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What if …? Economic consequences for Australia of a US–China conflict over Taiwan

Posted By on June 23, 2021 @ 06:00

The possibility of a military conflict between China and the US over Taiwan is receiving greater attention from both military strategists and political leaders, but there has been little focus on the likely economic consequences.

A new ASPI report examines the implications for the Australian economy should its trade with China be severed in the event of a conflict. It shows there would be widespread loss of employment, along with consumer and business shortages that could only be managed with rationing.

While mining and agriculture would bear the brunt of the loss of export markets, the loss of China’s imports would cause severe disruption to the retail, construction and manufacturing industries.

A conflict between the two most powerful nations, which would inevitably also draw in the US network of allies, would strike a massive blow to the global economy and would be accompanied by financial turbulence. The loss of Australia’s bilateral trade with China would be just one element in the economic fall-out; however, the analysis exposes particular Australian vulnerabilities.

Australia is much more dependent on China than China is on us. China’s share of Australia’s goods exports reached a peak of 47% in May 2020, before the Chinese authorities began imposing trade embargoes.

Australia’s share of China’s exports, by contrast, is just 2%. China’s trade is highly diversified: apart from the US and Japan, no country takes more than 4% of its exports.

Australia is more important as a supplier to China, accounting for 7% of its imports of goods. This ranks Australia ahead of both the US and Germany in the importance of its goods trade to the Chinese economy and only slightly below the share of China’s goods imports provided by South Korea (9%) and Japan (8%).

Australia’s exports of iron ore and liquefied natural gas are crucial inputs to Chinese industry, but we’re also an important supplier of goods across the spectrum of mineral resources, agricultural products and food. However, the importance of China’s supplies to Australia is far greater still. China accounts for just under a third of Australia’s goods imports.

The intensity of Australia’s trade relationship with China is recent and grew suddenly in the wake of the global financial crisis. In late 2008, China’s share of Australia’s goods exports was just 13%, far below that of Japan, which had just peaked at 29%.

By 2015, China was taking 30% of our exports. Strong commodity prices lifted China’s share of our exports above 40% by 2019.

China’s role as a supplier to the Australian economy also rose rapidly. It overtook the US as Australia’s largest single source of goods imports in 2007, and its share of our imports rose from 15% in 2008 to 20% by 2016 and 30% by 2020. This is double its share of world trade.

While Australia’s exports to China are heavily concentrated in a few key sectors, the most striking features of China’s exports to Australia are their broad spread across a wide range of industries and the dominant share they hold.

According to the UN statistics agency, Comtrade, Australia imports 100 different goods from China with sales of at least $100 million and 1,603 different goods with annual shipments worth at least $2 million. By contrast, we export 42 goods to China with annual sales of at least $100 million and 291 goods with sales of more than $2 million.

For many of those imports, China holds a large share of world trade. A shutdown of Australia’s trade with China would cut essential supplies for businesses, which they would have difficulty replacing in the midst of a crisis.

The UN data shows that China holds at least half of Australia’s import market for more than 40% of the huge range of products for which it has annual sales in Australia of more than $2 million.

The loss of a supplier with a market share of 50% or more would leave most businesses struggling to find adequate replacements. In markets in which China accounts for half of Australia’s imports and also holds at least 40% of world trade, Australia’s supplies would clearly be vulnerable.

China holds a dominant share for 68 of the top 100 goods it ships to Australia, while it controls at least 40% of the world market for 27 of those goods.

Iron ore is Australia’s only export that represents a strategic vulnerability for China. China has vast low-quality iron ore reserves of its own and as recently as 2014 was producing 1.5 billion tonnes of ore.

China’s output dropped by more than a third over the six subsequent years, as Chinese mills preferred higher quality Australian and Brazilian ores, enabling lower air pollution and greater operating efficiency. In a conflict, China would revert to domestic low-quality ore. It would take time for it to bring mothballed domestic iron ore mines back into operation and total steel production would fall.

The report’s central recommendation is that the federal government should make the diversification of Australia’s trade a priority. Australia has accumulated an impressive array of bilateral and regional trade agreements over the past eight years, but, with the exception of the agreement with China, there’s been little follow-up.

Since the Abbott government sealed its free trade agreements with Japan and South Korea in 2014, our imports from Japan have risen by only 25%, while our purchases from South Korea have fallen by 2.3%. Imports from Singapore, with which Australia has had a free trade agreement since 2003, fell by 17% between 2014 and 2019 (pre-Covid), while imports from New Zealand were down by 1%. Our imports from China rose by 52% in that period, highlighting its success in winning market share. Our exports to other free trade partners have also shown little growth, while sales to China have soared.

The federal government should appoint an assistant trade minister charged with trade promotion and actively pursue trade missions with free trade agreement partners. It should back that drive with real resources. In a radical break with past practice, the government’s trade promotion should include imports as well as exports.

The government should work with business to improve understanding of the need for diverse supply lines and markets. Government can learn from the effectiveness of the quiet work undertaken by the Critical Infrastructure Centre with the operators of infrastructure assets to improve their resilience to disruption.

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[1] new ASPI report: https://www.aspi.org.au/report/what-if