The Issue

The relationship between the United States and the People’s Republic of China (PRC) is one of growing complexity, as American decision makers must balance necessary cooperation but increasingly intense competition. The U.S. must maximize the benefits of its economic relationship with China even as it maintains the alliances, partnerships, and forward-deployed military to balance China’s increasingly strident bid to displace it as the Asia–Pacific’s preeminent power. Only through applying the principles of free trade can the U.S. maintain its economic leadership, effectively manage the China challenge, and help to preserve peace, security, and freedom in Asia.

China and the U.S., as the rising power and currently dominant power, respectively, are constantly competing with each other throughout East Asia even as the two economies continue to intertwine. As China’s strategic center of gravity has shifted to the coast, Beijing’s views of its “core interests” and fundamental national concerns mandate dominance, if not outright control, of the region lying within its “first island chain” stretching from Japan through Taiwan and the Philippines to the Malacca Strait. That the various East Asian states along that line are largely U.S. allies as well as major Chinese trading partners only highlights the complicated situation confronting U.S. decision makers in East Asia.

Unlike the Soviet Union during the Cold War, the U.S. and Chinese economies are highly interdependent. While China has consistently run a large current account surplus with the United States (largely as a result of higher saving rates over domestic consumption between both nations), the U.S. currently enjoys a large capital account surplus with China. The importation of capital from China into the U.S. has provided enormous liquidity and a lower cost of capital for both consumers and businesses. This has resulted in a higher rate of gross domestic investment and economic growth. It is just politics to say current account surpluses are superior to capital account surpluses.

Complementing the large trade imbalance with China is an investment imbalance. China’s huge reserves leave many American leaders wary of China’s influence on the U.S. as a creditor, especially when the U.S.’s national debt poses an increasing threat to financial security and solvency. This insecurity is greatly overstated as China would incur great capital losses if it rapidly sold U.S.-denominated assets. Moreover, other countries would quickly absorb the sell-off as bond prices fell and yields to maturity rose. China has business contracts and financial investments across the globe, but the bulk of its money is held in U.S. dollar assets because the American market is the only one large enough to absorb China’s giant foreign currency reserves. The lack of investment choices and China’s overriding interest in security and return on investment severely limit any influence China’s debt holdings have on the U.S.—a situation exacerbated by the structural problems of the eurozone and attractiveness of the euro.

China remains a growing economic powerhouse, but serious structural, economic, and even political issues hamper its further development and potential for economic leadership. These weaknesses have been exacerbated in important ways by renewed state intervention in the economy beginning around 2004. For example, reliance on state-directed investment has led to a profound economic imbalance and could threaten future growth. Frantic spending in response to the global recession has led to huge amounts of waste, corruption, debt, and distorted resource allocation. According to McKinsey research, Chinese aggregate debt (household, corporate, and government) has risen fourfold from 2008 through the end of 2014. Economic growth, as strong as 10 percent as recently as three years ago, has dropped to an estimated rate of just 5 percent (below the official estimate of 7 percent). It remains to be seen whether the new Chinese leadership is prepared to revive economic reform to reignite real, long-term growth or whether it will continue to rely on economic stimulus packages.

Critics claim that the cost of increasingly close economic ties between the U.S. and China has been the loss of American jobs. China’s exchange rate policies in particular are said to be harmful. China’s exchange rate has been appreciating, and its currency policy is not to blame for lost American jobs. The U.S. should not abandon its free-market approach to China and retreat into protectionism. For the government to interfere with purchases, sales, and other economic decisions made voluntarily by American consumers and American companies can only hurt our economy. It would also be a clear abandonment of America’s global leadership.

Although China has permitted more individual economic freedom over the past three decades, it is still a one-party authoritarian regime governed by the Communist Party. The party continues ruthlessly to suppress any group, and even lone individuals, who might threaten its monopoly on power. The government is struggling to manage environmental degradation and demographic instability, including the world’s largest migration from rural to urban areas, all of which contributes to social unrest. The one-party bureaucratic system, which answers to no outside authority, breeds corruption and leads to much administrative waste within the political system.

In addition to its internal conflicts and abuses of human rights, there are concerns that China’s rise is aimed at displacing American preeminence in the Western Pacific. China’s military has modernized steadily at a pace that often defies foreign expectations, aided by economic growth that has allowed the Chinese leadership to acquire both guns and butter. Official Chinese defense spending figures indicate annual double-digit growth for most of the past two decades. The People’s Liberation Army (PLA) has introduced new fighters, anti-ship ballistic missiles, space systems, and now an aircraft carrier faster than predicted. The Chinese military is also believed to be engaged in computer network attacks worldwide. These efforts are supported by reforms in Chinese military doctrine and training to allow the PLA to get the most from its new acquisitions.

Meanwhile, China has assumed an increasingly hardline stance in its territorial disputes with American friends and allies: in the East China Sea with Japan, in the South China Sea with the Philippines and Vietnam, and even on its southern border with India. The Taiwan issue also remains a potential flashpoint in Sino–U.S. relations, with over 1,200 Chinese ballistic missiles arrayed against the island. It is likely to return to the fore after elections on the island in 2016. Diplomatically, China has cultivated relationships with countries that openly oppose and threaten the United States, including North Korea and Iran. China has also become much more strident in opposing traditional freedom of navigation along its coast, directly challenging the long-standing American principle of freedom of the seas.

Only the United States has the ability to balance China and keep this increasing assertiveness in check. No Asian state currently has the ability to match China’s nuclear arsenal, growing conventional military capability, and burgeoning defense budget. Similarly, Taiwan can hope to defend itself only with U.S. support, including arms sales. For these reasons, Beijing has long pushed the U.S. to assume a smaller role with respect to Taiwan and the region as a whole. China has acquired weapons that are much more suited to countering U.S. military capabilities than they are to simply defending China’s own borders and sea lines of communications.

There is a growing sense that, despite the economic relationship, Beijing’s leaders are becoming more intent on challenging Washington’s presence in East Asia, especially where China has disputes with American allies, friends, and partners. Confrontation could result in disaster for the regional—and even the global—economy. For example, if China were to inhibit U.S.-provided freedom of transit in the South China Sea, the potential disruption of trade would be a disaster for U.S. allies and partners such as Taiwan, which imports 98 percent of its oil via the South China Sea. Roughly half of global trade in goods transits those waters.


Remain Economically Engaged with China and Encourage Free-Market Cooperation. Economic discussions should be tightly focused and based on open-market, not protectionist, principles. Although the PRC will not give up state intervention quickly or fully, the U.S. should encourage greater competition and fewer subsidies by aggressively seeking to roll back China’s mercantilist policies at the World Trade Organization. Freer movement of money in and out of China is another key issue; the U.S. should press it in appropriate bilateral and multilateral forums. Most important, however, the U.S. should focus on getting its own house in order and not mimic unwise Chinese policies.

Honestly Evaluate Chinese “Cooperation” to Date. The U.S. and China can work together on certain issues, but the U.S. should not credit China for helping where progress has not been made. China’s interests, whether regarding Syria, outer space, or maritime legal regimes, do not mirror those of the United States. China’s voting pattern at the U.N. is often antithetical to U.S. interests. China does not pretend that its interests are always the same as America’s, and the U.S. should recognize the same reality. We should not assume that there is a broadly shared vision of desirable outcomes; instead, we should adopt a more realistic view of cooperation based on coincidence of interests on a case-by-case basis.

Remain Committed to Treaty Alliances and Forge Deeper Relations with the Other Nations in East Asia. The U.S. has five treaty allies in the Asia–Pacific region (Japan, South Korea, the Philippines, Australia, and Thailand). The U.S. should be unequivocal in its commitment to mutual defense under these treaties. The U.S. should engage these and other, non-ally nations in the region so that they do not perceive China as the sole game in town. India is the leading power in South Asia, but China has made inroads with neighboring countries that could come at the expense of stability and democratic trends in the region.

Congress should thoroughly evaluate the recently completed Trans-Pacific Partnership (TPP) to ensure that, on balance, it enhances economic freedom for all concerned. The U.S. first joined talks on the TPP under the Bush Administration. The 12 nations that are currently part of the negotiations encompass 40 percent of the global economy. The outcome should be as sweeping as possible in lifting barriers to trade and reaching behind borders to free investment. Its scope should be at least as ambitious as the U.S.–South Korea free trade agreement.

Develop and Maintain a Strong, Comprehensive Response to Bad Chinese Behavior. Progress in one area does not excuse China’s shortcomings in other areas. China should not escape condemnation with the pretense of being a “responsible stakeholder” when it provides diplomatic assistance to authoritarian regimes—such as Syria, North Korea, Iran, and Sudan—that abuse their own people and/or threaten American security. Likewise, China’s unwillingness to recognize the negative aspects of its conduct as a powerful nation, such as the rampant cyber-intrusions originating from China, need to be addressed.

Maintain a Strong U.S. Military Presence in Asia. U.S. Navy and Coast Guard shipbuilding and modernization programs should be fully funded. The U.S. should also invest in long-range power projection systems (such as unmanned aerial vehicles, bombers, and nuclear attack submarines) and other systems that would counter efforts to deny U.S. forces access to the region or interfere with the freedom of the seas. In addition, the U.S. should maintain robust bases in the region to support U.S. forces.

Facts and Figures

  • With a freedom score of just 52.7, China was ranked 139 out of the 178 nations in The Heritage Foundation/Wall Street Journal 2015 Index of Economic Freedom.
  • As of October 2015, Chinese foreign exchange reserves have fallen from a peak of $4.0 trillion to approximately $3.4 trillion. This has occurred primarily because of capital flight and Chinese authorities selling U.S. denominated assets to prevent a more acute depreciation of the yuan.
  • According to the U.S. Department of Defense, China’s official defense budget rose from an estimated $119 billion in 2013 to $136.3 billion in 2014, a nearly $15 billion increase in only one year.
  • China now has the second largest defense budget in the world.

Selected Additional Resources

Dean Cheng, “The Complicated History of U.S. Relations with China,” The Heritage Foundation, October 11, 2012.

Dean Cheng, “Kerry’s First Visit to Asia: Where Is the Pivot?” Heritage Foundation Issue Brief No. 3902, April 9, 2013.

Dean Cheng and Derek Scissors, “Why China Is Worse Off than It Was a Decade Ago,” Heritage Foundation Commentary, November 9, 2012.

Franklin Lavin, “Consequential China: U.S.–China Relations in a Time of Transition,” Heritage Foundation Lecture No. 1188, June 28, 2011.