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The key strategic challenge in Asia today finds its roots in the increasing friction between economic and security interests of nations. The countries that are trading, investing and developing together are also beset by security tensions and seemingly irresolvable diplomatic issues.
A lesson being learnt yet again is that economic interdependence cannot serve as a stand-alone conflict-mitigating mechanism. At the centre of the turbulence in Asia is a rising China and its long-term strategic objectives. As a hedge against China’s growing strategic might, many Asian countries are deepening security and political coordination with the US, EU and amongst each other. However, China is a major trade partner for many of the world’s major economies including, of course, those in Asia. In the case of India and Japan, besides the volume of trade, China maintains a positive trade surplus with both the countries. Accordingly, trade provides China with significant soft leverage and a need for its competitors to counter-balance it. Asian countries as a result have sought to buttress their defence and political hedging against China with a range of economic measures as well. The Sino-Japanese tension in the East China Sea has also raised fears about how competing sovereignty claims elsewhere in Asia may impact the global commons — airspace, cyberspace and the high seas. It is felt that as regional disputes intensify they will encroach on aspects such as of rights of passage, freedom of navigation etc in the global commons. This also drives the need to diversify trade and investment to countries unaffected by this regional tussle.
China-Japan Trade Dynamics
China is Japan’s largest trading partner, and accounted for 21 percent of Japan’s exports and imports in 2011. However, since 2011, the country has been posting trade deficits as costs for imports have surged due to the weakening of the Japanese yen and increased purchases of fossil fuels and LNG to make up for the loss of nuclear power following the Fukushima nuclear disaster. In 2013, Japan had run the highest trade deficit with China.[i] Hence with a bilateral trade estimated at $300billion, the two countries are major markets for each other’s goods and commodities. As China is the destination for about one-fifth of Japanese exports, it yields considerable leverage over Japan's economy. Exports continue to play a key role in driving Japanese investments, as the domestic market is too small and weak to support sustained expansions of in-country production capacities. [ii] Also, since 1993, China has attracted the most foreign direct investment (FDI) in the developing world by virtue of surplus of labour, a large market and favourable policy. FDI has played a crucial part in China’s rise as an economic powerhouse[iii] and Japan is one of the biggest sources of inward FDI for China. Given the Sino-Japanese economic interdependence, any political turbulence between the two potentially affects the entire East Asia.
US Role
On the other hand, the traditional US role in Asia is being tested by the rise in Chinese economic prowess and decline of its own economic influence. The US position as Asia’s principal security provider is being challenged by the debilitating effects of sequestration and cutbacks. Obama’s “Pacific Pivot” which seeks to contain China militarily, aims to have by 2020, 60 percent of U.S. naval capacity based in the Asia-Pacific, where 320,000 US troops are already stationed. The pivot/rebalance will entail rebuilding and refurbishing former U.S. facilities in the Philippines, placing 2,500 marines in Australia and building new installations. However, as US economic weight shrinks in relative terms, it is unclear whether the envisaged US pivot is financially sustainable without a significantly increased American economic intervention in the region.[iv]To this end complementing the US pivot is the Trans-Pacific Partnership (TPP). The Asia-Pacific region, by current indicators will be the centre of economic activity in the 21st century and the future of China’s (and the US) economic growth will be shaped by their engagement of the region. By 2015, East Asian countries are expected to become the world’s largest trading bloc. By increasing US market access in China’s neighbourhood, Washington is hoping to deepen its economic engagement with these countries while diminishing their economic integration with China. The TPP as the world’s most ambitious and far reaching free trade agreement yet, spans 12 countries (US, Australia, Brunei Darussalam, Canada, Chile, Japan, Malaysia, Mexico, New Zealand, Peru, Singapore, and Vietnam) and 40 percent of the world’s economy. The TPP excludes China, the second largest economy in the world. As regards the Sino-Japanese friction, the US does not seem inclined for a military confrontation in the Pacific with an adversary which also owns nearly a quarter of US’s off shore debt, in response to unnecessary provocation by its allies (Japan, Philippines).[v]
Japanese Response
The tentative US position and Chinese regional territorial ambitions (along with associated aggressiveness) have been the key stimulus for a Japanese political risk mitigation strategy, which has resulted in the economic diversification away from China.[vi] Japanese outward FDI from China has increased for two years in succession, with 2012 recording the second highest increase in history ($122.4bn, an increase of 12.5 per cent over the previous year).[vii] The decreasing investment by Japanese companies in China has also resulted in fall in bilateral trade. The trade between China and Japan was $329.45 billion in 2012, down 3.9 percent year-on-year, the first decline in three years.[viii] But beyond risk mitigation, another motivation for the shift in FDI flows may have been its use as an instrument for exerting geopolitical influence in the region, a form of “soft” power. The recent aggressive push by Japan in committing to economic and infrastructure development in Myanmar is seen as a part of such an approach.[ix] Japan has pledged almost $20 billion in new aid and loans to Southeast Asia. Japan is also looking to reinvigorate its Asian diplomacy in 2014, which has seen Abe travel across Asia relentlessly over last one year including his recent trip to India. As Tokyo expands its soft power options in Asia, it is leveraging project finance, trade, aid, people-to-people exchanges and security cooperation, particularly in the maritime domain. It is this thread of Japanese strategy that provides impetus to India-Japan relations.
India-Japan Relations
With investments of $2.2 billion last year, Japan is now India’s largest source of foreign direct investment, replacing the US as the largest donor.[x] But of particular interest to India are the Japanese investments in its neighbourhood and the linkages Japan develops between these countries and Indian manufacturing. Japan’s proposal to develop infrastructure in India’s North East and its prospective connections to Myanmar and Thailand is one such case. It must be noted in this context that Japanese FDI has been characteristically more “trade oriented” and has driven Japanese firms in Asia to build overseas production zones as an extension of their domestic base. With the result Japanese FDI tends to create manufacturing capacity in less developed countries. Japan in turn would expect India to enhance maritime security cooperation in securing its sea lanes in the Indian Ocean.
Reading geo-economic “tealeaves” is a complex affair as it is contingent upon a host of interrelated factors and issues. A disruptive event or a freefalling currency can change the anticipated turn of events. India-Japan relations for now, at least from economics and trade stand-point, seem destined for better times.
Col Monish Gulati (Retd) is a Delhi based defence and security analyst. Views expressed are personal.
By Special Arrangement with The Centre For Land Warfare Studies (CLAWS) (http://www.claws.in)