Thinking of exiting China? Think twice

China’s potential sphere of influence accounts for over half the world’s population. Exiting China potentially puts those areas off-limits.

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As U.S.-China relations worsen, the world is heading towards bifurcation, forcing countries to decide whether they’re pro-USA or pro-China. Each superpower is carving out a sphere of influence, fostering economic, technological, and military cooperation with friends while limiting relations with the “other side.”

For multinational corporations caught in the middle, a bifurcated world means that “Made in USA” won’t work in China, while “Made in China” won’t fly in the U.S. But multinational corporations (MNCs) cannot afford to embrace one market over the other. Instead, they must find ways to navigate what looks like a new Cold War.

While sometimes dismissed as saber-rattling, the Biden Administration’s recent tone on China appears genuine. Moreover, the economic and geopolitical context has shifted: Renewed COVID-19 lockdowns in China have fractured supply chains. Tensions over the South China Sea and Taiwan are increasing. And China’s “no limits” partnership with Russia continues despite the war in Ukraine.

In a recent speech at the Atlantic Council, Treasury Secretary Janet Yellen touted “the friend-shoring of supply chains to a large number of trusted countries” in order to “lower the risks to our economy.” Her comments came despite the obvious risks of trading exclusively with like-minded nations. At the outset of the pandemic, the U.S. depended heavily on China’s supply of personal protective equipment. Russia remains a vital energy supplier to many U.S. allies.

Yet the momentum is behind U.S.-China separation. In a recent Morning Consult poll, 60% of Americans and 79% of Chinese viewed the other as either unfriendly or an enemy. In Congress, the proposed America COMPETES Act aims to form an alliance among the U.S., the European Union, and other democracies to reduce supply-chain dependence on China. The legislation has bipartisan support, as do other bills that would restrict Chinese investments in U.S. technology companies, require approval for U.S. businesses to invest in Chinese projects, and use only American-made parts in Department of Defense contracts.

This anti-China sentiment undoubtedly comes from “America’s deliberate strategy of changing the economic environment for China as the competition between the two nations intensifies,” Jack Gao, program economist at the Institute of New Economic Thinking told me.

China is returning the favor. President Xi Jinping has promised, “We will enhance the global value chain’s dependence on China and develop powerful retaliation and deterrence capabilities against supply cutoffs by foreign parties.” Xi’s government is spending billions in well-advertised programs, such as Made in China 2025 and Dual Circulation, to reduce its heavy dependence on foreign semiconductor technologies, commercial aircrafts, industrial software, agricultural products and energy.

Seeing the writing on the wall, Chinese companies have been preparing. As a consultant, I took Chinese furniture, textiles, and automotive companies to Mexico, Ireland, Poland, and Costa Rica to dilute their business risks. Manufacturing in, say, Ireland, costs up to 30% more than in China—but it’s a necessary evil when “Made in China” is a four-letter word in some countries.

Kenneth Rapoza, a senior contributor to Forbes who has covered China since 2011, believes that it’s not about choosing sides. “It’s about diversifying supply chains and lowering risk,” explains Rapoza. “China has become the Tom Brady for American supply chains. Brady won’t play forever.”

Rapoza contends that U.S. companies need backups to prepare for China’s “retirement” especially for such critical goods as rare earths, drugs, solar and semiconductors.

Many MNCs are asking: Is it time to exit China altogether? My answer is a resounding NO.

MNCs leaving China lose out on the world’s second-largest economy, with 800 million middle-class consumers and almost 20% of the world’s gross domestic product. China’s potential sphere of influence accounts for over half the world’s population. Exiting China potentially puts those areas off-limits.

MNCs should instead follow the example of Chinese companies and find ways to mitigate the geopolitical risks. To combat a U.S.-China economic decoupling, MNCs need to maintain a presence in China but also operate within America’s sphere of influence.

Apple’s two major subcontractors are already moving in this direction. Foxconn and Pegatron still have major operations in China but are considering adding manufacturing capabilities in Mexico. Pegatron is contemplating a $1 billion investment in Vietnam to produce iPhones.

A complicating factor is uncertainty about which countries ultimately will side with the U.S. Take the Russian invasion of Ukraine. India, the world’s largest democracy, has remained neutral and continues to purchase Russian crude oil. Asia’s second-largest democracy, Indonesia, South America’s most populous country, Brazil, and even Mexico all abstained from voting to remove Russia from the U.N. Human Rights Council.

Beijing based lawyer and former chairman of the American Chamber of Commerce James Zimmerman feels that “we are indeed moving forward with what looks like a two-track world but could be difficult to achieve in practice.”  Countries will make their decisions based on “what they can get out of a U.S.-centric versus a PRC-centric world, and no one wants to give up either.”

With the two most powerful countries advocating for supply-chain independence, the world is heading towards economic bifurcation. The only questions are which superpower will shed its dependence first and which countries will side with which camp. The answers will determine the course of this new and very different Cold War. MNCs need to prepare for all possible outcomes.

Stanley Chao is the author of “Selling to China” and the managing director of All In Consulting, assisting companies that do business in China. Please follow Chao at @stanleychao6.

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