welcome — im- portant words in a relationship that has been frosty for some time.
In her preliminary comments as the Australians faced the Chinese across a long table at the start of the talks, Senator Payne recounted going to China as a staffer with a former NSW premier 25 years ago as Australian were beginning to see the opportunities in the China market.
When she praised the Shanghai expo, an initiative of Chinese President Xi Jinping, Mr Wang’s normally stern face lit up.
Australia has realised it needs to take a more diplomatic approach to its dealings with China, but it can do so at the same time as making decisions China might not like.
And China has recognised that in a more security conscious, fractious Trump-led new world order, that the relationship can withstand some decisions that it really doesn’t like, including the ban on Huawei from supplying Australia’s next-generation 5G network.
Senator Payne and Mr Wang’s more than two hours of talks came after the news Canberra was considering blocking a bid by the Hong Kong-based CKI for pipeline company APA — which some observers initially took as another anti-China move.
But by careful wording of the announcement, Senator Payne was able to explain that it was because one foreign investor was already seen as having significant ownership of critical infrastructure in Australia and not a measure aimed at any one country.
Listening to her explanation, Mr Wang indicated the relationship would not be affected by “one decision”.
That said, there are many potential stresses in the relationship, including China’s role in the South China Sea and the Pacific Islands as well as its mass “re-education camps” of Uighur Muslims in the Xinjiang region.
Chen Hong, director of the Australian Studies Centre at Shanghai Normal University, described the meeting as a “concrete step to bring the standstill of bilateral relations out of the freeze”.
“Both sides have shown their willingness to improve the relationship which is very important to both Australia and China in this time of uncertainties,” he told The Weekend Australian yesterday.
He was critical of the decision to block the CKI bid for APA as a “new barrier on the path of the improvement of the relationship”.
Yet to be outlined in any detail is the one agreement which appeared to be reached on both sides about working together in the Pacific Islands. Senator Payne said later it could involve health and education initiatives. While her ideas were not very specific, the fact that both sides are looking for joint aid and humanitarian work in the Pacific Islands could go some way to help to diffuse tensions over that region.
The next step is a visit to China by Prime Minister Scott Morrison which could be on the cards before the end of the year. It is not a certainty but what is certain is that relations between Australia and it biggest trading partner have reached a pragmatic new and potentially workable accommodation for the simple reason that both sides have recognised it is in their best interests to do so.
Relations with China look set to thaw after a lengthy diplomatic freeze brought about by the Coalition’s tough response to Chinese influence operations in Australia, cyber theft and a growing rivalry in the South Pacific.
Foreign Minister Marise Payne’s two-day visit to Beijing is being touted as an icebreaker. A follow-up visit by Scott Morrison is likely despite China’s displeasure over Canberra’s decision to block a Hong Kong company’s bid for gas pipeline company APA on national interest grounds. Business leaders are delighted Xi Jinping has signalled his apparent willingness to allow foreign companies better access to the Chinese market in a landmark speech to an international import expo in Shanghai this week.
But not everyone is convinced that this marks a decisive turning point in Sino-Australian relations or that Beijing will really open its protected domestic market to international competition. And critics are sceptical of China’s ability to weather the approaching trade and geopolitical storms that are clouding the rosy future Xi depicts for his country. The paradox of China’s rise is that the more successful it becomes, the more there are doubts about the durability of the Chinese economic miracle.
So how can we make sense of these conflicting opinions? To better understand the likely trajectories of powerful states, experts construct and debate hypotheses known as alternative futures. Many Australians believe this century will belong to China, a future considered far likelier than the alternatives of China muddling through or imploding because of unresolved political tensions. This view is championed by the Australian National University’s Hugh White, who says China will become “the world’s richest and most powerful country in the 21st century”.
However, the possibility — once considered contrarian — that China may stagnate rather than prosper is gaining traction and needs to be taken seriously. If correct, this would require a substantial rethink of our assumptions about China’s future, and the implications for policy and business risk management would be profound. The stagnation thesis rests on the increasingly plausible argument that China’s continued rise is threatened by the convergence of three economic, demographic and geopolitical trends. Its debt and expenditure are approaching dangerously high levels at the wrong time in the country’s economic and demographic cycles as the economy slows and the population begins to age rapidly.
Xi’s desire for centralised control over all sectors of the economy is dampening the dynamism of the technology sector. All this is taking place at a time of expansion in China’s global influence and presence, which is resource intensive and is generating an international push-back that is gathering momentum, threatening a new cold war, complicating China’s choices and raising the political stakes for Xi.
Stanford University economic historian Niall Ferguson is one of many international observers who worry the trade war with the US will postpone essential reforms that are necessary to deal with mounting debt, overcapacity in heavy industry and the opacity of the shadow banking system. Ferguson says “winter is coming” for highly leveraged economies such as China.
In Australia, a leading proponent of the stagnation thesis is the respected director of the Australian and Japanese Economic Intelligence Unit, Manuel Panagiotopoulos. He believes the Chinese economy is “a house of cards, growing on performance-enhancing drugs like unsustainable debt and fiscal expenditure”.
Panagiotopoulos tells Inquirer China’s stellar economic performance in the past decade is largely attributable to super-rapid credit growth in which its non-financial sector credit nearly doubled to 235 per cent since the 2008 global financial crisis.
As Alan Kohler has written in this paper, financial China resembles “a Ponzi scheme”. The banking sector’s $US40 trillion ($55 trillion) loan book is equivalent to about half of global gross domestic product, a level of debt that is double the rate of increase in debt to GDP incurred by the US in the lead-up to the GFC.
Most of this has been spent on construction, much of which is unlikely to generate a commercial return. In a future of demographic decline, this is a ticking financial time bomb. The Chinese Communist Party can choose to reform lending and accelerate a downturn or maintain lending at present high levels and create a much bigger crash down the track. The party appears to have chosen the latter option.
Based on extensive personal research, Panagiotopoulos says the demographic impact on the economy has been greatly underestimated. The latest population projections bear him out. Chinese fertility rates fell below replacement levels 20 years ago and the ageing of the population is accelerating. In the early 1980s, only 5 per cent of the population was over 65. Today, that figure is 10 per cent, putting the country on track to become the world’s most aged society by 2030.
Thus, China’s once vaunted demographic dividend becomes a demographic impost, exacerbated by the one-child policy, as the supply of cheap labour dries up.
“Under the impact of an ageing and shrinking population, high levels of existing capital stock will be met by continually lower consumer demand, lower profitability and raised debt repayment ratios” creating deflationary pressures and leading to “a precipitous drop in China’s economic growth rate”, Panagiotopoulos says.
We are not talking about a slowing economy where China drops back to the growth rates more typical of developed economies over time. Nor is this a prediction of recession, which is part of the normal economic cycle and which undoubtedly will take place in China at some point. Panagiotopoulos says China “will follow the path of other ageing societies and face economic growth rates close to or below zero per cent, all while its GDP per capita remains low.” Its future will be more like Japan’s during the past two decades: economic slump followed by deflation. The key difference is that Japan became rich before getting old, whereas China’s per capita income won’t get to Japanese levels before demographic decline reduces economic vitality.
Writing in the journal China Watch, Mahon China Investment Management executive chairman David Mahon says although China soon may become the world’s largest economy, it is also one of the poorest economies of scale: it has a per capita GDP of between $US12,000 and $US15,000 (depending on how it’s measured) ranking it about 100th in the world and on a par with Suriname and the Dominican Republic. Mahon says: “The size of the Chinese economy does not make the country a superpower that can match the might of the US economy.”
There are also question marks about China’s capacity for innovation. This seems counterintuitive given China’s advances in science and technology. Hardly a day goes by without news of the latest breakthrough by Chinese researchers, scientists and hi-tech entrepreneurs in super computers, new materials, quantum teleportation and stealth fighters. Chinese research and development spending is expected to surge past the US within a decade.
These gains are largely attributable to the enormous resources Beijing is pouring into strategic industries and scientific R&D as well as intensifying collaboration with foreign, mainly US, scientists.
But critical features of China’s innovation landscape are weak and there are growing doubts about how much bang for the yuan it gets for all this investment.
ANU’s Andrew Kennedy says the return on investment is patchy and “the efficiency with which Chinese companies translate investment into valuable patents and competitive new products is quite low. Even the state-controlled media derides China’s patent boom as ‘high quantity, low quality’.” Much has been made of the gains China has made from stealing militarily and commercially valuable intellectual property. But Kennedy says there are real challenges in assimilating and applying knowledge from stolen IP, which inhibits the development of an innovation culture domestically and creates organisations “optimised for imitation rather than innovation”.
The willingness of foreign companies to invest and scientists to collaborate may cool or be restricted because of an escalating push-back against China led by the US. After a long period in which Xi’s charmed geopolitical run seemed unstoppable, the international environment is beginning to turn against China. The man dubbed “Chairman of Every- thing” soon will have to pay a real price for the gains made on the back of what the Trump administration has branded China’s mercantilist and predatory behaviour. Few expected such an abrupt turnaround.
From the South China Sea to Africa, central Asia and South America, the world has become conditioned to the presence of Chinese diplomats, engineers, advisers and military personnel. But the problems associated with this enlargement of China’s influence and presence are multiplying for Xi. The trade war with the US is evolving into a full-spectrum contest with the US for global preeminence. US Vice-President Mike Pence’s October 4 speech makes clear Washington is going to make life far more difficult for Xi by targeting China’s vulnerabilities and limiting or proscribing co-operation on a wide front.
Alarmed by Chinese inroads into their traditional spheres of influence, other countries are conducting their own push-backs. In the South Pacific, the Morrison government is flexing its financial and aid muscles to deny China the use of ports and airfields that could be used for military purposes. It announced a $2 billion infrastructure initiative on Thursday.
The British, French and Japanese navies are ramping up their South China Sea activities to signal their support for freedom of navigation and their refusal to recognise China’s claims to disputed islands in the Spratlys and Paracels. Malaysia, Vietnam and The Philippines have all strengthened their maritime capabilities. And Indonesia and India signed an agreement in June to develop strategic ports on the eastern entrance to the Malacca Strait, drawing complaints from China that this could ignite a “military race”.
Officials across Europe are publicly expressing concern about the security implications of Chinese ownership of critical infrastructure such as communications to airfields and port facilities.
Pretty soon, Beijing is going to run up against significant financial constraints just to maintain, service and protect this substantial and expanding new universe of people and capital projects as other large powers have discov- ered to their cost. Imperial overreach is a condition for which we have yet to find an antidote.
This year alone, China has lent African countries $US60bn, some of it interest free, and has had to write off loans to several of the continent’s poorer states. Xi’s Belt & Road Initiative, where return on capital seems to be a secondary consideration, is starting to look more like a drag than a boon.
Any sudden downturn in the Chinese economy could worsen this squeeze and make more likely the deflation anticipated by stagnation proponents. The problems confronting Xi are all potential stagnation triggers for a self-described developing country. They include “known unknowns” such as environmental pressures, inequality (the second highest in the world), the trade war with the US and continued restiveness in Xinjiang, Tibet and Hong Kong.
Then there are the costs of maintaining the surveillance state and its Orwellian social credit system. US Studies Centre senior fellow John Lee estimates Beijing “spends more than 40 per cent of its budget on external defence and internal security after taking out obligatory fiscal transfers to provincial and local governments”.
Such elevated levels of national security spending will be difficult to sustain as the population ages and demand for better healthcare and social welfare increases. It doesn’t require a big leap of imagination to see a downturn catalysing domestic discontent and amplifying criticism the government should be addressing problems at home rather than wasting money on foreign ventures.
The immediate problem for Xi is trying to work out whether US President Donald Trump will make good on his threat to levy tariffs on the remaining $US257bn of Chinese imports. It’s true the tariffs are likely to prove mutually damaging when viewed from a narrow trade perspective. But in the wider competition foreshadowed by Pence, China stands to lose more because it exports to more than it imports from the US. Moreover, the supply chain disruptions flowing from Trump’s push-back will erode China’s advantage in labour costs and scale as US firms look to develop new manufacturing technologies.
There is also the impact of “unknown unknowns”, the unforeseen and unintended consequences of the shift from co-operation to strategic competition between an established super power and an aspiring one.
Even if this doesn’t bring an end to Xi’s winning streak, the economic turbulence generated could fuel political and social unrest, destabilising China’s political system.
The pivotal question for Australia is what would it mean for our prosperity and security should China once again stagnate and decline rather than becoming this century’s richest and most powerful country. The answer is the world would be a significantly different place requiring major policy and commercial adjustments as consequential as any we have made to support and accommodate China’s rise during the past four decades.
Prudence dictates we need to be open to alternative futures for our largest trading partner and that we need to periodically reexamine our assumptions about its trajectory. The stagnation thesis should be seen in this light because there are many reasons to doubt Xi will be able to recapture his country’s former greatness before demographic decline sets in.
Japan became rich before getting old, whereas China’s per capita income won’t get to Japanese levels before demographic decline reduces economic vitality
Alan Dupont is chief executive of political and strategic risk consultancy The Cognoscenti Group and a non-resident fellow at the Lowy Institute.
Xi Jinping’s desire for control over all sectors of the economy is dampening the dynamism of the technology sector AFP