China's Concerns in 2007: Fears of a Perfect Storm
John Mauldin's Outside the Box

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Today's special edition Outside the Box covers the looming political concerns of China in the new year. Leading China expert at Stratfor, Rodger Baker, has written an excellent analysis on the issues faced by the current and future leadership of the country, as well as the potential reactions of the United States.

Stratfor is the closest thing to a "private CIA" as the organization provides in-depth analysis on geopolitical events spanning the globe. As always, George has decided to give my readers a special 50% discount off his normal subscription rate. You can receive the offer by clicking here. Whether you are an emerging markets fund manager or just a person curious about global affairs, Stratfor provides news and analysis that I'm sure you will find to be valuable.

I trust that you will find Rodger's report to be a comprehensive view on some important geopolitical concerns.

John Mauldin, Editor

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China's Concerns in 2007: Fears of a Perfect Storm

By Rodger Baker

The year 2007 is an important one for China's leadership. At the National People's Congress (NPC) session in March, the government is likely to enact legislation equalizing the status of private property with state property and addressing the imbalance in tax rates between foreign and domestic businesses -- both moves designed to encourage domestic Chinese entrepreneurship. In the fall, the Communist Party of China (CPC) will meet for its Congress -- bringing changes to the Politburo, stacking the political deck with supporters of President Hu Jintao and providing an early glimpse of the next-generation leadership slated to take power in 2012. Lastly, this is the final year of preparations for the symbolically important summer Olympics, which Beijing will host in 2008.

As the regime takes on these social and economic challenges and lays the groundwork for a smooth continuation of power for the next half-decade, there is a core concern among China's top leaders, more acute for 2007 than in many other years: Taiwan. Parliamentary elections will take place there this year -- the final year of President Chen Shui-bian's second term. The Chinese are also very much aware of the political shift in Washington and the window of time until the U.S. presidential elections in 2008. These factors, along with Beijing's apparent obsession with maintaining stability and a positive public image ahead of the Olympics, are combining to create a perfect storm of conditions that, from Beijing's perspective, signal Taiwan will take the final political step of declaring independence in 2007.

To fully grasp the implications of this perspective -- and how China's fears are likely to drive its actions -- it is useful to consider the state of affairs that long has been agreed upon by mainland China, Taiwan and the United States.

Under the present arrangement, China has the seat at the United Nations and Taiwan is viewed officially as merely an "economic" area. In every realistic sense, Taiwan conducts its economic, political and social affairs as a sovereign state -- though of course, China exerts its own influence and money in order to limit the number of nations that recognize the island diplomatically as an independent state. Everyone else just plays along -- paying lip service to mainland China's position while carrying out diplomatic and economic relations with Taiwan in "semi-official" ways. So long as China doesn't invade or physically reclaim Taiwan and Taipei doesn't formally declare independence, an uneasy half-truth is perpetuated, and both sides go about their business.

By its own calculus, China cannot afford to lose Taiwan to a formal independence move. The social and political structure of mainland China -- not to mention the legitimacy of the CPC -- are still, to a great degree, predicated on actively maintaining the myth that Taiwan is a part of China. And while Beijing and the international media have moved away from using the overt and loaded appellation of "breakaway province" to describe Taiwan, a formal declaration of independence -- unless met with a swift military response -- would significantly weaken the regime.

At the same time, Beijing does not want to undertake military action against Taiwan. For one thing, while China might have the military power to hurt Taiwan badly, it is not capable of the kind of sustained operation that would be required to invade and forcibly reunify Taiwan. Second, any such invasion of Taiwan would draw in the United States and possibly Japan -- neither of which, for strategic and geographic reasons, can allow China to reclaim Taiwan and thus project power into the midst of the South China Sea and its vital sea-lanes. In general, the United States has sought to keep separatist sentiments in Taiwan contained: It offers assistance and military sales to Taiwan on the condition that Taipei will not force the independence issue and draw the United States into a war with China.

This trilateral relationship has been frequently strained and tested, most noticeably (in recent times) with the lead-up to Taiwan's 1996 elections. At that time, Beijing carried out missile tests in the Taiwan Strait, and the United States sent two carrier battle groups into the area to keep the two sides from tangling. During the past decade, though, the balance has been maintained primarily through political means: Washington carefully controls Chen's "instigations" through comments by government officials, diplomats and others; through selective permission (or denial) of flight stopovers in the United States; and through economic and political dialogue with Beijing.

Since Sept. 11, 2001, the United States has been particularly keen on keeping Chen under control, taxed as it has been with U.S. military forces caught up in conflicts in Afghanistan and Iraq and the emerging nuclear crises in North Korea and Iran. During this time, Washington has adopted a more cooperative track with China, pushing the "responsible stakeholder" dialogue as a way to engage Beijing and keep tensions down. Though the Defense Department frequently has sought to stir up fears of the "China threat" and Congress has pursued economic action related to the Chinese trade imbalance and currency rates, the general tenor of relations between Beijing and Washington has been smooth for the past five years.

Correctly or otherwise, however, Beijing now sees this era as potentially coming to an end -- and Taiwan as being at the center of the shift. On Jan. 17, in comments that were given substantial play in the Chinese press, Yang Yi -- a spokesman for the State Council's Taiwan Affairs Office -- said 2007 is a crucial year for opposing Taiwanese secessionist activities, and warned that Taipei might seek "de jure independence." Yang's comments were not all that unusual: Chinese officials, particularly those in the Taiwan Affairs Office, frequently caution against Taiwanese independence moves, and Beijing was particularly provoked this month over an overnight stopover Chen made in San Francisco on Jan. 8. Beijing viewed this as an intentional snub on Washington's part and as a major shift in the U.S. attitude from less than a year ago, when the United States denied Chen permission for a similar stopover.

From Beijing's standpoint, there are three situations that could come together this year to herald a crisis on the Taiwan front.

The Shift in Washington

First, the leadership in Beijing is extremely concerned that the shift from Republican to Democratic control in the U.S. Congress could spell the beginning of the end of the current round of rapprochement in Sino-U.S. relations. Though Beijing views the Republicans as being hawkish on the military front (and as the key voices in the "China threat" line of argument in the United States), it also sees this movement as having been subsumed by the Republican White House, which has advocated a more balanced and consultative approach to Chinese relations.

There are no such expectations of the Democratic Congress.

China now anticipates a move to push economic and financial actions against China through Congress. It is the Democratic Party that is seen as the most motivated to attack the established economic and business relationships between the two powers. With the Democrats in charge of the legislature and the popularity of the Bush administration fading, Beijing sees little that would stop Congress from becoming more aggressive in its moves to punish or contain China.

A related concern, tied to the extended U.S. war in Iraq, then begins to emerge. Again, peering through the Chinese lens, the war is unpopular among Americans, and the Democrats -- positioning themselves for presidential elections next year -- will seek to reduce the U.S. presence in Iraq. However, they cannot afford to look dovish. To demonstrate that the party is strong on U.S. national security, and to gain support from the Pentagon, the Democrats could shift attention to issues like North Korea and China. China's military restructuring and its recent space experiments are perfect fodder for Democratic presidential hopefuls seeking to point out the failures of a presidency that, it will be argued, has gotten the United States tied down in an interminable war in Iraq and missed the "real" threats on the horizon, such as China.

That concern by itself would be manageable for Beijing. After all, the regime has balanced competing pressures from the United States before. The political shift and cycles in Washington could complicate matters at the CPC Congress and the NPC session next year (where a new vice president is likely to be named), but this does not constitute a crisis. However, if Taiwan generates significant pressure this year as well, the U.S. Congress could compound that pressure by giving tacit or overt support to the island's moves toward independence.

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Taiwan: Chen Presses Ahead

This is Chen's final full year in office. Presidential elections are scheduled for March 2008, and Chen, having already served two terms, will not be eligible to run again. China sees Chen -- a member of the Democratic Progressive Party (DPP) (the "pro-independence" party in Taiwan) -- as an ideologue; someone who will do everything in his power (and maybe a little beyond his power, as constitutional amendments in 2005 demonstrated) to bring about Taiwanese independence. And his time is running out.

Chen already has spearheaded one round of constitutional revisions in Taiwan, having added the right of referendum to the document in 2005. That is something Beijing fears will pave the way for a popular vote on independence in Taiwan. Chen also has pushed for use of the name "Taiwan" to be used on Taiwanese passports, instead of the "Republic of China" nomenclature preferred by Beijing. (The existing terminology pays at least historical homage to the Taiwanese government's original claim to legitimacy as the government of all of China -- and this keeps the "one China" illusion alive).

At this point, Chen is continuing with moves to create a "Taiwan identity," which ultimately would smooth the path toward independence.

First, he is pressing with renewed vigor for Taiwan to gain a seat of its own at the United Nations -- or, at minimum, to have all of the island's positions there officially placed under the name "Taiwan." Both changes would qualify as steps away from the status quo and toward a more formal recognition of Taiwan's sovereignty from mainland China. This, by the way, is both the perception of the leadership in Beijing and the way Chen himself publicly characterizes the measures.

Chen is also pushing for additional constitutional reform in 2007. Under the changes passed in 2005, any new constitutional reform would need approval both from parliament and, by referendum, from Taiwanese citizens.

Though there is little concrete thus far in Chen's proposals for additional changes, he has played up one key issue -- redefining the territory of Taiwan. According to Article 4 of the Taiwanese Constitution, "The territory of the Republic of China within its existing national boundaries shall not be altered except by a resolution of the National Assembly."

The definition of this territory, however, is interpreted, as per the preamble to the constitution, as the territory of the Republic of China founded by Sun Yat Sen -- a territory that, in the 1936 draft constitution, included mainland China and Mongolia but not Taiwan, which was still a possession of Japan. This legal dilemma has been reviewed by the Taiwanese Supreme Court, which deemed the definition of territory a political concern and refrained from determining exactly what the "existing national boundaries" actually were.

Now, it is obvious that the current Republic of China/Taiwan territories are limited to Taiwan and a few additional islands; Taipei no longer makes much claim to mainland China or Mongolia. Thus, Chen's attempts to "clarify" the boundary definitions in the constitution signal another step toward a more formal independence, laying the groundwork for recognition of Taiwan as it truly exists. From Beijing's perspective, this would eradicate the last vestiges of a link between the sovereignty of Taiwan and the sovereignty of the People's Republic.

If Chen is to succeed in his quest for constitutional change, he must move quickly. Parliamentary elections are due in Taiwan in December, and the Kuomintang Party (KMT) and People First Party have recovered from their differences to field a joint set of candidates, who will have the upper hand over Chen's DPP. The opposition parties already have a slight lead in parliament, making any constitutional change difficult at best -- but then, Chen managed to pass reforms against the wishes of the KMT in 2005, and he could pull it off again.

Self-Generated Pressure: The Olympics

There is one more element that causes Beijing to view Chen as such a dangerous player in 2007: the Olympics. The Chinese leadership has spent years preparing for the big show, and is doing everything in its power to portray China as a major modern nation. The 2008 Olympics will be a venue for showcasing China's modern and global role, and for sweeping away any lingering stigma from the 1989 Tiananmen Square incident (which still haunts China -- for instance, by restricting its access to the European arms market). Beijing wants to use the Olympics to bring China more fully into the world political and security sphere.

But this near-obsession with the Olympics -- and with fostering a sense of stability to go with it -- is an Achilles' heel for Beijing. During this period, Chen might perceive China as being less decisive or less likely to respond militarily to incremental moves toward Taiwanese independence. As Beijing sees it, Chen will capitalize on China's overwhelming desire to maintain its image and make his move while Beijing's hands are tied. According to the same logic, the new U.S. Congress might signal that it, too, supports -- or at least doesn't oppose -- Chen if he should take action now.

Beijing's concern about an attempt by Taipei and Washington to exploit the opportunities of 2007 already has begun to play out in Chinese actions -- specifically with the test earlier this month of an anti-satellite system. Chinese leaders could have carried out such a test at a different time in order to avoid stirring trouble. They didn't. They conducted the test and then, initially, simply winked when Washington called them out -- before finally admitting to it outright and asking no forgiveness. A China deeply concerned about maintaining a nonthreatening image and smooth relations with Washington in the run-up to the Olympics would not behave in that manner.

The Implications

Beijing's choice of actions sends a few very clear messages to Washington and Taipei. First, the regime is signaling that it would be a miscalculation to think the Olympics outweigh China's strategic interests. Beijing wants the Olympics to be a success that substantially alters global opinion of China, but this is not a goal to be achieved at the expense of the state and the party. Second, it has signaled that Taiwan should not be so quick to rely on U.S. naval intervention if the cross-Strait situation deteriorates rapidly. Knocking out the satellite, combined with moving new J-10 fighters to the Taiwan Strait area and tailing a U.S. carrier strike group with a Chinese submarine last year, constitutes a message to the United States that intervention over Taiwan might not be as easy or painless as it was in 1995-1996. This, then, is supposed to convince Washington that it needs to put a little tighter leash on Chen and control his "separatist tendencies."

The political and military stakes are high. While the Chinese military demonstrations are certainly impressive, there are those within the U.S. defense and political establishment who argue that countering China is something better done earlier than later, after Beijing has a chance to build up a more substantial and technologically advanced military force. Further, with China facing its own political sensitivities this year -- as the next-generation leadership is selected and economic and social stresses climb -- Beijing is perhaps at a point of maximum vulnerability, particularly with the added economic burden and international image issues related to the Olympics.

By default or design, 2007 is shaping up to be a very tense year for the China-Taiwan-U.S. relationship.


Your also a big-time fan of the Olympics analyst,

John F. Mauldin


John Mauldin is president of Millennium Wave Advisors, LLC, a registered investment advisor. All material presented herein is believed to be reliable but we cannot attest to its accuracy. Investment recommendations may change and readers are urged to check with their investment counselors before making any investment decisions.

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Posted 02-01-2007 4:03 PM by John Mauldin