Commentary / Japan

The high cost of the U.S.-China confrontation

by Heizo Takenaka

The confrontation between the United States and China continues to cast dark clouds over the global economy. In the latest in the series of punitive tariffs on China, the U.S. government earlier this month announced a 25 percent tariff on imports from China worth roughly ¥33 trillion. China has responded by unveiling its own plan to impose retaliatory tariffs on imports from the U.S. The tit-for-tat exchange of tariffs by the world’s largest and second-largest economies immediately led share prices to fall in stock markets around the world.

The confrontation between the two countries is often described as trade war. However, the U.S.-China conflict is no longer just a trade dispute. It needs to be taken as a confrontation over a more fundamental question — concerning the ways of a state.

Earlier, many economists in the U.S. and Japan predicted that China’s economy, after its rapid growth on the strength of its huge population, would gradually slow down because of poor freedom of information or rule of law in the country. For example, a forecast given by an influential think tank in Japan has said that growth of the Chinese economy would go down to half the current rate by around 2030. Such a forecast typically concludes that China would sooner or later be ensnared by the middle-income trap, in which a country that has achieved a certain income level of its people struggles in the transition to become a developed economy.

Such theories about China, however, have gradually been shaken with the development of the Fourth Industrial Revolution in recent years. The keyword here is big data. The massive volume of digital data accumulated through the widespread use of smartphones and other devices are turned into resources that create a wide variety of new industries through the application of artificial intelligence. Under its system of state capitalism, China has succeeded in piling up such data at its government’s strong initiative — even by occasionally sidestepping protection of people’s private information. What symbolizes this campaign is the growth of the Chinese IT giants such as Baidu, Alibaba and Tencent (known as BAT for their initials). They are often likened to the giant platform companies in the U.S. collectively called GAFA (Google, Apple, Facebook and Amazon), but the market value of the BAT companies combined has now reached a level comparable to that of GAFA. For the U.S., the main target is now China’s state capitalism itself.

In their bilateral talks, the U.S. targets issues that concern China’s state system itself, such as abolishing state subsidies to its businesses. From Beijing’s perspective, it is an issue over which it can hardly make easy concessions. As a result, the two major powers are engaged in a grand game of chicken by exchanging retaliatory tariffs. The question is what negative impacts this will have on the U.S. and Chinese economies, or on other economies, including Japan.

Interestingly, economic assessments made on this point seem relatively optimistic. The International Monetary Fund, for example, says the punitive U.S. tariffs on Chinese goods will slow China’s growth by 0.2 to 0.3 percentage points. There are many economists that share such views. The problem is that such estimates mainly focus on harm to the economy from the demand side. Higher tariffs will push up import prices, which negatively affects demand. Such an impact will not necessarily be that serious.

A greater source of concern, however, is the impact on the supply side. In other words, the problem is that the world could be divided into one economic bloc on the U.S. side and another on the China side. Such a decoupling could destroy the efficient supply chains that have been established across national borders, forcing businesses to settle for a less efficient manufacturing system. Such a scenario could result in poor productivity increases over the medium term, possibly placing a much more serious burden on the global economy than forecast.

Just two years ago, a book came out with an interesting title, “Destined for War: Can America and China Escape Thucydides’s Trap?” by Harvard University professor emeritus Graham Allison. Allison predicted the confrontation between the U.S. and China by citing examples from ancient Greece.

Against the hegemony of the powerful city-state of Athens, Sparta emerged as a challenger. Athenian historian Thucydides predicted that the conflict between Athens and Sparta would develop into a fierce battle — which it did. The leaders of Athens felt intimidated by the rapid development of the new challenger, while Sparta, bullish after having overcome its previous disadvantages, began to harbor excessive confidence in its power. That is, Allison says, exactly what’s happening between the U.S. and China in recent years.

A former high-ranking U.S. government official has said that whoever becomes president of the U.S. after Donald Trump — either Republican or Democrat — would say the same thing — that Trump was too weak-kneed against China. Such a statement shows how the U.S.-China confrontation will be hard to resolve in the near term. We must not underestimate the cost that the U.S.-China confrontation could bring upon us.

Heizo Takenaka, a professor emeritus of Keio University, served as economic and fiscal policy minister in the Koizumi Cabinet from 2001 to 2005. He is a member of the government’s Industrial Competitiveness Council.