What Do You Do With A Problem Like China?

India and China smoked the peace pipe on the sidelines of the BRICS summit in Kazan, buying some crucial time in their epic face off. EPISODE #200

Dear Reader,

A very happy Monday to you.

Last week India and China agreed to wind down their four-year old face off along the Ladakh region. Everyone can breathe easy. At least for now.

Given the historical trust deficit, India will not lower its guard. At the same time, India cannot and will not—unlike in the case of Pakistan—ignore its neighbour, the second largest economy in the world who has weaponised industrial competitiveness.

This begs the question: What do you with a problem like China? You need them, but do not and cannot trust them.

I will unpack India’s dilemma in what is coincidentally the 200th issue of this newsletter. Indeed, a remarkable milestone that could not have been achieved without your support dear reader. Looking forward to your continued participation.

Happy reading.

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The China Tango

On the sidelines of the BRICS (originally, this acronym stood for Brazil, Russia, India, China and South Africa) summit in Kazan, Russia last week, India and China, engaged in a dangerous military face-off along the Ladakh border for the last four years, smoked the peace pipe.

Leaders of the two countries, Prime Minister Narendra Modi and his Chinese counterpart Xi Jinping, endorsed the agreement announced by their foreign ministries just a day before their meetings. The cornerstones of the deal, in order are: disengagement, deescalation and deinduction.

The 3Ds articulate a calibrated winding down of the face-off, which at moments risked escalation of a full blown conflict between the two Asian neighbours. With this deal both sides have agreed to pull back from the brink. More importantly it has bought crucial time for both countries.

In case you wish to come upto speed on the nature and nuance of the agreement, I would recommend you watch Nitin Gokhale, editor-in-chief of StratNews Global and BharatShakti. Sharing the link below.

Given the history of trust deficit with respect to China—which has on several occasions attacked India and lent support to Pakistan, India’s western neighbour orchestrating repeated terror attacks against India—India is unlikely to lower its guard.

And, it should not. In geopolitics, especially for India, there are no permanent enemies and certainly no friends—at best you can stitch a strategic alliance of mutual convenience.

Indeed, while this is the truth of the matter, there is also another compelling aspect to engaging China. As the world’s second largest economy (estimates vary between $14-17 trillion), with leadership skills in emerging technologies like Artificial Intelligence, Electric Vehicles, Solar Power and so on, besides its domination of global manufacturing and the ability to roll out state-of-the-art infrastructure, India cannot afford to economically disengage from its neighbour.

Similarly, the Modi-Xi deal is a reluctant acknowledgement by China of India’s growing prowess on the global stage. As the saying goes: Keep your friends close, and your enemies closer.

The current stage of geopolitics is such that China is battling hostility from the West and growing structural challenges in its economy. This puts China in a vulnerable spot. Hence prudence demands that it prioritises its strategic interests.

On its part, India has to manage a dilemma: It cannot trust its neighbour, yet it needs to access technology, intermediate goods from China to feed its own ambition of transforming into a developed economy by 2047.

More importantly, India cannot view the relationship through binaries inspired by nationalistic rhetoric espoused in some quarters. It has to acknowledge the reality and be pragmatic in its choices.

Protectionist measures, unless well thought out, may come back to bite the Indian economy, which is still a work in progress. In this regard, India’s recent actions suggest that it is choosing pragmatism over grandstanding.

Neighbour’s Envy, Owner’s Pride

The harsh reality of China’s economic might is visible in the size and nature of its trade balance with India. Check out the graphic above. While India’s exports to it have either declined or at best remained stagnant, imports from China have surged in the last five years.

In short reducing dependence on Chinese imports is an easy claim to make, but difficult to implement.

Take for example India’s lithium imports. The graphic below clearly demonstrates that in 2023-24, little under two-thirds of India’s imports accrued from China. The same narrative plays out for imports of electronics, telecom and electrical products from China.

Official research carried out by the finance ministry reveals the magnitude of India’s challenge: In two years ended 2022, China’s share of foreign inputs purchased by India surged from 5% to 23%.

Elaborating this in an oped published in Mint, Anantha Nageswaran, India’s chief economic advisor said,

“Indian sectors that are most exposed to foreign intermediates include basic metals, transport equipment, electrical equipment, coke, refined petroleum and nuclear fuel. Further, on a look-through basis, China on average accounts for 23% of all foreign inputs sourced. This is more than three times higher than the next highest supplier, the US, which accounts for 6% of all foreign inputs sourced.

This exposure exercise, done for 2012 and 2000 as well (apart from 2022), reveals an increase in India’s look-through exposure to China across the decades, even though face-value exposure shows a decline. Between 2000 and 2022, China’s share of foreign inputs purchased by Indian manufacturers rose sharply from 5% to 23%.”

Anantha, then goes on to share prudent advice on how India needs to keep the import lines open, even as it invests in ramping up domestic capability.

“Our analysis shows that the story of India’s exposure to various nations, like the intricacy of GVCs (Global Value Chains) themselves, is much more nuanced than what meets the eye. An exercise of understanding exposures along GVCs can improve risk preparedness by identifying the range of essential sectors that could be prone to geopolitical shocks.

Second, to the extent that some of this exposure seems unavoidable for some time to come, it may be useful to examine the ways in which the risks of such dependence could be mitigated. Is it less risky to source the inputs through trade or by onshoring their production by encouraging foreign direct investment in India?”

In a previous newsletter, I have highlighted how China has made itself integral in global supply chains for green minerals required for the manufacture of EVs. Sharing it below, in case you wish to re-read it.

In the final analysis it is clear that India has done well in pushing for miltiary truce with China and keeping the economic lines open. It is unlikely that India will lift the curbs on strategic technology imports, especially in sectors like telecom. India will oppose China’s efforts to weaponise its trade deficit to flood the Indian market with their exports.

The onus is now clearly on India Inc. The government has done its bit for policy. It is time they stood up and be counted. Worryingly, they are still dragging their feet on investments, preferring to earn profits from passive investments in financial assets compared to creating new physical assets.

Time for a rethink, if not a reset in mindset.

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Recommended Viewing

Sharing the latest episode of Capital Calculus.

Till as recent as 2016, Indians preferred saving in cash and bank deposits. The proportion of cash and bank deposits in total household financial assets was a staggering 81%. Last year this has dropped to 46%.

Further, this did not happen in isolation.

• Demat account holders grew more than four-fold to 17.50 crore in the last five years;

• There are 9.34 crore mutual fund SIP accounts;

• Proportion of retail investors in equity cash segment turnover grew three-fold to 36% in 2023-24;

• In the last decade, individuals disclosing over Rs1 crore in annual income rose five-fold to 2.3 lakh.

To unpack this profound makeover I spoke to Srinivas Jain, Executive director & Head of Strategy at SBI Funds Management. Patiently, he walked me through the transformation and shared terrific insights. Do watch.

Sharing the link below:

Till we meet again next week, stay safe.

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Thank You!

Finally, a big shoutout to Gautam and Premasundaran for your informed responses, kind appreciation and amplification of last week’s column. Once again, grateful for the conversation initiated by all readers. Gratitude to all those who responded on Twitter (X) and Linkedin. 

Unfortunately, Twitter has disabled amplification of Substack links—perils of social media monopolies operating in a walled garden framework. I will be grateful therefore if you could spread the word. Nothing to beat the word of mouth.

Reader participation and amplification is key to growing this newsletter community. And, many thanks to readers who hit the like button😊.