China is flexing its muscles to assert its power on a range of issues. One of the most interesting and significant of these moves was the downgrading of US Treasury bonds from the top AAA rating to AA with a negative outlook, by China’s Dagong Global Credit Rating agency.
This is China’s first foray into rating the credit worthiness of other countries. China believes that the existing international credit rating system (involving agencies like Moody’s, Standard & Poor’s and Fitch) has not worked well.
Dagong chairman Guan Jianzhong (關建中) reportedly said: “The essential reason for the global financial crisis and the Greek crisis is that the current international rating system cannot truly reflect repayment ability.”
By downgrading the US Treasury bonds and assessing other countries’ economic credentials (for instance, Japan, Britain and France have low AA- ratings), China is setting itself up as the alternative — if not the only — economic powerhouse.
If China were to follow the logic of its own Dagong agency, it would stop investing in US Treasury bonds and might even start winding down its considerable investments in US bonds. This would be very destabilizing for the global economy, and damaging to China’s US denominated investments.
The important question is: What leads China (while Dagong is privately owned, nothing of this significance happens in China without the government’s authorization) to believe that it can do a better job of credit rating than the existing agencies?
The assumption here is that China has a strong economy with virtually no sovereign credit risk. However, if China were an open and transparent country, it would have to be concerned about its economic vulnerability on two counts.
First, China’s total debt — central, regional and local authorities, as well as other government entities — is estimated by some experts to be close to 100 percent of its GDP. Assuming this figure is accurate, or close to reality, China’s credit worthiness is as flaky as the most indebted countries in the world.
Any country that rates its debt at 20 percent, when the real figure could be so much higher, cannot be trusted with rating the sovereign credit risk of other countries.
This should also apply to Western credit agencies because their track record of failing to predict the recent global economic crisis, as well as the Asian crises of 1997 and 1998 and the bursting of the dotcom bubble in 2000, is pretty terrible.
In the agencies’ case, though, they did not officially speak for any governments. In China’s case, despite Dagong’s claim of independence, it is not believable. For instance, Dagong’s report was announced at the headquarters of China’s official Xinhua news agency.
Second, in the last year, China experienced phenomenal growth in lending by its banks and other agencies. By one estimate, in the first half of last year, Chinese bank lending was 28 percent higher than official figures.
More and more loans have been repackaged into investment products, not unlike the subprime mortgage products.
As Bloomberg’s William Pesek wrote: “Repackaging loans and moving them off balance sheets is exactly what got corporate America into trouble and almost killed Wall Street.”
“Such practices raise the odds that China is paving the way for a wave of bad debts,” he added.
China’s economy seems to combine the elements of both the US’ and Japan’s economic malaise of phenomenal credit growth and emerging bubbles in real estate and stock markets. In other words, setting up a credit rating agency does not make China a superpower.
However, China is not only challenging the US on the economic front, but regarding issues of territorial and maritime sovereignty. For instance, in the 1990s, China passed domestic legislation claiming the South China Sea as its territorial waters.
At that time it looked like an ambit claim that was still subject to peaceful negotiations with its Asian neighbors who have rival claims. Now, China has proclaimed that the South China Sea is part of its “core national interests” and beyond any negotiation.
This means China will be able restrict and control traffic through the South China Sea — one-third of all global commercial shipping passing through it. In this way, China is not only claiming sovereignty, but also challenging the dominance of the US Navy.
However; the US response is as timid as could be, with US Assistant Secretary of State Kurt Campbell emphasizing the importance of dialogue, “not just with China, but with our friends in South East Asia, to ensure that we fully support the 2002 process between China and South East Asian states to deal with any outstanding issues through diplomacy.”
China certainly signaled that it does not have any intention of pursuing diplomacy when it defined the South China Sea as its “core national interest.”
At the same time, China has reacted strongly to the joint US-South Korean naval exercises in the waters around South Korea. Coming after the sinking of the South Korean naval ship Cheonan by North Korea, these exercises are a warning to Pyongyang that the US remains committed to the defense of South Korea.
Chinese Foreign Ministry spokesman Qin Gang (秦剛) had earlier warned that China was “firmly” opposed to any foreign warships or aircraft conducting activities undermining China’s security in the Yellow Sea and China’s coastal waters.
However, China is unwilling to exercise its leverage on Pyongyang to draw it back from its brinkmanship. Indeed, North Korea is ratcheting up its rhetoric by warning of a “physical response” to new US sanctions.
US Secretary of State, Hillary Rodham Clinton said at the recent ASEAN Regional Forum gathering in Hanoi that, “peaceful resolution of the issues on the Korean Peninsula will be possible only if North Korea fundamentally changes its behavior.”
That does not look like it is happening soon, if at all, while China looks the other way. North Korea’s belligerence, as well as China’s assertive claims to maritime areas in the South China Sea and elsewhere, is causing great concern in Japan. The US is also worried about China’s expansive claims to regional waters, now backed up with its blue-water fleet.
A Japanese government panel has reportedly recommended deploying more of its armed forces in coastal areas where Chinese naval traffic has increased.
The panel also recommends a more active role for Japan in its alliance with the US. The report, as quoted in the Yomiuri Shimbun, says: “From the viewpoint of strengthening the Japan-US alliance, there should be political will … to allow [Japanese forces] to attack missiles bound for the United States.”
In other words, the recommendation is for the further strengthening and tightening of the US-Japan security relationship.
China is pursuing a policy of laying claim to as much of the Asia-Pacific region (whether as sovereign territory or a sphere of influence) because it can get away with it. Most of its neighbors, even when they dispute China’s claims, are not inclined to stand up to Beijing because of its growing power.
The US seems to have lost its bravado. China wants to push the US out of the Asia-Pacific region and if the US does not take a stand on issues like the South China Sea, it might find itself pushed out of the region.
At present, the US has two loyal allies in the region — Japan and Australia. In the case of Japan, unless the US asserts its regional role and presence, Tokyo might feel abandoned and start adjusting itself to a China-dominated region.
As for Australia, its medium and long-term future looks like it will serve as China’s quarry, with Beijing eventually able to dictate Canberra’s policies.
Sushil Seth is a writer based in Australia.
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