Why a Weakened China Will Break Up With Its Friend Israel

Beijing's economic woes shouldn't affect its appetite for Israeli high-tech, but there's that problem of people who think outside the box.

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Security cameras look out over Tiananmen Square: Beijing would be thrilled for Chinese subjects to think outside the box - when it comes to inventing technology. But when they get home at night, keep your opinions to yourself.
Security cameras look out over Tiananmen Square: As Japan and S. Korea became more prosperous, they also became - whisper it - more democratic.Credit: AFP

George Soros, who is certainly someone to be taken seriously, said last week that it looks like it's 2008 all over again for the world economy.

China's stock market is seizing up and its economy is slowing. The world’s commodities exporters, which had been enriching themselves feeding China’s insatiable appetite for everything from coal to copper, are feeling the pinch.

Maybe it will all add up to nothing more than a hiccup, or maybe to a heart attack. No one really knows, including people who say they do. In 2011, Soros said it looked like another 2008 disaster was shaping up because of the Greek crisis that didn't happen.

But today, the risk is immense. Just as America's mortgage crisis eight years ago wound up infecting the globe, China's problems could easily morph into the world's problems.  It is the world's second-largest economy and it has been a dose of iron for an otherwise anemic global economy since 2008.  

The great yellow hope

For Israel, China has been the great yellow hope. It’s supposed to take the place of a sickly and politically unreliable Europe as our great trade partner, and it wouldn’t annoy us by complaining about the occupation or human rights. China would help balance out our excessive political and economic dependence on the United States, according to the local thinking.

The underlying assumption for all this was that China’s soaring growth trajectory would go on uninterrupted and that the 21st century would belong to Beijing. For Israel, the best part of all was that as a crucial part of its rise to superpower status, China would have to evolve from being the country that makes products for others; it would have to develop its own technology and a sophisticated services sector. Justifiably, Israel thought that as a country with high-tech smarts and no pretensions of being an industrial power competing with China, it could play a major role in this process.

This beautiful friendship began with Chinese companies acquiring Israel's biggest fresh-foods and dairy maker, Tnuva, and bidding to buy two Israeli insurance companies. Chinese companies have won contracts for big Israeli infrastructure projects and are investing heavily in Startup Nation. Even Israel’s universities are taking a piece of the action with several high-profile tie-ups with their Chinese counterparts.

A protest by Tnuva workers against the giant food company's sale to China, on May 27, 2014. The sale did go through.Credit: Ofer Vaknin

Admittedly, Israeli exports to China have remained slack, but that has been the least important part of the story.

But is the beautiful friendship over now that China’s heading south?

No more easy money

Let’s assume a mid-point scenario that China’s economic growth slows, but doesn’t collapse.

In that case, the one thing that's for sure is that the era of easy money for Chinese businesses and consumers is history.

One way Beijing had kept its economy strong since 2008 was with easy credit, and with so much money sloshing around some of it was bound to spill over not into China’s bubbly stock market but to places like Israel as well.

But the easy credit has brought total debt to a worrying 250% of GDP, and it can’t go on.

If the yuan keeps sinking and China’s economy keeps slowing, capital may continue to flow out of China, with or without access to easy loans, but probably not with the same abandon as before. 

In other words, Israeli tycoons who thought they had ready buyers from China for the companies they need to sell are in for a rude awakening. In fact, the sale of Clal Insurance fell through last week.

Then, there’s Startup Nation aspect of the friendship, which is more critical for the economy and Israel’s relationship with China.

Think, don't think

The long-term cure for China’s woes is its finessing the transition to a knowledge-based economy of advanced manufacturing and services, creating a wealthy consumer class along the way to buy all of this stuff.

Even as economic growth slows, it is likely Beijing and China’s corporate sector will continue pursuing this transition. This week, China’s leaders signaled as much, saying they were setting up a $30 billion fund for the country’s electronics industry, whose (admittedly fuzzy) mandate includes helping companies to develop advanced technologies. A similar fund set up in 2014 for the semiconductor industry helped finance overseas acquisitions and investments.

Thus, this aspect of the Israel-China relationship stands a good chance of surviving all the other problems besetting China.

Or not. The catch with building this knowledge economy is that it requires the existence of an educated workforce and demanding consumers, which is hard to square it with China’s oppressive political system.

On the one hand, its Communist leaders would like its citizens to be creative, innovative and daring, to think out of the box, to exchange ideas with their colleagues, and to invent disruptive technology -- at work. But when you get home at night, don’t give a second of critical thought to your political leaders or the big issues facing society.  Obey their dictates, read and view what they think is politically permissible, and keep your opinions to yourself or, even better, have none at all. Go build great new mobile technology, but we’ll tell you what content can go on it.

Give Bejing’s leaders credit. They may not be politically flexible but they certainly observe carefully what is going on around them and learn their lessons.

Japan, South Korea and (closer to home) Hong Kong all began their rise to prosperity and power with the same model China has employed -- government-driven, export-oriented economies that put freedom and democracy on the back burner while their economies grew and standards of living rose. Korea was a dictatorship, Hong Kong was a colony and Japan was effectively a one-party democracy during those years.

But as they made the transition to more sophisticated economies, they also became freer and more democratic.  Since the 1990s, Japan’s Liberal Democratic Party has routinely shared power with other parties and dictatorship in South Korea came to an end in 1987. Hong Kong, under Chinese rule, has a vibrant pro-democracy movement despite Beijing’s determination to snuff it out. It has a free press and stands most tests of being an open society.

Making the transition to a knowledge economy will be hard enough to pull off economically, but politically and socially it’s going to be even tougher. Obsessed as they are with order, hierarchy and control while trying to build a business culture that places little value on any of that, China’s leaders face hard decisions. Their instincts, certainly on a day-to-day level, will likely favor control, and the beautiful friendship with Startup Nation will likely be a casualty.