Geoeconomics with one hand tied

In recent weeks, one of the key architects of the US’s sanctions strategy against Russia, Daleep Singh, Deputy National Security Advisor for International Economics, has made two public statements outlining the administration’s views on geoeconomics. The first was a speech before the Atlantic Council, and the second was a piece (cowritten with Arnab Datta of the think-tank Employ America) in the Financial Times.

One thing both interventions make clear is that the central preoccupation of the US in geoeconomic terms is China. Further, it is obvious that the administration is grappling with the question of how to structure its strategies for a transPacific competition that will proceed on multiple fronts—economics, security, and diplomacy. And underneath it all (but acknowledged only glancingly, if at all) is the substrate of domestic politics in the US, a reminder that Aussenpolitik everywhere, and especially in a narrowly-divided and deeply polarized democracy, can be constrained by Innenpolitik.

Singh’s speech makes several nods to the dilemmas of diplomacy, seeking to reassure countries and corporations. He notes about sanctions that  “their design and implementation must be infused with a sense of humility. By design, sanctions break the bonds of trade, capital, and technology in the global economy—sometimes instantaneously—making unintended consequences almost inevitable.” He adds that “There should be a pledge of caution to “do no unnecessary harm” to the civilian population of the target country and to those of third countries.” One might note here that the limits of “necessary harm” are  in the eye of the imposer of sanctions, but that’s another matter.

The speech is not just about sticks though—it also includes a discussion of carrots. He states that “Specifically, the United States should convey a standing preference for using economic instruments when they positively induce and attract countries via the prospect of mutual gain, rather than feed a perception that the United States’ focus and energy is mostly spent on deploying tools that are designed to inflict economic pain.” All this is well and good, but there is still a (hubristic?) iron fist inside that velvet glove. “There are, however, major geostrategic opportunities for the United States and its allies to attract nonaligned countries into its orbit with positive inducements, and in doing so to gradually isolate China before any conflict unfolds.” Hubris might seem an overwrought term, but how else should one describe a desire to “isolate” the world’s second-largest economy, its largest exporter of manufactured goods, and its largest importer of commodities. It is unlikely that such a course would go over well with much of the rest of the world.

And it is important to note that the bulk of Singh’s carrots come in the form of financial tools —sovereign loan guarantees, a US sovereign wealth fund that invests in other countries and so on.  This builds on the US’s unquestioned strengths as home of the world’s largest and deepest financial markets, and issuer of the world’s dominant safe asset and of the world’s dominant liability currency.  It has long had an unmatched ability to raise capital in its own currency, and to determine the circumstances under which concessional lending happens in that currency—whether in the form of a Fed swap line, or in the form of an IMF package, where the US’s shareholding weight means it has an effective veto.

That said, these financial inducements may be of somewhat less use to a large (and critical) portion of the global economy. Since the 1998 Asian Financial Crisis, many countries in the region have switched to running large trade and current account surpluses. And even  deficit countries like India have engaged in building reserves and benefit from relatively stable financing conditions.  Of course, there are other countries that are in deeper distress that may well need such assistance. But even in this instance, there are large pools of capital (besides China) from whom such financing is available. Japan is of course one such candidate, but the Gulf states are another, and they have been very active in their immediate region, lending support to Egypt and to Turkey (which, in the latter instance, might not have been entirely in conformity with US preferences).

Even so, the US is the heavyweight in the room when it comes to global financial markets—particularly when it comes to the sticks of primary and secondary sanctions. Other countries might be able to lend dollars but only the US can block the pipes through which they flow, or seize them. This is an unqualified superpower that no-one else has, or is likely to achieve for at least a decade and probably even longer.

Nevertheless, for all that it might be peripheral as a power in global finance (the renminbi is a distant also-ran compared even with the euro, the Avis of global currencies), China’s own Avis position in the world economy comes from its role in global goods markets. It is the world’s 2nd largest economy, and even if trade has shrunk as a percentage of its GDP, it remains a very important source of both demand and supply. It is the world’s largest importer of commodities, especially petroleum, copper, iron-ore, and soybeans. It is also the world’s largest importer of semiconductors —something that might annoy the US, but creates strong corporate constituencies against efforts to cut China off.

Of course, China is also the world’s largest exporter of manufactures. Now, some of these manufactures might not be welcome everywhere (especially in the US), but it is important to recognize that across vast tracts of the world, China is the most economical supplier of high-quality capital goods—to name just a few, railroad and port equipment, routers, solar panels, ships, batteries, and most recently, electric vehicles, most of which poorer countries have no capacity to make right now.  This also makes China absolutely indispensable to any effort to fight global warming—not just because it’s the world’s largest emitter, but also because it’s the largest producers of the technologies and products that will reduce emissions.

Further it is important to note that in many instances, the US doesn’t make these products either. Any effort to return to producing them at home for domestic consumption in the US might be bolstered by massive tariffs, but that’s hardly a recipe to wean the world — especially developing countries —off Chinese imports or to get them to buy these goods from the US.  The fact is that the huge chunks of the world’s tradeable-goods manufacturing ecosystem has moved to the Pacific Basin over the last 40 years, with China now just taking the place occupied once by Japan (and then in part by South Korea).  Any idea that the world’s second largest economy can be isolated, either as supplier or as buyer seems a fool’s errand.   

Meanwhile, US attempts to “decouple” from China might only have increased its points of connection to other countries. A fair amount of evidence suggests that the obverse of the fall in US imports from China is not just an increase in imports from other countries, but also an increase in Chinese exports to those countries exporting to the US. This could be a crude throughput operation, or actual inbound direct investment by Chinese corporates in those corporates to assemble (or even produce) goods for export. To some extent this may be a function of tariff-evasion,  and to some extent a response to rising labor costs in China. But the point is that the embedded knowledge of markets, networks, products of Chinese companies can be communicated both to the enterprises they invest in and to their upstream in-country suppliers. Also. China would not be the first country playing that role in the Asia-Pacific region—Japanese outbound investment along theses lines played a major rule in the industrialization of ASEAN and China, as did Korean investment after Japan. China is just following in those footsteps.

US final demand has obviously crucial to all these endeavors, but increasingly so is Chinese supply and know-how of markets and production techniques. Under these circumstances, however much poorer countries in Asia might chafe at many aspects of China’s economic model, there are also advantages to its embrace, and ones that the US might find difficult to replicate.

This points to a larger problem. In a subsequent piece in the FT (link above), Singh and his coauthor focus on the need to increase the resilience of global supply chains through more active public management of demand and supply in critical commodities, not just in the US but around the world. The model is the US Strategic Petroleum Reserve and the stated concern is China’s weaponization of both of its supply of, and its demand for key commodities. This is a worthy goal, even if the idea that the US is opposed in principle to the weaponization of economic networks and relationships might raise eyebrows in some quarters. And the article is also littered with references to “allies,” “adversaries,” and “competitors” of the US.

The first thing to note is that there is a distinction between the latter two terms—the first operates on the plane of security; the second on the plane of economics. More fundamentally, much of the exposition earlier in this piece suggests that many countries  are likely to think of themselves as neither allies nor adversaries of the US (or of China for that matter), and on the occasions that they do think that way, do so so locally and situationally rather than globally.

In other words, many countries do not want to take sides—or at the very least not in eternal lockstep with either the US and China. Even the EU, the Robin/Sundance Kid of the Atlantic Alliance has devoted its talents in scholasticism to come up with a definition of China as a “partner, competitor, and systemic rival,” an exercise in ambiguity that most countries will outdo in actions if not in words.  And any effort to draft either countries or corporations is likely to carry echoes of George W. Bush’s infamous “You are with us, or against us,” in the runup to the Iraq War but without the excuse of 9/11 PTSD. Further, any such efforts would come in the milieu of economics rather than security, potentially making any effort to force countries to pick a side even more fraught, given the sheer weight of China in the global economy.

And if US conduct of a geoeconomic foreign policy is rendered problematic by such considerations on the part of its potential targets, domestic political considerations in the US make things even more difficult. The ability of the US to corral even its most steadfast allies into an economic cordon sanitaire around China will likely be undermined even further by the backlash against foreign economic engagement within critical parts of the US political spectrum. In a previous piece for FPRI , I described the different trade-policy factions within the US as composed of Openers, Decouplers, Repatriators, and Derailers—the names alone should give a clue as to where they stand. But in an election year that is very likely going to come down to grueling battles over a few thousand votes in the rust belt, the Repatriators (of American jobs) have the advantage.

The attractions of friend- (or innocuous-bystander; or enemy-of-my-enemy; or toxic-ex; or skeezy-rebound-guy) shoring to America’s foreign policy elites are incompatible with the opposition of critical components of the Democratic coalition (and their Republican opponents) to any form of offshoring at all. Perhaps the most trenchant example of this is President Biden following Pennsylvania Senator John Fetterman  in opposing the Nippon Steel takeover of US steel on the cited grounds of National Security. This despite the fact that this would not be offshoring, but rather the takeover of an existing US entity by a country that has a 40 year history of investing in the US (especially in the auto industry) because of Voluntary Export Restraint Agreements signed in the 1980s. That this is not even about jobs, but about the optics of takeovers suggests the extent of the obstacles from domestic politics to practicing geoeconomics on a world scale. Or as I have described it, the intersection of the US’s electoral and industrial geographies means that A Foreign Policy For The Middle Class will in practice tend towards A Foreign Policy For The Upper Midwest And Western Pennsylvania.

This is perhaps another reason why Singh’s focus is on financial carrots. US domestic politics make goods market carrots —tariff-free market access, outbound FDI with technology transfer — much, much harder for the US to offer. And that’s under a Biden administration. While it is probably the case that a hypothetical Trump administration would continue with the China policies that he began in his first term (and Biden continued and in many ways intensified), US trade and security policy aimed at Europe, Japan, and other countries could have even fewer carrots and more sticks. If nothing else, the uncertainty over US political outcomes means that the the rest the world will likely listen politely and punt many geoeconomic proposals coming from Washington at least until November. Between domestic politics and the structure of global goods markets, despite the awesome power of US sanctions, the US probably has at least one hand tied behind its back in the geoeconomics contest.

And for having made it thus far, here is your dad joke—All Great Power Rivalry efforts to engage with India will probably come down ultimately to Jioeconomics.