Self-fulfilling Prophecy? The Consequences of America’s and China’s Decoupling

CSDS POLICY BRIEF • 8/2024

By Olivier Sueur

25.3.2024

Key issues

• The European notion of “de-risking” clouds a proper understanding of the reality of Sino-American competition, which in both cases subordinates the economy to strategy.
• The United States and China converge on the necessity to decouple their economies from each other for shared strategic reasons, implementing similar policies in an escalatory dynamic which is increasingly integrated in a preventive manner by companies.
• In this race for decoupling, China has skilfully used access to its domestic market to court the “Global South” and regional players, while the United States is starting to understand that its logic of restrictive measures has strong limitations.

Introduction

On 1 January 2024, the Financial Times named “de-risking” as the word of the year for 2023, defining it as ‘the act of diversifying supply chains to avoid relying too heavily on one geography’. In fact, de-risking was officially introduced by European Commission President Ursula von der Leyen in her 30 March 2023 speech on EU-China relations. It quickly gained acceptance and was even endorsed by the G7 at its May summit in Hiroshima: it supplanted the term “decoupling”, which came from the United States (US) and was widely debated in 2022. However, we need to distinguish between communication and analysis: as this CSDS Policy Brief argues, de-risking does not really reflect the reality of the Sino-American relationship and the trends at work in both countries. What is de-risking really? One can read it as a diplomatic way of resolving the divergence between the US and its European and Asian allies (Japan and South Korea) with regard to China. It is a reality that these partners have different threat perceptions towards China and the nature of their economic relations are different. In fact, an irony is that in many respects the US and China are pursuing the same mirrored policy of decoupling from one another, based on similar ideologically-driven strategic motivations, which take precedence over any economic considerations.

A competition for leadership that implies economic divergence

Let us get back to basics. At the 19^th National Congress of the Communist Party of China on 18 October 2017, Xi Jinping announced his country’s ambition to become ‘a global leader in terms of composite national strength and international influence’ by 2049, the centenary of the founding of the People’s Republic. This is a continuation of the “Chinese Dream”discourse initiated back in 2012, and is accompanied by multiple sectoral policies (i.e. Made in China 2025, New Silk Road or Belt and Road Initiative, Tanxia 2.0, Confucius Institutes, etc.). Nevertheless, and not without reason, the US sees this ambition as a direct threat not only to its own interests, but also to its conception of the world and its democratic values: it is a clear alternative to the American dream that is being proposed, with the consequence of relativising and even questioning it. The competition between the two countries is as much about ideology as it is about the material building blocks of power (military, economic and technological).

On this basis, a “mirror-image strategy” is developing. For the US, China is claiming both concrete and ideological domination: it is in the American interest to prevent it. This implies controlling China’s development, and therefore implementing restrictive policies that lead to a reduction in economic dependence on this country. From a Chinese point of view, the US wishes to retain its primacy and prevent China from taking its place in the concert of nations (the first, that is): it is in China’s interest to override American restrictions and thus set up an autonomous system both in terms of technology and supply chains. Irrespective of any consideration of the desirability of one model or the other, the two approaches constantly respond to each other in an escalatory logic that tends towards mutual decoupling.

To illustrate the point, let us take an example, in this case the “small yard, high fence” policy announced by National Security Advisor Jake Sullivan when the White House published the US National Security Strategy in October 2022. This policy aims to put in place targeted restrictions to slow Chinese technological development and maintain an American lead in key sectors. Using the text of this document, as well as Mr. Sullivan’s two speeches at Georgetown University on 12 October 2022 and at the Brookings Institution on 27 April 2023, here is the list of sectors to which China should be restricted by the US: semiconductors, quantum computing, artificial intelligence, advanced biotechnologies, synthetic biology, medical equipment, electric batteries, steel, aluminium, clean energy (raw materials, technologies and equipment), digital infrastructures, critical minerals and, more broadly, industrial capabilities. Put another way: China can continue to make dishwashers, clothes and toys, but they are not allowed a free run at securing strategic future technologies and associated supply chains. At this scale of restrictions, it is no more an issue of risk reduction, but rather of a barrage preventing access to the future: the concept of “de-risking” is not suitable as a description of this situation. We are facing a competition for leadership between two powers which reject any potential vulnerability based on shared economic dependencies.

Progressive decoupling: a tightening of the policies pursued and self-fulfilling prophecies

Therefore, it is important to realise that Sino-American competition for global primacy leads, in effect, to a progressive decoupling of the two economies over the long-term. By pursuing and implementing similar restrictive policies, a sort of self-fulfilling prophecy is emerging whereby economic decoupling to maintain strategic primacy is actually intensifying strategic competition.

The restrictive policies implemented by the two countries follow a fairly similar course. So, when the US decides on a policy of controlling semiconductor exports in 7 October 2022, China announces a policy of controlling exports of critical minerals (Germanium and Gallium) in 3 July 2023. Both China and the US have sought to control foreign investment on both sides and China has diversified its investment towards countries not allied with the US. There has been a reduction in the number of respective students visiting each country and American companies (law, advisory and assurance services) are removing automatic access to their worldwide databases for their Chinese offices including Hong Kong. Moreover, when it comes to building alternative supply chains, China is now sufficiently advanced to organise its own subcontracting, notably with ASEAN. Over the past decade, ASEAN’s merchandise trade with China has more than doubled, reaching $722 billion in 2022 and accounting for almost a fifth of ASEAN’s overall trade. Since 2020, ASEAN and China have been each other’s largest trading partners. At the same time, the US is seeking to develop “friendshoring”, and Mexico and Canada have overtaken China as the main countries of origin for US imports, but without fully convincing its other allies and partners, which are commercially more dependent on China (the European Union, Japan and South Korea).

Robert K. Merton’s definition of a self-fulfilling prophecy, where a prediction comes true because a majority of people believe in it and actively make it come true, is apt to describe US-China competition. For one thing, companies in both countries are already factoring in the political choices made by American and Chinese leaders. For example, according to the US-China Business Council’s 2023 survey, 84% of American companies in China consider that Sino-American tensions have had an impact on the development of their business, and pessimism has reached a record level of 28%. Moreover, 31% of American companies in China have modified their strategy to develop new supply chains specifically dedicated to Chinese-specific, American-specific or regional-specific activities. Similarly, according to the 2023 surveyby the China General Chamber of Commerce – USA, 81% of Chinese companies in the US rank the stalemate in Sino-American bilateral relations as their top immediate challenge.  Moreover, only 8% of Chinese companies in the US anticipate that relations will improve, compared with 44% that believe they will deteriorate. Companies’ expectations are reflected in their commercial policies through a decoupling of supply chains which allows parallel access to the immense Chinese market and compliance with American rules on the American market.

A more attractive China?

In this race to decouple, which involves the creation of separate supply chains, who will have the most convincing offer when it comes to the promise of market access? Although it may seem paradoxical at first glance, China may actually have more advantages to offer than the US. The advantage offered to other countries by China is directly linked to the size of its internal market and the desire of the Chinese authorities to continue to use it as an attractive negotiating lever. According to the World Trade Statistical Review 2023 published by the WTO, China is the world’s leading trading power, and two-thirds of all the countries in the world trade more with China than with the US. It is developing an active policy of free-trade agreements and is a member of the Regional Comprehensive Economic Partnership (RCEP), which came into force on 1 January 2022, and brings together all the ASEAN countries, South Korea, Japan, Australia and New Zealand. According to the Chinese Ministry of Commerce, China has 18 free trade agreements and 10 others under negotiation. It is a candidate for the Comprehensive and Progressive Agreement for Trans-Pacific Partnership (CPTPP), comprising 11 countries bordering the Pacific Ocean, and in force since 30 December 2018, as well as the Digital Economy Partnership Agreement signed on 12 June 2020 between New Zealand, Chile and Singapore.

This active trade policy, described as the “more of everyone but America” strategy by former US Treasury Secretary Henry Paulson, is proving clever for two reasons. First, it offers a positive contrast with the US’ posture which is focused on restrictive measures. Second, it meets a demand from the so-called “Global South” countries which are anxious to ensure their economic development through exports, precisely on the Asian model of Japan and China, irrespective of political regime choices. The results of this policy can be seen, for example, with bilateral merchandise trade between China and Africa reaching $282 billion in 2022 (+47% on 2019), while trade between the EU and Africa amounted to $312 billion.

In contrast, the US has consistently reaffirmed that free trade and access to the American market are no longer negotiating options, in the interests of protecting the American middle class: the National Security Strategy of October 2022 explicitly underlines this, expressing a high degree of continuity between the Trump and Biden presidencies. The problem is that this position applies equally to America’s allies and rivals, creating an indiscriminate framework for domestic political reasons. As a result, the great American initiative of the Indo-Pacific Economic Framework (IPEF), launched on 23 May 2022, and aimed at federating the US’ allies and economic partners in the Indo-Pacific, has not resulted in any agreement to promote trade, either in terms of tariffs or market access, much to the dismay of the participants. Indeed, most IPEF member countries are signatories to free trade agreements with China or members of the RCEP, with China being the leading source of imports for all IPEF member countries except Brunei. Similarly, the US is beginning to realise the difficulty of an almost exclusively restrictive agenda towards the rest of the world. In an article for the Atlantic Council shortly before taking office, the new Deputy National Security Advisor for International Economics, Daleep Singh, proposed a change of narrative to offer states likely to pivot between the US and China a positive agenda: debt relief, soft loans, infrastructure financing, supply chain partnerships and technology alliances. He called on the US administration to be as creative in developing positive measures as it was in devising sanctions and other restrictive measures.

Conclusion

In conclusion, the debate surrounding the notion of de-risking is tantamount to not seeing the forest for the trees: the divergence in the Sino-American trajectory is profound and has long-term consequences. It starts with the rejection of reciprocal economic dependencies as potential strategic vulnerabilities, and is then expressed through a parallelism of gradually escalating restrictive measures. This approach is increasingly taken onboard by companies seeking to manage this constraint as effectively as possible in their supply chains, nurturing a logic of a self-fulfilling prophecy that accentuates the decoupling dynamic. Nevertheless, while the US policy has powerful means of implementation, its essentially restrictive nature comes up against the attractiveness of China’s large domestic market, for developing and industrialised countries alike. More generally, as is presently the case, the future of world trade and globalisation is no longer determined by an economic logic, but by the ideologically-driven choices made by governments, in this case in the US and China. These choices lead to similar policies and concordant expectations, heralding the decoupling of the two economies for strategic reasons.

More specifically for Europe, the consequences are far-reaching. We can expect increasing pressure from the United States to align the European position with the American one. While the development of the usefully vague notion of de-risking offered a compromise in 2023, the imposition of the US point of view on the Netherlands in the ASML affair, and the introduction of increasingly strict language towards China in NATO summit communiqués, show the ephemeral nature of this situation. Whoever wins the US elections on 6 November 2024, there is a bipartisan consensus in favour of accelerating decoupling with China: 2025 will be a challenging year for Euro-American relations. Added to this pressure on governments is the multiplication of legal rules, both American and Chinese, weighing down on European companies: rules likely to lead to sanctions from both sides and for antagonistic reasons. The European Commission has begun to suggest answers in its “European Economic Security Strategy” published on 20 June 2023, but how will the European institutions as a whole position themselves? For what is at stake is who determines the rules that apply to European companies: Washington? Beijing? Or Brussels?