By Andrew Rose, Japanese equities fund manager, Schroders
China and Japan have clashed over a cluster of East China Sea islands, known as Senkaku in Japan and Diaoyu in China. The islands are controlled by Japan but claimed by China and Taiwan. They are tiny, remote and uninhabited, but the surrounding waters are abundant in fish and have potentially rich mineral deposits. Anti-Japan demonstrations erupted across China after Japan nationalised three of the islands in early September, purchasing them from their private Japanese owner. This reignited a long-running dispute.
It should be noted that the government’s nationalisation of the islands was at least in part motivated by a desire to pre-empt their purchase by Shintaro Ishihara, governor of Tokyo. Ishihara has well-known nationalist views and his purchase could have provoked China more overtly. The prime minister’s effort has unfortunately backfired. At the industry level tourism, retail and consumer durables have been most immediately affected. September sales of Japanese cars in China halved compared with a year earlier and producers are adjusting short-term production schedules accordingly. The long-term impact will be broader if unrest persists or escalates. Is this likely? Not to judge by the most recent comparable incident in 2005, provoked by then prime minister Mr Koizumi, visiting Yasukuni Shrine, where Japan’s war dead are enshrined.
The souring of relations was relatively brief and resolved at a diplomatic level. One difference this time, though, is the political agenda in both countries: the short-term leadership transition in China and a likely general election in Japan. This could accentuate intransigence. The greatest test the Chinese leadership face in the near term will be how it addresses this dispute. Despite that, there are other reasons to think that tensions will ease, at least for the time being. Japan and China are now sufficiently important to each other economically to render the avoidance of prolonged or escalated tensions an absolute policy priority. China is Japan’s largest export destination. In China there is a danger that if anti-Japanese demonstrations continue to be given a ‘green light’, they morph into something broader, less controllable – and more threatening to the authorities.
In addition, whilst Japanese companies currently bear the brunt of the unrest, it is not difficult to imagine the implications for foreign direct investment in China in the event of a deterioration of events. The most likely outcome is another diplomatic compromise, perhaps after leadership changes in both countries. Military conflict seems unlikely. Equally, a lasting solution looks difficult and history suggests similar friction is likely to recur.
Comments