Internationally, it’s fine; domestically, less so. As issues mount, Beijing should use this lull to address them, or they’ll become impossible. Unless the world goes to hell in the next couple of years.
The forthcoming summit between US President Donald Trump and his Chinese counterpart, Xi Jinping, is no G2. They won’t try to divide the world between them or join hands to solve its problems. One seems busy upending the system it set 80 years ago, while the other seems to do nothing to stop it. Its attitude may mirror that of Chinese youths toward their society—fang lan, let it rot.
Scott Kennedy argued[1]
“Although Trump and Xi will outwardly get along, this is not a G2. They are finding a way to manage the bilateral relationship, but they are not whatsoever working together as co-stewards of the international order. Nor is either interested in providing substantial public goods to provide conditions for a more enduring stability.”
Behind the “G2” formula touted by journalists worldwide, there is a right consideration. China is reaching the summit with unprecedented success. Xi can present himself as the first-ever head of China able to confront the US on equal terms.
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Xi’s recent visit to India wasn’t a major success; there was no bilateral meeting with India’s Prime Minister Narendra Modi. It was a stopgap that prevented the situation from deteriorating further. Similarly, the US visit won’t include a long list of deliverables, but it is expected to restart mil-to-mil dialogue and begin discussions on AI controls.
Against the backdrop of the trip, the blockade of the Strait of Hormuz and the Houthis’ threat at the Strait of Bab el-Mandeb could produce a real global oil shock, wrecking US domestic consensus and poisoning ties with allies in the next weeks or months. It wouldn’t be the end of the world. US production, along with Venezuela’s and Nigeria’s, could replace Gulf supplies; but the substitution could take a couple of years.
According to opinion polls, the midterm elections should give the Democrats a majority in Congress, possibly even in the Senate. Even if that doesn’t happen, bipartisan diatribes could spiral out of control, with contested votes, inquiries, and two wars in Russia and Iran, all difficult to rein in.
Over the next couple of years, the Chinese expect the USA to be embroiled in growing controversies and infighting. Meanwhile, the President will be a lame duck, with only about 20 months of power left.
China thus expects America to have no brain-width to focus on Asia as it deserves. China doesn’t need to make life complicated for the US, but neither does it need to solve the problems America created for itself, Beijing may think. It could all mean a smooth ride until the party Congress scheduled for autumn 2027. China may just need to avoid rocking the boat.
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Yet the country presents a contradictory record. It is at a crossroads of practical and theoretical long-term problems. Without properly addressing the underlying plights, Xi’s victory today may look like the Qing Emperor’s refusal to trade with England at the end of the 18th century.
That refusal led to the Opium Wars and the dynasty’s fall. Many things are different now; still, one element remains the same – China’s persistent difficulty in fully integrating into a global system. Ultimately, this caused the fall of both the Ming and Qing dynasties, about two hundred years apart.
Chinese domestics
A big problem is the economy, ying daoli, the hard reason, as Deng put it.
In 2004, with Professor Francesco Giavazzi and China’s State Council, the Institute of Italian Culture in Beijing organized a conference on major economic trends, where I met Robert Mundell and later his son, Bill Mundell. In the years before and after the 2008 financial crisis, I helped Mundell in many meetings with senior Chinese officials. China, with its exchange rate on a crawling peg to the US dollar, was concerned about the Mundell-Fleming trilemma.
Here is a reasonably accurate, AI-generated account. It may be useful to follow the Chinese plight:
“The trilemma (also called the “impossible trinity”) says a country can’t simultaneously have all three of these:
- Free capital flows — money can move in and out of the country without restrictions
- A fixed exchange rate — the currency’s value is pegged to another currency
- An independent monetary policy — the central bank sets interest rates based on domestic goals (inflation, employment) rather than external pressures
You can pick any two, but not all three.
Why you can only have two:
If capital can move freely and the exchange rate is fixed, then interest rates in your country are effectively pinned to interest rates abroad. Here’s why:
- Suppose your central bank wants to lower interest rates to stimulate the economy (exercising independent monetary policy).
- If capital flows freely, investors will immediately move money out of your currency (now offering a lower return) into foreign assets.
- This selling pressure pushes your currency’s value down.
- But you’ve committed to a fixed exchange rate — so your central bank must intervene, buying up your own currency using foreign reserves to defend the peg.
- This intervention drains reserves and effectively undoes the interest rate cut, because to keep defending the peg you’re forced to tighten again.
So the three goals collide:
- Fixed rate + free capital → you lose independent monetary policy (interest rates get dictated by the anchor currency)
- Independent monetary policy + free capital → you lose the fixed rate (currency floats to absorb the interest rate differential)
- Fixed rate + independent monetary policy → you must restrict capital flows (capital controls), otherwise arbitrage forces one of the other two to give
Real-world examples:
- Hong Kong: fixed exchange rate + free capital flows → no independent monetary policy (it largely imports Fed policy)
- Eurozone members: fixed rate (shared currency) + free capital → no independent monetary policy (set by the ECB)
- China (historically): fixed/managed rate + independent monetary policy → capital controls
- US, UK, most floating-currency economies: free capital + independent monetary policy → floating exchange rate absorbs the pressure.”
Or perhaps, even simpler for China: if you want free capital flows, you have to account for global factors and adjust your interest rates to market conditions. Therefore, you lose the solid foundations of a fixed exchange rate. Or if you can fix your exchange rate to another currency, such as the US dollar, as is the case with the RMB, then your monetary policy will be largely influenced by the US.
Chinese officials kept on asking the same questions, in different ways: could China get around the trilemma?
No way, Mundell told them. China eventually decided to give up free capital flow, which was little trouble in the short term but bigger trouble in the long term.
The Chinese were worried about being carried around by the dollar’s fluctuations, to which they had a crawling peg, and Mundell recommended buying gold as a counterweight.
Still, as Mundell warned, capital controls make the temptation to draw on internal debt too strong to resist, especially when doing so subsidizes exports and improves technology for dual purposes. This also externalizes China’s problems, drawing resources and jobs away from the world and into China. To compensate, you can boost domestic consumption or deflate your economy. China chose the latter.
China can maintain fixed rates and independent monetary policy and draw on its and the global coffers as long as the world doesn’t revolt against it, or it explodes. In either case, China explodes with it.
Even without an explosion, there is the matter of Chinese assets abroad. They are necessary for its exports, but that complicates the accounting.
So, what is China’s grand plan? Survival? Becoming a strong country? Navigating choppy waters until things fall into place? But how, by ruining the world and itself? After all, maybe political economy is politics with numbers, and the numbers have to be squared away.
Theory problem
Then there are big theoretical questions. How should the Party rule the country? And what is its position in the world? Here we reach the heart of the Party’s ‘theological’ problem. Marxism is a theory of taking power; Confucianism is a theory of staying in power. As the Grand Historian Sima Qian quipped almost 2,000 years ago, the methods of holding power differ from those of taking power.
Chinese leaders knew it and tried to address the problem. Mao ruled with communist ideals. After an initial burst of enthusiasm, it eventually failed because people can’t eat beautiful ideas.
Deng simply said: get rich. Then money, real or imagined, bought widespread consensus. But it wasn’t enough, because even getting rich requires rules, ethics, and morality. Cheating, running weapons, dealing drugs, and trafficking slaves are ways of getting rich, but they are inadmissible in modern capitalist societies, which are grounded in strong ethical and legal foundations. Deng’s people had to provide a legal framework (based on some ethical principles) for the new society. They didn’t. The society was torn apart by ‘corruption’ (whatever it may mean) and a yawning social gap.
In the early 1990s, during a conversation with some Chinese and American friends in Beijing, a young Chinese man denounced Mr. So-and-So for corruption because he sublet an apartment assigned to him by his work unit. The Americans argued, “This is no corruption; this is the free market”: he had the apartment, and he could do what he wanted with it. Different perceptions?
The real point was the shift in ethics from egalitarian socialism to unequal capitalism, and the lack of well-defined legal frameworks specifying what was legal or illegal.
The Party still didn’t like “capitalist ethics”; they didn’t like laws that could constrain Party power. So where could they go eventually? They turned to old Confucianism.
Incidentally, about a century ago, KMT president Chiang Kai-shek faced the same problem. After a first timid attempt at some kind of westernization, he promoted neo-Confucianism. They are oblivious to the May 4 Movement (from which China’s modernization started), which correctly, in my view, blamed Confucianism as the root cause of the nation’s decline.
On the other hand, any nation must have roots in its history; otherwise, it won’t go anywhere. The way should be to spin the past into the future. Japan and South Korea are brilliant examples of how they achieved this. But they, unlike China, didn’t have to go through Marxism.
That passage complicates everything because Xi can’t just deny Marxism. Thanks to a Marx-Leninist revolution, he’s now in power. But he can’t hold to power with a theory about revolution. Here, the short circuit and the oddities of the present situation.
The Party now muddles through this swamp with a formula that, in a nutshell, mixes material incentives (some market economy still working) and new ideals of glory and greatness (that work for the top people close to the President and for people at various levels below).
The rest will be handled through Party discipline. It also has problems of its own.
Discipline
The discipline issue is always crucial but even more so in preparation for the Party congress next year. Officials can present their objections individually, not as a group. The Party’s senior cadres are not allowed to have meetings among themselves without explicit permission from above.
Of course, there are many ways around this, but there are also many controls, and if found out, the “conspirators” are liable to be considered seditious and be punished accordingly.
This ensures Xi’s full control of the agenda. You have an idea, an objection? Fine, tell me, and I will judge it and accept or refuse it.
The mechanism ensures compliance and conformity. Still, Xi has to tread carefully; even without full opposition, cadres may be reluctant to enforce policies they dislike. They can be slow, passive, and not proactive, and may apply orders minimally.
It becomes a work of mutual second-guessing. Cadres try to figure out what the boss wants to hear (to curry his favor), but they also implement his directives cautiously, fearing “mistakes” and risks.
Xi will try to second-guess the cadres to get them on board and keep them from dragging their feet.
Once, with Deng, everyone was united by the dream of getting rich, which was practical and personal. Now it’s about a strong nation, which is hazy and impersonal.
Of course, if many people voice objections along similar lines, it will have an impact. If it happens, fine, but if it’s coordinated, that is seditious.
The process is top-down. The system is geared to “conform above” 尚同 not “form cliques below” 下黨 as some classical text would put it. Regional cadres will watch their backs and may raise concerns with their superiors to build a case to protect themselves if they don’t meet the goals.
In Mao’s time, revolutionaries had joined the cause voluntarily, risking their lives. Yet even then, when the Great Leap Forward had turned into the “Great Famine Backward” and millions were starving to death, only a few spoke out to Mao. In the late 1950s, Peng Dehuai was punished for it, and later the others, led by Liu Shaoqi, took power away from Mao only to be purged a few years later in something else “Great” – the Great Cultural Revolution.
Now, officials join the party not out of idealism; they are not revolutionaries but career-driven, ordinary people trying to survive as best they can. Will they derail the process? And for what?
In most cases, young idealists have a difficult life in the party; most try to find a job elsewhere or are pushed aside. This is the party’s conundrum: how can you lead a bunch of opportunists with ideals? And the opposite: if they are idealistic, might they turn against their leader?
Now there’s an ideal of greatness to be pursued without the revolutionary enthusiasm of 80 years ago. And there’s no free ride to wealth accumulation. So what is left?
The positive message the Party sells is that the West and the US are in decline; we need to save ourselves from the chaos they are unleashing. The message is gaining traction.
For the time being it’s enough. Later, in a few years maybe, it might no longer be sufficient to hold the machine, and they’d need a different engine.
Wasting lulls
In all of this there is a lull. Because of that, many Chinese may think the alternative is to rush to war or set rules for peaceful coexistence.
Actually, there’s also a third option: radically solve the problems that are deepening the chasm between China and a large part of the world – its neighbors and clients (those buying Chinese goods).
‘Peaceful coexistence’ may not be attainable.
The world is one. Either China stops exporting and importing, or it exports its problems and imports the world’s. Therefore, there will be no peaceful coexistence, but China’s total isolation or an unstoppable escalation of tensions.
The lull, the ‘peaceful coexistence,’ trades today’s “debt” for tomorrow’s larger debt. In the end, the debt collector will want your head, not just your kneecaps.
China should think long and hard about how to solve the problems without making them worse. Otherwise, it simply trades a small war today for a bigger war tomorrow.
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On the other hand, the US faces two types of commercial challenges: one with allied countries that produce high-quality goods and have fully convertible currencies, and another with China, which produces lower-cost goods, is politically adversarial, and lacks a fully convertible currency.
To reach an agreement with China and minimize the thorny points, the US has so far lumped both China and its allies into the same commercial basket. But sooner or later, it might want to separate the two, as they are apples and oranges.
In fact, the transatlantic distance is growing shorter than it appears. The US was concerned that Europe was dragging its feet, refusing to shoulder its military burden, and that it didn’t share America’s focus on Asia, instead viewing Russia as the main problem. For these reasons, the US considered Russia a possible ally to turn against China, even at the expense of European interests, even after the war in Ukraine. The strategy ran counter to European priorities—to be cooler toward China while remaining deeply concerned about Russia.
But the USA is realizing that Russia may be impossible to turn, and Europe is coming to believe that Russia would have collapsed without Chinese support. So, the real problem is China, not Russia. That is, the two Atlantic shores are strategically converging on their aims.
Therefore, tensions could escalate again unless someone attempts to de-escalate and seeks a real solution. In the first Cold War, there was no real way out: Communism’s raison d’être was to destroy capitalism, so capitalism had to defend itself. There was no middle ground.
Now, in theory, China’s raison d’être is not to destroy capitalist countries. But it’s in a corner, and it may feel that its survival might come at everyone else’s expense.
It doesn’t need to be like that. A solution could be found with China. But the situation grows more convoluted by the day, and the current account is only superficial. Will some power try to sort it out? In theory, it should be in everyone’s interest. China is integrated into the world economy, unlike the USSR, whose fall boosted markets with the prospect of worldwide expansion. China’s collapse could rock the world as we’ve known it for the past 40 years. Yet most people are fed up with trying and have given up hope. Still…
(Some of these ideas were developed in conversations on Chinapol, for which I thank them)
[1] https://www.csis.org/analysis/us-china-summit-too-big-and-too-small-fail
