Before China’s fighter jets roared and its ballistic missiles screamed into the sea off Taiwan last week, analysts had already started explaining — from raid to idle — what investors could expect next.
Consensus among those forecasters was sparse, and if anything, there’s even less of it now. Both the US and China have argued in recent days over the definition and state of the status quo, but the status quo now unequivocally feels in flux. The safest analytical bet, in that context, is a highly accelerated economic decoupling between the US and China, but how likely is it to move from its current, highly selective form to a broader split?
Aside from the three-day Chinese military exercises set to end Sunday and the petulant sanctions imposed on Nancy Pelosi herself, the potential fallout from the US House Speaker’s visit to Taiwan plays a wide speculative spectrum. China’s abrupt suspension on Friday of bilateral meetings and cooperative talks on everything from defense policy coordination to drug smuggling extends the list of bad plausible scenarios.
Decoupling has a credible ring. There is already visible political momentum for it on both sides. There’s nothing to indicate greater closeness on the horizon, and there are plenty that foreshadow the divergence extending far beyond the two central players — including Chinese missiles entering the exclusive economic sphere for the first time. zone of Japan countries. However, the disconnection story is one with hard limits of both time and magnitude and they should not be overlooked due to the events of the past week.
Proponents of the faster decoupling thesis have a fair amount of evidence on their side. The Made in China 2025 program is all about technological self-sufficiency, and the Biden administration has so far done little to lessen the tone of hawkishness against China established by its immediate predecessor.
This week, in a disconnection milestone, the US president will sign the Chips and Science Act passed by Congress in late July. This dangles more than $50 billion in federal grants to companies building advanced semiconductor manufacturing in the US, while requiring recipients of that funding not to upgrade factories in China for a decade. Non-US companies are included and the disconnection locale for South Korean chipmakers could be decisive. Japan, which could soon confront Beijing’s efforts to force its high-tech companies to design certain products in China, could also feel stronger disconnection pressure.
The story may also be gaining ground outside the US and its closest Asian allies. In a note to customers last week, analysts at Gavekal Dragonomics identified a growing consensus within the EU to treat China as both an economic and security threat. Under that view, policy could become increasingly defensive, even if the lobbying power of European companies with heavy investments in China remains formidable and a full-fledged debate on decoupling remains some distance away.
For now, there are at least three major limitations to the accelerated decoupling story. The first is that the US’s ability to bring others into the program may be more fragile than it seems, even with a close ally like Japan. As decoupling is increasingly enforced by law or regulation, the questions about the underlying intent will increase. Efforts to protect national and economic security are fine; deliberately stumbling China’s economy will yield fewer converts.
The second is that, on both the Chinese and American sides, corporate resistance to accelerated decoupling will be quietly substantial, no matter how noisy politics gets. The business relationships, investments and supply chains are not trivial ties that can be unwound quickly, and the Chinese market is still the most attractive long-term growth bet. Chinese companies cannot yet afford to put foreign technology on the brink of collapse and avoid a sudden break in their learning curve.
The third problem is time. In late July, the US Senate proposed a new bill that could theoretically create tax incentives that would pull the electric vehicle production chain from China (which dominates all key areas) to the US. This makes sense, given the direction of the electric vehicle markets. Superficially, the bill would fit into the rapid disconnection story. According to Goldman Sachs analysts, the reality is a somewhat calmer process with lead times of four to seven years for each of the six key points in the supply chain.
Decoupling is happening, and the political volume on decoupling could rise to unprecedented heights in the past week. However, any real acceleration can be an illusion.
leo.lewis@ft.com