The European Council on Foreign Relations does not take collective positions. This paper, like all publications of the European Council on Foreign Relations, represents only the views of its authors. The European Council on Foreign Relations does not take collective positions. This paper, like all publications of the European Council on Foreign Relations, represents only the views of its authors. Copyright of this publication is held by the European Council on Foreign Relations. You may not copy, reproduce, republish or circulate in any way the content from this publication except for your own personal and non-commercial use. Any other use requires the prior written permission of the European Council on Foreign Relations. © ECFR January 2016. ISBN: 978-1-910118-55-9. Published by the European Council on Foreign Relations (ECFR), 7 Kings Building, 16 Smith Square, SW1P 3HQ London, United Kingdom [email protected] A PUBLICATION MADE POSSIBLE BY Rethink: Europe is an initiative of the European Council on Foreign Relations and Stiftung Mercator. The project examines the underlying forces shaping European cohesion and our continent's capacity to act on the global stage. Rethink: Europe offers spaces to think through and discuss Europe's strategic challenges. We do this by inviting thought leaders and policy practitioners from national capitals, the European institutions, as well as from outside Europe, to reconsider and reflect upon European integration and exchange new ideas and forward thinking on Europe. A JOINT INITIATIVE OF Contents List of acronyms 9 FOREWORD 10 Michael Schwarz INTRODUCTION: CONNECTIVITY WARS 13 Mark Leonard THE BATTLEGROUNDS ECONOMIC WARFARE 1. THE NEW GEO-ECONOMIC GAME 31 Juan Zarate 2. HOW THE EU LEARNED TO LOVE SANCTIONS 36 Clara Portela 3. THE RETURN OF THE VISIBLE HAND 44 Simon J. Evenett 4. ECONOMIC REPRESSION AS A FOREIGN POLICY TOOL 54 Michael Hessel 5. CURRENCY WARS WITHOUT END 63 James Rickards 6. DIVESTMENT CAMPAIGNS: BOTTOM-UP GEO-ECONOMICS 68 Atif Ansar & Ben Caldecott 7. THE WEAPONISATION OF MIGRATION 76 Kelly M. Greenhill WEAPONISING INSTITUTIONS 8. CHINA’S SHADOW WORLD ORDER 83 Moritz Rudolf 9. GATED GLOBALISATION 93 Hina Rabbani Khar 10. HOW GEOPOLITICS WILL END GLOBALISATION AS WE KNOW IT 98 Thomas Wright INFRASTRUCTURE COMPETITION 11. THE ERA OF INFRASTRUCTURE ALLIANCES 103 Parag Khanna 12. THE GEO-ECONOMICS OF THE DIGITAL 110 Carla Hobbs, Andrew Puddephatt & José Ignacio Torreblanca 13. THE CHINESE CYBER-SOVEREIGNTY AGENDA 120 Rogier Creemers THE WARRIORS ESTABLISHED POWERS 14. THE US: DECLINING MIGHT? 129 Ian Bremmer 15. THE EU AS A REGULATORY POWER 133 Anu Bradford 16. THE REINVENTION OF GERMAN POWER 141 Stephen F. Szabo 17. GERMANY: A PRIVATE SECTOR PERSPECTIVE 150 Stefan Mair 18. EUROPE'S LIMITATIONS 156 Hans Kundnani 19. HOW TO INCREASE EUROPE'S CLOUT 164 Sebastian Dullien CHALLENGERS 20. WHY EMERGING COUNTRIES ARE HEDGING AGAINST 179 THE GLOBAL SYSTEM Ulrike Esther Franke 21. CHINA: TURNING MONEY INTO POWER 189 James Reilly 22. RUSSIA: A DIVERSE ARSENAL 198 Andrey Movchan 23. SAUDI ARABIA: HARNESSING THE OIL MARKET 204 Dag Harald Claes, Andreas Goldthau & David Livingston About the authors 215 Acknowledgements 220 List of acronyms ADB – Asian Development Bank AIIB – Asian Infrastructure Investment Bank ASEAN – Association of Southeast Asian Nations regional group BRICS – Brazil, Russia, India, China and South Africa CFSP – The EU’s Common Foreign and Security Policy CSDP – The EU’s Common Security and Defence Policy EBU – European Banking Union ECB – European Central Bank IMF – International Monetary Fund NDB – The BRICS’s New Development Bank OBOR – China’s “One Belt, One Road” initiative OPEC – Organization of the Petroleum Exporting Countries PBOC – People’s Bank of China SCO – Shanghai Cooperation Organization regional group TPP – Trans-Pacific Partnership trade deal TTIP – Transatlantic Trade and Investment Partnership trade talks WTO – World Trade Organization 9 Michael Schwarz Foreword No country is more connected to the world than Germany, the proverbial Exportweltmeister. But precisely because of its prominent position within the global economy, German companies and citizens are now facing challenges. Sanctions against Russia have reduced companies’ profits and endangered jobs, and banks have paid billions for not complying with US sanctions against Iran. Globalisation and the knitting together of the global economy has lifted a billion people out of poverty, helped businesses grow, and coincided with a period of peace between the great powers. However, we are now beginning to realise that there is another side to the coin: the same interdependence that has brought the world closer together has also created new vulnerabilities and threats. Until today, few people have thought about this in a strategic way. This groundbreaking collection of essays endeavours to do just that, bringing to life the challenges and opportunities arising from geo-economics. More than 20 highly respected authors – including top-level academics and former government ministers and advisors – explore in detail how countries use economic asymmetries to achieve geopolitical goals, examining the consequences for businesses, politics, and the people. Exploring these hitherto understudied questions and facilitating debate on them is part of our mission at Stiftung Mercator. We believe in a cohesive Europe that has the ability to act together on the challenges of a globalised world. Stiftung Mercator and the European Council on Foreign Relations share this vision and have joined forces through their Rethink: Europe initiative. The project, which funds this publication, examines the underlying forces that shape European cohesion and our continent’s capacity to act collectively. It does this by engaging with thought leaders and policy practitioners from across as well as outside Europe. 10 This timely collection of essays is one of the outcomes of this ongoing process. I hope it will inform readers in policy, business, and the public alike, and help us understand in greater detail the dynamics that shape Europe’s global environment and future. Executive director - Stiftung Mercator 11 Mark Leonard Introduction: Connectivity wars When Turkey shot down a Russian fighter jet in November 2015, the image of the falling plane went viral. Calls for revenge exploded across the Russian media and internet. Protesters hurled stones and eggs at the Turkish embassy in Moscow. And the high-profile host of Russia’s main political TV talk show compared the downing of the jet to the 1914 assassination of Archduke Franz Ferdinand that triggered the First World War. So how did Russia’s hawkish leader, Vladimir Putin, respond to the battle cries of his people? He signed a decree halting fruit and vegetable imports from Turkey, banning charter flights and the sale of package holidays, and scrapping Russia’s visa-free regime with the country. His proxies warned about possible escalation involving energy imports, while the media speculated about cyber-attacks (Moscow had used this tool to powerful effect against Estonia in 2007, Georgia during the 2008 war, and then against Ukraine as it annexed Crimea in 2014). The most important battleground of this conflict will not be the air or ground but rather the interconnected infrastructure of the global economy: disrupting trade and investment, international law, the internet, transport links, and the movement of people. Welcome to the connectivity wars. 13 This form of warfare is not uniquely Russian – quite the contrary. As Putin signed his sanctions decree, the Turkish government was holding a summit on refugees with the European Union. President Recep Tayyip Erdogan has realised that the movement of refugees to Europe changes his power dynamic with the EU. Using his ability to control the flow of migrants as a weapon, Erdogan has gone from being a supplicant for membership of the EU club to being a power player who can extract money and political favours. The EU is equally adept at instrumentalising economic interdependence for geopolitical ends. When Russia annexed Crimea, the EU did not send troops to defend Ukrainian territory. Instead it introduced an array of sanctions, including visa bans and asset freezes against targeted individuals, as well as commercial measures aimed at specific sectors of the Russian economy, such as the financing of energy exploration. The United Nations has also used sanctions for decades, and the United States has reshaped the very nature of financial warfare since it launched its War on Terror. While sanctions are vastly preferable to conventional warfare in humanitarian terms, the ease with which countries are weaponising the structures of the international system raises dark omens for the current world order. In 1914, globalisation collapsed because the world's most powerful nations went to war. A hundred years later, it is the reluctance of the great powers to engage in all-out war that could precipitate a new unravelling of the global economy. Some may say that this is an exaggeration: sanctions have been with us since the time of the Peloponnesian Wars, and mercantilist behaviour is as old as the state. What is so dangerous about the phenomenon? The short answer is: hyper-connectivity. During the Cold War, the global economy mirrored the global order – only limited links existed across the Iron Curtain, and the embryonic internet was used only by the US government and universities. But with the collapse of the Soviet Union, a divided world living in the shadow of nuclear war gave way to a world of interconnection and interdependence. Some hailed the end of history. The world was largely united in pursuing the benefits of globalisation. There was talk of win-win development as Western multinationals made record profits and emerging 14 economies boomed. Trading, investment, communications, and other links between states mushroomed. And these interstate links have been amplified further by the ties between people powered by technology: by 2020, 80 percent of the planet’s population will have smartphones with the processing power of yesterday’s supercomputers.1 Almost all of humanity will be connected into a single network.