Twin Peaks: Chinese-US Relations, 2015-2020

In 2013, the Sino-US relations ended with concern over strategic mistrust. In 2014, bilateral relations were characterized by a sense of optimism. While bilateral trust may endure through the Obama era, challenges will ensue thereafter.

The renewed sense of strategic trust peaked in the U.N. climate talks in Lima, Peru, when President Obama and President Xi Jinping announced the new China-US climate change targets.

Beijing’s new targets are in line with China’s transition from extensive growth, based on investment and net exports, to intensive growth, as defined by consumption and innovation.

In the United States, the proposed target is significantly more ambitious than President Obama’s previous “U.S. Climate Action Plan.” Politically, it is leading to a showdown with the newly-Republican controlled Congress. The bilateral climate pact signaled that the president “has no intention of moving towards the middle,” Senate Republican Leader Mitch McConnell complained after the deal. On Capitol Hill, things will get more heated as Republican Senator James Inhofe, one of Congress’s most prominent climate change skeptics, will succeed Democratic Senator Barbara Boxer as chair of the Environment and Public Works Committee in the Republican-led Senate.

The bilateral climate deal is a harbinger of future Sino-U.S. relations. What President Obama hopes to build, his opposition seeks to undermine.

Progress in trade, economic cooperation and security

In addition to the climate deal, there has been bilateral progress in trade and security issues. In November, the successful summit meeting between President Xi Jinping and President Obama led to expanded military confidence-building measures, while efforts intensified to complete the bilateral investment treaty (BIT).

In security issues, progress has been evident, albeit not linear, in the US-China military-to-military relationship. However, deep bilateral differences remain over cyber activities, in which Washington sees itself as a victim of “commercial theft,” while Beijing perceives itself under incessant cyber intrusions by the U.S. National Security Agency (NSA), as evidenced by the Snowden disclosures.

Bilateral differences also prevail over Washington’s efforts to curb Iran’s nuclear program, the sanctions against Russia and the expansion of the NATO in Ukraine, the crisis in Syria and the Middle East, U.S. stance in Afghanistan and Pakistan, as well as the role of North Korea.

In economic and trade issues, the subtext of bilateral relations has shifted, thanks to China’s reforms, as I argued a year ago. More recently, China’s new reform and opening policies have changed the very terrain of Sino-U.S. relations. The role of bilateral trade deficits has been overshadowed by the rapid rise of China’s foreign direct investment (FDI) in the U.S. As efforts to accelerate innovation-led competitiveness have been stepped up in the mainland, IPRs play an increasing role in Chinese industrial policy as well.

And as the U.S. recovery is broadening, rounds of quantitative easing (QE) have ended at the Fed, which is paving way for hiked rates after mid-2015. As a result, the U.S. dollar is strengthening and bilateral currency debates are fading away.

Two pivots, one region

In the 2010s, both China and the U.S. have engaged in regional rebalancing. America’s security alignments in Asia Pacific stem from President Obama’s pivot to “maintain our strong military presence in this region.”

In June 2012, the then-Defense Secretary Leon Panetta said that America’s combat ships in Asia would be doubled to 60 percent by 2020. In turn, U.S. recalibration of trade in the region has been fueled by the proposed Trans-Pacific Partnership (TPP) deal.

In a recent APEC forum, China presented its own new regional initiatives, which reflect the proposed “Asian-Pacific Dream,” including a $40 billion Silk Road fund, and the $50 billion Asian Infrastructure Investment Bank, which will augment the already-launched New Development Bank (NDB) by the BRICS nations. Furthermore, Beijing is paving way for the Silk Road Economic Belt to serve a combined market of 3 billion people, as well as the 21st century Maritime Silk Road along with $1 trillion in bilateral trade with Southeast Asia by 2020.

These initiatives are evolving hand in hand with the proposed Asia Pacific Free Trade (FTAAP) plan, which would include both China and the United States. While Washington has lobbied against both the AIIB initiative and the FTAAP plan, the regional development bank has broad support in east, southeast and south Asia, while inclusive free trade in Asia Pacific requires the presence of both Beijing and Washington.

While there has been friction over China’s ‘core interests’ in Asia, particularly with Japan, the Philippines and Vietnam, major conflicts have been contained in bilateral talks rather than multilateral or international venues.

Changing economic realities

As the Obama era is winding down, the Dow Jones topped 18,000 for the first time, while the third-quarter U.S. growth intensified to 5.0 percent, the strongest in 11 years. U.S. real GDP growth is likely to accelerate to 2.3 percent in 2014 and 3.1 percent in 2015, respectively. While inflation will remain less than 2 percent, the Fed will hike rates to 0.6 percent in 2015. At the same time, the value of the euro will decline from $1.38 to $1.15 in 2013-2015.

As President Obama will leave the White House, U.S. growth will steadily decelerate to 2.3 percent by 2020, even as inflation will rise to more than 2 percent. At the same time, general government fiscal balance of GDP will increase to more than -3 percent, whereas trade balance will remain 3.4 percent of GDP. Concurrently, the euro will increase to $1.30 by 2020.

This economic deterioration will be compounded by the challenge of leverage. Despite all the rhetoric about “austerity” and “rebalancing America’s debt burden has grown by almost two-thirds since the global crisis. Today, it is close to $18 trillion – almost $1 trillion higher than the U.S. GDP, despite the Fed’s lifeline of $4.5 trillion in the past half a decade.

In China, real GDP growth is likely to remain at 7.3 percent in 2014 and around 7 percent in 2015. As President Xi Jinping will govern China until the end of the 2010s, GDP growth will decelerate to 5.5-6 percent. At the same time, fiscal balance will decrease to less than -2 percent, whereas trade surplus will remain over 3 percent.

In a precarious balancing act, Premier Li Keqiang seeks to manage the housing market volatility, while continuing deleveraging in the local government. Currently, China’s national debt is about 25 percent. Add the local debt and the total remains around 45 percent.

Post-Obama pressures

In the U.S., the critics of bilateral Sino-U.S. understanding argue that the new strategic trust is driven by new Realpolitik realities, particularly the rebound of the U.S. economy. In reality, the bilateral relations are supported by President Obama’s effort to leave behind a legacy of bilateral success and President Xi’s attempt at a “new model of major country relationship.”

China continues to enjoy solid growth and is deleveraging. In contrast, America’s growth is fueled by foreign investment, U.S. dollar as the de facto global currency, and a rising debt burden. In the latter half of the 2010s, this overstretch will come under increasing pressure, however.

Consequently, it follows that, in the post-Obama era, Beijing must prepare for more confrontational policies in Washington.

The original version was published by China-US Focus on Jan 16, 2015