India Poised to Be China’s New Engine for Growth

Having soured relations with neighboring Japan, China cannot afford to alienate Asia’s other major economy.

Quite possibly the most senseless foreign policy position China has taken over the years has been its stance toward Japan. With diplomacy concentrating on World War II issues that most of the world has now moved on from, sovereignty disputes over close to worthless islands and a rise of Chinese nationalism fueled by state propaganda, China has succeeded in alienating what remains one of the world’s largest economic powers as well as a major historic foreign investor in China and a close regional neighbor.

While Japanese investment will remain in China, the fallout from the Chinese government fueled drop off in Japanese sales to China has made the Japanese business community now feel unwelcome in the country. Consequently, future Japanese investment is looking for more sustainable, and friendly, investment relations across the rest of Asia.

A look at the emerging markets across Asia sees Japanese motorbikes and cars on the streets of Hanoi, Ho Chi Minh City, Rangoon, Jakarta, Delhi and Sri Lanka. Successful joint ventures across the region have made Japanese auto companies a dominant force throughout Asia and beyond. Even in the United States and Europe, some of the most popular brands include Toyota, Honda, Nissan, Suzuki and Mazda.

China, meanwhile, is now stuck trying to foist unwanted Volvo sedans on a domestic population that does not want to buy them and is not seeing much overseas demand for its domestic auto brands. No one wants an FAW truck except for a handful of nations in Africa and Latin America. Losing the support of the Japanese investment community was the wrong diplomatic step to take and China will pay in terms of lost opportunities to partner with Japanese manufacturers globally for this misguided approach for years to come.

In short, the lesson is this: you cannot continually beat up on one of your largest trading partners and one of the world’s largest economies without something giving way at some point. It has, and Japan, at least within the business investment community, now regards China as “unfriendly.”

This is relevant to Chinese premier Li Keqiang’s visit to India on Monday, as China three weeks ago invaded parts of Ladakh — Indian held territory in the far west near the border with Pakistan.

A three week standoff over arguments concerning the “Line of Control” ended with the Chinese leaving; a curious incident that suggests all may not be entirely satisfactory in relations between China’s military and its diplomatic and commercial ministries. It has gone unnoticed by many whose traditional view of India is that it remains poverty stricken and poor. In actuality, the country has recently overtaken Germany and Japan in terms of gross domestic product in purchasing power parity terms and sits below only the United States, the European Union and China (according to the CIA World Factbook).

China, for once, cannot afford to upset both Japan and India. Li’s visit, then, takes on some significance for Sino-Indian bilateral relations. It also comes at an interesting time in terms of their population demographics.

China is losing the worker demographic dividend — an advantage it has held over India for the past two decades. Twenty years ago, the average age of a Chinese worker was 23. Now that age is 37 and a 37 year-old worker requires assets and they expect the Chinese government to help them acquire these.

The difference between a 23 year-old worker and a 37 year-old worker is that the latter is likely married, has a child, two sets of parents, a mortgage, a car and probably wants to take his family on overseas vacations. Couple that with the child’s education — possibly with the hope of an overseas university degree — plus planning for retirement and aging inlaws and the implications become clear.

Chinese consumers are becoming more demanding at an accelerating rate as well; China is one of the world’s fastest aging nations with some 250 million — nearly 20 percent of the population — reaching retirement age by 2020. This places domestic stresses on the Chinese government which needs to keep its own population satisfied in the face of growing demand for better consumer products and services. It was feasible for China itself to satisfy that demand twenty years ago but those days are gone. China’s workers are retiring at an increasing rate and the nation is simply running out of the workers it needs to satisfy its own consumer demand.

This is why India has suddenly become such an important strategic partner for China. The average age of an Indian worker today is just 23 — the same as China’s in 1992. India is inheriting the Chinese worker dividend and China needs to put India to work just to satisfy its own domestic consumer needs.

In fact, the institutional infrastructure to put this into place has already begun. China and India are both part of the Regional Comprehensive Economic Partnership Agreement (RCEP) which includes the ASEAN trade bloc of Brunei, Cambodia, Indonesia, Laos, Malaysia, Myanmar, Philippines, Singapore, Thailand and Vietnam in addition to Australia, New Zealand, Japan and South Korea.

The RCEP does away with tariffs on thousands of products right across this region, meaning it will be possible (should your product qualify) to manufacture in India, where wages and land costs are far lower, and export to the China market duty free. Add in the bonus domestic consumer market of India itself plus that of the other RCEP nations and a meeting of minds over China’s huge consumer market — with the middle class expected to reach six hundred million by 2020 — and India’s development of a huge, young and inexpensive labor pool starts to become extremely valuable to the Chinese government.

Li Keqiang’s first goal will be to secure Indian commitments to invest in China but this may not necessarily be in the traditional sense. It may well mean by encouraging more Indian manufacturers to partner with Chinese manufacturers — in India — to then service Chinese consumer demands. I predict a huge growth in Indian-Sino joint ventures over the next few years.

In doing so, China cannot afford to mess around with India any further with border disputes as it has done with Japan in the past. In fact, China may even be prepared to back down from its long-term policy of noncommitment to any border disputes and actually decide it is in its better interests to keep India happy and drop claims on Arunachal Pradesh and other areas. China pushed Japan too far over historical war issues and disputed territories and losing the foreign investment largesse of a major investor in China was a huge mistake.

As India takes on the mantle of “world’s third largest national economy” and China runs out of workforce to supply its own consumer base, dynamic trade and diplomatic relations with Delhi are not an opportunity that Beijing can now afford to mess up or miss out on.

This article by Chris Devonshire-Ellis originally appeared at Asia Briefing, May 17, 2013.