A Resounding Maybe on Fleeing China

In China, the United States and the New Normal, I called the US-China trade war the “New Normal” and I predicted a “diminished future for foreign companies” manufacturing in China. I also said that since “the inception of the US-China trade war we have been saying that we do not see its end because we have always seen it as more than a trade war.” That was in 2018 and I still believe China’s relations with the West will continue to decline.

On this blog, on Linkedin, and on Twitter, I have consistently touted the benefits of manufacturing and doing business with countries other than China, and I delight in providing examples of clients that moved out of China and love it. I perpetually tout other Asian (Thailand, Malaysia, Vietnam, Taiwan, Indonesia, the Phillipines, Pakistan, and India), European (Spain and Portugal — where my law firm has lawyers –Poland and Romania, Turkey — where I attended high school, and Italy — which I suggested to a client this morning), and Latin American countries (Mexico, Colombia, Peru, Brazil, and Argentina) as China replacements. Indeed, later today I will be speaking at a webinar on Moving Manufacturing from China to Mexico — it’s not too late to sign up so go here and do so as we will be focusing both on what it takes to leave China safely and on what it takes to succeed in Mexico.

Just to be clear (and to try to stave off some of the hate mail these posts invariably engender), my law firm is financially neutral on all of this. We make money from companies that go to China and stay there. We make money from companies that leave China entirely, diversify away from China, or simply set up in countries other than China. We are an international law firm not a China law firm. Our slogan is “Tough Markets Bold Lawyers” not Tough Market Bold Lawyers. We have more lawyers in Europe than in China and our LaAm practice is every day gaining on our China practice. Our international legal work that does not involve China roughly equals our international legal work that does involve China. I mention all this to try to dispel the belief that either I or my law firm benefits from people leaving China and that is why we/me so often call out its risks.

I often call out China’s risks because if I didn’t, I likely would lose credibility. I also always do the best I can on this sort of thing because I want to get things right. Back in 2018, and up to the point when Russia invaded Ukraine and people started realizing how sanctions can impact trade and a company’s reputation, I always felt part of a minority regarding China.

But when China’s spy balloon illegally entered U.S. territory I started feeling like my views on China have become the majority in the United States, Canada, Australia, Japan, and the EU, among other places. Since the U.S. government and the EU started talking last week about how China likely would start arming Russia, I’ve been feeling like pretty much “everybody” agrees with me on the big risks involved with doing business in or with China, but they are raising me one. I am increasingly hearing from people who are convinced that the world has ZERO use for China and we should expect it to return to the stone age within a year or so.

The following articles from the past few days seem to gleefully proclaim China’s downfall and isolation and I am hearing a lot of similar things from my law firm’s clients as well. As I explain below, I am not in this camp. But first with a few of the articles:

1. In China no longer viable as world’s factory, the Financial Times rings a death knell for manufacturing in China. The article focuses on Kyocera, a Japanese company that makes “products from printers to solar panels and has been relocating its manufacturing facilities out of China.” According to Kyocera’s president, US curbs on China’s access to advanced technology are “killing” China’s “viability as a manufacturing base for exports”; manufacturing in China only works for products “made in China and sold in China”.  The “model of producing in China and exporting abroad is no longer viable.” China’s high wages and relations between the US and China have made it too difficult “to export from China to some regions.”

2. In Key Tronic ramps up as customers leave China, the Spokane Business Journal writes of how Key Tronic has had a “tenfold increase in contract-bidding opportunities as many companies—prompted by production delays, rising costs, and tensions with China—are pulling business out of that country.” Key Tronic, a contract electronics manufacturer, doubled down on its facilities in Vietnam, Mexico, and the United States because it thought the move away from manufacturing in China would happen, and it did.

3. In China’s Future Ain’t What It Used to Be, Johns Hopkins professor, Joseph Joffe, paints China as an economic has-been, with “dissipating” growth that stems from “an economic model of copying yesteryear’s fast risers, Japan, Taiwan and South Korea” and a population that has grown old before it got rich. Joffe n0tes that in about 25 years, China will “be the oldest big economy in the world, with an army of 350 million pensioners” and it has already gone past the demographic “tipping point” with negative population growth. Per Joffe, China’s ever-shrinking labor pool will (it already has) increase wages in China and eat “into China’s competitive advantage as the factory of the world.” Making matters even worse for China, its productivity is lagging behind its labor costs. Joffe’s piece is a very good and very important one and I urge everyone to read it in its entirety because my brief summary does not do it justice.

4. In Freeing the U.S. economy from China will create an American industrial renaissance and millions of good-paying jobs, Marketwatch published an opinion piece that argues China has already crossed all red lines and it’s time for the United States to decouple from China. The piece argues that doing so will help the U.S. economy and teach China a lesson on human rights. There are plenty of people who have long held these views so the views themselves are not indicative of any real change. But, their being published on an investment site like Marketwatch is yet another indication of changing mainsteam attitudes relating to China

China’s “unlimited friendship” with Russia has caused many of my law firm’s clients to panic and I’m often getting asked whether China will supply arms to Russia, and if it does, what that will mean for trade with China. I put the odds of China helping arm Russia at less than 50-50.

I do not doubt that China would love to arm Russia. Russia is doing poorly in its war against Ukraine, and this not only makes China look like a sucker for having supported it, it also weakens China’s ability to threaten Taiwan. Most importantly, Russia’s Ukraine debacle is weakening Russia and a weak Russia is not in China’s interest. Russia is a bulwark for China against the West and China this makes the weakening of Russia very bad for China. This is especially true since China has very few true allies and what true allies it has other than Russia — Belarus, Cuba, Iran, North Korea, Syria, Myanmar, and Venezuela — are not doing well themselves. This is why China would love to arm Russia.

But China isn’t stupid. It knows that arming Russia will infuriate the countries on which it economically depends and it knows that crossing this line will likely lead to sanctions, trade restrictions and tariff escalations. China cannot afford for these sorts of things to happen, especially now. I do not think China will take the risk of arming Russia now.

Most importantly, I do not think a decision to leave China should be based on the China arming Russia issue. We should know within the next few months whether China will arm Russia or not, and if China does not arm Russia, this issue will become irrelevant. And if China does arm Russia, not starting a move out of China now will only mean a few months in delay.

The far bigger and important geopolitical China risk is Taiwan. I would be guessing if I were to predict whether China will invade or blockade China, but I’m not guessing when I say that if that does happen, any and all bets regarding China will be off. To me the only big question at that point is how much a China-Taiwan war will impact manufacturing and logistics in other Asian countries, and I have no prediction on that either. I will though say that many of those companies moving their production from China to Latin America (as opposed to elsewhere in Asia) list minimizing their China-Taiwan risks as A reason, but not usually THE reason.

Anyway, the above is my long-winded way of saying to expect an increase in the gloom and doom about China over the next few months, but to not let that impact you making your decisions based solely on what makes sense for your company. China is getting riskier and all of the data points point to that continuing. Nonetheless, there are still some companies that should not leave China. If you are making money from China or you cannot yet move your manufacturing out of China and the benefits of you staying in China outweigh whatever harm to your reputation you might face by doing so, you should stay. There are a surprising number of these companies and many of my firm’s lawyers are still kept busy helping them navigate China’s legal landscape.

2-23-2023 Update. Politico this morning has come out with an article that very nicely details and updates the decline in China’s relations with the democratic world, and how China’s aid for Russia (on top of its spying) has accelerated this. The article is titled, U.S. diplomatic counter-offensive targets China’s ‘false information and it focuses on how close to the “red line” China is with Russia.

Per Politico, the Biden administration is “pushing back on Beijing behind the scenes through diplomatic outreach to allies and partners” in an effort to underscore its “resolve to hold Beijing accountable for the [balloon] incident and to use it as an exemplar of the long international reach of China’s malign activities, even as China tries to woo Europe and other regional blocs.”:

The Biden administration has reacted strongly “because it’s so clearly a case where the Chinese should just have admitted that they took an action that they should not have taken,” said Zack Cooper, former assistant to the deputy national security adviser for combating terrorism at the National Security Council.

“And rather than just owning up to what was pretty obvious for all to see, [Beijing] launched into a whole propaganda campaign that was pretty frustrating for the administration, especially given that they were heading into what would have been [Secretary of State Antony] Blinken’s first trip to Beijing.”

China has continued to push back against the U.S. allegations, deflecting questions about its surveillance activities and the extent to which it is planning on supporting Russia in Ukraine. Now, the two countries are engaged in an intense public standoff, and neither side is indicating that it’s ready to back down anytime soon.

In addition to explaining to U.S. allies what happened with China’s spy balloon  and China’s subsequent lies about it, the U.S. is also revealing its intelligence regarding China’s plans to send lethal weapons to Russia. The U.S.’s concerted anti-China PR campaign seems to be working as “messages coming from Europe” is “creating a united front.”:

On Monday, the EU’s top diplomat, Josep Borrell, said it would be a “red line” for the European Union if China sends arms to Russia. Top diplomats from Sweden and Lithuania voiced similar sentiments. And NATO chief Jens Stoltenberg followed suit on Tuesday.

China’s Wang Yi, meanwhile, arrived in Russia Wednesday where he met with President Vladimir Putin and the head of Russia’s National Security Council. Putin declared that Russia-China ties had reached “new frontiers” and announced that Chinese paramount leader Xi Jinping is expected to visit Russia later this year.

Why We Are Writing This Now? What Will the Future Hold?

This post is coming out now because I am tired of seeing companies tie their global plans to every possible upward tick in the US-China trade war. Too many companies keep holding off on moving out of China based on news reports that this deal or that deal will soon be made between the United States and China. This is happening again with the so-called Phase One deal that has been perpetually touted as being on the verge. See Millimeters’ separate U.S., China from phase one trade deal.

This post is intended to burst that bubble.

First off, I put the odds at less than 50 percent of even a very limited Phase One happening. Financial analysts and economists keep saying that deal will happen, but that is because they view things from an economic perspective and they are convinced that such a deal makes economic sense. But as we have been saying since day one, if the US-China trade war were based on economics, China would have been able to end it by buying more soybeans and Boeing airplanes. Also, the longer the U.S. economy continues roaring ahead, the less economic need for any deal at all.

Second, even if the Phase One deal does happen, it will be so limited as to be meaningless for most companies and nothing but a short-term pause in the decoupling. Look at all that has happened between the United States (and the West) and China over China’s treatment of Hong Kong and the Uighurs and tell me that the US and China are millimeters away from patching things up. Look at what is going on between Australia and China and between the EU and China and between Sweden and China and tell me that relations between the West and China will get better. Look at how “Beijing orders state offices to replace foreign PCs and software” and tell me who you think will stop the straight line detoriation in relations between the West and China.

Decoupling is happening and will continue happening and you and your business need to act accordingly.

Full disclosure: the following books greatly inform my view of where things will be going between China and the West:

  1. Khrushchev’s Cold War: The Inside Story of an American Adversary.
  2. The Cold War: A New History
  3. Origins of the Cold War
  4. The Tragedy of American Diplomacy
  5. Destined for War: Can America and China Escape Thucydides’s Trap?
  6. Dragons Entangled: Indochina and the China-Vietnam War
  7. The Best and the Brightest

Western-China relations are not the same as Western-Soviet relations and what happened then need not necessarily happen now. But the past does inform the present and by explaining so well how relations between countries can and do rapidly deteriorate the above books make for important reading today.

What are you seeing out there? What do you see for a year from now?