China will be deglobalization’s big loser

CLAREMONT, CALIFORNIA – Russia’s unprovoked war against Ukraine has accelerated the division of the world into two blocs, one comprising the world’s democracies and the other its autocracies.

This, in turn, has exposed the risks inherent in economic interdependence among countries with clashing ideologies and security interests. And although the coming deglobalization process will leave everyone worse off, China stands to lose the most.

Of course, China was headed toward at least a partial decoupling with the United States well before Russia invaded Ukraine. And it has been seeking to ensure that this process happens on its terms, by reducing its dependence on U.S. markets and technology. To that end, in 2020 China unveiled its so-called dual-circulation strategy, which aims to foster domestic demand and technological self-sufficiency.

And yet, last year, China was still the world’s largest exporter, shipping $3.3 trillion in goods to the rest of the world, with the U.S. its leading export market. In fact, overall trade with the U.S. grew by more than 20% in 2021, as total Chinese trade reached a new high. Trade with the European Union also grew, reaching $828 billion, even as disagreements over human rights torpedoed a controversial EU-China investment agreement.

That agreement had been born of the belief that Europe would maintain strategic neutrality in the Sino-American cold war, in order to reap the economic benefits of engagement with China. But if human-rights concerns were enough to convince the European Parliament not to ratify the deal, Russia’s war against Ukraine — which China has tacitly supported and which has pushed the U.S. and the EU closer together — seems likely to drive the EU toward a broader economic decoupling from China.

One cannot blame Western democracies or their autocratic adversaries for prioritizing security over economic welfare. But they must brace for the economic consequences. And a middle-income autocracy like China will bear a far larger cost than rich democracies like the U.S. and its European allies.

For starters, China will suffer from reduced access to major Western markets. In 2021, Chinese merchandise exports to the U.S., the EU and Japan — accounting for 38% of total exports — amounted to nearly $1.3 trillion. If China’s access to these three markets is halved over the next decade — a likely scenario — the country will need other markets to absorb roughly 20% of its exports, worth some $600 billion (based on 2021 trade data).

Here, China appears to have no good options. China’s dual-circulation strategy indicates that not even its leaders expect other external markets to pick up the slack left by the U.S. and its allies. But China’s apparent belief that domestic demand can offset this loss also seems farfetched.

High debt, rapid population aging and an imploding real-estate sector will continue to hamper GDP growth, while sharp income inequality, soaring housing costs and inadequate social protections will constrain consumer demand. The closure of factories producing goods for export — and the associated job losses — will exacerbate these challenges further. A significant share of China’s infrastructure — especially energy and transportation networks — will be underused or even become redundant.

Aside from facing shrinking export markets, China will lose access to the technologies it needs to build a knowledge economy. U.S. sanctions have already crippled telecoms giant Huawei and prevented SMIC, a semiconductor manufacturer, from getting its hands on the most advanced technologies. If the U.S. persuades the EU and Japan to revive the Coordinating Committee for Multilateral Export Controls (CoCom) to choke off technology flows to China — a prospect made more likely by the Ukraine war — China will have little chance of winning the technology race with the U.S..

The third key cost of deglobalization for China is harder to measure, but it may well turn out to be the highest: the loss of efficiency gains from dynamic competition. Products made and sold in China are of a far higher quality today than they were two decades ago, largely because Chinese companies must compete with their Western rivals. But if they are insulated from such pressure, they will not face pressure to produce higher-quality products at lower cost. This will hamper innovation and hurt consumers.

All of these costs might be bearable if economic decoupling actually made China more secure. And, at first, it might seem to be doing just that, with China reducing its vulnerability to the kinds of economic and financial weapons that the West has deployed against Russia. But as China’s economic might declines, so will its position on the global stage — and the Communist Party’s status at home.

Seven decades ago, Mao Zedong embraced economic self-reliance and foreign-policy militancy, which turned China into an impoverished pariah state. This history should be a stark warning to President Xi Jinping: if he allows Russia, China’s “no limits” strategic partner, to divide the world with its war on Ukraine, it is China that will pay the heaviest price.

Minxin Pei, professor of government at Claremont McKenna College, is a nonresident senior fellow at the German Marshall Fund of the United States. © Project Syndicate, 2022]