SPECIAL REPORT the PACIFIC November 15Th 2014

SPECIAL REPORT THE PACIFIC November 15th 2014

THE PACIFIC AGE

20141115_SRPacific.indd 1 04/11/2014 11:39 SPECIAL REPORT THE PACIFIC

The Paciﬁc Age

Under American leadership the Paciﬁc has become the engine room of world trade. But the balance of power is shifting, writes Henry Tricks

WILLIAM HENRY SEWARD was no misty-eyed dreamer. It was whaling, or what he eulogised as “the chase of the whale over his broad range of the universal ocean”, that first drew his attention to the Pacific. He was a visionary, though. The man who became Abraham Lincoln’ssecretary of state in 1861 and bought Alaska from tsarist Russia in 1867 knew what America had to do to take advantage ofthe openingofthe Pacific. It needed to build on the Gold Rush spirit in California; finish a transcontinental railway to carry people and freight from one side ofAmerica to the other; dig a waterway through Central America for ships to pass through; and acquire Pacific territories like Ha- waii and Midway as maritime hubsoftrade and security. All this was done either within his life- time orwithin a few decades of it. He was also itching to wield America’s nascent power and saw the Pacific as the place to do it. In a speech to Congress in 1852 he predicted that the Europe-cen- CONTENTS tred Atlantic would decline in im- portance “while the Pacific 3 History Ocean, its shores, its islands and Galleons and gunships the vast regions beyond, will become the chief theatre of events 4 Economic integration in the world’s great hereafter”. The flying factory Commerce, he added, would be 6 Free-trade pacts the “great agent of this move- America’s big bet ment” and would flourish between America and China. 8 Maritime power The Pacific evokes that kind Your rules or mine? of enthusiasm. It is a 64m square 10 North American energy mile (165m square km) blank on Oil and water the map (except for a plethora of small islands), bigger than the world’s entire landmass. Still, at times it 11 Latin America seemed as though its destiny would never arrive. The refrain, “The Medi- Pacific pumas terranean is the ocean of the past, the Atlantic is the ocean of the present 12 Chile and China and the Pacific is the ocean of the future,” first heard more than 100 years ¡Salud! ago, is still repeated today. Yet exactly halfa century after Japan “rejoined the world” (in the phrase of Ian Buruma, a writer) by hosting the Olym- 13 The future of the region pics in 1964, the Pacific Age has now clearly arrived. Japan’s economic Merchants or missionaries? powermay have peaked 25 years ago, but it produced a trans-Pacific competition that now has America and China vying with each other for the ACKNOWLEDGMENTS title of the world’s largest economy (at purchasing-power parity). All three Pacific nations trade vigorously with one another. Many people helped in the prep- At the same time trade has surged into the farthest reaches ofthe Pa- aration of this report, not all of them acknowledged in the text. The cific (see charts, next page). Since the 1970s trade across the Pacific has far author would like to express outrun the Atlantic sort. China, forinstance, has taken its hunger forhigh- A list of sources is at particular thanks to Manu Bhaska- protein food and raw materials to Latin America and become the biggest Economist.com/specialreports ran, Parag Khanna, Patrick Low, tradingpartnerofdistantChile. Byone estimate, in 2010 itpromised more Shuichiro Megata, Edward Melillo, An audio interview with Charles Morrison, Davíd Najera, loans to Latin America than the World Bank, the Inter-American Devel- the author is at Christopher Nelson, Mio Otashiro, opment Bankand the United States Export-Import Bankcombined. Economist.com/audiovideo/ Jonathan Pollack and Vivek Whadwa. Such connections have made the developing rim of the Pacific a 1 specialreports

The Economist November 15th 2014 1 SPECIAL REPORT THE PACIFIC

2 growth factory. Whereas the United States’ economy grew by an lengingas they’ve been since APEC was established in 1989,” says average of1.6% a yearoverthe past decade and the European Un- Alan Bollard, the organisation’s executive director. ion’sby1.7%, Latin America’sexpanded by4.6%, EastAsia by5.4% There are complex counter-currents. Many East Asian and South-East Asia by 5.9%. The 21 economies of the largest countries worry that America’s commitment to the region could trans-Pacific grouping, Asia-Pacific Economic Co-operation be put at risk by more immediate threats in the Middle East and (APEC), account fornearly halfofglobal trade. This special report Ukraine. At the same time they do not want America to provoke will refer to them as “the Pacific”, though they exclude the trop- China by becoming too involved. The rhetoric has recently been ical Oceanian economies. “The region comprises not only the turned up. Chuck Hagel, America’s defence secretary, wagged a world’s ‘factory floor’ but also its most important sources of ser- finger at China when he told a gathering of military chiefs at the vices, technology and investment, and final-goods markets,” Shangri-La dialogue in Singapore in May: “One of the most criti- writes Peter Petri, an international-trade economist. cal tests facing the region is whether nations will choose to re- It has also seen an astounding increase in prosperity. In solve disputes through diplomacy and well-established interna- poorer parts of Asia the size of the middle classes—those living tional rules and norms or through intimidation and coercion. on $2-$20 a day—has increased sevenfold since the turn of the Nowhere is this more evident than in the South China Sea.” In millennium. In Latin America it has doubled. Parts of Malaysia his own speech a day later, Lieutenant-General Wang Guan- have become so bourgeois that taxi drivers moonlight as sales- zhong, head of the Chinese delegation, retorted: “Assertiveness men of smart apartments overlooking the Strait of Malacca, one has come from the joint actions of the United States and Japan, ofthe world’s busiest trade routes. not China.” Both America and China know how important it is to keep Recently the tensions have spread to the economic sphere, this economic engine running, so in public they generally use too. China has interrupted investment and trade with neigh- moderate language about each other. In 2011 Hillary Clinton, bours who stand up to its territorial assertiveness, such as Japan, then America’s secretary of state, explained President Barack the Philippines and Vietnam. China and America each have Obama’s “pivot” to Asia in an article in Foreign Policy: “We all their own plans forturning the Pacific into a giant free-trade area know that fears and misconceptions linger on both sides of the that both see as a test of their influence in the region—and in the Pacific. Some in our country see China’s progress as a threat to wider world. The Obama administration says it wants to forge a the United States; some in China worry that America seeks to trade pact with the world’s most sophisticated rules in the Pacif- constrain China’s growth. We reject both those views.” China’s ic: the Trans-PacificPartnership. ItcharacterisesChina aswanting president, Xi Jinping, at a meeting with Mr Obama in California to perpetuate a model ofstate capitalism. last year, responded in kind: “The vast Pacific Ocean has enough Fred Bergsten ofthe Peterson Institute forInternational Eco- space forthe two large countries ofChina and the United States.” nomics in Washington describes the overlapping commercial and strategic concerns as a juggling tournament. “We’re in the Choppy waters middle of an historic transformation of the economic architec- Yet just when the Pacific Age should be celebrating its half- ture ofthe whole Pacificregion. There are competingmodels and century, the region is showing signs of strain, from increased ri- high politics. It’s a very complex set ofballs in the air,” he says. valry between the superpowers and emerging nationalism in Ja- Pacific history—an underdeveloped field of study com- pan, China and elsewhere to sudden squalls in places like Hong pared with that of the Atlantic, as its scholars dolefully note—is Kong, Thailand and, as ever, North Korea. “The shifting land- awash with big-power rivalries (see box, next page). For centu- scape in the Asia-Pacific and associated risks are about as chal- ries European powers were carving it into monopolistic trading 1

2 The Economist November 15th 2014 SPECIAL REPORT THE PACIFIC

2 enclaves that they defended ruthlessly. The only free-traders matism, peace, rule oflaw and education. At the same time Pacif- were pirates. The risks ofhistory repeating itselfare palpable. icLatin American countriesare lookingto EastAsia for economic Many argue that the ocean’s most vulnerable spot is its lack models. of robust institutions to ensure fair play. They point to the Atlan- Even China’s “state capitalism” may be exaggerated. In a tic Charter, forged in 1941in the heat ofwar by Winston Churchill new book, “Markets over Mao”, Nicholas Lardy, an American and Franklin Roosevelt, that laid down rules to prevent territori- economist, crunches the numbers to argue that the secret ofChi- al aggression, reduce trade restrictionsand ensure freedom ofthe na’s success is private business, not the state-owned giants. Priv- seas. All ofthese are live issues in the western Pacific today. ate firms have become “the major source of economic growth, Mr Bergsten says the “obvious cultural affinities” across the the sole source of job creation and the major contributor to Chi- Atlantic that produced the charter, and institutions such as na’s still-growing role as a global trader”, he writes. 1 NATO, are “of a different order” from those across the Pacific, or even within East Asia. “Having a beach on the Pacific does not make you a member of a com- Galleons and gunships munity,” snorts Robert Manningofthe At- lantic Council, a Washington think-tank. Some say that the only shared ideology in Pacific history has been defined by bullies enforcing their rules East Asia is nationalism and a sense of historical grievance against each other. THE RUINS OF St Paul’s church on a hill in the Malaysian city of Malacca provide a good view Four reasons for optimism of the vicissitudes of Pacific trade. Peer et this special report will argue that through the late-monsoon haze from its even when values clash, shared interests cobbled courtyard, and you can just about in the region tend to prevail. East Asia, like see container ships and oil tankers chugging America, is a place where poweris judged through the blue-green waters of the Strait firstand foremostbywealth. “In EastAsia, of Malacca. At least 70,000 ships pass on with the exception of North Korea, their way to and from the Pacific and Indian growth far more than any abstract politi- oceans each year, carrying a third of the cal theory is the primary means by which world’s seaborne oil and many of its goods. governments legitimate their rule,” says From its beginning, Malacca has been Bilahari Kausikan, Singapore’s ambassa- an entrepot between the Pacific and the rest dor-at-large. “This does not guarantee of the world. Shortly after the city was peace. But East Asian governments at founded in 1400, a Chinese Muslim from the least have a strong self-interest to min- Ming court, the eunuch Zheng He, used it as imise actions that would disrupt growth.” a base for his “treasure ships”. Hundreds of Besides growth, the promise of the vessels bore 20,000 crewmen, passengers Pacific rests on three other fairly sturdy and horses through the western Pacific to legs: trade, ideas and connectivity. Trade is take silk, porcelain and tea to countries as Witness to a turbulent past part of the Pacific’s DNA. While values far away as east Africa. and ideals travelled across the Atlantic But after 1433 China abruptly stopped with the Pilgrim Fathers, goodswere flow- trading missions to the outside world, and a In 1641it was the turn of the Dutch to ingacrossthe Pacific: silver, silk, porcelain, much uglier form of trade emerged. This was blast the Portuguese out of Malacca. They spices, sandalwood, much of it beautiful- the European version, laden with mercantil- turned the church into a Protestant one and lycrafted in China. Todaymuch ofthe traf- ist and imperialist ambitions partly dis- changed its name to St Paul’s. A nearby fort fic is in silicon. guised as a mission to spread Christianity. St is engraved with the letters VOC, after the Trade moves with the times. Japan’s Paul’s, originally called Our Lady of the Hill, Dutch East India Company. The vast firm built elegant “flying geese” model (with Japan was built by the Portuguese after they its own monopoly in the Spice Islands. All leading industrialisation in Asia and the blitzed Malacca in 1511, driving out the clove and nutmeg trees apart from those rest following in V-formation) brought sultan. It was a staging post for undermining belonging to the VOC were uprooted, and manufacturing to the “miracle” econo- Venice’s monopoly over the trading of Asian anyone unconnected to the company caught mies of South-East Asia in the 1990s and spices through the Mediterranean. Portugal growing or selling cloves was executed. even survived the abrupt intrusion of the wanted its own monopoly, and got it. In 1819 the British claimed Malacca Chinese dragon in the 2000s. But no one One of the Portuguese victors at Malac- from the Dutch, ran up a big Union Jack at St can glide complacently. America is be- ca was Ferdinand Magellan. With an eye on Paul’s, used the church as an ammunition comingmore competitive, thanksto frack- establishing a rival trading route to the dump and put a lighthouse in front. In the ing, its energy revolution of the past half- Spice Islands, he later defected to Spain, second world war Malacca was briefly over- decade; so some Asian economies are found a passage around Cape Horn and run by the Japanese, but recently it has likely to become more closely connected baptised the Pacific Ocean. His Spanish returned to the tranquillity of its birth. to and more dependent on it. successors, sailing from Acapulco with When your correspondent visited, a With trade come ideas. Kishore galleons full of silver, used the Philippines muezzin’s call to Friday prayers floated up Mahbubani, a Singaporean writer, puts (named after their king, Philip II) as a hub from a nearby mosque. Islam, too, first came free-marketeconomicsatthe head of a list for trade with China between 1565 and 1815. to South-East Asia on Arab trading dhows. of“seven pillars ofwisdom” that Asia has The Pacific became a Spanish lake, defended Its influence has been much more enduring imported from the West, along with sci- by cannon from all manner of pirates. than that of Christianity. ence and technology, meritocracy, prag-

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2 Smaller countries around the Pacific, such as the Associa- Cambodia, have become the new goslings. tion of South-East Asian Nations (ASEAN), band together for But the image offlying geese is no longer as fitting as it once

strength in numbers against the big powers. There is a constant was, because the production apparatus has become more like a

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flow ofpeople, across the Pacific to Silic ¢alley and backagain; spider’s web, with components flitting in all directions and and there are pop-culture excursions between three countries, goods crossing and recrossing borders. Victor and William Fung, China, Japan and South Korea, that are otherwise staunchly owners of Li and Fung, a Hong-Kong-based company that helps

nationalist. The Paciﬁc is where the 21st century’s habit of net- orchestrate these supply chains, have said that this network has

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working is most advanced. From Silic ¢alley to Shanghai, the “ripped the roof off the factory”. Suppliers can now be any- world’s biggest internet firms have flourished. Nirvikar Singh, where. In their book, “Competing in a Flat World” (written with co-editor of “The Oxford Handbook of the Economics of the Pa- Yoram Wind), the two Fungs use the example of a pair of shorts cific Rim”, published earlier this year, says the ocean is becoming they made for an American retailer. The buttons came from Chi- the world’s “digital playground”. na, the zips from Japan, the yarn was spun in Bangladesh and To be a playground rather than a battleground, however, it woven into fabric and dyed in China, and the garment was needs rules that govern trade and the sea routes across which stitched together in Pakistan. “Yet every pair ofshorts has to look commerce flows. Since the second world war these rules have as ifit were made in one factory.” been underpinned by an American security presence that has

helped keep the peace in the Paciﬁc—give or take self-inﬂicted Tangled web

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wounds, such as ¤ietnam war. Yet America is not the only ar- As a result, East Asia has become one of the most intercon- biter. APEC’s Mr Bollard says the region has benefited from a set nected regions in the world. Trade among EU nations remains of “loose-tight” standards of behaviour—guidelines rather than even more extensive, buttheyare partofa single market whereas hard-and-fast rules—that have helped the region muddle East Asia has only a tangle of free-trade agreements. As Prema- through Vietnam, the spread of communism, China’s cultural chandra Athukorala, an economistbased in Australia, points out, revolution and other periods ofsevere instability. A rising China, network trade has been the most dynamic part of world manu- too, wants a say in setting the rules, especially in its own neigh- facturing exports since the 1990s. The share of East Asian devel- bourhood. Getting all sides to agree on what those rules should oping countries increased from 14% in 1992-93 to over 30% in be is the challenge for the next half-century ofthe Pacific Age. 7 2007-08, with China the main driving force (see chart1). Such is the pull of China within this new “Factory Asia” that the currencies of most countries in the region now track the Economic integration Chinese renminbi more closely than they do the American dol- lar, reckon Arvind Subramanian and Martin Kessler, formerly of the Peterson Institute. Yet for all its power, China is still only a The flying factory part of the spider’s web, not the centre of it. “What makes the region unique is that you have a tight fit between regional and global integration. The supply chain is linked to final-goods markets in the United States and the EU,” says Razeen Sally of the Lee Asia has built a web of economic interdependence Kuan Yew School ofPublic Policy in Singapore. Global trade has slowed down in the past two years, and in which China would be ill-advised to unravel 2012 East Asian trade with the rest of the world for the first time IN 1999 ANDY CHAN, a middle-aged Hong Kong business- made no contribution to growth. Yet despite the lingering fallout man, setup a companyin Shenzhen, justoverthe border on from the 2008 global financial crisis the network effect is still go- the Chinese mainland, making pretty sets of bath soap to fill ing strong. Exports, especially to America, have shown signs of American Christmas stockings. They were sold at $10 apiece at picking up this summer. Sudhir Shetty, the World Bank’s chief retailers like Walmart. His firm made and shipped them, by the economist forEast Asia and the Pacific region, expects the emerg- hundreds of thousands in each steel container, for just $4. In the ing countries in his area to grow by 7% this year, far faster than first few years his firm made a bomb. He paid his workers a pit- anywhere else in the developing world. tance, 290 yuan (then $35) a month, and imported his raw mate- China’s slowing growth rate remains a concern, but the ten rials from Malaysia for next to nothing. But then China’s ex- members of the Association of South-East Asian Nations change rate soared, his workers’ wages rose almost tenfold, the (ASEAN), including Indonesia, the Philippines, Singapore and authorities started enforcing overtime rules and competition ¡ietnam, are trying to make their region more self-sustaining. turned brutal. The business collapsed. Now he is a taxi driver. Next year ASEAN plans to establish an “economic communi- “You can’t do this business in Shenzhen any more unless you ty”—a single market to make networktrade more seamless. breakthe law. You have to go to South-East Asia,” he says bitterly. But China’s assertiveness over disputed territories in the Hard as it is on Mr Chan, trade in East Asia is ruthlessly op- South and East China Seas has put it at loggerheads with impor- 1 portunistic. Since Japanese multination- als put the “Flying Geese” model of manufacturing into practice in the 1980s, Asian factories have migrated, via the continent’s “miracle” economies, to Chi- na and South-East Asia. Fuelled largely by foreign investment, they are on a perma- nent quest for cheaper labour and greater efficiency. As cities along China’s throb- bing coastline are priced out of the market, inland locations such as Chongqing, orlower-wage countries like Vietnam and

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Last that both countries lay claim to. Since then, American officials say, its summer allies in the region have become some- Chinese what keener to move into America’s economic orbit to keep China in check. Japa- businesses nese investment in China fell to $9.1 in Vietnam billion in 2013, from $13.5 billion the year before. At the same time Japan’s invest- were ment in ASEAN more than doubled, to attacked by $23.6 billion. Myanmar, until recently a sa- trap ofChina, is opening up to the West. locals after Even in Singapore, which has a big a Chinese ethnicChinese communityand seesitself as a cultural bridge between east and oil firm put west, China’s conduct has raised eye- a rig in brows. Simon Tay, chairman of the Singa- pore Institute of International Affairs, contested says its treatment of countries such as waters ietnam shows that political integration has failed to match the economic sort. “The post-war period has provided a sense of stability that has enabled Asians to mind their own business—literally the business of business,” he says. “There is unease about a China-centric region.” Some economists say China’s asser- tive behaviour may also be a way of testing whether America’s economic power in the region is waning, as many of its leaders believe. They think that the Chi- nese maywantto re-establish the old hier- archical system in which they were clearly in control but at the same time felt a sense ofnoblesse oblige. Two striking hints of this came during Xi Jinping’s first visits as China’s presi- 2 tant trading partners such as Vietnam and Japan. As yet the eco- dentto ASEAN countrieslastyearand to the Indian Ocean in Sep- nomic costs have been bearable, but the risks are high. tember this year. On both tours he spoke of his desire to create a JamesReillyofthe UniversityofSydneythinksthat China’s “maritime SilkRoad” thatwould build portinfrastructure and es- new posturing is a revival of an old practice known as economic tablish shipping co-operation with smaller, friendly nations like statecraft, meaning it is deploying its wealth for strategic foreign- Cambodia and Sri Lanka along ancient trade routes established policy purposes. This practice involves both carrots and sticks. In when China was the undisputed hegemonic power. He also an- Asia the carrots have included pipelines, railways and trunk nounced the creation of the Asian Infrastructure Investment roads that China has provided around the region, mainly to sup- Bank, a rival to the Japan-driven Asian Development Bank but ply its own economy with raw materials, but with wider bene- with deeper pockets—at least $50 billion in startup funds. fits, especially forits poorer neighbours. ©et for all its swagger, China is not impregnable. Its eco- But there is also coercion, even if this is often counterpro- nomic growth looks increasingly unsustainable, and most of its ductive. In 2012, for example, Chinese officials indirectly encour- people are still relatively poor. Though there is a middle-class aged a consumer boycott of Japanese goods as Japan reasserted boom in coastal cities, the country’s average GDP per person is itsclaim to disputed islandsitcallsthe Senkakusand the Chinese somewhere between that of the Philippines and Malaysia and

call the Diaoyus. Customs oﬃcials tightened up inspections of still a longwayfrom South Korea orJapan. The Communist Party

© ¨ Japanese import §et Japan did not back down. Instead, it got knows that, to a large extent, its legitimacy rests on continuing to closer to neighbours in the region who also objected to Chinese improve living standards. aggressiveness, says Mr Reilly. In the same year Chinese restric- tions on banana imports from the Philippines led to a backlash From silk to services among Filipinos that brought their country closer to America. That means taking economic reform further and increasing Bonnie Glaser of the Centre for Strategic and International the value of goods and services produced in China, hoping to Studies, a think-tank in Washington, says China may even be emulate the success of Singapore and Hong Kong, which gener- pursuing economic integration to strengthen its leverage. “Chi- ate far more value from services such as banking than from sell- na’s strategy is to weave together a network of economic inter- ing manufactured goods. Mr Xi has made reforms to the service dependence. It is using the centrality of its power to persuade sector a priority. He must also be casting a wary eye to North other nations that to challenge China on territorial issues is sim- America where robotics, 3D printing, mass customisation and ply not worth it.” But its neighbours are not sitting placidly by. other new trends could put pressure on Asia’s factory model. Last summer Chinese businesses in Vietnam were attacked by There are some promising alternatives to manufacturing. locals after a Chinese state-owned oil ﬁrm put an oil rig in waters Last summer’s huge IPO ofAlibaba, a Chinese e-commerce ﬁrm, 1

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2 underscores the potential of digital business. Tencent, another All three involve un-

Chinese internet company, has more revenues and proﬁts than wieldy acronyms, though

Facebook. Lisa Hanson of Niko Partners, a Silic alley-based whichever wins could one day tech consultancy, says companies like Tencent have turned Chi- become as familiar as NAFTA na into a world leader in online gaming. (the North American Free-Trade One of the best tools for promoting economic reform is to Agreement). The furthest ad- use free trade and foreign competition to force overprotected ser- vanced is the American-led vice industries to modernise. Jiang Zemin, the president at the Trans-Pacific Partnership (TPP), time, understood that when he took China into the World Trade in which China plays no part. Organisation in 2001. Japan’s prime minister, Shinzo Abe, has of- On a parallel track, though fur- ten made the same point when justifying his decision to join the ther behind, is the Regional Trans-Pacific Partnership, a free-trade grouping led by America. Comprehensive EconomicPart- The big question is whether Messrs Xi and Abe are prepared to nership (RCEP), which covers use Pacific-wide trade pacts to maintain that reformist zeal—and only Asian countries and in- whetherAmerica has the political will to accommodate them. 7 cludes China, plus several countries that are also negotiating the TPP. Free-trade pacts The distant dream is the Free-Trade Area of the Asia-Pacific (FTAAP), which would include both America and China, and possibly cobble together elements of both TPP and RCEP. China America’s big bet pushed the FTAAP ahead of the 21-country APEC summit in Beij- ingin November, givinga newlease oflife to an old idea. PeterPe- tri and Ali Abdul-Raheem write in a new paper for the Pacific Economic Co-operation Council: “Nearly 50 years after it was RCEP America needs to push a free-trade pact in the Pacific first proposed, it is gaining traction due to the emergence of and TPP initiatives and the continuing stalemate in global trade more vigorously negotiations.” JAPAN TRIED TO negotiate the first trans-Pacific trade As trade experts see it, the TPP is the most ambitious in the agreement exactly 400 years ago. It sent a robed samurai, short term. It is dominated by America and Japan and also in- Hasekura Tsunenaga, to Europe via Acapulco to request the right cludes Australia, Brunei, Canada, Chile, Malaysia, Mexico, New to trade directly with New Spain (today’s Mexico). Among other Zealand, Peru, Singapore and Vietnam. Together these countries things, he needed permission from the pope. But because the account forabout 40% ofglobal GDP, making it one ofAmerica’s shogun was slaughtering Catholics at the time, he did not get it. biggest potential free-trade agreements (FTAs). The Obama ad- Only in the past decade have such agreements finally start- ministration hopes that it would be complemented by an even ed to flourish (see chart 3). But they are still dominated by inter- more ambitious agreement with the EU. ests that go beyond the nuts and bolts oftrade and into the realm America, which already has FTAs with six other TPP coun- of geopolitics. America and China are pursuing three separate tries, sees openingup Japan as the bigprize. But the TPP is not just tracks towards trade pacts that would help define the future of aimed at dismantling tariff barriers. It is also meant to tackle trans-Pacific commerce. One ofthe three does not include China, tough issues such as intellectual property, services, government another excludes the United States (see chart 2). The third is still procurement, labour and environmental standards. Since its

pie in the sky. members include economies such as ietnam and Malaysia whose supply chains depend on cheap labour, negotiations were always likely to be tricky. When Japan, which likes to spoil its farmers, joined in 2013, they became even trickier. But after 19 rounds of negotiations, considerable progress has been made. There is a strong push to finish it by the end ofthis year, though a similar deadline last year was missed. RCEP, which is led by ASEAN, has the unenviable task of bringing China and Japan to the same table. It is more focused than TPP on market access and on smoothing the way forsupply chains. But it includes foot-dragging India, and may suffer from ASEAN’s softly-softly way ofnegotiating by consensus. Aim higher Michael Froman, America’s trade representative, says the TPP is about ensuring high labour standards, exposing state- owned enterprises to level competition with private enterprises and including digital activity “to ensure a free and open internet”. When he held informal talks with TPP counterparts at a get- together in Myanmar in August, he asked them about RCEP and was not impressed by what he heard. Whereas the TPP was aim- ing to eliminate almost all tariffs, India was asking RCEP to keep the figure as low as 40%. China was somewhere in between, ap- parently waiting to see where everyone else ended up. Predictably, in the run-up to the 21-country APEC summit in 1

6 The Economist November 15th 201 SPECIAL REPORT THE PACIFIC

2 Beijing this month, America and China have also been at odds most cherished harvests they yield to no one. Backed by JA, a over the FTAAP plan being promoted by the Chinese. Wang vast Tokyo-based farm lobby, they have spent theirlives resisting Shouwen, China’s deputy trade minister, has memorably de- efforts to lower tariffs on such products. Richard Katz, an econo- scribed the TPP and the RCEP as “two wheels of a bicycle”, and mist, says that their rural toils produce just 0.8% of Japan’s GDP, the Obama administration has been heartened to find that the yet they match America’s Congress in holding TPP hostage. Chinese government no longer dismisses the TPP as an anti-Chi- In September, just days after Mr Abe reiterated in America na ploy. But APEC insiders say that American officials have op- that TPP was crucial for raising Japan’s agricultural competitive- posed China’s plan for an FTAAP feasibility study, and they dis- ness and helping it adjust to an ageing society, TPP talks between agree over timing. As one official says, America is “dead set on the two countries abruptly broke down. Each side blamed the achieving a breakthrough on TPP” and does not want to be dis- other, though Americans continue to suspect that the problem is tracted by FTAAP. not Mr Abe’s own commitment but the weight the farmers carry They also differ over which should be the FTAAP’s main with his bureaucrats. The Japanese, for their part, realise that building block. Eventually America would like to bring China their best offer may never be good enough for Congress, so with- into the TPP and use that as the basis for a highly sophisticated out TPA there is unlikely to be TPP. trans-Pacific FTA. But China will be reluctant to accept American Mr Froman, the trade tsar, puts TPP into a dauntingly ambi- rules on things like state-owned enterprises and internet access. tious context. He calls it central to America’s pivot to Asia, a Going down an RCEP route would give it more say. chance to show the country’s commitment to creating institu- Messrs Petri and Abdul-Raheem think that a trade agree- tions that moderate territorial disputes, and an opportunity to ment between America and China would bring big gains, what- show emerging economies (meaning China) what economic ever the route. But they reckon that a more rigorous TPP-style rules the global economy should follow. “At a time when there is model would bring economic benefits worth almost $1 trillion uncertainty about the direction ofthe global trading system, TPP more than one based on RCEP, though it would be much harder can play a central role in setting rules of the road for a critical re- to persuade China to go along with it. gion in flux,” he says. The flipside of this is that failure becomes an even bigger risk, which Mr Froman acknowledges. Perhaps in Crossing the Ts an effortto prod a somnolent, introspective Congressinto action, et the TPP itselfstill has huge hurdles to overcome, mainly he makes the dramatic claim that failure could mean America political rather than technical. The Obama administration’s “would forfeit its seat at the centre ofthe global economy”. main headache—some say self-inflicted—is another acronym, Many pundits in Washington agree that American leader- Trade Promotion Authority (TPA). This enables the American ship in Asia ison the table. Michael Green ofthe Centre forStrate- government to negotiate free-trade agreements without having gicand International StudiessaysTPP failure would “undermine them picked apart afterwards; Congress can only validate or re- the impression of the United States as a Pacific power and look ject en bloc what has been negotiated. Once called “fast track”, like an abdication of leadership”. It would also take pressure off TPA lapsed for new trade agreements in 2007. Since 2012 the Japan and China to reform theireconomies. Mireya Solís, a Japan White House has been seeking renewal, but even its own Demo- expert at the Brookings Institution, says it would be a “devastat- crats on Capitol Hill have stonewalled. ing blow to the United States’ credibility”. Japan’s obstacles are more elegiac than TPA, but just as Those views are echoed in East Asia. Mr Tay in Singapore stubbornly entrenched. They have to do with rice and other “sa- says TPP failure would be a disaster: “If the domestic issues of cred” products of the land, such as wheat, beef and pork, dairy these two countries cannot be resolved, there is no sense that the and sugar. Japanese farmers are few and far between, and most US-Japan alliance can provide any kind of steerage for the re- of them are getting on in years, but as guardians of the nation’s gion.” Deborah Elms, head of the Singapore-based Asian Trade 1

Sacred rice, and a trade treaty, in his hands

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2 Centre, suggests that so far the American pivot has manifested it- self mainly as an extra 1,000 marines stationed in Australia. “Without TPP, all the pivot amounts to is a few extra boots on the ground in Darwin,” she says. Even members of America’s armed forces are worried. As one senior serving officer in the Pacific puts it, “the TPP unites countries that are committed to a trade-based future, transpa- rency and the rule of law. It is the model that the United States and Europe have advanced versus that advanced by China. It is an opportunity to move the arc of Chinese development, or identify it as a non-participant.” et when Mr Obama mentions TPP, he talks mostly about protecting American jobs rather than safeguarding America’s place in the world. The president has neverfully put his backinto forcing a congressional vote on TPA. There is still time for him and Mr Abe to rescue the trade talks. But unless Mr Obama leads from the front, America’s own leadership in the Pacific will seem less convincing than he has repeatedly promised. 7

Maritime power Your rules or mine?

Trade depends on order at sea, but keeping it is far from straightforward COMMUTERS BETWEEN MARIN COUNTY and San Fran- any territorial quarrels should be settled according to interna- cisco in northern California are getting used to a new spec- tional law, not by force and intimidation. Otherwise, says Daniel tacle during rush hour. Vast, ungainly container ships, bearing Russel, assistant secretary of state for Asia-Pacific, it is a danger- China’s flag and name, plough along under the glorious Golden ous world where “might makes right.” Gate Bridge. They are bringing goods into the Port of Oakland— However, as Henry Kissinger writes in his new book, and taking back America’s trade deficit. Any pleasure yachts zip- “World Order”, China does not necessarily see the rules the way ping around the bay give them a wide berth. America does: “When urged to adhere to the international sys- This is China as a Pacific power, a commercial rather than a tem’s ‘rules of the game’ and ‘responsibilities’, the visceral reac- naval one. According to statistics gathered by Michael McDevitt, tion of many Chinese—including senior leaders—has been pro- a retired rear-admiral atAmerica’sCentre forNaval Analyses, itis foundly affected by the awareness that China has not now the world’s largest shipbuilder; has the third-largest mer- participated in making the rules ofthe system.” chant marine, and by far the largest number of vessels flying its own flag; and boasts a 695,000-strong fishing fleet. It ac- Vast, ungainly container ships, bearing China’s flag and counts for about a quarter of the world’s container trade. And almost all the steel name, plough along under the glorious Golden Gate Bridge boxes shipped on the world’s oceans are made in China, too. Much ofthe securityofthattrade acrossthe Pacific isthe gift MrKausikan ofthe Singapore foreign ministry goes further. ofAmerica. China “free-rides” on the protection provided by the He says that all Chinese are aware ofthe 100 years ofinvasion by United States Pacific Fleet, based in Pearl Harbour, Hawaii, so it Western powers and Japan that their country suffered before benefits from America’s enforcement of the rules of sea-based 1949. “It was neververy realistic to expect China to be a ‘responsi- activity. But in the western Pacific China has behaved provoca- ble stakeholder’ in a regional and global order that it had no say tively towards some staunch American allies, testing the bounds in establishing and which it holds responsible for a century of ofinternational maritime law. humiliation,” he says. That implicit challenge comes up often in speeches by American officials acknowledge that China plays by many American officials. Whethercivilian ormilitary, they use an odd- global rules, especially the trade ones it signed up to when join- ly terrestrial metaphor when discussing America’s leadership in ing the World Trade Organisation in 2001. But especially in its the world’s biggest ocean. It is all about enforcing “the rules of own neighbourhood, it is challenging rules and norms—includ- the road”, they say. One set of those rules are those on trade, ing some it has explicitly agreed to—that have kept the seas safe which, as discussed in the previous article, America hopes to since the second world war. modernise via the Trans-Pacific Partnership (TPP). Another is Forinstance, in 2002 itsigned a treatywith itsneighbours in about maritime security, particularly in the sea lanes through ASEAN agreeing to settle maritime disputes in the South China disputed territorial waters in what China calls its “near seas”. Sea peacefully and according to international law, such as the America argues that to safeguard those vital routes ofcommerce, 1982 United Nations Convention on the Law of the Sea (UN- 1

8 The Economist November 15th 2014 SPECIAL REPORT THE PACIFIC

called “Mare Liberum” (“The Free Sea”), arguing that the seas were international territory and should be open to all. Over the following centuries this was used by global powers as justification to sail merchant vessels where they liked, often with gun- boats sailing alongside to enforce their authority. Go by the book Built loosely on “Mare Liberum”, UNCLOS established the EEZ concept which gave coastal nations exclusive rights over natural resources within a 200 nautical-mile limit but allowed for free navigation and overflights outside territorial waters extend- ing to 12 nautical miles from the coast. Ironically, China has ratified UNCLOS whereas the American Senate has not—though in practice the American navy follows and attempts to enforce it. But China’s interpretation (and that of a small group of large developing countries such as India and Brazil) differs from that ofmost states: it requires naval vessels to seekits permission before entering its EEZ. In 2013 a Chinese navy ship cut directly across the path of the United States Navy cruiser Cowpens, forcing it to change course abruptly to avoid a collision. Such inci- dents are red rags to the Americans. Their navy still regularly sends spy ships into China’s EEZ. If China were to decide to enforce its version of the rules, the risks would be severe. In his book, “Fire on the Water: China, America and the Future of the Pacific”, Robert Haddick said it could mean the exclusion of foreign warships “from the Strait of Malacca all the wayto Japan’shome islands”. Even ifChina were to keep the seas open to merchant shipping, the whole concept of maritime security would be jeopardised. America might be forced to retaliate. 2 CLOS). Yet it is in often tense disputes with ASEAN countries such Thatisan alarmingscenario, though manysecurityspecial- as Vietnam and the Philippines over control of three sets of is- ists say China does not seem to be spoiling forsuch a showdown lands and rocks in the South China Sea—the Paracel Islands, the with America, at least not yet. Optimists reckon that the Chinese Spratly Islands and Scarborough Shoal—and with Japan over the navy, though growing fast, is ill-prepared for war with such a Senkaku/Diaoyu Islands. When the Philippines took its opposi- doughty opponent. Moreover, a defeat would be catastrophic for tion to China’s maritime claims to UNCLOS in March, China China. Security analysts say the Communist Partywould lose its huffily refused to accept the arbitration. legitimacy and the trade-driven economy would collapse. It has also sought to stop American naval and air-force ves- Pessimists argue that, even with good intentions on both sels operating in its exclusive economic zone (EEZ), 200 nautical sides, miscalculation ormisunderstandingcould still lead to con- miles from its shoreline (see map), which America and many of flagration. ChuckHagel, America’s defence secretary, says Amer- 1 its allies consider a violation of UNCLOS. In August this year a Chinese fighter intercepted an American Navy P-8 maritime pa- trol in international airspace about 135 miles (216km) off Hainan Island, which the Department of Defence described as “very, very close, very dangerous”. This EEZ dispute could have profound implications for the stability of trans-Pacific sea routes, overseen for generations by America’s navy. “It may sound arcane,” writes Bill Hayton, author of “South China Sea: The Struggle for Power in Asia”, published earlier this year, “but the legal debate over what one country’s military vessels can do in another country’s [EEZ] has already brought the United States and China to the edge of con- flict. It’s a battle between American demands for access to the ‘global commons’ and China’s search for security. It’s a struggle that will define the future ofAsia and possibly beyond.”

The South China Sea is where that struggle is most visible.

On modern maps the reefs and shoals between Chin ietnam, the Philippines, Taiwan and Malaysia are labelled “Dangerous Ground”—not because of their disputed ownership but because through history they have been a mariner’s nightmare. Accordingto MrHayton, the South China Sea itselfplays an historic role in the crafting of the rules in contention. In 1603 the Dutch East India Company seized a Portuguese ship laden with raw silkand gold near the Strait ofMalacca and hired a Dutch ju- rist, Hugo Grotius, to defend its action. He wrote a book in Latin

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2 ica will oppose anyeffortto restrictoverflightorfreedom ofnavi- many other countries pulled off a surprise by signing the Code gation. It will “not look the other way”, he told his defence for Unplanned Encounters at Sea, which provides guidelines for counterparts at the Shangri-La Dialogue in May. naval ships or aircraft when they unexpectedly come close to In its island disputes, security analysts say China is picking each other. It offers a measure of potential damage control but it fights with American allies that test the United States’ commit- is not legally binding, nor does it apply in a country’s territorial ment to upholding the law by proxy, in steps small enough to waters, so it may be interpreted as subjectively as UNCLOS. make retaliation hard. But in the process it is gradually establish- ForChina, the bigquestion asitseeksto become a maritime ing “facts on the ground” in its own back pond. Euan Graham of power is how much it wants to project that status into the wider the Singapore-based S. Rajaratnam School ofInternational Stud- oceans beyond its neighbourhood. Singapore’s Mr Kausikan ies says that eventually these could enable it to thicken its EEZ asks whetherChina will support a system that has benefited it or into a robust coastal buffer. He notes that Chinese history—such continue to be a “global free-rider”. That question is looming as Britain’s shameful Opium wars ofthe 1840s and 1850s—makes larger in the maritime sphere. As America becomes less reliant the country particularly sensitive to maritime threats. on Middle Eastern oil, thanks to its shale revolution, will China help to protect the sea lanes across the Indian and Pacific oceans That dashed line for everyone’s benefit? 7 All the disputed territories fall within what China calls its nine-dash line, which covers virtually all ofthe South China Sea and more than half of its neighbours’ own EEZs. Since it took

North American energy over Mischief Reef in 1995, China has quarrelled wiietnam over the Spratly Islands and installed some garrisons. It also oc- cupied Scarborough Shoals after a stand-oﬀwith the Philippines Oil and water

in 2012. This year drilling by a big Chinese oil ﬁrm in waters 120

nautical miles (222km) frietnamese coast sparked anti-

Chinese riots ietnam. Tensions over the Senkaku/Diaoyu islands have been hurting relations with Japan since 2010. North America’s energy revolution will have a ripple Mr Haddick refers to China’s tactic of gradually enforcing these island claims as “salami-slicing”. It is “the slow accumula- effect around the Pacific tion of small changes, none of which in isolation amounts to a TO FIND OUT how much energy security has mattered in casus belli, but which can add up over time to a significant strate- the Pacific’s recent history, askthe Japanese. At the museum gic change”. Ronald O’Rourke, a naval analyst for the United of the Yasukuni Shrine in Tokyo, which honours the country’s States Congressional Research Service, says Chinese officials war dead (sometimes controversially), an exhibit suggests, with have called it a “cabbage strategy”. The islands are wrapped, cab- a jarring note of self-justification, that an American naval block- bage-like, in successive layers of protection formed by fishing ade against Japanese oil imports in 1941triggered the Pacific war. boats, Chinese coast guard ships and finally naval vessels. China Seventyyearslatera tsunami thatswooshed in from the Pa- rarely deploys its armed forces in these creeping encroachments. cific and knocked out the Fukushima Daiichi nuclear power sta- Instead, says Ian Storey ofthe Institute ofSouth-East Asian Stud- tion led to the closure of Japan’s 54 nuclear reactors. Parts of the ies, it uses maritime law-enforcement agencies. “Even the name country, which is a greedy consumerofelectricity, were left prac- implies China already feels it has jurisdiction.” tically powerless. Huge tankers full of natural gas, heading for The tactic makes it harder for any claimant to launch a mil- terminals dotted along Japan’s Pacific coastline, eventually got itary response without appearing to raise the ante. “The Chinese the country up and running again. In 2012 Japan consumed 37% are pursuing a pretty clever strategy and the rest ofus haven’t fig- ofthe world’s liquefied natural gas (LNG). ured out a good response,” says Admiral Dennis Blair, former The past few years have seen some upheavals in the bal- head of America’s forces in the Pacific and now chairman of the ance of energy security around the Pacific. America, which used Sasakawa Peace Foundation USA. He reckons that countries to be the world’s largest net oil importer, ceded that spot to China threatened by China’s “administrative aggression” should settle in 2013 (see chart 4). Thanks to shale oil and gas, this year it is set their territorial disputes with each other first and then present a to become the world’s biggest producer of oil and liquid natural united frontto China. MrRussel says“itisa good thingthat China gas. It is already the number one producer ofdry natural gas. 1 is not deploying the People’s Liberation Army’s navy.” But he points out that “whatever is driving the behaviour, the point is that it risks escalation and confrontation, so the exercise of re- straint is necessary.” In late September more than 18,000 American army, navy, air force and marine corps personnel took part in an unprece- dented joint exercise off the Pacific island of Guam. Without explicitly saying so, it was aimed at testing responses to the sort of “sea-denial” strategy (missiles, submarines and cyber-attacks) that American military planners think China has developed to counter naval threats. According to Rear-Admiral Mark Mont- gomery, a Seventh Fleet commander, a Chinese auxiliary ship was spotted observing the exercises in America’s EEZ. That was the second time this year a Chinese vessel was seen snooping in American waters during war games. The Americans chose to treat it as a possible sign that China was exploring the benefits of their version ofthe UNCLOS rules. Earlier this year naval chiefs from China, America and

10 The Economist November 15th 2014 SPECIAL REPORT THE PACIFIC

2 That highlights the prospect of huge trans-Pacific comple- the Canadian deal the prime minister, Stephen Harper, put a fi- mentarities. China is reducing the dominance of dirty coal in its nancial limit on further acquisitions: “Canadians have not spent energy mix, Japan and South Korea are denuclearising, and fast- years reducing the ownership of sectors of the economy by our developing countries like Indonesia are turning from LNG ex- own governments only to see them bought and controlled by porters to importers. Yet to date there is next to no trans-Pacific foreign governments instead,” he said. trade in oil, gas or coal in either direction; in 2011 the Singapore- But Mexico, which in 2013 changed its constitution to allow based Pacific Economic Co-operation Council (PECC) said it add- foreign investment in its oil industry for the first time in 75 years, ed up to only1.4% ofglobal trade in those products. would welcome China with open arms if it wanted to invest in According to statistics from BP, a global energy firm, North its energy sector, according to Ildefonso Guajardo, its economy America gets most ofits crude-oil imports from Canada or via its minister. Tellingly, in the past two years Mexico’s president, En- east coast from Latin America, the Middle East and west Africa. rique Peña Nieto, has had four meetings with his Chinese coun- Asia receives the vast majority from the Middle East via the terpart, Xi Jinping—the same number as with President Obama. South China Sea. The Pacific is a big blank. But that may be about The benefits of this new North American energy glut go far to change, with potentially big implications for the economic in- beyond the oil industry. For a start, it is making North American terdependence and geopolitics ofthe Pacific region. manufacturing more competitive. The combination of cheaper energy and rising Chinese wages could make Mexico a more at- Time to share the bonanza tractive factoryfloor. Butitisalso sendingtwo powerful geopolit- The epicentre of the change is North America, whose huge ical signals: one to America’s close allies, such as Japan and gas discoveries are about to turn it into a global LNG power. In South Korea, that the friendship can now also help underpin Canada Asian-owned companies plan to build the first export their energy security; the other, to the wider Asian region, that terminals on the coast of British Columbia in the next few years North America hasbounced backfrom the global financial crisis. to ship LNG across the Pacific. In the United States the govern- In time, such symbolsofeconomicrevival could resonate strong- ment has recently approved the construction offourterminals to ly on the other side of the Pacific. Eduardo Pedrosa, the Singa- liquefy gas and ship it west via the Panama Canal. pore-based secretary-general of PECC, calls it a tectonic shift in One of those, Dominion Energy’s Cove Point, near Wash- American competitiveness. “I don’t think anyone over here real- ington, DC, built as an LNG import terminal in the 1970s, had ises how massive this shale revolution is for the US economy.” 7 been mothballed for much of the following three decades. Not long after it resumed receiving LNG imports in 2003, American natural-gas prices plummeted in response to the shale revolu- Latin America tion, putting the terminal out of business again. So in 2011Domi- nion switched to marketingCove Point to foreign LNG customers as a potential export facility. On September 29th this year the Pacific pumas Federal Regulatory Energy Commission finally approved construction of an export terminal. Those LNG exports will benefit from a $5.3 billion expansion of the Panama Canal. Due to be completed (after several delays) in 2016, this will make the canal In America’s backyard, the Pacific economies are bigenough to accommodate nine-tenthsofthe world’sLNG fleet, potentially cutting at least11days offshipping times between the learning from East Asia GulfofMexico and East Asia. ABOUTFOUR CENTURIES ago Latin America became cen- The implications of this new trade on both sides of the Pa- tral to the trans-Pacific economy, according to “Pacific cific could be substantial. According to Jane Nakano, of the Cen- Worlds”, a book by Matt Matsuda, an historian. Silver from Bo- tre for Strategic and International Studies (CSIS) in Washington, livia travelled by galleon from Acapulco to Manila, where it was as oflast year Japan had contracted to buy about a fifth ofits LNG trans-shipped to China and became a vital substitute for its de- imports from America once it gets the necessary permissions. based currency. Backcame silks, porcelain and slaves. One, an In- Currently dry gas in America costs $4-5 per million British dian noblewoman sentbyslaversto NewSpain, became famous thermal units (MBTUs). Even allowing for another $6 or so to for her long darkbraids and colourful clothes. She was known as liquefy the gas and transport it to Asia (and far less from Cana- La China Poblana. Her dress sense, influenced by her Asian heri- da’s west coast), the price would still be a lot lowerthan the $15-18 tage, is now considered the epitome oftraditional Mexican style. 1 per MBTU that LNG currently fetches in Japan. Cheaper energy would make Japan’s economy more competitive, and America would see a much-needed improvement in its trade balance. For American exporters, that scenario involves risks. Aus- tralia, one of the world’s two biggest LNG exporters, is ramping up itsoutputoverthe nextfive years, much ofitdestined forAsia. China, another big potential buyer, appears to be avoiding American LNG. This year it signed a $400 billion deal with Rus- sia to import natural gas from there for the next three decades. But the energy markets of China and North America are warily intertwining in other ways, mainly through Chinese investment in oil. North America has received a flood of investment from Chinese oil companies since the global financial crisis. In 2012 CNOOC, one of China’s state-owned energy behemoths, bought Canada’s Nexen for $15 billion, seven years after its bid for America’s Unocal was scuppered by opposition in Washington. The welcome is not always open-armed. After

The Economist November 15th 2014 11 SPECIAL REPORT THE PACIFIC

2 After a long interlude, once again a roaring trade has developed between Asia and Latin America. It has quadru- pled since 2004. Asia has overtaken the European Union as Latin America’s second-biggest trading partner after the Un- ited States. Latin America’s share ofAsian trade is less impressive but has still doubled (see chart 5, previous page). China has the biggest share, swamping the region with its own products and gobbling up Latin America’s natural resources (see box). Two-way trade grew more than 20- fold in the ten yearsto 2013, and China has overtaken the United States as the biggest trade partner ofBrazil, Chile and Peru. Chinese investment in Latin Ameri- ca has increased, too, though the figures Waiting for the new Panama Canal are murky because China parks much of its capital in tax havens in the British Vir- gin Islands and Cayman Islands before investing it. According to cific have slowed as China’s economy has become less dynamic the UN’s Economic Commission for Latin America and the Ca- and commodity prices have dropped. The growing trade gap has ribbean, since 2010 China has been investing about $10 billion a given rise to two worries: that the region is relying too heavily on year in the region. Thomson-Reuters, a data firm, says that since basic exports again and succumbing to a “natural-resource 2000 Chinese firms have announced more acquisitions in Latin curse”, as it has done before; and that it will take the wrong les- America than in Africa or South-East Asia. Much of the invest- son from China and embrace state capitalism. Leftist government has been energy-related. In contrast, Japan, the biggest ments on Latin America’s Atlantic coast, such as those in Brazil, Asian investor in Latin America, puts most of its money into Venezuela and Argentina, which privatised heavily in the 1990s, manufacturing facilities to make things such as cars. have since moved strategically and in some cases ideologically In the past few years Latin American exports across the Pa- closer to China. 1

¡Salud!

Food and drink draw two regions together A FEW YEARS ago some Chinese oenologists its imports and exports. Most of those ex- desertification, yet as its population be- with almost no Spanish arrived in one of ports are of copper, but food and drink are comes richer it demands more high-protein, Chile’s most prestigious wine regions, the also on the menu. Andrés Rebolledo, the high-calorie food. Among Latin America’s Colchagua Valley, to buy a vineyard. They Chilean government’s head of international ten biggest exports to Asia are poultry, were from Cofco, a big state-owned Chinese trade, says his country is now producing sugar beet, soya oil, vegetable oils and food and drink manufacturer whose Great salmon for sale in Asia. Getting it there in soybeans. Some of that goes to feed a big Wall wines are quaffed by the country’s perfect condition forms part of Chile’s favourite in the modern Chinese diet, pork. aspirant middle classes. In 2010 Cofco spent efforts to develop the logistical skills needed Agricultural tariffs in Asia remain $18m on a large swathe of Bisquertt, one of to add value to its farm exports. prohibitively high, and Latin America im- the valley’s most upmarket brands. It Demand for copper may wax and wane ports lots of electric-power plant and car changed its name to an easier-on-the- with the strength of China’s economy, but parts from Asia, which explains why the tongue Santa Andrea, and after some trial there are compelling reasons why east-west region’s trade is alarmingly lopsided. But and error put the wine into mass production. trans-Pacific food trade should grow, ac- lessons from history should encourage China Its price plunged, but wine exports from cording to a joint study by the to nurture its agricultural relationship with Chile to China have soared. Many of Inter-American Development Latin America. them come in two-litre bottles, Bank and the Asian Devel- A1972 book by Alfred Crosby, “The which suggests they are not opment Bank in 2012. Columbian Exchange”, explained how after aimed at the most discerning Asia, particularly China, the discovery of the Americas sweet pota- of Chinese palates. lacks agricultural land toes, corn, peanuts, tobacco and chili pep- Chile is about as far and water, whereas pers travelled across the Pacific to China for away from China as you can Latin America has the first time. Then as now, China had a large get on the globe, yet in recent plenty of both. population and not enough fertile land. The years China has overtaken the The study notes American crops thrived in poor soil, and so United States as the Andean that between 1975 and did those who ate them. Now the region that nation’s biggest trading partner, 2009 China lost 20% of its put the spice into Szechuan food is providing accounting for more than a fifth of farmland to urbanisation and the wine to wash it down.

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2 The question is why Latin America has failed to match the anything like as vibrant as East Asia’s. It is suffering from an on- success of the East Asian model. Augusto de la Torre, the World slaught of Chinese imports, including industrial components Banks’s chief economist for Latin America, explains: “After the that go into its own exports, so the government of Enrique Peña second world war the East Asian economies linked up to Japan, Nieto has embarked on far-reaching reforms to modernise the and in the process of getting connected they created the ‘Asian economy. They include measures to bolster competition where Factory’. It became a virtuous circle. The betterthey connected to monopolies and oligopolies have dominated until now, such as the world, the better they connected to each other.” Latin Ameri- in energy, telecommunications and broadcasting. One of the aims is to bring down electricity costs, im- proving Mexico’s cost advantage over So far there are few signs that big multinational China in manufacturing. investors in Latin America are rushing to take Japan has seized on Mexico’s promise. Last year Nissan opened a new $2 advantage of the Pacific promise billion factory in Aguascalientes, its second in the state. New cars whirr off the ca’s post-war experience has been the reverse: “We were con- production lines at the rate of almost two every minute. Mexico nected to the most important growth centre, the United States. has overtaken Brazil to become the world’s seventh-largest car- But instead of the ‘Latin American Factory’, we got dependency maker and now exports not just to the United States but to South theory, structural adjustment and a lot ofdisappointment.” America too. The World Bank says that East Asia’s poorer countries, But Enrique Dussel Peters, a China expert at Mexico’s Na- whose GDP per person in the 1960s was a third of Latin Ameri- tional Autonomous University, says the main lesson from Asia is ca’s, have almost caught up. Between the 1960s and the late that Latin American governments are not ambitious enough. He 2000s their productivity growth averaged more than 2% a year, notes that only a decade ago China was making the same num- whereas in Latin America it was only just above zero. Mr de la berofcars as Mexico is producingtoday, but now it churns out al- Torre points to lackofinvestment as one ofLatin America’s main most six times as many. 7 problems. Average investmentrateshave been stuckaround 20% of GDP for decades, whereas in East Asia in the 1990s they averaged over35% ofGDP, so electricityand transportnetworks there The future of the region are now far denser. East Asia has also made huge strides in education, which has improved the quality ofits workers. Antoni Estevadeordal of the Inter-American Development Merchants or Bank (IDB) says the poor infrastructure has impeded trade within Latin America as well as the creation of inter-regional supply missionaries? chains. In a recent report the IDB heretically suggested Latin American policymakersshould lookto EastAsia and emulate as- The big powers in the Pacific need to be pragmatic, not pects of its industrial policy, considered unthinkable in the “Washington Consensus” 1990s. dogmatic Not coincidentally, such lessons are being absorbed most CURIOUSLY ENOUGH, AN American company called At- quickly along Latin America’s Pacific coastline. Four relatively lantic has spent the past 30 years doing thriving business open economies, Chile, Colombia, Mexico and Peru, in February across the Pacific. Based in California, it sends orders to Chinese signed a landmark trade pact, the Pacific Alliance, to strengthen factories to produce small items of furniture. Its founder and economic ties to Asia. Their combined population is 212m and CEO, Leo Dardashti, is sticking with China as a manufacturing they conduct half of Latin America’s trade. They are already the base despite rising costs because of the mutual trust between most Asia-oriented in the region. Since 2004 they have signed or him and hisfactory ownersthere. Buthe also believesChina and started work on at least a dozen free-trade agreements with America make a unique fit: “There isno countryin the world that Asian countries, with Chile leading the way. has the buying power of the United States and no country that Once Colombia has ratified the Pacific Alliance, more than has the production power of China.” If he needs 400,000 items nine-tenths of tariffs will be abolished and common rules of ori- within a few months to sell in stores across America, only China gin will help encourage the development of regional supply has the scale to provide them, he says. chains, says Andrés Rebolledo, head of Chile’s international He travelsto China frequently, sometimesasoften as once a trade division. The first priority is regional integration: the coun- month. The friendships he has established with the people who tries hope to improve air and maritime connections and court make his goods are the foundations of his business, he says. It is foreign investment to improve infrastructure links. They have al- not just eye contact and smiles. “As I sit in their factory, I’m a rela- ready united their stockmarkets. tively big buyer, but I have to be careful how I play that game. I have to make them like me, tell them what my values and goals A hard act to follow are, offer them a good deal. It’s all about negotiation.” Negotia- But they will struggle to match Asia’s success. East Asia’s tion is an art he believes the leaders in Washington and Beijing economic integration started organically, with copious invest- should develop in their dealings with each other, too. ment from Japan, and free-trade agreements came only after the Instead, they appear to be drifting furtherapart. As the Chi- nuts and bolts of commerce had been established. So far there nese see it, America is becoming increasingly bossy, and as the are few signs that big multinational investors are rushing to take Americans see it, China is becoming a bully with its neighbours, advantage of the Pacific promise. Geography—a long, straggling some of whom are loyal American allies. Singapore is a good South American coastline versus a circle of trade around the place from which to observe this tension. It wants a strong Amer- South China Sea—may also be putting the pact at a disadvantage. ican presence in the region as a counterweight to China but also But other bold steps may help. Mexico, for example, has tries to see things from China’s perspective. Singaporean schol- noted the galling failure ofNAFTA to create a manufacturing hub ars say one of the main difficulties with the United States is the 1

The Economist November 15th 2014 13 SPECIAL REPORT THE PACIFIC

2 “universality” ofits beliefsystem—the idea that there are univer- and interconnections. That con- sal values such as human rights. With China the problem is its nectivity has become stronger history, which stretches back so far it also comes close to being on both sides of the ocean,

seen as a universal truth. partly because smaller coun-

Wang Gungwu, chairman of Singapore’s Lee Ku ew tries need to link up to provide a School of Public Policy, says China is particularly irritated by counterweight to the bigpowers America’s sense ofthe immutability ofits superpower status, es- in their regions, and partly be- pecially in a region that China has historically considered its cause they need to tie their for- own sphere of influence. He acknowledges that America freed tunes to their big neighbours in the region from Japanese imperialism and stopped the spread of order to become indispensable communism, butin China’seyesthatdoesnotentitle itto an eter- to them. That is as true of South- nal hegemony in its backyard. It would like its own status as a ris- East Asia and China as it is of ing power to be registered. “The idea of the status quo for ever parts of Latin America and the and ever is so alien to the Chinese way of thinking. Throughout United States. their history the only norm is change.” In the next decade or two, Another source of tension is rules. For China and other these linkages are likely to be- partsofAsia the idea thatWestern ruleson issueslike freedom of come more trans-Pacific in na- the seas, democracy and human rights are set in stone is anathe- ture, partly because the Chinese ma, says Mr Wang. “Nothing is absolute, everything is negotia- growth engine is slowing. East ble.” The region’s history, with imperialists and missionaries ar- Asian investment in the Ameri- riving on the same ships, has made it wary of absolute values. cas will increase in a bid to get “We understand that the Western idea ofrules stems from a long closer to the big market of the legal tradition, but practical people recognise that laws change,” United States. Japan and South he explains. In his view, America’s businessmen understand Korea may be keen to diversify Luxury goods December 13th 2014 this; its “political missionaries” do not. their trading relationships to be- Energy January 17th 2015 Universities February 14th 2015 come less dependent on China. America’s Hispanics March 7th Dream or nightmare? A China concerned about its et China is just as dogmatic, especially in its political sys- economic future could behave tem, and also in its treatment ofits neighbours. MrKausikan, Sin- belligerently. But given its inter- gapore’s ambassador-at-large, attempts to justify China’s “grave est in maintaining domestic sta- suspicion” about Western attitudes to universality, explaining bility, itismore likelyto see trade that its government is attemptingto maintain internal stability at agreements with its Pacific a time of unstable public opinion. For the rulers, that means neighbours as a way of securing that stability, much as the Euro- keeping the Chinese Communist Party in power. pean Coal and Steel Community of1951, which brought together Mr Kausikan also accuses China of projecting a “virulent Germany and France, two old antagonists, laid the foundations nationalism” based on supposed historical claims that is causing for the European Union. alarm in its neighbourhood. He asks whether China will pursue America and China are also bound together by a mutual sovereignty through commonly agreed norms or by use of force. dependence. In fact, as Mr Kausikan points out, that may deepen “It is this, more than any other single factor, that will determine the strategic distrust between them. Taken to its extreme, it could whether the ‘China dream’ will become the region’s nightmare. be the Pacific’s economic equivalent of the mutually assured de- The record is mixed and China has not behaved consistently. struction in the Atlantic that helped prevent the cold war from Great powers have a responsibility to reassure that China has turninginto a hotone. Butitislessgrim. China, for all isassertive- only partly fulfilled.” ness, shareselementsofthe Western marketmodel thatthe Sovi- As this report has argued, the Pacific is a place of networks et Union did not. America and China hold strategic dialogues on economic and military matters. They are negotiating a bilateral investment treaty that American officials say is economically ambitious for China. According to a recent poll of opinion lead- ersaround Asia bythe CSIS, 83% ofthe Chinese onesthinkAmer- ica will still be their country’s most important economic partner in ten years’ time. If America wants to nudge China towards becoming a “responsible stakeholder” in the world, helpingshore up the system thatguaranteesfree trade and free seas, itmayalso have to accept that its own relative power in the Pacific region is in decline. This may mean taking potentially risky strategic decisions; for example, allowing its post-war security alliances with Japan and South Korea to mature into more equal partnerships. It could also mean allowing regional security alliances to prosper without America as the hub around which they revolve. If these include China, so much the better. As in all successful negotiations, both America and China need to engage in give and take. With such a spirit, the Pacific age could create new rules and institutions fit for the 21st century. As Mr Dardashti pragmatically puts it: “We need those guys, and They need each other they need us.” 7

14 The Economist November 15th 2014