By Ilan Vertinsky, Yingqiu Kuang, Dongsheng Zhou and Victor Cui

While the Obama-era optimism of a fully liberalised China is over, so too is the all-out trade war initiated the Trump presidency. Today, a frostiness has settled over US-China relations, as the Biden Administration contemplates China as the “most serious long-term threat to world order,” and pursues a policy of full-spectrum decoupling with Beijing. However, resistance to such a path is mounting, as the US’ leading multinationals, as well as some of its closest allies, have baulked at the potential costs and damages involved, and are now urging a more nuanced approach to rationalising China’s rise as a global power.

In a recent assessment of the current relations and ‘action/reaction’ geopolitical dynamic between the US and China, we have made three main findings:

1)   The costs of decoupling are prohibitive to both China and the US. Accordingly, current levels of resistance from US allies and MNCs is likely to grow.

2)   Washington decision-makers have overstated the threat that ‘China’s rise’ poses to the survival of the liberal world order.

3)   The US decoupling agenda is driven by a fear of China threatening its technological primacy, but China’s innovation levels are likely to slow down in the coming years, reducing this fear.

Both sides risk staggering costs of decoupling

The US economy is increasingly dependent on China for imports (particularly manufacturing supplies and advanced materials), FDI flows, and the contributions made by Chinese students in living fees and tuition expenses. Decoupling with China risks all of these value streams, and would constitute losses of over $700 billion in sales and $50 billion in profits for American companies who export to the Chinese market.

Alongside the loss of the world’s most important (and fastest growing) consumer market, decoupling would force American MNCs out of the most comprehensive and large-scale manufacturing chain in the world, leaving them with no single-country alternative. The average penetration of the top 30 global brands (many of which are American) reached 40% in China across the ten large consumer categories back in 2017, compared with just 26% in the US market.

Similarly, many of America’s closest allies are as deeply interconnected with the Chinese economy. This can be seen in the growing proliferation of bilateral investment treaties (BITs) and free trade agreements (FTA) between China and rule-of-law countries such as Australia, the UK, Japan, Israel and most of Europe’s leading economies. As a ‘New Cold War’ between China and the US threatens to develop, traditional US allies are refusing to ‘pick a side’, instead strengthening their relationships with Washington and Beijing.

China, meanwhile, is deeply integrated into the world market, heavily trading with and investing in practically every region worldwide. Should decoupling occur, over 50% of Chinese exports will be affected. More worrying is the prospect of cutting China off from the invaluable technologies of advanced economies, and the foreign training of its professionals and scientists. While China is much better equipped to weather the economic cost of decoupling (in the short-to-medium term, at least), its technological innovation would be greatly slowed, almost immediately.

Washington fears the ‘Rise of China’

The Trump-era policy of using technology restrictions to contain Chinese firms has been carried over into the Biden Administration, borne from the fear that China’s rapid technological progress is bound to keep accelerating in the long run. More specifically, Washington fears that China’s techno-nationalism will become more aggressive, leading to greater and more brazen theft of intellectual property from the US and other rule-of-law countries.

Overall, American political leadership consistently touts the cultural values and political aims of both nations to be too opposing and their differences too insurmountable to maintain an open, liberal and collaborative world order. This narrative represents a greatly oversimplified view of China’s aspirations, and objectives in the ongoing conflict.

Part of the Chinese Communist Party’s (CCP) founding narrative is to achieve a ‘well deserved’ position in the international system as a major player, but to get there peacefully. Despite on-going US decoupling efforts, China’s geopolitical manoeuvrings are largely defensive in nature, and it continues to show active support for international institutions and agreements, particularly those that align with its economic and technological advancement goals. This is in stark contrast to the overtly isolationist withdrawals of the Trump Administration (e.g. Paris Accord, Trans-Pacific Partnership, etc.).

However, this stance may not endure forever. When threatened with decoupling (by the US or elsewhere) China’s typical response is to redouble its self-reliance efforts, rather than bend to ultimatums. If pushed further, Beijing may choose to opt out of the Western-led international system altogether, pursuing the creation of its own unilateral structures and systems, while trying to actively undermine its global rivals, something it has largely refrained from doing so far.

A decline in China’s innovation growth may ease US fears

China’s astonishing breakthroughs in technology and innovation certainly display the strengths of its state-centric approach, but the assumption by Washington that this trend will keep accelerating in the long term ignores several key factors.

Primarily, rapidly increasing centralisation and control of government programmes are eliminating the conditions that supported the exceptional technological innovation progress that China has enjoyed in recent decades. Efficient mobilisation of resources, led by the state, will not be enough to counterbalance the problems associated with a lack of freedom to experiment and, ultimately, innovate.

Another crucial issue is China’s competing need to fund its military modernisation efforts alongside its ongoing techno-nationalistic and innovation programmes. Dwindling resources are being pulled in both directions, even as China faces a declining supply of new labour – a hangover from the ‘One Child’ era.

These are significant and long-term challenges for China to overcome. As they begin to bite, an appreciable slowdown in innovation may allay Washington’s fears, disincentivising any further trade restrictions or technological barriers.

Will the ‘New Cold War’ thaw?

Despite growing awareness on both sides regarding the crippling costs of decoupling, this doesn’t seem to be translating into any meaningful attempt to thaw the US-China relationship. The conflict for technological primacy is embedded in a complex net of international relations, stakeholders and issues. This makes a rapid reversal of US decoupling policies unlikely, especially if unprompted by a major geopolitical shock of some kind (e.g. the need to collaborate in the face of a new pandemic or regarding the climate change crisis).

However, as the true extent of their interdependence is revealed, decoupling processes have slowed down in recent years, and have in some cases been reversed entirely. Since fear and nationalism have primarily driven the “need” to decouple on both sides, a greater understanding of China’s limitations, as well as its strengths, may help reduce fear in Washington of China as a threat to its survival and to the liberal world order. Similarly, increasingly strident calls from MNC leaders and US allies to accept that China is not seeking to radically disrupt or undermine such an order (and that its ambitions are much more limited and defensive in scope) may also speed the slow thaw of US/China relations, avoiding the realisation of a decoupled world and all that would entail.

The above is based on an article entitled, “The political economy and dynamics of bifurcated world governance and the decoupling of value chains: An alternative perspective,” published in the Journal of International Business Studies here.

Ilan Vertinsky is the Vinod Sood Professor in International Business at Sauder School of Business, University of British Columbia. Yingqiu Kuang is a Research Fellow in the Department of Political Science, University of British Columbia. Dongsheng Zhou is a Professor of Marketing at CEIBS. Victor Cui is a Associate Professor (Entrepreneurship, Innovation, and Global Strategy) at Conrad School of Entrepreneurship and Business, University of Waterloo.