The Price of Nostalgia
America’s Self-Defeating Economic Retreat
Ever since Europe imposed sanctions on Russia for its invasion of Ukraine, Moscow has held high hopes of countering them by strengthening its alliance with China on energy, defense, and agricultural trade and investments. Such partnerships would have made up for the loss of Russian energy exports to and food imports from key European countries, dampening the effects of the sanctions, and would have also shown the West how easily it can be replaced.
Unfortunately for Moscow, this strategy has failed. Russia has been unable, despite its efforts, to sufficiently step up trade and investment with China in its hydrocarbons, nuclear, and defense industries, among other things. To be sure, Russia has made several deals with China that, when implemented, could see oil and gas trade skyrocket. But the construction of two gas pipelines—the “Power of Siberia” and “Altai”—intended to bring gas from Siberia to parts of China have been postponed to the 2020s. To make matters worse for Moscow, low oil and gas prices have cast doubts over these projects’ profitability, and Russian energy companies, constrained by the Western sanctions regime, are also struggling to develop oil and gas fields in eastern Siberia.
Russia is thus finding itself as one of many producers—including Angola, Equatorial Guinea, Iraq, Turkmenistan, and perhaps, soon, Iran—that are helping China diversify its energy sources, while Beijing continues to maintain its deals with traditional suppliers on the Arabian Peninsula and in Southeast Asia. In essence, rather than playing Europe by engaging with China, Russia is getting played by China. All the while, the bulk of Russian energy exports continues to flow west and Sino–Russian energy ties, toothless as they are, pose no threat to EU energy security.
Russia had also hoped to increase its exports of weapons and defense technology to China or at least maintain exports at the early 2000 levels, which was $2 to $3 billion per year. Although Russia remains China’s most important supplier, Russia is losing market share as Beijing has reduced its expenditures on arms imports by half over the last decade in favor of locally built weapons, according to a recent report by the Stockholm International Peace Research Institute. Although the Chinese People’s Liberation Army still buys key military parts from Russia—jet engines, radars, naval guns, and missile components—imports now account for less than five percent of China’s military procurement, down by at least one-fifth from what they were in the early 2000s.
In order to remain competitive, Russia reluctantly decided in 2015 to offer China its most modern military technology: the Sukhoi Su-35 fighter jets and S-400 anti-aircraft missile systems. Russia had dragged its feet when it came to selling such sophisticated technologies because it did not want China to be able to reverse-engineer them and further hasten the decline in Russian imports.
With its focus on homegrown military equipment, meanwhile, China has turned into a major arms exporter in its own right. It is now the world’s third-largest exporter, which puts it in direct competition with Russia, which is the second largest. Although most Chinese arms go to customers in Asia—such as Bangladesh, Myanmar, and Pakistan—China is also the number one supplier of African navies, with customers, for example, in Algeria and Nigeria, and it sells successfully to other traditional Russian customers such as Iran and Venezuela.
Apart from an overlapping customer base, Russia and China compete within the same price bracket—as suppliers to developing to middle-income countries. And China could have more of an edge since it appears more willing to share top-shelf technology; it recently sold armed drones to Iraq and Nigeria. Moreover, China tends to incorporate arms deals into more comprehensive bilateral agreements involving infrastructure investments and soft loans, making the deals even more appealing, which provides cash-strapped governments with further reasons to choose Chinese suppliers.
WISHFUL THINKING ON TRADE
Over the last year, China and Russia have made some attention-grabbing deals. In December 2014, in the face of Western sanctions, China came to Russia’s aid by offering a large currency swap to help provide liquidity for bilateral trade. In 2014, China became Russia’s largest lender, loaning it $11.6 billion. But on closer examination, it turns out that the current Chinese credit flows, or available credit, only amount to half of what the United Kingdom provided Russia in 2013 before the EU sanctions regime hit.
The currency swap also failed to do much to help Russia or even propel—as Russian media would like to suggest—the end of the U.S. dollar dominance. It could help finance bilateral trade and thus stimulate the Russian economy, but there has been paltry demand from Russian companies for the kind of short-term financing in Chinese renminbi that the swap agreement allows for. Further, since 2006, Russia’s share of Chinese overseas direct investment has gradually declined. In other words, it was unsurprising that the two countries missed their $100 billion target for Sino–Russian bilateral trade in 2015 by a mile, landing at a mere $64.2 billion.
Even so, Russia risks becoming too dependent on China. Take the series of substantial loans Beijing has made to Russian energy companies since its financial crisis. The latest one, between the Russian natural gas company Gazprom and the Bank of China, was for $2 billion. Rosneft, a Russian government-owned oil company, is much more exposed to Chinese institutions, having received about $35 billion in debt-like prepayments over the last three years, which it is obliged to repay in oil. At the same time, sanctions limit the access of these strategic companies to Western loans. Already, the effects of Russia’s dependence are clear. Consider, for example, Moscow’s recent declaration that One Belt, One Road, China’s initiative to connect Eurasia, and Russia’s Eurasian Economic Union, will become an integrated economic bloc. After a meeting with Chinese President Xi Jinping in Moscow in May 2015, Russian President Vladimir Putin noted that “[t]he integration of the Eurasian Economic Union and Silk Road projects means reaching a new level of partnership and actually implies a common economic space on the continent.” Given that One Belt, One Road is not Russia’s to lead, creating such a space would force Moscow to cede much more political power in Central Asia to Beijing, and accept an even higher level of dependence on China.
Other negative trends in Russian–Chinese economic relations abound. In 2015, the volume of Chinese exports to Russia fell by 34 percent. Chinese imports from Russia, which had already been declining since 2012, fell by 19 percent. Agricultural cooperation, buoyed by a $2 billion agricultural investment fund, is now touted as the great new hope. However, Russia accounted for only about one percent of China’s main imports—soybeans and corn—in 2015. Apart from the fact that China’s slowing economic growth limits its inclination for financial largesse, Chinese companies appear wary about investing in Russia.
Part of that caution may stem from the major political differences between the two countries. China disapproves of Russia’s invasions of Georgia and Ukraine, as well as its support for separatists in the region. From the Chinese perspective, Russia’s behavior conflicts with the deeply held principle of non-interference, as well as respect for territorial integrity and sovereignty. Although Beijing refrains from publicly criticizing Russia and talks up the seeming historical complexity of these conflicts as a means to avoid taking sides, it does not and will not vote with Russia at the United Nations on such issues. For the same reasons, Beijing does not share the Kremlin’s interest in military intervention in Syria.
Ultimately, the two nations’ interests diverge too much for them to form a powerful military alliance, and their relative economic positions are too unbalanced to form a Sino–Russian economic bloc in Eurasia. China sees itself as largely in the driver’s seat, giving it little reason to make concessions beyond what are absolutely necessary to preserve its current relationship with Russia.
What one finds time and again with Sino–Russian cooperation are lofty announcements that fail to correspond with the reality of a less than robust relationship. As a result, the current state of Sino–Russian relations do little to provide Moscow with any geopolitical leverage against Europe. In fact, it is the other way around. Europe has been more successful at playing the diversification game, as well as attracting investments and increasing trade with China.
For example, the gas and liquefied natural gas pipelines from Azerbaijan and the Eastern Mediterranean will likely bring sizeable volumes of energy to Europe before the Sino–Russian natural gas projects become operational. The EU has also expanded its renewable energy production and further diversified its hydrocarbon imports. At the same time, Europe’s annual overall trade volume with China has grown to more than $500 billion.
This puts Europe in the position of further strengthening ties with China and denying Russia a Sino–Russian “united front.” To that end, the EU should also seek to build ties with Asian energy consumers who share an interest in price stability within global markets and a more level playing field, such as less leverage on the side of the producers. Existing multilateral treaties and institutions, such as the broad-ranging Energy Charter Treaty—which aims to promote open and secure energy markets and non-discriminatory treatment among signatory states—should be revisited, providing new opportunities for Chinese input and ownership. Chinese participation in the ongoing reform process, as well as its ensuing accession to the legally binding treaty, could provide multiple benefits. It could help secure the enormous amount of Chinese energy investments abroad. It could increase global supply due to better investment climates and make discriminatory practices by exporters more difficult. Finally, it could improve Sino–European coordination on energy efficiency, the adoption of renewables, and the promotion of market-oriented energy prices that are also environmentally beneficial. After all, French companies in the nuclear sector have long profited from expansion into the Chinese market, and China is now active in Romania and the United Kingdom. Chinese solar giants are also very keen to tap the European market and China is seeking to learn from Europe’s gains in energy efficiency.
Russia has yet to fully realize that it is the most vulnerable and isolated corner in the Eurasian triangle. But when it does, it will be a very uncomfortable moment indeed. It may very well find that it has only one option, which is to take a more cooperative stance toward Europe. That is why it is a good idea for Europe to engage more with China right now. By doing so, it will make the sanctions more effective and further pressure Russia to make meaningful changes to its foreign policy.