Logic of Strategy: New Crisis as U.S. Identifies China as #1 Threat

Zaobao: 学者李晓：中华民族到了新危险时候

Dark clouds are forming over Sino-US trade, Li Xiao, dean of the School of Economics and Finance at Jilin University, said that for today's China, the biggest crisis is not a trade conflict, but the world's most powerful hegemonic state has made public that it thinks of China as its main opponent, "The Chinese nation is in a new and dangerous time."

According to the WeChat public number of Jilin University School of Economics released on June 30, Li Xiao gave a speech entitled "National Destiny and Personal Destiny" at the 2018 graduation ceremony of the Institute. What is the essence of China-US trade war and what China should learn? Kind of lessons to present views. He said that the trade war launched by the United States is the most humiliating behavior of the United States against China. "But there is nothing we can do because we are too dependent on the US market."

He goes on to explain the Logic of Strategy and why those focused on GDP are seeing only a part of the picture:

Li Xiao pointed out that the more important national strategic interest of the United States is to contain China's rise. He believes that the purpose of Trump's trade war is probably not only in the trade field, but also in "Made in China 2025", more likely to force China to make greater concessions through trade wars, and it is likely to force China to be more open in monetary finance.

Li Xiao said that for the average country, they will lose a trade war on economics. "But for big countries, the key is who can afford to lose."

He pointed out that historical experience has proved that the contest between big powers, especially the "boss" and "number two", is so much an economic act, not for economic benefit, but an international political act for national benefit. International political competition is not a "positive game", but a "zero-sum game." The political logic is "as long as I win, defeat the opponent, sacrifice no matter how much, do not hesitate."

This is the Logic of Strategy as explained by Luttwak. I laid out my brief review of his book and combined it with my expectation of yuan devaluation, political change in the U.S. that would favor manufacturers and a retreat on free trade, back in 2014: The Logic of Strategy: Yuan Devaluation and the Road to Trade War.

China's expansion (and claims of territory) into the South China Sea is driving the logic of strategy. China is pushing many nations towards the United States. Australia, for example, has been more proactive than the U.S. when it comes to regional security. Many economists correctly criticize President Trump for poorly implementing tariffs, offending long-term allies such as Canada and the United Kingdom. (#AnglosphereNow) However, they miss the question of sovereignty for nations such as Australia, Vietnam and the South China Sea nations. The Logic of Strategy argues they should voluntarily slow their GDP growth by reducing trade ties with China, thus also slowing China's growth and its military modernization. The greater goal is protecting national sovereignty.

Trade is no longer a purely economic issue beholden to free trade ideology, but one component of an overall national security strategy. On the one hand, by blowing up the TPP and shifting U.S. policy, President Trump has made as Pacific alliance less likely, but on the other hand, his direct confrontation with China has advanced the issue. Using Europe as a counterpoint, many NATO allies are upset at President Trump's demand that they increase their military and monetary contributions to NATO. They don't want to increase military spending and don't like that the United States will either reduce its military presence or find other means of extracting monetary support. However, in the Pacific there is a desire for greater security cooperation. The best way for Pacific nations to reduce trade tensions with the United States will be through greater military and financial support for joint security.

All that said, I think the scholar and many others assume far more planning than really exists. The Logic of Strategy isn't planned. It is emergent order based on strategic goals and the desire to avoid a war between great powers. It is based on interest groups, shifting social mood, and regulatory capture. A switch wasn't flipped in 2016, rather it was a tipping point when emerging trends converged. Previously, China policy was mainly decided by the Treasury and Commerce Department, which had been wholly captured by Wall Street. The 2008 financial crisis was the peak of Wall Street's political power as it extracted trillions of dollars from U.S. taxpayers through the federal budget and Federal Reserve. In short, Capital drove China policy. It wanted access to new markets and cheap labor. Losing in the debate were manufacturers, Labor and national security.

Manufacturers and labor unions have opposed free trade (or at least demanded concessions) for decades. American workers reached the breaking point after the 2008 crisis as opioid addiction burned through hollowed out communities. The Defense Department had long identified China as a threat, but other concerns such as Russia and jihadists gained the most attention. Economists such as Steve Keen exposed the flaws in free trade ideology. Falling social mood was the final piece of the puzzle that created the impetus for action. The United States had its own internal Logic of Strategy as manufacturers, labor unions, American workers in Middle America, the defense department, anti-Wall Street activists on Left and Right, foreign policy and economic dissidents converged.

Overseas, the same logic will play out. Nations such as Vietnam can experience faster economic growth at the cost of falling into China's sphere of influence, or they can accept slower economic growth in exchange for greater sovereignty, particularly if a more self-interested United States continues shifting foreign policy in a pragmatic direction.

Back to Li, he sees a Cold War unfolding:

Li Xiao pointed out that the biggest crisis facing China is not a trade conflict, but the United States, the most powerful hegemonic country in the world, and has publicly regarded China as its main opponent. "In the peaceful period, using economic means to launch China. The comprehensive containment and attack, while also using its superior global military strength, is increasingly deterring China, creating peripheral conflicts and even crises to interfere with our peaceful development process."

Li Xiao believes that the Sino-US trade war is "essentially a national war" and will not be resolved in the short term. Taking the US-Japan trade dispute as an example, he pointed out that from the 1960s until the end of the 1980s, the long trade dispute between the United States and Japan played for 30 years. As a result, the Japanese bubble economy collapsed and fell into a "lost 20 years," and the conflict between China and the United States A big country game, I am afraid it will take at least 50 years or even longer. "Everything today is just the opening of a historical drama."

He mentioned that some Chinese media are "extremely irresponsible and unprofessional, and often use a narrow nationalist sentiment to fool people's feelings."

Li Xiao analyzed that when China is full of blind arrogance, the Sino-US trade war, especially the "ZTE event", is a strong clearing agent. In addition to exposing the huge technological gap between China and the United States, "it makes us even more I am soberly aware that China’s economic growth model has been unsustainable so far, and we must carry out more profound reforms in terms of economic structure and economic operation mechanism."

Li Xiao’s speech sparked a heated discussion on the Internet, which was called “the most sharp speech of the year” and “a public speech that was shocking.” Many netizens said that Li Xiao’s point of view is “pertinent” and “in-depth”, and that “this is definitely not an alarmist, the Chinese must be vigilant”.

However, some netizens do not agree with Li Xiao’s point of view, saying that this is “risk-talking” and that “the analysis is incomplete and the economic resilience is not considered”.

Socionomics Alert: Trade Wars Spreading

SCMP: FORGET US-CHINA, THE MALAYSIA-INDONESIA-EU TRADE WAR MAY BE UPON US

A trade war is looming between the European Union and the world’s biggest producers of palm oil, Indonesia and Malaysia, over proposals to strip biofuel off the menu of renewable energy sources member states may use to reduce their greenhouse gas emissions.

At issue is the US$39 billion palm oil industry. Indonesia and Malaysia are the world’s two biggest producers of the crop, used in everything from fuel to cosmetics to cookies.

Even so, Pandjaitan has warned the government may swear off Airbus aircraft for its military and for the state-controlled carrier, Garuda, if they think palm oil has been given a raw deal.

Pandjaitan’s colleague, Trade Minister Enggartiasto Lukita, has already put Norway on notice by threatening to ban fish imports after its parliament voted to exclude biofuels from government procurements.

Chinese Developers Spend $100 Billion on Ocean City

Remember when everyone was worried about Japan taking over the United States?

Bloomberg: $100 Billion Chinese-Made City Near Singapore 'Scares the Hell Out of Everybody'

The Chinese companies have come to Malaysia as growth in many of their home cities is slowing, forcing some of the world’s biggest builders to look abroad to keep erecting the giant residential complexes that sprouted across China during the boom years. They found a prime spot in this special economic zone, three times the size of Singapore, on the southern tip of the Asian mainland.

...The scale of the projects is dizzying. Country Garden’s Forest City, on four artificial islands, will house 700,000 people on an area four times the size of New York’s Central Park. It will have office towers, parks, hotels, shopping malls and an international school, all draped with greenery. Construction began in February and about 8,000 apartments have been sold, the company said.

...“The Chinese are attracted by lower prices and the proximity to Singapore,” said Alice Tan, Singapore-based head of consultancy and research at real-estate brokers Knight Frank LLP. “It remains to be seen if the upcoming supply of homes can be absorbed in the next five years.”

Malaysia Tells West to Take a Hike

The American Empire is rapidly crumbling, despite the economy, currency and military still being relatively strong.

CNA: Najib asks West to stop 'lecturing' as Malaysia embraces China

Malaysian Prime Minister Najib Razak said that former colonial powers should not lecture countries they once exploited on their internal affairs, a Chinese newspaper reported on Wednesday, in a veiled attack on the West as he looks to strengthen ties with China.

Najib's visit to Beijing follows that of Philippine President Rodrigo Duterte, who announced a "separation" from the United States and signed a raft of memoranda of understanding for Chinese investment in the country.

Najib, who is on a six-day visit to China, said in an editorial in the state-run China Daily that larger countries should treat smaller countries fairly.

China May Use Offshore Banking to Secure South China Seas

China considers killing two birds with one stone, turning Yongxing Island (Woody Island) into an offshore financial center. Aside from the economic benefits, it would secure China's political claim on the South China Sea.

21st CBH: 南海岛礁能成为百慕大式离岸注册地吗?

Two of the country this year, the South China Sea once again become the focus of the parties. NPC press conference, spokesman Fu Ying was asked three times to the South China Sea. There are also proposals for motions involving the South China Sea. Two of the most notable of the CPPCC National Committee, deputy director of the Foreign Affairs Committee, submitted Han Fangming "Yongxing Island will build a Bermuda registered offshore" proposal.

Registered offshore, through low-tax policy or tax-free, loose financial regulation and open management program, set up to attract foreign companies registered offshore companies. Proposal suggested that the central and Hainan through policy and legal support, allowing the Xisha Yongxing Island, the development of offshore financial services, and thus promote the development of the South China Sea and the central economic zone in the South China Sea strategic layout.

I believe that, and regardless of the specific content of proposals, one on its own logic - the economic development of the island as a means of distribution of the South China Sea should be able to provide new ideas for breaking the increasing complexity of the South China Sea game.

In fact, economic development has become the main means to safeguard the sovereignty of the South China Sea. From the initial joint development of South China Sea oil and fishery resources initiatives, to the exploration of deepwater oil and gas fields, economic instruments are to highlight its significance. The difference is that the role of fisheries and oil and gas development is mainly reflected in the sovereign sea waters especially controversial declaration, and the development of offshore financial sector would help to strengthen the management of the actual controlled islands.

Although China has already realized over the Paracel Islands and administrative development, its economic function has often been watered down. A real problem is that China's legitimate military and civilian deployment in these reefs, likely to cause unnecessary tension in neighboring countries, and become some of the United States, Japan and other countries outside the South China Sea issue of multilateral excuse. In this context, clearly some of the reefs controlled economic development function, can also be regarded as reducing misjudgment, an effective means of reducing external intervention.

I doubt outside parties will be mollified by China securing its interests, but it undoubtedly strengthens China's claims.

There are drawbacks though. Foreign investors will be wary of China's claim on the islands and China's legal system is unable to deal with offshore banking at this time:

Security Capital is also an important factor. The vast majority of offshore centers away from geopolitical disputes, and maintaining political stability through effective government. In contrast, the South China Sea tensions in the South China Sea islands and reefs will hinder the development of the financial industry has brought. This is why a lot of people are not optimistic about Yongxing Island Offshore Financial reasons development. Of course, this view underestimates the Chinese South China Sea as a "real master" determination to maintain peace and stability on the South China Sea. However, for Yongxing Island as an international financial capital registration, we also need to make some effort to highlight Yongxing Island demilitarization of use and so on.

In addition, the legal system, now known global offshore centers use the Law Department. This system was considered for a higher degree of financial innovation tolerance, and ease of integration with Western multinationals legal system. And China, as in civil law countries, the ability to "compatible" an offshore centers?

In short, the Yongxing Island, the reality limited by a variety of conditions, even if the island's offshore area can be entered substantive stage of development, it is difficult to attract transnational capital in the short term. However, we could have based on their own business, and then through a series of innovative laws, the financial system, reducing barriers on legal convergence.

Of course, both can develop from the Yongxing Island offshore financial business, the South China Sea policies are ultimately in order to safeguard China's sovereignty and territorial integrity. Under this theme, we might open my mind, bold innovation, and explore more effective path of development and rehabilitation of the South China Sea.

Social Mood Deteriorating: Malaysia Race Riots; Free Catalonia; Mosques Burn

The Economist: Playing with fire

THE close-packed shops on Petaling Street (pictured), a dim warren in a Chinese quarter of Kuala Lumpur, Malaysia’s capital, often throng with bargain-hunting tourists. This month its mostly ethnic-Chinese stallholders faced crowds of a different kind. Riot police prevented a mob of redshirted protesters—ethnic Malays with a host of grudges—from marching down the street. They eventually dispersed loiterers with water cannon. One protester was filmed calling a journalist a “Chinese pig”.

...Malaysia’s broad ethnic mix, in part the result of British colonial immigration policies, has long coloured its politics. After a murderous race-riot in 1969, in which mobs burned Chinese shops, officials devised a slew of measures aimed at defusing tensions. Their aim was to reduce inequality between Malays and their richer ethnic-Chinese compatriots. Malays were guaranteed a quota of places at universities and the right to own shares in all listed companies, among other benefits. Though billed as temporary, many of the measures are still in force.

Sometimes I wonder if the editors of the Economist read their own magazine as they currently advocate more migration into Europe, and the guaranteed race riots and ethnic tensions that will follow.

Since then Malay incomes have risen rapidly (see chart). But greater equality has come at a cost. Critics say that state-sponsored favouritism has hooked Malays on handouts and government jobs, and helped to enrich the country’s elites—at the same time as enraging ethnic-Chinese citizens, and driving some of the most talented of them abroad. There have been growing demands, among Malays too, for the rules to be scrapped, or at least refocused on the neediest regardless of their race. When he came to power in 2009 Najib Razak, UMNO’s president and Malaysia’s prime minister, sounded as if he agreed.

All that changed after a general election in 2013, when the government retained power despite losing the popular vote. UMNO itself managed to gain seats at the polls. But voters deserted the small ethnic-Chinese and Indian parties with whom it rules in coalition, fleeing to a resurgent and more ethnically balanced opposition. Instead of trying to lure them back, UMNO has focused on refurbishing its reputation as a champion of ethnic Malays and of Islam, their traditional religion.

Which brings to mind this:

One moves swiftly and imperceptibly from a world in which affirmative action can’t be ended because its beneficiaries are too weak to a world in which it can’t be ended because its beneficiaries are too strong.”

Over to Spain. PRO-SECESSION PARTIES IN CATALONIA WIN LANDMARK VOTE

Pro-secession parties pushing for Spain's northeastern Catalonia region to break away and form a new Mediterranean nation won a landmark vote Sunday by capturing a regional parliamentary majority, setting up a possible showdown over independence with the central government in Madrid.

..."I have wanted independence ever since I was young," Perez said after voting in Barcelona. "During three centuries they have robbed us of our culture. We have reached the moment that the Catalan people say `enough is enough.'"

Why settle a 300-year issue now? Negative social mood.

Migration in Europe is still having major impact.

Two teenagers held on suspicion of arson after London mosque fire:

Two teenagers have been arrested on suspicion of arson after a fire engulfed part of a south London mosque said to be the largest in western Europe.

At the other end, Holland now allows child brides as long as it's legal in their home country: Dozens of Syrian child brides en route to Ter Apel ('Tientallen Syrische kindbruiden onderweg naar Ter Apel')

South China Sea Naval Arms Race Underway

Strategy Page: Background to Asia's Expensive Naval Arms Race

Using land reclamation techniques, China has constructed "territorial facts" in the South China Sea by turning uninhabitable "features" like rocks, shoals and reefs into islands. From these fabrications, China projects economic claims and military power.

...Hence, the warship binge. StrategyPage provided very approximate but illustrative numbers. In the next 20 years, Asian nations will buy some 400 major warships and 1,000 small patrol vessels and support ships. At least 80 (perhaps 100) of the major vessels are submarines. China loves subs. Chinese subs trail U.S. ships. But worried neighbors know that their diesel subs can ambush Chinese ships trying to protect, well, Fiery Cross.

U.S. Derides China's Sandcastles

US warns China over provocative ‘sandcastles’ in South China Sea

Recent satellite images suggest that China has made rapid progress in filling in land in contested territory in the Spratly Islands and in building an airstrip suitable for military use and that it may be planning another.

“As China seeks to make sovereign land out of sandcastles and redraw maritime boundaries, it is eroding regional trust and undermining investor confidence,” Blinken said on Wednesday.

“Its behavior threatens to set a new precedent, whereby larger countries are free to intimidate smaller ones, and that provokes tensions, instability and can even lead to conflict.”

China should invite the seasteading people to go live there. They'll have far more productive use of the land, foreign civilians on their soil and a stronger claim of sovereignty over the man made islands.

Is the Seasteading Dream Really Dead?

U.S. May Scuttle Free Trade Deal And Send Ships To South China Sea

The failure of the TPP may mark the high water mark in this era of globalization. The next step will be an anti-China economic policies designed to cut China's military expansion. Community and identity have supplanted economics in most domestic Western politics. Sovereignty will rise above economics in international relations, as laid out in The Rise of China vs. the Logic of Strategy.

U.S. Military Proposes Challenge to China Sea Claims

The U.S. military is considering using aircraft and Navy ships to directly contest Chinese territorial claims to a chain of rapidly expanding artificial islands, U.S. officials said, in a move that would raise the stakes in a regional showdown over who controls disputed waters in the South China Sea.

Senate Democrats gang up to delay fast-track trade bill

U.S. Senate Democrats delivered a major blow to President Barack Obama's trade agenda on Tuesday, blocking debate on a bill that would have smoothed the path for a Pacific trade pact.

...The failure to garner the necessary votes came after pro-trade Democrats, including Senator Ron Wyden of Oregon, insisted that fast track be bundled together with three other trade bills, including one that would impose import duties on countries that manipulate their currencies for unfair trade advantage.

Who's that?

China Ramps Up Military Spending; Move Will Strengthen Anti-China Alliance

In The Logic of Strategy: Yuan Devaluation and the Road to Trade War, I look at the economic angle and Edward Luttwak's book, The Rise of China and the Logic of Strategy. One of his points was that a major military buildup by China is alarming to its neighbors and sending them into the arms of the United States, to the point where they are prodding the U.S. to play a role in the region.

This latest news means there will be no easing of tensions.

China's Xi ramps up military spending in face of worried region

The government said it would increase the defense budget by 12.2 percent this year to 808.23 billion yuan ($131.57 billion), as China seeks to develop more high-tech weapons and to beef up coastal and air defenses.

Will the United States eventually decide that the way to slow Chinese military spending is to slow the Chinese economy? As I mentioned in the prior post, there are growing economic arguments against free trade. Trade deficit nations such as the U.S. also benefit in the short-run from trade restrictions because it means the domestic economy must supply more goods and services. The odds are certainly above zero that a politician will see a way to boost the economy and appeal to nationalism with one policy.

The Logic of Strategy: Yuan Devaluation and the Road to Trade War

There's an excellent post for anyone interested in China: Review of “The Rise of China vs. The Logic of Strategy” by Edward Luttwak. I just finished the book and I don't think I can add much to that complete and thorough review. Read through it to get an idea of the arguments put forth in Luttwak's book, plus a summary of all the players.

If you're lazy, the quick and dirty summary can best be given by a comparison with Germany and England prior to WWI, with China as Germany and the USA as England. Germany was the up and coming power and had surpassed England economically, culturally and academically. What got Britain very nervous was Germany's decision to build a large navy. England responded with a new ship, the dreadnought, and with a diplomatic flurry to move enemies into the neutral or friendly category. The result is well-known: although eclipsed in many areas, British superiority in diplomacy and war defeated Germany twice.

China's rise was similarly peaceful, but China's aggressive military buildup and claims to South China Sea territory have all of the surrounding nations on alert. Due to the advent of nuclear weapons, logic dictates that total war will be avoided in Asia. However, the U.S. and a group of allies could effectively deter Chinese aggression in the Pacific, and even though the U.S. has not sought out a coalition, Chinese aggression has pushed Southeast Asian nations (and even Mongolia) into the arms of the U.S. Finally, due to its size and the desire to avoid an outright conflict, the United States has a very powerful weapon if it can overcome the free trade ideology: economic policies designed to slow China's economic growth. Using economic policy, the U.S. could deliver an effective blow to Chinese growth that will keep its military from exceeding U.S. capabilities without requiring a massive buildup in military spending, a policy which would further slow GDP growth in China. If the U.S. and regional economies prefer U.S. influence in the region to that of Chinese influence (and putting aside all ideology, the distant hegemon remains more attractive than the near), they can choose a path of slower economic growth designed to keep China from becoming the dominant power.

The reason for this policy is not a U.S. desire to keep China from rising. Instead, it is China's increasingly aggressive policies in the region that make neighbors nervous. China makes claims to territory based on very loose evidence, such as a map from hundreds of years ago. Using the same logic, Italy could claim all the land formerly held by the Roman Empire or Sri Lanka can claim India (one example given by Luttwak). No one would fear a claim by Italy or Sri Lanka, but imagine Italy was among the fastest growing economies in the world, rapidly building up its military capabilities and it was openly making bold claims to territory. Everyone in Europe, North Africa and the Middle East would be nervous.

There's a talk by Luttwak on the topic of his book:



The "logic of strategy" coincides with social mood and current events. Protectionism is on the rise due to economic factors tied to declining social mood, but Luttwak's book adds a geostrategic grounding for protectionism as part of an economic cold war in the Pacific designed to restrain China's ambitions. Luttwak doesn't delve into economics in his book, but it is very easy for me to imagine the path to protectionism.

There are three U.S. China policies according to Luttwak. The first is the Pro-China Treasury Department. This wing also represents the capture of American government by Wall Street and the financial industry: Treasury doesn't care about manufacturing and pursues a China policy solely almost aimed at profits for Wall Street. The Treasury also represents the idea of free-trade as ideology. Manufacturers have almost no voice in American policy these days.

Next is the State Department, which confronts China in Asia. The State Department is mainly concerned with the "Asia Pivot." It was not U.S. policy to encircle China by forging closer alliances with Southeast Asian nations, rather China's own aggressive posturing pushed these nations into proactive efforts to attract the United States. There are areas where the U.S. was proactive though, such as working to strengthen ties with India.

Finally, there is the national defense establishment. They view China as potentially the main enemy of the future, though this is as of yet undecided. China is a cyber threat and potential military threat. The Defense Department is involved with strengthening regional military ties, such as the naval visits to Vietnam.

Prediction

The protectionists are ever so slowly gaining the upper hand thanks in part to negative social mood. 2008-2009 will probably mark the peak moment for Wall Street and the Treasury Department, even though there is as yet no sign of it in Washington. Changes can be seen in the form of issues such as immigration, which has turned the grassroots of the conservative movement against the Chamber of Commerce and large corporations (due to an attack initiated by the latter against the former). This has pushed the Overton window of acceptable debate among conservatives who can now take shots at big business. There is also the growing libertarian faction pulled together by Ron Paul that supports his son, Rand Paul, that consistently attacks the Federal Reserve and Wall Street. Put it together and it is not hard to envision an anti-Wall Street, pro-manufacturing political consensus emerging. This will cut across party lines, with manufacturing unions pulling in Democratic support if there are specific bills to vote on.

There are also the academic attacks on free trade. Australian economist Steve Keen discusses the work of Dani Rodrick in 1,000,000 economists can be wrong: the free trade fallacies - See more at: http://www.debtdeflation.com/blogs/2011/09/30/1000000-economists-can-be-wrong-the-free-trade-fallacies/.

But there is an obvious fallacy to this neat and plausible argument: To effect specialisation, England has to shift labour and capital from wine to cloth (and Portugal has to do the opposite). Arguably labour can be retrained—a vigneron can become a machinist—but how do you convert wine press into a spinning jenny?

The obvious answer is that you don't. Instead, you sell the wine press and buy a spinning jenny with the proceeds. But because of the introduction of trade, the price of wine in England would have fallen, so that the sale price of the wine press will also fall (economists have modified Ricardo's model to introduce curves where Ricardo had straight lines, so that total specialisation is no longer required and there would still be some wine production in England under the "new" model of Free Trade), while the price of spinning jennies will have risen, given the new export market to Portugal. Some capital is necessarily destroyed by the opening up of trade and it applies in reverse in Portugal as well.

Since capital is destroyed when trade is liberalised, the watertight argument that trade necessarily improves material welfare springs a leak. If economics were a real science, this real-world complication to Ricardo's argument would be considered, but it has never been seriously addressed.

Ricardo also assumed that British businessmen wouldn't uproot their life and open a factory in Portugal. As the real life modern example of free trade has shown, thanks in part to modern travel and telecommunications, that is exactly what happens. Not only does the factory close in America, but the capital follows it to China. Instead of building a new industry in the United States, the entire manufacturing sector is hollowed out. There are small diverse benefits to lower consumer goods prices, but the vast bulk of the gains go to two groups: workers in the destination country such as China, and to the holders of capital, which are mainly the nation's wealthiest citizens. The nation's capital base is sold off or relocated, with the profits going to the top. The median male income is flat since the 1970s in the U.S., with trade playing a huge role (along with the increase in labor supply from immigration and feminism, both of which also benefit the wealthiest Americans who own most of the capital).

With a growing economic case against free trade, a shift in social mood making anti-free trade opinion more popular, plus the loss of political support for the financial sector, free trade will become a centerpiece issue in American politics. The trigger will be one of two factors. One is economic. China's credit bubble isn't going to slowly ride off into the sunset. There will be pain, it is only a matter of where it lands. The path of least resistance is devaluation of the yuan, something I have been looking for here for several years now due to the growth in credit. A target of ￥8 to $1 is a reasonable ballpark figure, with ￥10 to 1 not unbelievable given the rise of the shadow banking sector. The actual number isn't as important as the size of the devaluation: it will likely be large and set off the anti-China arguments that have been growing in the United States. The left and right have their beef with China's economic policies and the right has provided the main rhetorical cover for business. When that goes, there will be a bipartisan push for policies that counteract China's "predatory" currency policies. A Chinese devaluation could be the trigger.

The second factor is geopolitical. Do take the time to read the lengthy review linked above, and/or watch the video. Luttwak's main point is that China cannot simultaneously build up its economy and influence at the same time it builds up its military, and not run into resistance from surrounding states. He cites the Chinese policy on the island disputes as the case in point: instead of increasing China's power in the region, it has pushed Vietnam, the Philippines, Japan and Indonesia into the arms of the United States. An anti-China coalition is building up due to each nation following the logic of China's inevitable rise in power along with the perception of an increasingly aggressive China. China has "tipped its hand" so to speak and these nations are moving preemptively. Due to the nuclear arsenal of the United States and China (to say nothing of Russia's interest in the region), there isn't going to be a major war for survival. This reduces the options for confrontation, with one of the most powerful being economic. If there is a minor military confrontation that is too large to be ignored, the most politically acceptable response will be economic.

Either the economic or the geopolitical event can happen first then, but in time, the two will be seen as inseparable. Once events move in this direction, the logic to continue down the path is compelling.

Anyone can run GDP numbers for the U.S. and China. One simple calculator is here: Catching the eagle. The default is 7.1% GDP growth, 4% inflation and 2.9% yuan appreciation for China. For the U.S., 2.4% GDP growth and 1.4% inflation. With these numbers, China's economy overtakes the U.S. in 2019. If growth is more like the 4% that Marc Faber believes (and the debt growth/gdp growth ratio suggests is correct), China overtakes the U.S. in 2022. Lowering that GDP growth to the 3% low end forecast of Michael Pettis adds one year, to 2023. However, take down the inflation number (due to credit deflation) or factor in a devaluation of the yuan, and China quickly falls behind the U.S. and can "never" catch up. See: China may not overtake America this century after all.

The ultimate containment strategy for the U.S. and regional partners (who all have access to U.S. markets) then, is an economic strategy. Yes, these nations will suffer slower growth, but they will retain their sovereignty. For East Asian nations, a distant hegemon is better than the near one with an appetite for your territory.

Whichever path is chosen, the economic and geostrategic paths will line up. An economic crisis in China will add the economic component to the emerging geostrategic China policy. A geostrategic decision to confront China economically would set in motion an economic crisis that would propel the strategy forward since China would respond in kind. The decision to halt rare earth exports to Japan and the widespread anti-Japanese riots of recent years already show how China will respond. A major confrontation from the U.S. would require an even larger policy response. Luttwak lays out some possible policy choices, starting with small ones such as banning technology transfers in a limited area such a military or telecom. I fully expect that were a Chinese crisis and devaluation to accompany another recession in the United States, the push for tariffs would find a bipartisan majority in the House and Senate.

Yuan devaluation is inevitable as soon as China enters a serious financial crisis. If the government refused to devalue, the nation would go through a 1930s style deflationary Great Depression. China is unlikely to allow the market to take the yuan lower in a panic collapse like a replay of 1997. At some point, it would announce a large devaluation designed to end the selling and the crisis. This will be called a political act in the United States (those who understand the economics will nonetheless spot the political opportunity) and the political push for protectionist policies will be too attractive to be ignored. The United States will retaliate with sanctions and the world will follow. This will put even more pressure on the Chinese economy and lead to a massive rise in nationalist sentiment (either that or anti-CCP sentiment, so expect the CCP to redirect it into nationalism). A chill wind will blow across the Pacific that will last a generation or more.

Malaysian Skyscraper Index

Malaysia property headed for Dubai-style crash

After years of frenetic development, which included constructing the world's tallest building, Dubai suffered a massive real-estate crash in the wake of the 2008 financial crisis, with property losing more than 50 percent of its value by 2011 as excessive speculation came home to roost. CIMB noted half-empty buildings continue to plague Dubai's skyline.

On the slate for the Kuala Lumpur area are the 118-story Warisan Merkeka Tower, targeted as the tallest building in Southeast Asia and part of a huge complex that will include two condominium blocks, a hotel tower and an underground subway station, as well as the 28-building Tun Razak Exchange project targeted as an international financial hub, CIMB noted.

The report estimates around 17 million square feet of gross office floor area will come on-stream between 2015 and 2017, adding that even if demand doubles, it won't absorb the influx.

Skyscraper indicator

Looking for a sign that the current liquidity fueled emerging market gains may be getting long in the tooth?

Sky high risks in Malaysia

Malaysian Prime Minister Najib Razak's recent announcement that a 100-storey tower will be built in the capital by a government investment fund comes as global liquidity is flooding the region and raises concerns the project could represent the front end of a coming new crisis.

The article also notes the usefulness of watching for the building of vanity projects:

Just as the Petronas Towers were completed, the 1997-98 Asian financial crisis struck. With additional space from the towers and other skyscrapers coming online, Kuala Lumpur’s office occupancy rate slumped to just over 80% and dropped even further into the 70% range in subsequent years. In the event, state-owned oil and gas giant Petronas moved its offices into one of the twin towers, while the other tower was gradually occupied by Petronas subsidiaries and other firms involved in the oil and gas sector.

The Petronas Towers' experience was echoed earlier this year with the opening of the world's tallest skyscraper, the Burj Khalifa, in the middle of a financial meltdown in the United Arab Emirates. A couple of years ago, when the Burj was being constructed in the midst of a property boom there, the business press in Malaysia had hailed UAE as a model for Malaysia to emulate.

No longer. Today, Malaysia bears some similarities with the 1990s when the Petronas Towers were mooted. Once again, Malaysia is emerging from a recession. Hot money is flowing back into the region with economic stagnation and more quantitative easing in store for capital-rich developed nations.

The iShares MSCI Malaysia ETF (EWM) has been a strong performer this year.