Europe, Japan, China and Russia line up against US

The United States starts a tariff war with China. Japan and Germany jump at the chance to gain market share in China’s booming auto industry and boost their capacity in China, the world’s fastest-growing passenger car market.

The United States imposes sanctions on Turkey. Germany announces that it will offer economic aid to Turkey, Qatar pledges $15 billion in new investment and a $3 billion foreign exchange swap line, and Chinese banks provide billions of dollars in new loans to the cash-strapped Turks. Chinese commentators declare that crisis is a great opportunity to integrate Turkey into China’s “One Belt, One Road” strategy.

US President Donald Trump chides German Chancellor Angela Merkel for buying Russian natural gas through the Nord Stream II pipeline. Merkel summits with Russian President Vladimir Putin and confirms the pipeline arrangement, and also strikes a deal to aid the reconstruction of Syria in cooperation with Russia.

The United States imposes economic sanctions on Iran, and Western insurance companies stop insuring Iranian oil cargoes. China responds by accepting Iranian insurance on oil imports, increasing oil imports from Iran, and shipping the oil in Iranian tankers, Reuters reported August 20. India was offered Iranian insurance on oil shipments as well, but Indian refiners reportedly will reject the offer. Western insurance companies have told them that if they import Iranian oil, they will cancel insurance on refinery operations.

And German Foreign Minister Heiko Maas proposes a new international payments system independent of the dollar sphere, a new interbank transfer system, and a European Monetary Fund, to “protect European businesses from [American] sanctions. He also proposed a digital tax on American Internet firms. Writing in the German daily Handelsblatt on August 21, Maas declared, “We will not let the United States go over our heads.” No representative of a major Western European government has suggested anything remotely like this in public before.

Maas’s Handelsblatt manifesto is only talk for the time being. European companies do not want to test America’s resolve when it comes to sanctions against Iran or Russia. The threat of secondary sanctions against the US operations of international firms who do business with Iran has led European firms to stop buying Iranian oil and to pull out of prospective investments. Even if European governments created a payments system entirely independent of the purview of the American government, secondary sanctions remain a formidable enforcement tool.

In the longer term, though, important shifts in investment patterns in response to America’s new assertiveness are likely to buttress China’s Eurasian ambitions.

Opportunism rather than strategic vision appears to motivate these subtle and sometimes not-so-subtle shifts in European and Japanese policy towards China. China evidently is willing to open its markets to America’s competitors in return for help during a brewing trade war.

Opportunism rather than strategic vision appears to motivate these subtle and sometimes not-so-subtle shifts in European and Japanese policy towards China

Chinese premier Li Keqiang’s Berlin visit in early July appears to have set a precedent. Germany’s big three automakers announced groundbreaking joint ventures with Chinese firms as well as major expansion plans. Siemens, Germany’s top capital goods provider, and chemical giant BASF also announced major projects in China, while BMW warned that the Trump tariffs might cause it to shift capacity from its South Carolina plants to China.

This week, Japan’s largest automakers followed the German example. Toyota announced plans to increase Chinese capacity by 20% and Nissan slated a $900 million investment to raise capacity by 30%. Japan’s decision to expand into the Chinese market is an important gauge of America’s isolation. Japan has a much smaller share of China’s auto market than Germany, in large part due to historic tensions between the two Asian powers. Nonetheless, the Japanese automakers smell an opportunity to profit at the expense of the United States. General Motors is the likely loser. It produces a Buick sport utility vehicle in China which will be subject to a 25% US tariff. GM sold 4 million vehicles in China last year with a 5% market share, and is vulnerable to Chinese retaliation.

The European and Chinese response to the Turkish financial crisis—long in the making but exacerbated by American sanctions – shows how fast economic alliances are shifting. I have warned of Turkey’s descent into near-bankruptcy since 2014, and reiterated this warning on several occasions prior to the collapse of Turkey’s lira this summer. On August 10, when the crisis struck with full force, I argued in this newspaper that China would buy up Turkey on the cheap.

On August 21 the Chinese financial news outlet The Asset wrote: “Economic crisis in Turkey is forcing the embattled President Recep Tayyip Erdogan to reach out for financial support, leaving the door open for China to grasp a not-to-be-missed opportunity to accelerate its Belt & Road ambitions in the region.”

Rather than go to the International Monetary Fund and accept its policy dictates in return for cash, The Asset reports, Erdogan is looking for new friends. “First Qatar was embraced, with a US$15 billion package announced on August 15, after Qatari Emir Tamim bin Hamad Al Thani met with Erdogan in Ankara. Qatari state media said the money would go toward economic projects and investments. But China is also likely to feature heavily in the Turkish government’s recovery plans. Back in February, Turkey said that it was planning its debut Panda Bonds in China’s domestic RMB market, and mandated Bank of China, ICBC and HSBC to prepare the way for an offering.”

None of this is surprising: the gas-bubble emirate of Qatar pays Turkey for political protection, and China has long viewed Turkey as the Western terminus of its Eurasian logistics. The surprise came from Berlin, where Merkel’s government is flirting with the idea of financial support to Turkey, in return for Turkish  cooperation on the management of the Syrian refugee crisis and other matters. The head of German’s Social-Democratic Party, Andrea Nahles, proposed financial aid. Although the Social Democrats are members of the governing coalition, Nahles is not a cabinet member. Government spokesmen have indicated that financial support for Turkey is possible under specific conditions.

German government sources say that Germany sees an opportunity to buy Erdogan’s cooperation on refugee issues cheaply. Germany notionally is an American ally, and Washington is in full confrontation with Turkey over the detention of an American citizen, among other matters. Nonetheless, Berlin decided to exploit Turkey’s urgent economic needs to push its own agenda at the expense of the United States.

Central to European thinking is the belief that Asia will continue to provide the greatest margin of growth to the world economy. Asia delivers about three-fifths of world economic growth. As living standards among China’s 1.4 billion people and the 600 million people of Southeast Asia continue to converge on those of the Western industrial countries, non-Japan Asia will remain the world’s most important growth market by far.

For European and Japanese manufacturers, the Sino-American trade war offers a chance to obtain a privileged position in this growth market, most obviously in the automobile market. The Chinese will buy perhaps half a billion automobiles in the next 20 to 25 years, and the chance to gain market share in the country’s huge but highly competitive automotive market convinced the big German and Japanese automakers to double down on their Chinese commitments.

The world’s great opportunity for growth lies in the Sinification of the rest of Asia – above all Southeast Asia, which has the preponderance of population. I wrote in a 2017 essay in The Journal of American Affairs:

“Aging countries seek to invest in countries with young populations, but the only countries with young populations are inaccessible to the world market and likely to remain so for the foreseeable future. There is enormous room for productivity to grow in emerging markets, however, and that can more than compensate for demographics. The good news is that productivity growth – the mobilization of energy and talent now wasted in the backwaters of the world economy – can bring a billion people into the world market who until now have languished on its fringes. The bad news is that China is far ahead of the United States in learning to transform this boost in human capital into economic alliances and export markets. That is where we need to catch up and overtake China.

“The steam engine powered the first great revolution in economics, and the smartphone will catalyze the next one. Talent is the scarcest resource in the global economy, and the spread of broadband through the backwaters of the world opens the global market to the talented few. Men and women who till subsistence plots or wait for passersby in market stalls suddenly can sell to the whole world through e-commerce. Capital will find its way into the capillaries of the world economy through e-finance.

“The backward economies in which most of the world’s people live waste time and grind down the spirit. In so-called emerging markets, between one-third and two-thirds of the workforce spend most of their time doing little or nothing. “

Turkey is of special interest to China because it already has one of the world’s highest rates of smartphone penetration, at 50%. Turkey’s finance ministry wants to turn the country into a cashless society by 2023. Roughly a third of Turks now work in the so-called informal economy, the off-the-books activities of family businesses and small, capital-starved entrepreneurs. Sinification of Turkey means expanding the productive (and taxable) workforce by a third to a half, and making all commercial transactions transparent to tax authorities.

It is far from clear that Turkey will transform itself on the Chinese model. The Erdogan regime is a kleptocracy on the grand scale; one of Erdogan’s sons has a net worth of $80 million and Erdogan’s personal net worth was recently estimated at $58 million. The Turks may be reluctant to turn large portions of their economy over to China and thus diminish the capacity to enrich themselves. Whatever Turkey decides, though, China and its Southeast Asian neighbors will continue to form a bloc of 2 billion people with the world’s highest growth potential.