Beyond the Geopolitics: Asia Should Address the Root Causes of Decoupling

Since the United States started its trade war with China in 2018, there has been talk of the US decoupling itself, in whole or in part, from the Chinese economy. Given that most economies in Asia are intertwined with Chinese supply chains, this is a concern for all of the region. China is the largest trading partner for Japan, ASEAN and also now India. At the same time, the US and Europe are important destinations for Asian exports. Understandably, Asian politicians and entrepreneurs are concerned about what partial or wholesale decoupling will mean for them. On both sides of the Pacific, adversarial geopolitics is seen as the main cause of the fracturing. But this perspective is incomplete: Decoupling is driven by structural causes that have little to do with any rivalry for global hegemony. We argue that actors who know this can adapt.

During the pandemic there was increased talk of deglobalization, with most states closing borders and marking more and more industries as strategic. Paradoxically, US imports of Chinese goods only grew. While consumers were unable to visit bars, restaurants or movie theaters, they were flush with cash. This they spent on new TVs, computers or home gym equipment. Many of these goods were produced in China. 

Now that the mist of Covid-19 appears to have dispersed over the global battlefield, however, decoupling has returned with a vengeance. The trade war with China launched by Donald Trump has only accelerated under the administration of US President Joe Biden. Now that the decoupling push is no longer a theoretical phenomenon, businesses have to prepare, as international consulting firm Bain & Company has warned its clients. The Washington-based think tank, the Center for Strategic & International Studies (CSIS) has identified four distinct American viewpoints on trade with China, four of which aim to restrict trade to maintain American hegemony. In China, the government-run English-language Global Times newspaper has decried US’s decoupling policy as “irrational” and “short-sighted”.

A second cause is the increased Western focus on environmentally sustainable production. In December 2022, the EU agreed to tax the carbon emissions of all imports. Not only do products have to be safe for the European consumer but for the planet as well. This should not come as a surprise: stringent environmental rules at home, while freely allowing imports, can only lead to disadvantages for EU producers, while not addressing the carbon emissions. Leveling the playing field in the European market will reduce the cost advantage of Asian exporters.

There is also a political cause for decoupling, but it is not just about punishing or containing China. During the pandemic, shortages of essential products caused a panic, from surgical masks and gloves to ventilators. The ensuing lockdowns coupled with an already stretched logistics sector had a significant impact on the supply chains of for a myriad of goods. The Shanghai Containerized Freight Rate Index (SCFI) increased by 400 percent between 2019 and its peak in late 2021. This led political and business leaders to ask if, in pursuing efficiency, they may have neglected resiliency. This gave rise to the idea that it is unwise to be dependent on producers abroad for crucial goods. 

Yet, even before Covid-19, there was an ongoing trend of labelling more and more technologies as “dual use”, i.e., with both civil and military applications. This means both that you do not want another party to be able to deprive you of their use and that you want to prevent potential rivals from further developing their own production expertise. 

The logical response is to work towards an overlap of political and economic spaces. While the Americans banned China’s Huawei Technologies from supplying telecommunications networks in the US, the EU sought to reduce dependence and develop its own 5G networks. Last year, the EU presented a masterplan for independent production of semiconductors. The Biden ban on advanced semiconductor and other technology to China is nothing but the latest step in this direction. 

The events of 2022 have only increased strategic concerns. Tensions have proliferated in all areas of commerce between the West and Russia. Europe has partly responded by moving more production back to within the EU and its nearby partners. Romania is one of the early beneficiaries of this process, with companies moving production activities to the EU member state from their previous bases in Russia, Belarus and Ukraine. 

For the US, it is giving priority to shifting previously offshore production first back home, then to neighbors Canada and Mexico, and finally to other states that fall under the US political and security umbrella or are deemed to be reliable partners with acceptable political systems (“friendshoring”). President Biden’s initiative to form an alliance of democracies should be seen in this context.

When it comes to environmental standards, Asian exporters will have to invest in mapping and addressing their carbon footprints. Sharing costs with customers seems reasonable. When it comes to resiliency of supply chains, companies must find innovative solutions. Partly producing in target markets could address this issue, but only if an exporting firm can make advantage use of its intellectual property, design and industrial management. 

Decoupling will create a more challenging environment, but the countries and firms that adapt the soonest could continue to be or emerge as big winners.

China has proved through such champions as TikTok (ByteDance), Alibaba and Huawei that it can go toe-to-toe with Western competitors and outperform them both at home, in the West itself, and everywhere else. For these superstars, regionalization will be a nuisance at worst. For smaller and/or less innovative low-cost producers, persevering and succeeding will be a steeper challenge. With promising innovation in Chinese infrastructure and an ever-demanding mass of Chinese consumers, the greatest opportunities may lie at home. Meanwhile, everywhere the West has imposed sanctions, the Chinese will be able to sell their products without Western competitors. The reality is that the US can number among its friends countries that account for about half of the world’s GDP.

Close geographically to China, but removed politically, are the other exporting economies of East Asia: Japan, South-Korea and Taiwan. For these regional powers, the dreaded decoupling could make their economies more attractive to Western powers as alternatives. A partial economic realignment, along with a strong commitment to the alliance of democracies, could bring them new opportunities, especially if these economies can address Western (particularly European) concerns about sustainability and the climate-neutral production requirement. 

India, the other Asian giant, has been walking a tightrope ever since the start of the Ukraine conflict. While it is the largest democracy in the world, it does not agree with Washington on all things, regardless of the US’s claim to be the leader of the free world. Delhi has been unwilling to take part in sanctions against Moscow, instead using the opportunity to gain access to cheaper oil and gas. India is wise to do so as Western powers are in no position to force India to pick sides. 

In the meantime, Delhi is looking to ramp up domestic production as well. Under the slogan “self-reliant India”, the government is seeking to reduce dependency on imports (such as fertilizer) and to compete with China as a production base. Unlike China, India has strong democratic credentials and has become stronger in industries that are perceived to be less controversial such as IT services. Although IT outsourcing is always at risk to competition from lower-cost players as well as new technologies, India is at the forefront of developments in technology such as robotic process automation.

A cooperative model in which each member state plays to its strengths could allow ASEAN to offer both low costs as well as the knowhow needed to sell to more demanding consumers. Adaptation to the increasing complexity of importers’ demands will be key here. The controversy surrounding exports of palm oil in the face of restrictive EU deforestation regulation is an important test. Malaysia and Indonesia will need to find an adequate solution if they want to retain what is for them a crucial export business.

As much as the decline of globalization may be lamentable, it is happening nonetheless. Pointing fingers at irrational politics may relieve stress but does nothing to help economies and firms adapt. Those countries, regions and companies that understand the root causes of decoupling will be able to thrive and leave the competition behind. Addressing environmental, resiliency and political concerns may not be easy, but if the players in Asia are successful, they could ensure a future brighter than ever before. The region thrived during the rise of globalization. There is no reason why it cannot continue to do so during its decline.