Is China trying to implode Japan's economy?

[This article originally appeared at Asia Times Online on December 1, 2012.  It can be reposted if ATOl is credited and a link provided.]
 
Is the People's Republic of China (PRC) trying to implode the Japanese economy? It is starting to look that way. The PRC has counterprogramed the US pivot to Asia - and US advantages in military and softpower - by leveraging its economic strengths.

When Japan kicked off this year's edition of the Senkaku (Diaoyu) Follies with the national purchase of the uninhabited rocks, the PRC leadership responded by giving free rein to nationalist Nipponphobic demonstrations, boycotts, and occasional anti-Japanese thuggery - and then refused to allow relations to renormalize.

The PRC frequently reiterates a hardline position during the press conferences of the Ministry of Foreign Affairs. For instance, on November 19:

Q: Is there arrangement of meeting between the Chinese and Japanese leaders during the East Asian Leaders' meetings? What is your comment on the prospect of Sino-Japanese relations?

A: As far as I know, there is no arrangement of Sino-Japanese bilateral meeting during the East Asian Leaders' meetings.

On your second question, as is known to all, Japan's illegal "purchase" of the Diaoyu Islands has led Sino-Japanese relations to the current difficult situation. Japan should bear full responsibility. China hopes the Japanese side will seriously reflect on and correct its mistakes, show sincerity and make concrete efforts to properly settle the current problems and push bilateral relations back to the normal track of development.

By this framing, "pushing bilateral relations back to the normal track of development" would involve the Japanese government publicly repudiating the island purchase.

That simply isn't going to happen.

Japanese public opinion is rock-solid behind Japan's claims to the Senkakus, a situation that has more to do with fear and mistrust of Rising China in the Land of the Rising Sun than it has to do with the validity and value of Japan's claims to a cluster of uninhabited Taiwanese islands.

As the Japanese parliamentary elections - announced for December 16 - approach, the PRC is doing nothing to reduce the political profile of the issue, or its unpopularity in Japan. Chinese coast guard vessels have continually patrolled the waters near the Senkakus, allowing the Japanese media to report this affront in a style reminiscent of America's humiliation during the Iran hostage crisis:

Chinese vessels sail near Senkakus for 20th day [1]
Chinese vessels near Senkakus 30 days in a row [2]

And so on.

The widely accepted explanation for the PRC willfully pitching Sino-Japanese relations into the deep freeze is knee-jerk Chinese nationalism, with the emphasis on "jerk". A variation on this explanation is "weak and divided Chinese government is trying to look strong for internal political reasons", an explanation that has been trotted out for decades by every government that found its tit caught in a Chinese wringer, here floated by the current Noda government to explain the current crisis and obligingly circulated by the Asahi Shimbun:

In September, the Noda administration officially decided to put three of the Senkaku Islands under state ownership, before China's Communist Party Congress was held.

"If we purchased [the Senkaku Islands] immediately after the new leadership was established, it would bring shame to China," a source close to Noda said. "We will be able to improve our relationship with the new leadership if we finish putting [the Senkakus] under state ownership during Hu Jintao's era."

However, the friction between Japan and China has only worsened. The Noda administration has further strengthened the belief that the new leadership in Beijing is unstable, and Xi has no choice but to take a hard-line stance against Japan, according to an official at the prime minister's office. [3]

Unfortunately for Prime Minister Yoshihiko Noda, a nice Reuters backgrounder on the Senkaku purchase reveals that the central government could have delayed the sale of the islands to the city of Tokyo for an indeterminate period of time, thereby sparing the tender feelings of the new Chinese leadership, by insisting on parliamentary review, surveys and other bureaucratic hoo-hah; indeed, a key reason why the right-wing owner abandoned his ideological soul mate, Shintaro Ishihara, to sell to the central government was because he needed to see the money pronto in order to pay down a mountain of debts.

If Noda wants to see what hardline posturing driven by leadership instability looks like, he can take a peek in the mirror. [4]

The PRC's high-profile, unyielding position on the Senkakus seems to reflect something other than reflexive nationalism, political weakness, or the blunderings of a disoriented and incapable elite. It appears that the Beijing leadership may have decided to edge beyond using the Senkaku dispute as a mere demonstration of its economic countermeasures to the US pivot into Asia, to thinking seriously about actually trying to kick a key prop out from under the US initiative - a vital, but weakened and vulnerable ally: Japan.

I previously argued that the PRC had decided that the best riposte to the US/Japanese strategy of using maritime disputes to polarize East Asia diplomatically and militarily to China's detriment was to eschew overt government-ordered military or economic action - such as the counterproductive slowdown in rare earth exports to Japan during the 2010 Captain Zhan stand-off - in favor of "popular" but state-sanctioned economic retaliation against Japanese economic interests inside China. [5]

There is every indication that this strategy is ongoing - and working.

Japanese exports to China experienced double-digit drops in September and October. Japanese investment in China dropped over 30% in October year-on-year. What is perhaps most unnerving for Japanese leaders is that the nation is now dealing with monthly trade deficits for the first time in 30 years, having experienced four in a row since August 2012, and the Senkaku crisis is definitely not helping.

At present, the most important question is whether the PRC is simply pursuing its traditional strategy of motivating Japan Inc - the powerful Japanese business community that looks to China for growth and profits - to pressure the Liberal Democratic Party (LDP) into a more China-friendly stance... or whether the PRC wants to put a significant, permanent dent into the economy of its local strategic competitor, Japan.

Government mouthpiece China Daily recently ran an op-ed by think-tanker Jin Baisong that explored a rather sinister tangent - whether the slowdown in Sino-Japanese trade was significantly debilitating the Japanese economy:

Some recent discussions in the media have centered on whether the Japanese economy really relies as heavily on China as is made out to be.

Jin's answer: Yes!

In my analysis, Japan's direct and indirect exports to China are estimated to be 30% of Japan's total exports. Besides, 60 to 70% of China's total exports to Japan are operated by Japanese companies. Therefore, Japanese companies not only play a key role in expanding China's exports to Japan, but also get the lion's share of the profits.

The Japanese economy is "gravely ill" now. Ever since Japan played out the farce of "purchasing" China's Diaoyu Islands, Sino-Japanese trade has been suffering seriously, compromising the performance of Japanese enterprises in China.

He concludes that there is nothing the Chinese government can or should do about it, simultaneously shielding the PRC regime from culpability in any economic warfare accusation:

But Japan cannot blame China for its economic downslide because the Chinese government has taken measures to safeguard the legitimate rights and interests of foreign companies, including Japanese companies, doing business in China. In fact, Premier Wen Jiabao has repeatedly said all enterprises registered in China are Chinese enterprises and their products are Chinese products. Chinese laws protect all enterprises, including Japanese-funded enterprises.

So Japan has only itself to blame for the economic mess it is in. [6]

At the opposite end of the expert opinion spectrum, ex-Morgan Stanley banker Andy Xie, in his column for the liberal and independently minded Caixin financial news outlet, took his own thoughtful look at the vulnerabilities of the Japanese economy, especially as they related to China.

Xie sees Japan-apocalypse, as an aging Japan can no longer provide the savings needed to cover the government's immense fiscal deficits and cope with the dismaying slide into trade deficits created by the overvalued yen. That means Japan will have to peddle debt instruments to those patient, kind, and competent Good Samaritans of the international investment community:

What foreign investors think of Japan will begin to matter to its bond market. Foreign investors are unlikely to buy into Japan's crazy policy combination

Finally! This could be the time to successfully short the Japanese yen! (Actually, as Xie points out, the most obvious economic solution to Japan's problems - a major devaluation of the yen - would impoverish Japan's huge elder class and is probably politically out of reach.) As for the China factor, Xie wrote:

The dispute with China may be the last straw in punching a hole in Japan's unstable equilibrium. As China is the largest market for Japanese companies and the only major growing market, its [Japan's] trade deficit could mushroom into 2013. The market's view of the yen may flip from a safe haven to a structurally weak one. It could trigger a huge reversal in the capital flow, causing the yen to switch down to a new equilibrium level of 30 to 40% below where it is now.

... the territorial dispute with China kills Japan's dream of growing out of its problems. The dispute is unlikely to be resolved soon. Also, once Chinese consumers switch to other car manufacturers, coming back may become quite difficult. In the short term, weak Chinese demand will accelerate Japan's contraction. There isn't another force to offset it.

Regardless of whether the CCP leadership in Zhongnanhai reads China Daily and/or Caixin, there appears to be a recognition that prolonging the Senkaku dispute has the potential to inflict some significant damage on the Japanese economy.

The Chinese media provides further food for thought for Japanese analysts wondering whether the PRC is piling on the pressure simply to force concessions from the incoming LDP government, or is perhaps gunning for bigger game.

As Xie's piece indicates, auto sales are a pillar of Japan's economic relationship with China. Right now, Japanese auto sales in China are in free fall due to some combination of official discouragement, popular distaste, and personal risk-averse behavior. According to Chinese media, Toyota's local Chinese partner announced it would pay repair fees for Toyotas damaged in anti-Japanese protests. This is unlikely to lead to a sales turnaround, as it advertises to potential Chinese customers that there is an immediate risk to their persons and property in driving a Japanese-marque wagon. [7]

China Daily ran a gloating article on the collapse in Japanese auto sales in China. In a chart it compared the Japanese drop-off in October year-to-year to a rise in sales for some other suppliers:

Mazda: down 45%

Honda: down 54%

Nissan: down 41%

Toyota: down 44%

Contrasted with:

GM: up 14%

Ford: up 48% [8]

The interesting element of this graphic is that the only non-Japanese suppliers listed are both Americans. The largest foreign player in China auto sales - Germany's Volkswagen, whose share is equal to the four Japanese makers combined and experienced a huge jump in sales at Japanese expense in October - was ignored. Also ignored was South Korea's Hyundai, the third-largest in the market, and which also posted a healthy boost in sales. [9]

The implied message here is that Japan's loss can be America's gain, an interesting exercise in wedging that invites the United States to deepen its economic engagement with the rising regional power, while decoupling from the fading regional power that is locked in a zero-sum strategic battle with its local adversary.

Even if the PRC government isn't serious about trying to crater the Japanese economy, and instead will make nice with LDP leader Shinzo Abe in a few months, tension - and the urge to escalate tensions in what is perhaps mistakenly perceived as a virtuous cycle by each practitioner - is increasingly baked into the East Asian geostrategic cake.

The US pivot to Asia is predicated on the beneficial role of tensions with China in creating a strong alliance of democracies, near democracies, and Communist dictatorships like Vietnam - which are so darn useful they have to be included somehow.

The Chinese insistence on punishing Japan for its central role in the pivot is based on the idea that, when push comes to shove, the decisive realities in East Asian are economic and Chinese, rather than military, democratic, and American.

Both sides believe they have the winning strategy, with the result that East Asian geopolitical dealings are drifting away from creating an environment of peace, stability and shared prosperity to fostering the emergence of a contested zone in which the major powers continually and maliciously stress-test their counterparts for economic and political weakness.

That's a recipe for increased polarization, escalation, and the widespread adoption of zero-sum strategies that assume that one country's gains must come at another country's expense - and threaten to become exercises in wishful thinking (or wishful schadenfreude).

Michael Cucek, an incisive and informed commentator on the Japanese political scene, is a concerned witness to the United States' slow economic and strategic drift away from Japan - and a proponent of the accentuation of the adversarial relationship between the PRC and Japan that underpins the "pivot to Asia".

On his blog, he turns the spotlight away from Japan's economic and geopolitical predicament to China's own structural problems, and predicts that Japan will merrily make lemonade from the lemons of Sino-Japanese estrangement:

... [R]uminations on how to accommodate China's continued rise are predicated on just that: China's continued rise. Despite the glaring examples of the collapse of the Bubble in 1989 and the Great Recession (2008 - continuing), policy wonks are failing to check to see if indeed there is a floor beneath them, relying on an axiomatic faith in China's not hitting a wall.

China's investment-as-a-percentage-of-GDP ratio of 50% is unsustainable, however. In order to preserve the illusion of prosperity in the face a global recession and a once-in-a-decade leadership handover, the government of China has greenlighted an immense extension in credit. The bills will come due, sooner than most big thinkers are willing to admit.

When the Great Reckoning comes for the People's Republic, the governments and economies with the fewest strong ties to China will be the lucky ones. [10]

In other words, the hope is that China will fall on its behind before Japan does. However, as they say, hope is not a plan.

Japan has hope. But, it seems, China has a plan. And it looks like it's working.

Notes:
1. Chinese vessels sail near Senkakus for 20th day, House of Japan, Nov 10, 2012.
2. Chinese vessels near Senkakus 30 days in a row, House of Japan, Nov 19, 2012.
3. Senkaku issue still murky as governments reshuffle in China, Japan, Asahi Shimbun, Nov 16, 2012.
4. How debts and double-dealing sparked Japan-China islets row, Reuters, Nov 11, 2012.
5. China pushes back against Japan, Asia Times Online, Sep 29, 2012.
6. Japan itself to blame for its woes, China Daily, Nov 20, 2012.
7. Toyota to pay repair fees for cars damaged in anti-Japan protests, Sina, Oct 9, 2012.
8. US auto giants see sales surge in October, China Daily, Nov 6, 2012.
9. Volkswagen aiming for 3,000 dealers in China, China Car Times, Nov 19, 2012.
10. Random Thoughts On The US Election And The Chinese Leadership Changeover, Shisaku, Nov 7, 2012.