The New Politics of Emerging Markets Debt Relief (2022)

Intensifying financial distress in developing economies is increasing the risk of economic and political instability and creating more pressure for China to engage in debt relief negotiations.

Signs of financial distress are particularly pronounced in lower-income countries, such as Ghana, even though several middle-income countries, such as Sri Lanka, have also been affected. A large number of countries, including Bangladesh, Ghana, Pakistan and even Serbia, have in recent months requested financial assistance from the International Monetary Fund. Many lower-income countries do not have a sovereign debt rating, but among those that do, many are rated CCC or below by Fitch Ratings or Moody's Investors Service, indicating a high level of default risk. This group includes Argentina, Belarus, Cuba, the Democratic Republic of the Congo, Ecuador, El Salvador, Ethiopia, Ghana, Grenada, Laos, Lebanon, the Maldives, Mozambique, Puerto Rico, the Republic of the Congo, Russia, Sri Lanka, Suriname, Tunisia, Ukraine and Zambia. Another 30-odd countries are rated single B, indicating a lesser but very substantial default risk. The spreads on ten-year sovereign credit default swaps, a financial instrument investors use to insure against default, exceed 1,000 basis points in more than 25 mostly lower-income countries, similarly pointing to the risk of imminent financial distress.

This increase in financial risk is happening because many developing countries entered the current global monetary tightening cycle with high levels of debt. The risk of financial distress and debt defaults has increased due to deteriorating global economic and financial conditions. The COVID-19 pandemic forced many low- and middle-income countries to increase government expenditure against the backdrop of slower economic growth, contributing to higher government debt levels. Many countries also over-borrowed externally, leading to higher foreign debt levels. Last but not least, many countries also are faced with high food and energy prices, making it difficult for governments to adjust macroeconomic policies sufficiently to preserve financial stability. Markets expect U.S. short- and long-term interest rates to continue to rise, which means that financing conditions for developed economies are becoming more challenging, as their debt service and roll-over risk increase. The dollar has strengthened considerably in recent months. This increases the debt burden of developing countries in local-currency terms and contributes to a further tightening of financial conditions, not least via reduced capital inflows and/or capital outflows. The increasing risk of a global recession, combined with the efforts of the U.S. Federal Reserve and the European Central Bank to stamp out inflation, risks leading to a sharp downward adjustment of commodity prices. This will weigh on the economic and financial outlooks of low-income countries, most of which are commodity exporters.

Because of this growing economic and financial distress, many countries will be forced to request international financial assistance, as well as debt relief from their creditors. While many low- and middle-income countries will turn to the IMF, it will only provide financial support if it deems a country’s debt to be sustainable. If the IMF considers a country’s debt to be unsustainable, as it recently did in Ghana, it will require debt relief. Debt relief is a reduction in a country’s debt burden through a reduction in interest payments, a lengthening of maturities or a reduction in principal (or a combination of the above). If governments fail to secure debt relief, they may face the prospect of a disorderly debt default. Governments often procrastinate efforts to seek financial support from the IMF since the institution requires countries to implement macroeconomic adjustment policies that are often highly unpopular and increase the risk of political instability. These policies typically include raising taxes, reducing public expenditure, tightening monetary policy and implementing structural economic reform. However, when governments put off such economic reforms, they raise the risk of financial default. 

China’s position as the main creditor of many low- and middle-income countries will give Beijing a central role in future debt restructuring negotiations. Given that China is a major (often the single-largest) creditor of low-income countries, Beijing’s willingness to participate in debt relief will be crucial if a hard sovereign default and a prolonged financial crisis is to be avoided. But China, which has lent huge sums to countries in Africa and South Asia, has shown reluctance to engage in multilateral debt relief efforts. Compounding the issue, traditional lenders (such as the members of the Paris Club) and multilateral official lenders (such as the World Bank or regional development banks) are unlikely to grant debt relief or even provide financial assistance unless major creditors, including China, participate in the debt restructuring process. China's reluctance, therefore, raises the risk of protracted and costly debt relief and restructuring efforts, as well as of economically costly disorderly defaults and a prolonged economic and financial crisis. However, China is likely to eventually enter debt relief negotiations, given the reputational risk and diplomatic blowback it would suffer if it were seen as insisting on preferential treatment and thereby prolonging a country’s financial and economic crisis. Such creditor coordination will make the provision of debt relief less messy and less economically costly to the debtor country than it would otherwise be.China is not a member of the Paris Club of official creditors, Chinese lending is often opaque and Beijing prefers bilateral, preferential debt deals to multilateral ones. Beijing has committed to multilateral coordination under the 2020 Common Framework, and it has shown some willingness to provide debt relief, including under the Debt Service Suspension Initiative, as well on other occasions. In Zambia, China has already agreed to co-chair the creditor committee with France.

Foreign Direct Investment - Balancing Economic Benefits and Security Risks (2022)

Cross-border investment and trade give rise to both economic gains and economic vulnerabilities. Intensifying geopolitical competition is increasingly leading governments to resort to cross-border investment and trade restrictions. Trade and investment policies are ever more informed by a quest to limit security risks and to preserve (or gain) technological advantage rather than efficiency gains. 

o Germany’s outward FDI is concentrated in the European Union, the United States and the United Kingdom. China (7%) and Russia (1%) account for a relatively small overall share of German outward FDI. But the stock of FDI is only an imperfect indicator of associated supply chain vulnerabilities and technological leakage risks.

o The economic impact of German inward FDI screening and outward FDI promotion policies appears to be limited. Nevertheless, Germany should conduct a review of its FDI policies in the context of its new national security strategy and provide estimates of the economic costs associated with relevant FDI-related risk mitigation policies.

o A high level of European economic integration as well as the risk associated with US-Chinese geo-economic conflict make a more coordinated EU approach to regulating inward FDI highly desirable. A more integrated EU policy would help strengthen Europe’s position vis-à-vis third parties., whether pushing for a level playing field vis-à-vis China or coordinating FDI policies with the United States. 

WHAT IS FOREIGN DIRECT INVESTMENT?

Foreign direct investment (FDI) is defined as a non-resident natural or legal person controlling 10% or more of the equity of a company. FDI consists of equity capital, reinvested earnings and intra-company loans. Unlike portfolio equity investment, FDI leads to a lasting interest in and a significant degree of influence over a company. 

From a recipient country point of view, FDI provides benefits in the form of financing, the transfer of technology and managerial skills, as well as increased economic efficiency, all of which support economic growth, employment and productivity. From an investor or sender country point of view, FDI can be market-, asset-, efficiency- and/ or diversification-seeking. FDI is market-seeking when it seeks to gain access to another market by circumventing trade barriers. It is efficiency-seeking when it seeks to generate cost savings by, for example, gaining access to cheap labor in the recipient country. It is asset- and resource-seeking if its purpose is to acquire complementary resources and capabilities, such as technology and commodities. From a company as well as sender country perspective, FDI can also help diversify risks and create more resilient supply chains. 

German outward FDI amounts to roughly 50% of GDP and the bulk of it is located in the European Union, the United States and the United Kingdom. German FDI in China is significant, but amounts to less than 7 % of total outward FDI. German FDI in the United States is about four times as large. FDI in Russia accounts (accounted!) for less than 1% of the total. In euro terms, Germany’s primary FDI abroad amounts to a total of EUR 1.4 tr, of which EUR 700 bn is held in EU countries. Germany’s primary and secondary FDI amounts to EUR 1.3 tr, of which EUR 400 bn is located in other EU member-states (and EUR 350 in the US). [1]

Measured as share of GDP, Germany has seen large FDI outflows over the past decade, worth more than 2% of GDP annually. FDI inflows have been comparatively modest. While international financial integration allows Germany to reap substantial economic benefits, it also makes it vulnerable to potentially adversarial policies by host countries. Such policies have the potential to disrupt supply chains, force technology transfer, in addition to causing tangible financial losses to individual companies, particularly in extreme circumstances such as expropriation and nationalization.

FOREIGN DIRECT INVESTMENT POLICIES

FDI has both economic and security implications. The latter are generally disregarded by standard economic models. For example, foreign companies may acquire critical assets, such as commodities or technology, and ‘lock them up’ by engaging in non-market behavior. To what extent such concerns are valid is an empirical question. However, foreign companies that receive support from their home governments, and especially state-owned companies subject to direction from their governments, are more likely to pursue non-economic goals. This increases the risk of them engaging in uncompetitive, politically motivated behavior as well as related security risks. Similarly, outward foreign direct investment may expose a company to political interference by the host government, particularly, but not exclusively, if the host government is not fully committed to the rule of law and liberal economic governance, or if the host country government is an actual or potential geopolitical antagonist of the home country.

In this context, it is worth distinguishing between the financial costs faced by a company that suffers losses from, for example, expropriation of its overseas FDI holdings and the (non-market) technological leakage that can occur in case of expropriation or other types of political interference as well as systemic supply chain disruptions. From a national-level perspective, the risk of technological leakage and supply chain disruption generally bears more heavily than the financial losses of individual companies. This is not to say that financial losses can never be substantial, of course. Several large German companies would find themselves in significant trouble if, for example, their China investment and business were to disappear overnight. But the consequences of technological leakage – whether through inward or outward FDI – or supply chain disruption – in case of outward FDI – have generally a greater potential to cause disruption and damage than the financial losses incurred by companies.

National FDI policies affect both inflows and, outflows. The FDI regimes of advanced economies are relatively open, allowing residents to acquire foreign assets as well as giving non-residents relatively unfettered access to their market. In recent years, however, inward FDI regulation and screening have been tightened in many advanced economies due to concerns about national and economic security as well as technological competition. Some countries, like the United States, have even begun to consider outward FDI screening (see box).

Risks Related to Restricting Outbound FDI

Restrictions on outward FDI have historically been much more common in developing countries than in advanced economies, mainly due to balance-of-payments financing risks. But increasing concerns about technological leakage and supply chain risks have led governments in advanced economies to consider adopting a less laissez-faire approach to outward FDI. Washington is currently debating whether to introduce outbound FDI screening due to concerns about supply chain security, technology transfer, foreign government intervention and espionage. [2] In addition to export controls (including the foreign direct product rule), which targets Chinese technology companies, [3] the recently passed CHIPS and Science Act bars US semiconductor producers from producing advanced chips in China if they accept US government subsidies for the development and production of semiconductors. In October, the US government further tightened export controls targeting China. FDI and even non-FDI policies are becoming increasingly ‘securitized.’

The US inward screening regime, or the so-called Committee on Foreign Direct Investment in the United States (CFIUS), already indirectly allows the US government to extend inward FDI restrictions by forcing the dissolution of joint ventures between US companies and Chinese counterparts outside the United States.[4] It is not difficult to see how the reach of US policies could be extended by limiting, for example, the investment of German-owned companies with minority Chinese shareholders in the United States.

Restricting and Screening Inward FDI

The openness to inward FDI varies across countries and sectors. China, as an example of an emerging rather than an advanced economy, restricts investment in a significant number of sectors, and prohibits investment in others outright, while the US has outright restrictions in only five sectors and maintains generally minor conditions in a few others. Germany’s FDI regime is among the world’s most open, in spite of the recent introduction of an enhanced, national security screening mechanism.

Next to prohibiting FDI in certain sectors outright, restrictions of inward FDI flows typically include: limiting share of equity ownership in a specific sector that non-residents are allowed to hold, obligatory approval and screening procedures (ranging from pre-approval to post-notification), restricting foreign nationals from working in affiliates of foreign companies or mandate minimum nationals on board, and operational restrictions on branching, capital repatriation or land ownership. Moreover, informal barriers often exist that deter FDI, such as complicated cross-shareholding structures or simply onerous regulatory impediments.

Restricting and Promoting FDI

Inward FDI	Restricting	Prohibit or restrict non-residents from participation in specific sectors etc.
	Promoting	Provide economic and other incentives to attract FDI
Outward FDI	Restricting	Regulate/ restrict outward FDI in specific sectors or countries
	Promoting	Provide economic and financial support, including risk insurance, to outbound investment

Source: Author’s compilation

FDI policies in Germany, the EU and the United States

The regulation of inward investment remains under the purview of EU member states. Germany has tightened inward investment rules several times since 2016. Sensitive industries, such as defense and defense technologies among other sectors, are subject to a mandatory review. Investment in other sectors may only be scrutinized if the investor is based outside the EU.[5]

As a consequence of these recent changes, national-level FDI filings have more than tripled in 2017-21, reaching more than 300 last year. The authorities required ‘restrictive (remedial) measures’ in only 46 cases out of a total of 716 cases filed (or 6% of all cases) during that period. Not a single investment seems to have been prohibited outright. Naturally, it is impossible to say how many FDI M&A deals were deterred in the first place by the tightening of the screening mechanism.

At the European level, the EU Investment Screening Mechanism came into effect in in 2020. It is meant to streamline and coordinate EU member state policies towards FDI by third countries. The EU framework provides for the notification by EU member states of actions taken in the context of respective national investment screening mechanisms, and it establishes procedures for member states and the Commission to quickly react to FDI-related issues pertaining to third countries by exchanging information, raising concerns related to specific investments, issuing of an opinion by the Commission, and setting requirements for member states to adopt screening mechanisms at the national level to ensure “security and public order”.[6]

In 2020, the EU investigated 20% of all FDI notifications/ filings, meaning 80% of notifications did not lead to an investigation in the first place. And nearly 80% of the cases that were investigated were approved without conditions, 12% were approved with conditions, 2% were rejected and 7% were withdrawn. 

Like Germany, the United States has also tightened inward FDI regulations under the Foreign Investment Risk Review Modernization Act (FIRRMA) in 2016.[7] CFIUS is significantly more restrictive than Germany’s FDI screening mechanism Subsequent executive decree and Treasury regulations have broadened the scope of CFIUS reviews. It now includes any non-passive investment in critical industries or emerging technologies as well as transactions where a foreign government has a substantial direct or indirect interest. It also allows for discrimination among foreign investors based on a “country of special concern” label. In September, the Biden administration issued an executive decree further tightening inward investment rules, including tighter scrutiny of investment in artificial intelligence, quantum computing and biotechnology .[8]

Promoting Outbound FDI

Governments can also seek to promote outward FDI flows. Similar to the way that they provide export credit insurance to promote exports,[9]governments can provide insurance for outward foreign direct investment. [10] In addition, governments can provide ‘political’ support by negotiating improved market access and enhanced safeguards in the form of Bilateral Investment Treaties (BITs) or in the context of Free-Trade Agreements (FTAs). The EU-Chinese Comprehensive Agreement on Investment (or CAI) is an example of a BIT. 

Outbound FDI Promotion Policies

Government advocacy	Government-provided political risk insurance	International investment agreements
	-Currency & transfer risk
	-Confiscation, expropriation, nationalization
	-Political violence
	-Default on financial and legal obligations

Source: Author’s compilation

FDI Policies in Germany, the EU and the United States

The German Ministry of Economic Affairs and Climate Action provides political risk insurance for German companies acquiring overseas FDI assets. Political risk insurance typically covers nationalization and expropriation risk, war, convertibility and transfer risk, and sometimes breach of contract by the local authorities.

In 2021, the German government approved EUR 2.6 bn worth of investment guarantees, compared to EUR 0.9 bn in the previous year.[11] 12 out of 30 approved guarantees secured investments in China, amounting to EUR 2 bn (or nearly 80% of all guarantees). The stock of investment guarantees amounted to less EUR 30 bn last year. To put this into perspective, German GDP amounts to EUR 3,600 bn, annual FDI outflows to EUR 160 bn, and a German FDI stock in China worth EUR 90 bn. In quantitative terms, the FDI guarantees provided by the German government are not especially significant.

In the United States, various government agencies support outbound FDI, such as Overseas Private Investment Corporation (OPIC), which in 2019 was merged with Development Credit Authority (DCA), which is part of USAID, to form the US International Finance Development Corporation (DFC). Focused on promoting American investment in less developed economies (read: America’s answer to China’s Belt Road Initiative), the DFC provides political risk insurance, financing, equity and technical assistance. 

ISSUES TO CONSIDER IN FORMULATING NATIONAL AND EUROPEAN FDI POLICIES

Neither German inward FDI screening nor outward FDI promotion seems to be very consequential in quantitative, purely macroeconomic terms. Although FDI notifications have increased, the German authorities required ‘measures’ to be taken in only a small number of cases. True, it is impossible to say how much potential FDI was deterred by the enhanced screening procedures, and no data is available as to the size of the transactions that required remedial measures to be taken. But based on the available data, Germany’s FDI regime remains very open. Similarly, the share of German outward FDI that is supported by government insurance and investment guarantees is very small, economically speaking. 

None of this means, however, that German and EU FDI policies could not and should not be rethought, adjusted and ‘optimized’ –particularly in view of US-Chinese technological decoupling and the increasing securitization of investment (and trade) policies by both Beijing and Washington. Germany and the EU need to strengthen their geo-economic defenses. This needs to go beyond the EU’s trade defense and import diversification policies to include investment and especially FDI. After all, the economic and security risks associated with both inward and outward FDI may be more significant than quantitative measures imply. Here are some suggestions:

First, both inward and outward FDI policies should be formulated as an integral part of the new German national security strategy and address issues related to supply chain risks and technological leakage, not independently of it in or in ad hoc, reactive manner. 

Second, the government in cooperation with the private sector should conduct a thorough assessment of inward and outward FDI-related risks on sector-by-sector and technology-by-technology basis. It should also provide an assessment of the aggregate risks at the national level, which may differ from firm-level risks. The government also has a role to play in terms of collecting information and monitoring national-level risks against the backdrop a changing geopolitical environment.

Third, having assessed aggregate risks, the government needs to provide an estimate of the economic costs of individual and aggregate mitigation policies. It is this trade-off that should inform actual risk mitigation decisions. In this context, it should also be assessed to what extent domestic regulation might be effective in preventing technological leakage or non-market behavior of foreign-owned companies. If regulation is insufficient, enhanced inward screening and tighter regulation needs to be considered. A similar assessment should be provided as regards German outward FDI and technology leakage risks. If the risk of technology leakage in a specific geography is considered to be unacceptably high, government intervention may be warranted. (This is less egregious than it sounds in light of a long-standing export control policy.)

Fourth, the government should then propose mitigation policies. Nobody is better placed to manage risk at the company level than the companies themselves. But collective action problems, information asymmetries, and risks related to the behavior of complex systems, such as supply chains, and especially in the presence of systemic, un-diversifiable risk, warrants government involvement. In the case of outward FDI, without safeguards, companies may be tempted to trade short-term profits for future technological leadership (e.g. forced technology transfer). Private economic incentives and national security goals may not always be fully aligned. 

In terms of inward FDI, the present screening mechanism should be updated to allow for enhanced screening of and potentially tighter rules for investors from ‘countries of concern’ as well as companies with close ties to foreign governments. In terms of outward FDI, the government should put in place safeguards to prevent the forced transfer of critical technologies with respect to countries where this is a material concern. The same should also apply to foreign jurisdictions where the risk of government interference or espionage is particularly significant. 

The government may also consider using its investment guarantee policy to provide companies with incentives to diversify their foreign investment and supply chains and/ or guide them towards lower-risk jurisdictions (bearing in mind that risk can change). In practice, this means eliminating/ reducing/ raising the price of guarantees for investment in countries where risks are high and/ or where additional investment would add to concentration risk. Instead, guarantees could be provided, and potentially so on more favorable terms, where marginal investment helps improve aggregate diversification. (Again, information about aggregate supply chain vulnerabilities will be crucial.)

Fifth, Germany should support the further development of the EU’s ‘trade defence’ instruments.[12] This is not the place to evaluate the many tools currently under discussion in Brussels, which include anti-coercion, anti-subsidy, procurement tools etc.[13] But EU FDI policies, not just trade policies should be part of this broader strategy aimed at reducing EU vulnerability in light of the securitization and politicization of the foreign economic policies of Europe’s and especially Germany’s most important trade partners, China and the United States.

Last but not least, and as always, greater EU level coordination and integration of both inward and outward FDI policies are also desirable due to the greater leverage they provide in negotiations over FDI policies with third parties, whether in the context of creating more of a level FDI playing field vis-à-vis China, or FDI policy coordination (and supply chain risk mitigation) with the United States in the context of the EU-US Trade and Technology Council. In particular, the EU should seek to coordinate inward FDI policies with the United States in order to avoid conflict over the US inward FDI policies as well as possible, future outward FDI screening, which would inevitably affect European interests. American and European interests do not seem to differ fundamentally and should therefore be amenable to compromise. After all, supply chain security, technological leakage, the non-market behavior of foreign companies, and the political risk related to outward investment in high-risk or potentially antagonistic countries are all concerns that are shared on both sides of the Atlantic.

[1] FDI data is reported in a variety of ways. Data produced using the extended directional principle reports FDI on the basis of the ultimate beneficial owner. Data produced using the asset-liability principle reports data from the perspective of a country’s assets and liabilities. The Bundesbank also distinguishes between primary and secondary FDI. Secondary FDI takes into account assets held by dependent holdings companies, not just ‘persons’ directly holding the FDI asset. See also, OECD, Asset Liability Versus Directional Presentation, 2014: https://www.oecd.org/daf/inv/FDI-statistics-asset-liability-vs-directional-presentation.pdf (last accessed: September 17, 2022)

[2] White House, Building resilient supply chains, revitalizing American manufacturing, and fostering broad-based growth, June 2021:

[3] Congressional Research Service, The US Export Control System and the Export Control Reform Act of 2018, 2021: https://crsreports.congress.gov/product/pdf/R/R46814 (last accessed: September 17, 2022).

[4] Cleary & Gottlieb, CFIUS blocks joint venture outside the United States, 2020: https://www.clearytradewatch.com/2020/06/cfius-blocks-joint-venture-outside-the-united-states-releases-2018-2019-data-and-goes-electronic/ (last accessed: September 20, 2022)

[5] For more details, White & Case, Foreign Direct Investment Reviews 2021: Germany, 2021: https://www.whitecase.com/insight-our-thinking/foreign-direct-investment-reviews-2021-germany (last accessed: September 17, 2022)

[6] European Commission, Foreign Direct Investment EU Screening Framework, 2020: https://trade.ec.europa.eu/doclib/docs/2019/february/tradoc_157683.pdf(last accessed: September 20, 2022)

[7] Congressional Research Service, CFIUS Reform under FIRRMA, 2022: https://sgp.fas.org/crs/natsec/IF10952.pdf (last accessed: September 17, 2022)

[8] Financial Times, White House sounds alert on inbound Chinese investment, September 14, 2022

[9] OECD, Arrangement on Official Supported Exports Credits, 2021

[10] OECD, Investment Guarantees and Political Risk Insurance, Investment Policy Perspectives, 2008

[11] German Ministry of Economic Affairs and Climate Action, Investitionsgarantien – Jahresbericht 2021, 2022: https://www.bmwk.de/Redaktion/DE/Publikationen/Aussenwirtschaft/investitionsgarantien-jahresbericht-2021.pdf?__blob=publicationFile&v=4 (last accessed: September 20, 2022)

[12] EU has also proposed an ‘anti-subsidy tool’ that would allow the Commission to scrutinize and even prevent companies from third parties that receive subsidies from acquiring EU assets. European Commission, Trade Defence Instruments, 2018: https://trade.ec.europa.eu/doclib/docs/2018/may/tradoc_156892.pdf. (last accessed: September 17, 2022)

[13] Markus Jaeger, Designing Geo-Economic Policy for Europe, DGAP Policy Brief 7, 2022: https://dgap.org/sites/default/files/article_pdfs/dgap_policy_brief_no._7_march_2022_9_pp.pdf (last accessed: September 20, 2022)

American-Chinese Great Power Competition and Transatlantic Relations - The Big Picture (2022)

 See also: US-Chinese Competition and Transatlantic Relations

Germany is at risk of sustaining collateral damage in the face of intensifying US-Chinese competition and conflict. China’s ascendance and America’s desire to preserve the status quo lock Beijing and Washington into a classic security dilemma. The United States sees China as a potential regional hegemon in Asia and as an emerging global systemic challenger. China sees the United States as impeding its rise. Security competition is already well underway. So are geo-economic and geo-technological competition and conflict.

US-China relations are structurally geared toward deterioration. The Ukraine war notwithstanding, US-Chinese competition will limit the amount of resources Washington will be willing and able to commit to Europe. It will also negatively affect German economic interests, as it will lead Washington to increase the pressure on Germany – as China’s most important European economic partner – and Europe to align itself with US geo-economic and geo-tech policies. This may happen in the form of direct diplomatic pressure or indirectly through secondary trade and financial measures. If Germany aligns itself with US policies, however, it risks provoking Chinese economic retaliation in the form of trade and investment restrictions as well as regulatory discrimination. Sino-US economic decoupling represents a major problem, given that the United States and China are Germany’s two most important extra-EU economic partners. 

Germany’s continued security dependence on the United States also limits the extent to which it can afford to align itself with China economically. The war in Ukraine has, if anything, reinforced this dependence. In the context of US-Chinese rivalry, Washington would hardly be willing to underwrite German security to the extent that it does if Berlin were to align itself more closely with Beijing and undermine US geo-economic policies. Meanwhile, a position of relative neutrality or equidistance is not an option, either. Washington is not going to accept German economic neutrality in the context of intensifying US-Chinese geopolitical and geo-economic competition. For US strategy to be successful in the geo-economic and geo-tech realm, Washington needs Berlin to support US policies, lest Germany threaten to undermine US policies as a so-called ‘third-party spoiler.’ The more intense US-Chinese competition, the greater the US pressure on Europe and especially Germany to align with hawkish US geo-economic policies toward China. 

Germany has good reasons of its own to offer conditional support to US policies vis-à-vis China. The Ukraine war has made these reasons undoubtedly more compelling. First, Germany and the EU have come to see China as both a systemic rival and economic competitor. Like America, Germany is also committed to maintaining the territorial status quo, and it is keen to level the economic playing field vis-à-vis China and maintain technological leadership. Second, even a completely realpolitik-oriented German policy would be well-advised to stay relatively close to the United States – and not just in view of recent events. Not only does Germany depend on the United States for its security, but the transatlantic partnership is also an important economic relationship, comprising not just trade and investment but also offering Germany access to advanced technology. Finally, in the longer-term, the United States looks 'great power competitive’ despite China’s impressive ascent. It stands a fair chance of maintaining its geo-strategic and geo-economic position in Asia, and globally – not least thanks to its extensive alliance network. 

Germany should therefore consider pursuing a multi-track approach. On the one hand, it should offer Washington conditional support to help establish an economic level playing field vis-à-vis China and preserve technological leadership as well as the territorial status quo in East Asia. On the other hand, Germany and Europe should minimize their critical economic vulnerabilities vis-à-vis third parties. This can best be done through diversification and, where necessary, increased self-sufficiency. Such a balanced policy would afford Berlin greater flexibility.

As part of the cooperative element of this strategy, Berlin should continue attempts to resolve important outstanding bilateral US-EU disputes and to deepen transatlantic economic cooperation. Major trade deals will be out of reach, given domestic political obstacles on both sides of the Atlantic. But more specific, issue-oriented cooperation is possible, including politically less onerous regulatory coordination, technological cooperation, and standard-setting (e.g., in the EU-US Trade and Technology Council or the Trilateral Group). Such cooperation and coordination should help both sides agree on a joint position seeking to level the playing field vis-a-vis China, enhance supply chain security and preserve US and European technological leadership. And it should help create a relationship of mutual dependence between the United States and the EU/ Germany, which should make it more difficult and costly to exploit the other side’s weaknesses.

Germany and the United States should be able to agree on a common position pertaining to emerging technologies and national security in view of their security implications and externalities in terms of economic competitiveness. National security is undoubtedly a more sensitive issue to the United States given intensifying US-Chinese security competition. But Germany also has an interest in preserving technological leadership. And Germany has a stake in the preservation of the status quo in Asia, and not just because of its interests in preserving and defending it in Europe.

Transatlantic disagreement might arise due to Germany’s preference for narrowly restricting technological decoupling and limiting national security exemptions, while Washington is bound to push for more extensive restrictions. The United States is far less sensitive to Chinese geo-economic retaliation than Germany and will therefore be more willing to weaponize the existing economic and technological interdependence in pursuit of broader political and strategic objectives. This is precisely what Germany should seek to avoid and where it will be faced with increased US geo-economic pressure. 

Hence the defensive part of the strategy should focus on accelerating efforts to make more manageable critical economic, financial, and technological vulnerabilities vis-à-vis both the United States and China by accelerating efforts to gain greater autonomy – but not necessarily autarky – and enhance the capacity to deter geo-economic measures. These efforts need to be intensified and accelerated, not least in view of the 2024 presidential elections and the risk of a return to a unilateral, America First, foreign policy. 

Over the long term, reducing vulnerability in the security realm will require better defense capabilities to limit the dependence on US military power. While the Ukraine war will accelerate European efforts to enhance capabilities, it has also made Germany more dependent on the United States as the ultimate security guarantor. Creating more autonomous capabilities for power projection and intervention and the protection of seaborne trade is highly desirable. Much enhanced military capabilities in Germany and Europe will also help preserve the conventional and nuclear military balance in Europe as well as a credible and effective nuclear deterrent. 

Washington is currently pursuing a policy of internal and external balancing vis-à-vis Beijing (realist scenario). The Biden administration is wooing Germany by offering cooperation, and the Ukraine crisis has led the United States to reaffirm its commitment to the transatlantic partnership. But the 2024 elections may lead to renewed fissures and expose German and European vulnerabilities and dependencies. Independent of the outcome of the 2024 presidential elections and the Ukraine war, the structural deterioration of US-Chinese relations and the increasing US shift toward Asia will weigh on transatlantic relations. Germany and Europe should therefore accelerate and intensify their efforts to limit critical vulnerabilities. They need to prepare for a world where the United States will be less committed to Europe than it has been over the past three quarters of a century. Such an approach is perfectly compatible with a policy of conditional, smart transatlantic cooperation in view of common vulnerabilities and in pursuit of common interests.

Reducing critical vulnerabilities will afford Germany and Europe greater policy flexibility by making them less susceptible to geo-economic coercion, wherever it may come from. At the same time, Germany and Europe will gain a greater ability to deflect geo-political, geo-economic, geo-financial, and geo-technological pressure to pursue policies that are not in their interests. Fewer vulnerabilities and a more balanced relationship will also make it easier to maintain deep and extensive transatlantic cooperation. And should the United States ever move toward full-blown protectionism and isolationism, or China turn inward, or global cooperation break down completely as it did in the 1930s, Germany and the EU will already have done some of the preparatory work necessary to operate in a less cooperative, more conflictual, and more fragmented international system and economy.

Great Power Competition and the Weaponization of International Economic Relations (2022)

See also: Europe in the Age of US-China Great Power Competition

Geopolitical competition has led both China and the United States to increasingly securitize and weaponize their foreign economic policies. Securitization seeks to limit one’s economic vulnerabilities. It is defensive. Weaponization seeks to exploit others’ vulnerabilities. It is offensive. In a bilateral relationship, the economically less dependent (less vulnerable) party is able to impose – or credibly threaten to impose – relatively greater costs on the more dependent (more vulnerable) party. 

So-called asymmetric interdependence is therefore a source of political-economic coercive power for one party and a source of vulnerability for the other party. Power and vulnerability are also embedded in networks, not just in bilateral relationships. A country that controls – or exerts substantial influence over – economic-financial networks can often exercise even greater power than in a simple asymmetric bilateral relationship. For a start, it can do so by deterring so-called third-party spoilers (and black knights) from undermining bilateral measures targeting another country. It can also do so by coercing third parties to align their policies with those of the coercer, thus imposing even greater costs on the coercee. A country that is highly dependent on a network controlled by an antagonist has an incentive to reduce its reliance on this network and, if this is possible, to create an alternative network. 

Decoupling is generally understood as a policy that severs economic-financial ties in an attempt to reduce bilateral vulnerabilities. But even if country A manages to reduce its bilateral dependence on country B, it may yet be vulnerable to coercion due to its reliance on networks that are controlled by country B. Today, American-Chinese competition is about exploiting or limiting bilateral vulnerabilities as much as it is about leveraging or neutralizing the power embedded in economic-financial networks. With Washington continuing to exert significant power over many important economic-financial networks, Beijing is keen to reduce its dependence on US-controlled networks and to establish alternatives to them. 

Securing trade routes

US-Chinese security relations are characterized by a classic security dilemma. Chinese attempts to reduce its own vulnerability by enhancing its military capabilities are seen as threat by America, and vice versa. China’s policies of pushing out the security perimeter in the South and South China Sea and of trying to break through the first island chain by laying claim to Taiwan represent an attempt to deny the United States and its allies the control over chokepoints critical to Chinese seaborne trade, such as the Strait of Malacca. By providing or denying China access to crucial sea lines of communication, Washington can exert network power at a relatively low cost, namely by controlling critical nodes or chokepoints.

US control of this crucial network of seaborne of communication is precisely what China is trying to contest. China’s naval strategy has shifted from ‘nears seas defense’ to ‘far seas protection’ in order to secure crucial sea lanes. Asymmetric capabilities are meant to deter the US navy from operating or at least from intervening in the near seas, while the construction of a blue water navy aims to secure crucial seaborne trade routes beyond the first and second island chains. China’s naval strategy is flanked by economic policies, such as the Belt Road Initiative, which seeks to reduce China’s dependence on seaborne trade through the construction of regional and even ‘inter-continental’ energy and transportation networks, while at the same time strengthening Beijing’s naval and security infrastructure along its major trade routes, connecting China to the Middle East (Djibouti, Pakistan, Sri Lanka). China’s geo-strategy is in large part informed by its dependence on critical imports, such as food and energy and hence its vulnerability to the interdiction of physical trade. 

Managing trade dependence

China is more dependent on international trade than America. China is also more dependent on trade with America than America is on China. Aside from interdicting the physical movement of goods, China is vulnerable to coercive US trade policies. In order to reduce its vulnerability to antagonistic policies, China is seeking to set up bilateral and regional free trade agreements, like the Regional Comprehensive Economic Partnership. (The trade pact is shallow, but it is a start.) In the guise of ‘dual circulation’, a policy aimed at increasing domestic at the expense of foreign demand, China is also trying to reduce its overall dependence on international trade. China is trying to reduce both its bilateral dependence on the United States, while laying the foundations of more China-centered regional trade network.

Washington, having abandoned the Trans-Pacific Partnership but being aware of its diminishing influence in Asian trade, has been trying to counter Beijing’s attempts to create a more China-centered trade regime in Asia through initiatives, such as the Indo-Pacific Economic Framework (IPEF). This is meant to increase or rather preserve US network power. 

Dealing with technological vulnerabilities

China is also very vulnerable to US export control policy. US policy is increasingly focused on denying China access to ‘critical and foundational technologies.’ With the help of the so-called foreign direct product rule, Washington is able not to just to prevent American companies from exporting critical technology to China. But it can also prohibit non-US companies that use US technology to produce designated goods from exporting them to China. By controlling a critical node of respective global technology production networks, United States is able to prevent China from acquiring key technologies, strengthening its coercive power.

China has intensified efforts to wean itself off technological reliance on America. Beijing’s Made in China 2025 and China Standards 2035 policies are meant to turn China into a technological leader in its own right and to set future global technology standards in order to reduce China’s vulnerabilities and over time create its own network. Meanwhile, the US remains deeply concerned about its own trade-related technological vulnerabilities, as the passage of the recent CHIPS Act, which subsidizes the development and the onshore production of advanced semiconductors, as well as the various initiatives to cooperate more closely with its allies in terms of supply chain security, such as the EU-US Trade and Technology Council, demonstrate.

To prevent China from acquiring advanced US technology, Washington has complemented its export control policies with tighter restrictions on Chinese investment in the United States. Washington is even considering introducing outward investment screening in order to preempt the risk of technological leakage to China. Washington has also imposed limits on US financial investment in military companies and companies tied human rights abuses. But these are less effective, as China does not depend on American financing. Meanwhile, China has always maintained tight control over inward foreign direct investment, particularly in sectors deemed critical to national security including indigenous technology, recent liberalization efforts in selected sectors, such as finance, notwithstanding. 

Creating A Parallel financial regime

Nearly eight decades after the creation of the Bretton Woods system, Washington remains the single most influential actor in the international monetary and financial realm. The United States is the largest shareholder of the International Monetary Fund and the World Bank, providing it with significant influence. It is also the largest shareholder of the Asian Development Bank (holding the same share of voting rights as Japan). This invariably provides it with significant influence.

Not surprisingly, China set up an Asian Infrastructure Investment Bank (AIIB), where Beijing is the dominant shareholder. Chinese government and state-controlled banks and companies have lent extensively to developing economies through the Belt Road Initiative, making China the world’s largest official lender – larger than the World Bank. The reasons for China’s foray into official international finance are multifaceted (export excess industrial capacity, diversify foreign assets, upgrade and recenter regional transportation networks). But laying the foundation of a parallel regional financial regime (or network) with China at its center has always been an important driver.

The United States also continues to be the most influential actor in international private capital and currency markets. This gives Washington power and renders Beijing vulnerable. For a start, China as an ‘immature creditor’ is forced to hold its international assets in renminbi. The United States is able to issue international liabilities in dollars thanks to its ‘exorbitant privilege’. Even though China is the creditor and the United the debtor, it the United States that has leverage due to China’s dependent on the dollar as a the dominant means of international payment. 

Tackling currency vulnerabilities

Moreover, the international financial system remains largely dollar-based. Washington’s ability to prevent countries from engaging in dollar-denominated transactions, and, even more so, its ability to weaponize international dollar-based financial networks through secondary dollar sanctions makes Beijing feel more than uncomfortable. (Washington’s decision to freeze Russia’s international reserves will have done nothing to alleviate China’s concerns.) Once again, the dollar provides Washington with substantial network power, not just bilateral power, as it effectively allows Washington to deter third countries from engaging in dollar-based transactions with a target party or country.

Not surprisingly, Beijing has been trying to enhance the role of its own currency by internationalizing it. It managed to have it included in the International Monetary Fund’s special drawing rights’ basket. But underdeveloped domestic financial markets, extensive capital controls and continued government intervention in Chinese financial markets have so far held back the rise of the renminbi as an alternative to the dollar. But it is a first step. Similarly, the creation of Cross-Border Interbank Payment System (CIPS) as a future potential alternative to SWIFT (which is an inter-bank financial messaging system, not a payments system) as well as the creation of a digital yuan should be seen as attempts to lay the foundation of a alternative networks not controlled by the United States.

US-Chinese competition is systemic in the sense that its outcome will shape reshape the structure of the international system. But it is also systemic in the sense that it will see the emergence of, and competition between, alternative economic governance regimes and networks. Beijing is fully aware of the power and influence the present regimes provide the United States. It is no coincidence that it has launched the Global Security Initiative or other initiatives, such as the Global Development Initiative, as alternatives to what it regards as US-dominated regimes. And when the EU speaks of China as “systemic rival promoting alternative models of governance” or the United States in its recently released National Security Strategy refers to China as a “competitor with both the intent and, increasingly, the capability to reshape the international order”, it shows that Brussels and Beijing are equally aware of the power and vulnerability embedded in security, economic and financial networks.

The Next Thirty Years - A German Perspective (2022)

The unipolar moment has passed. Another round of great power competition has begun. This isn’t good news for Germany. Germany benefitted greatly from the unipolar moment following the end of the Cold War. Under US leadership, NATO and the European Union expanded eastward. The expansion of multilateral cooperation in the guise of the IMF and the GATT/ WTO also created a truly global system of economic governance, enhancing German prosperity. Today US-Chinese rivalry threatens to undermine international stability and multilateral economic cooperation. The emergence of quasi-bipolar geostrategic competition will negatively affected Germany’s economic and security interests and complicate its foreign policy.

Great power competition is here to stay

US-Chinese great power competition will be impossible to avoid, if history is anything to go by. Having defeated repeated bids for regional hegemony in the 20th century, America will once more seek to prevent Asia from falling under Chinese hegemony. Washington will be forced to dedicate increasing resources to Asia, forcing Europe to take greater responsibility for its own defense. Europe and especially Germany will also face pressure both Washington and Beijing not to align itself (too closely) with their antagonist. As geopolitical competition spills over into the economic realm, the weaponization of interdependence, selective economic decoupling and the partial fragmentation of the international economic order will intensify. This will represent a particular challenge for internationally oriented countries, such as Germany. 

US-Chinese competition is inevitable. China will continue to rise and pursue assertive, revisionist policies. The United States will remain committed to defending the status quo in Asia and balance a rising China. China’s rapid ascent, compared to Russia’s relative stagnation, will force America to shift its strategic focus to the Indo-Pacific region. This has important repercussions for German and European security policies, forcing Europe to take greater responsibility for their security. The US-China relationship will range from competitive to conflictual across various important domains, such as security, the economy and technology. Even in areas where US and Chinese interests align, such as climate change and global health, the two will find it difficult to cooperate, as the broader competitive-conflictual relations will dominate.

On the assumption that neither China nor the United States will slide into a major domestic political or economic crisis, an increasingly bipolar structure will emerge, consisting of China, on the one hand, and the United States and its allies, on the other hand. Russia may move closer to China to form an anti-US partnership, if not necessarily a formal alliance. But China and China-US relations will be the dominant factors driving the distribution of power in, and the competitive dynamics of, the international system. Germany and Europe as well as the major Asian countries will remain broadly aligned with the United States. America’s increasing focus on Asia and concomitant demand for allied support will lead to occasional tensions in the transatlantic and German-US relationship, particularly regarding economic and financial policies. But ultimately the alliance will remain intact, not least due to Europe’s continued security dependence on the United States. 

The US-China relationship “will be competitive when it should be, collaborative when it can be, and adversarial when it must be”, according the Secretary of State Antony Blinken. Meanwhile, the EU sees China as “systemic rival” and an “economic competitor”. In other words, Germany and Europe share America’s concerns regarding China and support the preservation of the status quo in East Asia and the creation of a level playing field. But Europe and Germany will be less inclined to confront Beijing due their greater economic dependence on China. They are also less directly affected by China’s military rise. This will make Germany reluctant to align itself unreservedly and unconditionally with the United States. But Berlin will be willing to lend conditional support to US policies. As the United States will remain the ultimate guarantor of European security, Europe’s room for diplomatic maneuver is more limited than its economic size might suggest. US pressure on Europe to broadly support US geo-economic policies towards China will become an occasional source of transatlantic frictions. Europe will seek to strengthen its geo-economic defenses and reduce its economic-financial vulnerability vis-à-vis third parties so as to limit its susceptibility to US and Chinese economic pressure (aka “European Strategic Autonomy”).

Who will lead the world? The United States will lead, if not the world, then at least a broad group of countries consisting of traditional allies and new security partners. Its leadership will be strongly underpinned by the desire to balance China’s rise and the need to mobilize the necessary resources to do so. Washington will lead in terms of security and alliance policies. It will lead less forcefully in terms of economic and trade policies due to US domestic political opposition. The United States will succeed in maintaining alliance cohesion, provide credible strategic reassurance to its allies in the region, retain technological leadership, and generate sufficient internal (US) and external (allies) resources to support a credible and ultimately successful balancing strategy. 

Meanwhile, the China will be (already is) the dominant economy in Asia. And its economic weight and financial prowess will continue to grow, adding to its geopolitical influence and geo-economic power. Beijing will also continue to pursue a deliberate policy of reducing its geo-strategic and geo-economic vulnerabilities vis-à-vis the United States. China’s growing economic importance will put many US allies and partners in the region into an awkward position, given their close security ties with Washington. But in the end the US track record of relatively liberal leadership, its role as a status quo defending offshore balancer in Asia, and its continued, if somewhat diminished, attractiveness as a market and source of technology and security will lead virtually all allies to remain broadly aligned with Washington’s security policies, even if such a decision leads China to impose economic costs. In the end, security trumps economics, which will ultimately underpin US-led, liberal alliance focused on collective security and economic cooperation. US and Chinese geo-economic policies and coercion also raises the risk of inter-alliance economic fragmentation and economic conflict.

For China to lead, it would need to find (more) willing followers. Offering economic and financial incentives may allow Beijing to win support from some smaller countries. And rivalry with the United States may also push Russia closer to China. However, the major Asian and Indo-Pacific countries will stick by the United States. They are simply too fearful of China’s territorial revisionism and about being absorbed into the Chinese sphere of influence. The US-led alliance will remain largely intact. China will attempt to weaken America’s alliances but will ultimately fail to do so. Security concerns rather than economics will ultimately inform the stance taken by US allies. Similarly, Europe’s dependence on US security commitments, even if diminished, will also keep it broadly aligned with the United States.

German foreign policy towards the United States and China will not be unduly constrained by public opinion. German public opinion has turned on China in the past few years, while perceptions of the United States have improved following the election of Joe Biden. Public opinion is fickle and subject to change, of course, and it is far from clear to what extent if at all it influences German foreign policy. Nevertheless, the perception of China as an economic competitor, as supporting revisionism, particularly in the wake of Russia’s invasion of the Ukraine, and as an anti-liberal power has become dominant in Germany. This is unlikely to change. While public opinion also has misgivings about the United States, and these could again increase very quickly in the event of a MAGA president being elected, there is little doubt which way German public opinion will tilt in the future if Germany is forced to make choose between Washington and Beijing. 

Multipolarity or bipolarity?

Despite the EU’s economic importance, America and China are, or will be, the two most powerful countries in the international system. China’s rise challenges the United States as the defender of the status quo. China sees the US presence as threatening its interests and security and is keen to push the US out of Asia, as the United States pushed European powers out of the Western hemisphere during the 19th century. The US will seek to prevent China from emerging as the regional hegemon in Asia, the world’s most dynamic economic region. Ever since it emerged as an extra-American power, Washington has sought to prevent East Asia and Europe falling under the control of a single power, most recently during the Cold War. By virtue of their size and contradictory geo-political interests, this will lead to the emergence of a largely bipolar structure. Countries in the region will find it difficult not to align themselves with one side or the other, as US-Chinese competition intensifies. Again, Europe, as the third major global power, will largely align itself with the United States given its security dependence on Washington and its own concerns about China’s rise. A much weakened, even if nuclear armed Russia will tilt towards China. Virtually all current US allies and most of its fledgling security partners in Asia will also stay ‘close’ to Washington. 

The United States and China may not come to blows militarily and in this sense can be said to co-exist peacefully. But their relationship will be characterized by competition and conflict. As long as China continues to rise economically, Beijing will have little incentive to dial back its competitive, revisionist strategy, and the United States will have little choice but to counter China’s rise. A stable equilibrium is unlikely to emerge under such circumstances. A dynamic one will instead emerge. Unlike during the Cold War, the United States and China, and especially American allies and China, have much closer economic relations than the USSR and the US (and its allies) ever did. Unlike in the context of the superpower competition of the Cold War, economic interdependence is today a source of geopolitical vulnerability. Therefore, both China and the United States will seek to limit their vulnerabilities and leverage their geo-economic strength vis-à-vis one another. This is one reason China will attempt to create an alternative or parallel international economic governance regime. All of this will lead to qualitative, if not necessarily quantitative decoupling in an attempt to preserve military-strategic-technological advantage and pre-empt one’s rival’s ability to exploit one’s economic vulnerabilities.

Global Economic Governance

Global governance will weaken, as the US will be less committed to respecting multilateral rules-based economic cooperation, particularly vis-à-vis China. As suggested, China will seek to build an alternative governance regime in selected domains. As the US opts for an alliance-based approach to countering China, formal or informal governance regimes will persist and may even be strengthened (e.g. EU-US Trade and Technology Council, Indo-Pacific Economic Framework, QUAD). But Washington may also opportunistically take advantage of its allies’ economic and security dependence to nudge them towards supporting US policies. Meanwhile, US and allies’ demand for a level playing field will grow, while China will be reluctant to move to market-based economics in the face of geopolitical competition. This will also put pressure on multilateral economic governance and drive increased qualitative economic decoupling (and US allies may be forced to pick a side).

Germany in 2050

Germany will remain strongly committed to European integration as a strong European Union helps Germany limit its security and economic vulnerabilities (or strengthens its power, if you will). As the United States is forced to shift increasing resources to Asia to counter China, Europe and especially Germany will have no choice but to strengthen their security. Likely, Russia will remain the single most important actual or potential security threat. As long as the United States is seen as an effective guarantor of European security, many EU members, including Germany, will be reluctant to fully commit to a significantly more integrated, strategically autonomous European security community, which even under the most propitious circumstances will take decades to build. France will be keener to turn Europe into an independent military power than most other European countries. Continued doubts about the reliability of America’s commitment to Europe security might change countries’ attitudes.

Economically, Germany will push for a further deepening of the single market, a strengthening of the euro area and a strengthening of technological capabilities. By 2050, the EU will be economically more closely integrated in terms of monetary, banking and capital markets. A full-blown fiscal union will probably not emerge due to continued disagreements over risk sharing and sovereignty. But the EU will mobilize its latent economic power more forcefully, if imperfectly, to fend off geo-economic pressure from Washington and Beijing (e.g., ‘trade defense/ anti-coercion policy). In brief, Europe will be more (but imperfectly) integrated in terms of defense and even more so in terms of the economy. It will therefore remain susceptible to US and Chinese pressure.

Germany and the next 30 years 

Germany would prefer a future without great power competition and the concomitant risk of international economic fragmentation and destabilization. If great power competition cannot be avoided and a return to multilateral economic cooperation is impossible, a more realistic, second-best scenario from Berlin’s point of view is one where a stable balance-of-power leads to manageable security competition and manageable disruption of international economic cooperation. 

A combination of open, rules-based economic multilateralism and stable security environment would best reflect Germany’s material and ideational interests. Alternatively, Germany could live with a return to the American unipolarity of the nineties and noughties, which provided security and economic prosperity. But this would pre-suppose the absence of US-Chinese competition. Again, realistically an international system that that is underpinned by a stable balance-of-power might help limit geopolitical instability and economic fragmentation risks. From Berlin’s perspective, this would be preferable to a situation where US-Chinese bipolar competition is highly dynamic and potentially destabilizing, strategically and economically.

Berlin would like to see a strengthening of multilateral cooperation and collective security that includes Washington and Beijing. In addition to arms control and collective security, Germany would like to see the creation of a level economic playing field (“fair competition”) as well as see Washington to recommit to multilateral, rules-based international economic governance and reform. In such a world, countries could again focus on the pursuit of economic cooperation and allow for technological diffusion. Unfortunately, this is not going to happen.

Germany’s preferred future includes a stronger, more unified Europe capable to deterring military aggression and third-party geo-economic coercion. Such a future includes the creation of a sustainable security architecture in Europe that addresses both European Union and Russian security interests. More integrated markets and the deepening of the monetary and banking union would make not only make intra-European cooperation more efficient and resilient. It would also make Europe and Germany less vulnerable to political and geo-economic coercion. In the German view, ‘European strategic autonomy’ would help limit vulnerability and facilitate rules-based cooperation with the United States and China.

Europe and the next 30 years

Europe’s vision of its preferred future is closely tied to the concept of ‘European strategic autonomy’ defined as "the capacity to act autonomously when and where necessary and with partners wherever possible". Or more precisely, "the EU's ability to decide for itself and to have the necessary instruments, means, capacities and capabilities to act upon its decisions, in such a manner that it is able to safeguard its long-term interests, with others when possible but on its own when needed, without depending on the will and capabilities of third parties." Again, the EU would prefer a future based on collective security and rules-based economic cooperation. As such a future is unlikely, it is attempting to prepare for a future where US-Chinese rivalry and the weaponization of economic interdependence puts European interests at risk.

The way forward?

Task #1: Washington and Beijing should try to explore ways to engage in what has been called “managed strategic competition” and seek to create a stable balance of power. Both sides would need to come to believe that they are unlikely to prevail in case of unfettered competition, or they need to believe that neither side can win due to dynamic balancing. This may make them amenable to managed, more predictable and hence less destabilizing relationship.

Task #2: If Europe were to emerge as a co-equal, autonomous geopolitical player, it might be able to exercise a moderating influence on US-Chinese competition. After all, both Washington and Beijing would want to ensure that Europe does not tilt too far towards their geostrategic competitor. This might provide Europe with some, albeit likely limited influence. Alternatively, by throwing its support behind Washington, the EU may be able to get Beijing to reconsider the wisdom of pursuing revisionist policies.

Task #3: Even if it remains unable to influence the course of US-Chinese competition, a stronger and more autonomous Europe might hold out the prospect of cooperation among middle powers, such as Canada, Japan, Korea, and so on. This could help save multilateral, rules-based economic cooperation apart from US-Chinese rivalry. 

Task #4: It might be worth exploring whether reforming existing global governance regimes to account for China’s greater weight might help moderate Beijing’s desire to build an alternative economic governance regime (‘cooptation’). But this is only realistic if the United States can credibly commit to refrain from weaponizing economic interdependence. Also somewhere between unlikely and impossible.