Averting economic cold war

Author: Yiping Huang, Peking University and ANU

When the first G20 summit was held at the end of 2008 in Washington DC, many believed that the time had finally come for developed and developing countries to work together to reconfigure the international economic architecture. Some even suggested that the US and China formally adopt the G2 mechanism to jointly manage global affairs.

Five years have passed since then. But the US and China have made limited progress in collaboration on international economic policymaking. In fact, new rivalry has developed over building new liberalisation standards. The US and 11 other countries are negotiating the Trans-Pacific Partnership (TPP), without China. And China and 15 other countries are negotiating the Regional Comprehensive Economic Partnership (RCEP), without the US. Competition in liberalisation is not necessarily a bad thing, but mutual exclusion could lead to significant disruption to trade and investment flows.

This unfortunate development was largely a result of misunderstanding and mistrust on both sides. When the US joined the TPP and decided to scale it up into a 21st-century model of globalisation in 2008, many Americans judged that China was too far away from the expected high standards, and that its participation in the negotiations could only spoil the party. Similarly, many Chinese experts advised the Chinese government that the TPP was an American design to deliberately isolate China economically, and that China should go its own way in liberalising trade and investment. Some scholars in both countries interpreted RCEP as part of China’s overall strategy to defeat the TPP.

Such economic cold war mentality could be very damaging to both countries and the world. Economic studies have already confirmed significant income losses from the TPP for China and other countries. This is understandable because China is one of the largest export markets for all the individual TPP member economies, and is also at the centre of the Asia Pacific’s manufacturing supply chain. Therefore, implementation of TPP liberalisation could cause significant trade diversion away from China and disruption of the supply chain. Likewise, RCEP could also cause trade diversion away from the US and other non-member economies.

These scenarios are in sharp contrast with the close China–US economic cooperation of the past. China’s rapid economic growth during the reform period would not have been possible without the global free trade and investment system supported by the US. Chinese and American leaders also worked closely cementing the agreement on China’s entry into the WTO.

In the past, the US was the main architect of the global economic system. It did not see China as a potential competitor. And China passively accepted the existing rules.

But times have changed. Today, although the US is still the world’s largest economy, China is already the second-largest and is set to overtake the US within the next 10 years. It is, therefore, reasonable for China and other developing countries to want to be part of the new rule-making process. But a transition of global superpowers could make all parties very nervous, as in history it often ended in war. This makes China–US cooperation all the more important, not only to avoid major confrontation but also to build a better world.

The new major-power relationship proposed by the Chinese leaders offers a useful framework and appears to be welcomed by American leaders. But as a first step toward this new model, the two countries should work closely to bridge the TPP and RCEP initiatives. There are high hurdles to achieving this goal. But they would not be higher than bringing President Nixon and Chairman Mao together in 1972.

Positive developments have occurred recently too. In Beijing, an increasing number of policy advisors are now urging the government to apply to join the TPP negotiations as early as possible. In particular, they argue that many of the TPP’s sticky issues — such as reform of state-owned enterprises, environmental and labour standards, protection of intellectual property rights and liberalisation of services trade — are also on China’s own reform agenda. In Washington, some government officials also argue that Chinese TPP participation would be positive for the world. And National Security Advisor Susan Rice recently said that the US would welcome China’s participation in TPP negotiations.

But these are not enough. To the Chinese, the American position that China can join after TPP negotiations are concluded represents old 20th-century thinking. China wants to be a part of the rule-making process, not just a passive rule-taker. In reality, it is possible that China could demand for modification to the rules when it joins later anyway, especially if it becomes the world’s largest economy. Therefore, it would be much better for the world if the TPP were to secure China’s commitments from the very beginning.

China also needs to do more to convince TPP participants that it can achieve high-quality liberalisation, especially in the areas of state-owned enterprises, intellectual property rights and cyber security. The reform program approved by the Third Plenum of the 18th Party Congress is a first step demonstrating the Chinese government’s determination in implementing aggressive and comprehensive reforms. But the government needs to take actions more quickly, through steps including experiments in the recently established Shanghai Free Trade Zone.

There is also the difficult question of whether China should be treated as a developing or developed country. It is reasonable for China to claim status as a developing nation given its income level. But the US objection to this is also understandable given China’s economic size and global influences. Perhaps a workable solution is for China to sign up to a high-quality agreement, which allows grace periods for liberalisation in certain areas.

There are practical difficulties for China to join TPP negotiations immediately, mainly because the current round of negotiation is likely at its final stage. Realistically, the earliest time that China could participate would be 2015 or later. But China, the US and other involved parties can start working on this now. For instance, the two governments should establish a TPP–RCEP joint working group, under the framework of the Strategic and Economic Dialogue. The two countries should also share information about both negotiations. The joint working group should also conduct feasibility analyses, identify the key obstacles and make important policy recommendations. Another possibility is to make China an observer at the TPP negotiations.

The TPP is only one area where China and the US can work together closely to develop a new major-power relationship. The two countries are already negotiating a bilateral investment treaty, successful conclusion of which could pave way for China’s TPP accession. The two governments may also want to consider the possibility of establishing a bilateral free trade agreement. China and the US should also collaborate closely on a range of international economic initiatives, such as the G20 summit, the Trade in Services Agreement and the WTO Doha Round.

Yiping Huang is a professor of economics at the National School of Development, Peking University, and an adjunct professor at the Crawford School of Public Policy, ANU.

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