Pakistan

Traders stand near a screen showing the Indonesia Stock Exchange Composite Index during the first day of trading for 2012 in Jakarta January 2, 2012. Courtesy Reuters/Stringer. It’s been a fascinating year for Asia. The region has continued to consolidate its role as the essential player driving global recovery. Developing Asia, including China, India, and the major ASEAN economies, maintained robust growth, in contrast to the advanced economies’ collective anemic growth over the same period. But 2012 promises to be more fraught as domestic politics take command amid new challenges to growth. Here are twelve trends I see coming for Asia in 2012—risks, opportunities, and emerging patterns that will shape Asia during the next twelve months, and beyond. 1.         New Political Risks It’s often said that, in Asia, economics is in command. But one lesson of Europe’s current struggles is that politics (and especially German domestic politics) matters deeply to choices about the EU’s economic and financial future. Asia isn’t Europe, of course, but in Asia too politics will matter greatly in 2012. Electoral outcomes and succession arrangements are likely to roil markets, bring to power governments more (or, in some cases, less) committed to institutional, regulatory, and trade-related reforms, and possibly yield greater international tension. Three elections—in the United States, South Korea, and Taiwan—will feature candidates and parties with distinct policies and priorities. China will complete a scheduled, if unelected, leadership change. And North Korea’s elite, whose members aim above all to preserve themselves in power, must now navigate an earlier-than-expected transition that could yet produce infighting and vast new challenges for Pyongyang’s neighbors. Thailand bears watching too, as former Prime Minister Thaksin Shinawatra looks to return from exile. And such political risks will likely intensify well into 2014, when India and Indonesia hold elections. A possible return to Golkar rule in Indonesia, in particular, could slow institutional and policy reforms there. 2.         A Coming Asian Slowdown? Asia has sustained robust growth amid austerity in Europe and sluggish growth in the United States. But despite decent December data, new challenges are emerging for Asia’s most export-dependent economies. The Asian Development Bank predicts “much greater downside risks" in 2012 because the threat of recession in the U.S. and Europe remains, as does the prospect of destabilizing capital flows. Who’s most vulnerable? The markets will watch China especially closely because the world economy can hardly afford to have its three principal growth engines facing a crisis simultaneously. Beijing’s landmark 12th Five Year Plan deliberately aims to get slower but more balanced growth. But such structural adjustments will come only gradually, and, in the meantime, China’s economy continues to rely on exports and investment in fixed assets. That’s one reason the Chinese economy has slowed for four consecutive quarters. My friend Damien Ma has noted a big contradiction in the market’s view of China: Market participants have long hoped for a more sustainable growth trajectory (and, inevitably, more “sustainable” growth will mean slower growth); but now, with the world economy facing a slowdown, market participants have mostly reversed themselves: they no longer want slower but “sustainable” Chinese growth but rather even faster growth to bolster the world economy. Meanwhile, others, such as South Korea, will also be vulnerable in 2012. They have relied, in part, on Chinese demand to power their economies, so even a modest slowdown in China would have contagion effects elsewhere in Asia. 3.         Model vs. Model Preferential trade agreements (PTA) have proliferated in Asia. And the U.S. (finally!) entered the trade fray in 2011 by more fully embracing the Trans-Pacific Partnership (TPP), a once-modest effort among some members of the Asia Pacific Economic Cooperation (APEC) forum to move beyond consensus decision-making. In my view, TPP has considerable potential. But critics, like Jagdish Bhagwati, charge that TPP “includes numerous agendas unrelated to trade, such as labor standards and restraints on the use of capital-account controls” that would, among other things, preclude China’s membership. Beijing has in essence, criticized TPP as part of a U.S. strategy to “contain” China. Yet Beijing has promoted its own brand of PTAs across the region—with ASEAN, Pakistan, Singapore, and others. The Doha round is going nowhere fast, so debates will intensify in 2012 about what types of agreements make sense as global trade negotiations continue to stall. 4.         Can the United States Get its Act Together? So much was made in 2011 of Washington’s supposed strategic “pivot” to Asia. But the reality is that the “pivot,” such as it is, mostly reflects longstanding U.S. policies in Asia and is anchored in strategic and policy pillars that date back decades. A bigger issue for Washington’s partners in Asia is that the United States, for all its inherent strengths, still doesn’t have its economic act together. Thus the principal strategic issue for most in Asia is whether America restores its economy and addresses its fiscal deficit and growth outlook. Dealing vigorously with debt, entitlement and tax reform, questions of business competitiveness, and energy and education policies, among others, will loom ever larger as Asians contemplate America. The weaker America’s fiscal and economic position becomes in 2012, the less relevant the United States will be to Asia’s future. 5.        More Gloom About India India will grow robustly, but more slowly in 2012. And that’s one of many sources of gloom about India’s prospects. Tax, pension, and FDI reforms have stalled. Parliamentary business has been tied up in knots as the leading national and regional parties squabble. Mumbai’s SENSEX stock index was the world’s worst major performer in 2011, declining from 20,561.05 on January 3 to 15,175.08 on December 19. Will India’s politicians become bolder in 2012? It’s unlikely. Bellwether state elections, especially in Uttar Pradesh, are almost certain to make the major parties more cautious still. With a few exceptions, the markets (and many in India’s own political class) will express more gloom, and ask even tougher questions, about India’s trajectory in 2012. This piece from Tarun Das is a terrific example. 6.         A Farewell to Reform? But India won’t be the only country to face intensified scrutiny of its reform trajectory in 2012. In Vietnam and Indonesia, too, FDI, regulatory, or financial reforms have largely stalled and show little sign of revival. And by far the biggest question mark about reform is China. Some in Beijing, for example, argue that China now has “reform fatigue,” made worse by a sensitive political transition. But resistance to reform is also anchored in interest group politics and, thus, is more endemic and likely to be stubborn. Chinese leaders, as cautious technocrats, tend to split the difference between competing groups in China’s increasingly pluralistic polity. And the result has been a strong bias toward incremental policy change rather than bold reforms. One bright spot in 2012 may be Malaysia, which has begun to shed elements of its 1970s era “New Economic Policy.” 7.         ASEAN’s Burma Opportunity Are political reforms in Burma for real? We will learn much more in 2012 as the regime weighs further prisoner releases, the future of the now legalized National League for Democracy, and Aung San Suu Kyi’s own desire to run for office. But another question mark will be ASEAN’s response to this change. Balancing the role of great powers to the north—China and Japan—has long provided an impetus to ASEAN community building. And concern about China, in particular, helped drive the transformation of ASEAN after the end of the Vietnam War. ASEAN’s founding members wanted all ten countries joined as a cohesive force to help balance China. But their timing in expanding ASEAN’s membership was poor: unlike Vietnam, Burma, which joined in 1997 (two years after Hanoi) has stubbornly resisted ASEAN ways. So with Burma now scheduled to assume the ASEAN chairmanship in 2014, regional heavyweights, like Indonesia, will face tough decisions about how hard to push the regime. And they must weigh how to assimilate Burma to ASEAN ways as the date of Naypyidaw’s stewardship approaches. 8.         China Inc. … Coming West Beijing is sitting on over $3 trillion in foreign exchange reserves (much of it in U.S. dollars), with billions more in the hands of corporations eager to invest in U.S. and European markets. The U.S. and Europe will press Beijing harder on currency values, intellectual property, and market opening in 2012. But for its part, China is certain to press harder for more openness to direct investment from China Inc., including its state-owned companies. That will yield intense political debate, especially in the U.S. Some have argued that Chinese investments, especially from non-state companies, would be on a sounder political footing if they created jobs through greenfield investments rather than the portfolio investment and corporate mergers and acquisitions that Chinese companies have tended to prefer. The fact is, the level of job-creating Chinese investment remains very small. In 2010, Chinese FDI stock in the United States was $5.9 billion—just about one-tenth of the $50 billion of U.S. FDI stock in China. And while FDI from all countries has created 5.6 million U.S. jobs, including over 2 million in manufacturing, affiliates of Chinese firms in the U.S. employed barely more than 4,000 Americans in 2009. 9.      The Big Hedge Gets Thornier This central strategic reality of Asia will remain in 2012: Asian countries are deepening defense and political coordination with the United States (and each other) as a hedge against Beijing’s growing strategic weight; but, even against that backdrop, slack global demand means that China will continue to power the growth of nearly every major economy in Asia. Put simply, economics and security are increasingly in collision. So one reason Washington’s best friends are rooting so hard for U.S. recovery in 2012 is precisely because they fear this balancing act cannot prove sustainable forever. The United States continues to provide Asia’s principal security-related public goods through its forward-deployed military presence and role as a strategic balancer. But Asian economies will increasingly provide one another with their principal economic-related public good—namely, the demand that can provide a pathway to sustained economic growth. This collision between economics and security may well intensify in 2012. 10.       More Trade Conflict Protectionist pressures will rise in 2012. But, just as important, so too will the tolerance for trade conflict, particularly in Washington and Beijing. China has grown more comfortable with the World Trade Organization’s dispute-resolution procedures. And, having learned to leverage the system to its own advantage, Beijing is vigorously fighting U.S. suits in many areas. It has investigated numerous anti-dumping cases brought by Chinese producers, lent its ear to a proliferation of Chinese business lobbies, and recently slapped countervailing duties on U.S. auto exports in response to a U.S. case on chicken parts. For their part, U.S. political and business elites are certain to complain ever more loudly about Chinese currency, intellectual property, procurement, and cyber-related practices. Most in Asia will watch warily, fearing greater protectionism. But some will jump on the bandwagon: India has already initiated 149 anti-dumping cases against China. 11.        Learning from Asia Robert Zoellick, the World Bank president, has argued that the economic models now being emulated in Africa and beyond will come increasingly from outside the advanced G7 economies. The rich world, Zoellick argues, cannot patronize developing nations with aid conditions and policy guidance when its own recent performance has been so dismal. In 2012, others will continue to look to Asia in this way. Zoellick noted two examples in a recent speech: India’s model for information technology services, copied by Ghana, Kenya, Nigeria, and others; and Singapore’s combination of “open economy, services cluster, anti-corruption, and relentless adaptation to changing conditions.” 12.       State Building or Economic Disintegration in Continental Asia? Finally, 2012 should be another rough year for Afghanistan, Central Asia, and Pakistan. War, terrorism, narcotics, and weak political institutions steal headlines, of course. But the region’s future will depend as much on whether governments improve their poor macro- and microeconomic fundamentals and expand opportunity—for example by improving trade and transit regimes. Central Asia suffers from a poisonous combination of landlocked geography and especially bad economic policies. Major initiatives, including from the international financial institutions, seek to change this. In its own way, so does infrastructure construction by China. But the sad reality is that enthusiasm for cooperation remains far greater outside the region than among the states themselves. Economic change will remain elusive unless these states better cooperate in 2012. Meanwhile, Pakistan’s economy has considerable potential. But the country lacks a credible growth strategy. And Islamabad will remain burdened by a high debt-to-GDP ratio that crossed 60 percent in 2010, painful debt service obligations to its creditors, a large fiscal deficit, double-digit inflation, a depreciating rupee, and a trade deficit worsened by high global commodity prices. These economic realities will compound intensifying political risks in Pakistan.

A Pakistani policeman keeps watch near a Pakistan-China friendship billboard in Islamabad February 3, 2002. (Claro Cortes IV / Courtesy Reuters)  I’ve written a think piece for Foreign Affairs on two subjects: (1) China’s calculus in Pakistan, or, as the editors asked me, "Could China’s calculus ever change and, if so, what would change it?" and (2) China’s approach to risk management, which, I argue, increasingly includes an effort to balance three baskets of risk: geopolitical risk, political risk, and investment risk. The punchline? China’s calculus in Pakistan is becoming more diverse. So the central question will be the extent to which political, and especially investment, risks begin to complicate the straightforward geopolitical calculus that has long yielded a remarkable intimacy between Beijing and Islamabad. Beijing is too strategically tied to Pakistan—and too timid in its diplomacy, in any case—to off-load an erstwhile ally. But China is unlikely to be such an accommodating patron, either. Thus it will prove less willing to fund the ambitious infrastructure development schemes Islamabad favors. And what is more, the scope and scale of future Chinese economic activity will not, in itself, produce rapid, sustained, and balanced Pakistani growth. In the long term, economic interaction with India—the restoration of traditional regional ties and natural economic affinities in the subcontinent—will almost certainly be more decisive. The principal focus of the piece is China’s increasingly diverse approach to managing risks. You can read the essay here on the Foreign Affairs website.

Former U.S. Secretary of State Henry Kissinger delivers a speech in front of a picture of late U.S. President Richard Nixon meeting with late Premier Zhou Enlai during a ceremony in Shanghai to commemorate the 30th anniversary of the "Shanghai Communique." (China Photo/Courtesy Reuters) Can the United States and China cooperate to forestall threats to stability? A new CFR report, Managing Instability on China’s Periphery, asks this question in the context of fragile states and regions that share borders with China—specifically North Korea, Myanmar, Pakistan, and Central Asia. I participated in the project, which included workshops with Chinese specialists assembled by Peking University. I also wrote the report’s chapter on Central Asia. The project is interesting because the U.S. and China actually have a long history of cooperating in places along China’s border. Just take recent tensions over Afghanistan, for example. These strains belie the degree to which Beijing and Washington worked jointly to defeat the Soviet occupation of Afghanistan in the 1980s. Washington encouraged Chinese support for the Afghan mujahideen, and the two countries cooperated in other unprecedented ways during the conflict. But that was then. Today, the United States and China are often at loggerheads in such places. U.S. officials have argued that Chinese policies help to bolster Myanmar’s ruling junta. Many in Washington argue, too, that Chinese policies have shielded North Korea from the effects of international sanctions that Beijing itself has repeatedly voted for. For their part, Chinese officials often view U.S. policies in these countries as naïve at best, destabilizing at worst. Many in Beijing hold the view that U.S. and South Korean “failures” have cornered North Korea and thus urge deepened policies of engagement. In Central Asia, meanwhile, as Deputy Assistant Secretary of State for the region in 2006 and 2007, I heard Chinese officials argue ad infinitum that U.S. actions to promote political reform could, ultimately, destabilize these countries. What’s going on? Does cooperation really have to be so hard? For that matter, is coordination so hard because the U.S. and China lack common interests? I think not. In fact, asserting so is a too-easy cop out because, in most cases, it would be awfully hard to demonstrate empirically that China actually “wants” an unstable Pakistan or would just "love" a North Korea with nuclear weapons. In the countries at the heart of this CFR study, why wouldn’t China share America’s interest in stability, security, development, and prosperity? I suspect the problem usually isn’t a lack of common interests. It’s that shared interests, such as they are, are very general in nature. Turning (abstract) common interests into (concrete) complementary policies requires that Beijing and Washington overcome two very high hurdles: First, Beijing almost never seems to share American threat assessments anymore. Countries like Iran and North Korea don’t threaten China directly, so Beijing can probably afford to be more relaxed. That’s also, I suspect, why Chinese analysts so often argue that the U.S. “hypes” the threat. Second, even when Beijing shares America’s sense of threat, countervailing interests still obstruct cooperation. In Afghanistan, for example, China certainly shares America’s core interest: a stable Afghan state that does not harbor, nurture, or export terrorism. But Chinese decision-makers do not relish a path to victory that might produce a long-term NATO presence on China’s western border, U.S. bases and access agreements in Central Asia, and enhanced U.S. and NATO strategic coordination with neighbors that have had difficult relations with China. So, what’s to be done? More dialogue, perhaps? I’m skeptical. As I argue in my Central Asia chapter, dialogue, in itself, is not a policy, not least because dialogue for its own sake has not, in the recent past, proved especially useful. The United States and China have held routine dialogue on Central Asia since at least 2006. An institutionalized Central Asia sub-dialogue was established in December 2005 in the wake of a meeting of the U.S.-China Senior Dialogue in Washington between Vice Foreign Minister Dai Bingguo and Deputy Secretary of State Robert B. Zoellick. But the quality of the conversations has been mixed and few, if any, coordinated actions have emerged from it. Here, then, are a few bottom lines: First, since coordination has been weak, the United States and China should aim at complementary, but not necessarily joint, projects and actions. Of course the United States and China need, in the first instance, to establish more transparency and a better mutual understanding of each other’s strategic intentions. But both countries are active, for example, with capacity-building programs and projects. So it is important to remember that complementary projects and actions need not be conducted jointly. One example is counternarcotics work: China works bilaterally and through the Shanghai Cooperation Organization; the United States works mostly bilaterally through security assistance and capacity building. Washington and Beijing can coordinate their areas of focus, direct their respective financial assistance packages at similar drugs-related goals, and build complementary capacity while maintaining separate efforts. Second, of course the two countries should aim to improve coordination, but they shouldn’t expect to do real joint contingency planning. Not anytime soon, in any case. Here’s an example: It could hardly hurt to conduct confidential discussions about specific transnational risks. So let’s take food security: At a minimum, that issue could provide useful touch points about how each country would respond to crisis conditions in, for example, Central Asia, or even North Korea. But U.S.-China coordination will continue to be difficult for the various reasons noted above:  China does not often share American threat assessments; China does not support the U.S. approach to political or economic reform in, say, Central Asia or Pakistan; and finally, countervailing interests, clashing security concepts, and mutual suspicions will remain an obstacle for some time. To my mind, that means contingency discussions of, for example, donor principles and modalities in a prospective food crisis could build a better platform for U.S.-China coordination than, say, aiming high at the big security issues. Third, then, to use an American football metaphor: the two countries don’t always have to “throw long.” Working now on peripheral issues may well give both countries a better chance to work over time toward core strategic issues. Too often in recent years, I think, the U.S. has sought security cooperation with China, and then failed. Contingency discussions of North Korea are one example. There’s nothing wrong with trying. After all, such discussions would be great, if they could actually come off. But my bet is that coordinating economic policies will prove easier than coordinating security policies. And coordinating with ad hoc groups—for instance, with the Asian Development Bank’s Central Asia Regional Economic Cooperation (CAREC) program—will provide China with some “cover,” and thus prove easier than coordinating bilaterally. At the end of the day, the U.S. and China badly need to create a track record of concrete successes. And this is especially true in the places where shared strategic interests exist but remain awfully abstract. I hope you’ll read the report.  You can download it here.

The United States has effectively issued an ultimatum to Islamabad implying greater unilateral action against Pakistan-based extremist groups, but Washington must be prepared to act on it, says CFR’s Daniel Markey.

As ethno-political violence continues in Pakistan’s financial capital, Pakistani analyst Mosharraf Zaidi says the city needs a more effective police force and judicial system, which in turn will engender investor confidence globally.

The FBI’s arrest of Ghulam Nabi Fai on charges of acting as a Pakistani agent to lobby U.S. policymakers on Kashmir may worsen the countries’ already troubled relationship, says CFR’s Daniel Markey.

U.S. drone strikes and "kill/capture" missions against al-Qaeda operatives, particularly in Pakistan and Yemen, have gained new attention and notoriety this spring. Four experts debate the legality and efficacy of the controversial counterterrorism strategy.

Kazakhstan\’s President Nursultan Nazarbayev and India\’s Prime Minister Manmohan Singh inspect the guard of honor during their meeting in Astana April 16, 2011. Courtesy Reuters/Mukhtar Kholdorbekov. As the U.S. moves toward military withdrawal from Afghanistan, will its commitment to continental Asia slide too? My latest "DC Diary" column in India’s leading financial daily, the Business Standard, argues that the question is important to both the United States and India. It matters to Washington because Americans have other interests in Central Asia, quite apart from prosecuting the war. It matters to India because Central Asian governments will have fewer strategic options if the U.S. simply fades away. Here’s the central reality: U.S. withdrawal from Afghanistan will mean a reduced footprint in Central Asia. But the United States certainly doesn’t have to disappear. And the U.S. and India, too, have some shared strategic interests, not least in facilitating the reconnection of Central Asia to the world economy. As I’ve noted before (including on this blog), Central Asia was once integral to the Silk Road and the great caravan trade. But in the 17th century, it was pushed to the fringes of global commerce when the marginal cost of maritime trade dropped below the cost of continental trade. And as I’ve mentioned in prior blog posts, World Bank research shows that, today, landlocked countries, such as those in Central Asia, can face a growth deficit as high as 1.5 percentage points because transaction and other costs are so high. That’s bad because Central Asian countries, with the exception of Kazakhstan, remain fragile and sometimes volatile. So infrastructure and market linkages are essential to bolster opportunities for growth. And diversifying transit links from one (trans-Russia) to two (trans-China), to three (trans-Caspian), to four (trans-South Asia) directions on the compass would also reduce Central Asia’s vulnerability to political and economic pressure from a single source. In fact, that’s just where the U.S. and India can make a difference. Central Asians aim to broaden their partnerships beyond immediate neighbors. Surely, then, Washington could work with India, among many others, to assume a greater role as a facilitator of diversified foreign investments in the region. The good news is that India has taken some interest in transcontinental links within Eurasia. But Washington and New Delhi inevitably bump up against two central constraints: One is the lack of a sustainable India-Pakistan trade and transit regime. The other is the degree to which India looks to Iran as its point of entry and exit to and from Central Asia. Just take the reconnection of power lines: Central Asia has significant seasonal electricity surpluses and the potential to develop thousands of megawatts in new capacity. Its hydroelectric potential is particularly tempting. And gas and coal resources add to that capacity. For its part, South Asia needs energy to fuel its economic expansion. Electricity demand is rising in both India and Pakistan. And while the Kyrgyz Republic has, for example, historically earned about one U.S. cent per kilowatt hour on power sold northward, Pakistan’s generation costs have averaged about 5 cents while India’s cost for peaking power may double even that. The opportunities would be considerable if countries could cooperate to develop the right infrastructure and investment regime. But the state of India-Pakistan relations sets obvious constraints on the idea of moving Central Asian hydropower not just to Afghanistan and Pakistan but to India through coordinated purchase and supply arrangements and a reconnected grid. So, too, does Iran remain a constraint on regional opportunities. The ancient Silk Road ran to Persia. But Tehran’s noncompliance with nuclear safeguards agreements and defiance of UN Security Council resolutions virtually guarantee that Washington will oppose enhanced linkages. The U.S. and India can do much together. For one, they need to develop a shared strategic understanding of Central Asia. Continental Asia has been an arena for U.S.-India disagreement, even rancor. So a candid, if sometimes painful, discussion of what a post-American Afghanistan means for Central Asia is needed, and soon. And the U.S. and India can cooperate in more tangible ways too. India already hosts many students from Central Asia and its programs complement U.S. strengths through India’s own English-language educational offerings. By working with India—or even co-funding Central Asian students to study in India—the U.S. could supplement its own offerings, promote Central Asia’s linkages with India, and strengthen the U.S.-India partnership. Washington and New Delhi have every reason to multiply one another’s strengths in Central Asia through enhanced strategic coordination. The ultimate test will be to promote economic linkages and continental trade, but coordinated project finance, trade, aid, and investment policies would be a good place to start.

The killing of Osama bin Laden in a U.S. raid near Pakistan’s top military academy has fueled concerns about Pakistan’s support for Islamist radicals, but a resolution of the Kashmir dispute would help end support for those elements, says Pakistan expert Hassan Abbas.