SUMMARY:
- China’s leadership will wait until the conclusion of French president Macron’s trip to China (April 4-7) before responding to the meeting today between Taiwan president Tsai Ing-wen and US House Speaker Kevin McCarthy in California
- Beijing’s eventual saber-rattling will likely be more measured than the massive military exercises and missile firings it used to respond to former speaker Pelosi’s visit to Taiwan last summer; relative restraint is due to Beijing’s balancing act ahead of Taiwan’s presidential election in January, Xi’s efforts to boost diplomatic engagement with Europe, and (least important) concerns over hurting fragile economic confidence.
As expected, Taiwan president Tsai Ing-wen met with US House Speaker Kevin McCarthy and other US lawmakers today at the Reagan Presidential Library in California. That meeting substitutes for a planned trip by McCarthy to Taiwan, following the precedent set by former speaker Nancy Pelosi’s visit last summer. The Tsai administration had discouraged a McCarthy trip to Taiwan for now given concern over Beijing’s reaction. The Biden administration has also made considerable efforts in recent weeks to downplay the significance of Tsai’s visit to the US and manage tensions with China.
What happens next? China’s leadership will be compelled to respond to the trip with stepped up saber-rattling in the Taiwan Strait, though we expect it to be delayed for several days, relatively measured, and with the market reaction modest and short-lived.
From China’s perspective a meeting in California is only marginally less provocative than McCarthy visiting Taiwan; this is, after all, the highest-level meeting between a Taiwan leader and elected US official to take place on US soil since the US and China reestablished diplomatic relations in the 1970s. Beijing needs to demonstrate – to the US, Taiwan, and its domestic population – that it will not tolerate meetings between Taiwan’s president and the US house speaker as routine.
In the short-term, Beijing will wait for the conclusion of the visit to China by French president Emmanuel Macron and European Commission president Ursula von der Leyen before doing anything dramatic. The trip wraps up on April 7.
Sometime thereafter, Beijing will likely unveil a lighter version of its response to the Pelosi visit, including military exercises and perhaps even missile tests near Taiwan.
Beijing has several incentives to keep its response relatively controlled:
- Taiwan will elect a new president in January 2024. The KMT party, which favors engagement with Beijing, has recently regained its competitiveness and has a viable shot of winning the presidency (Foxconn founder Terry Gou announced today that he will again seek the KMT nomination after a failed attempt in the last cycle). Former president Ma Ying-jeou, a KMT member, visited China last week – the first former Taiwan leader to ever do so. These are hopeful signs for China’s leadership, which will want to avoid actions that backfire and hurt the KMT chances – while also making clear that another four years for the DPP party would be tense.
- An excessive reaction would detract from Xi’s efforts to reengage with Europe and portray China as potentially playing a constructive role in deescalating the Ukraine conflict. It would also undermine Beijing’s bid to revive domestic and foreign business confidence in China, hard-hit by Covid and geopolitical tensions.
Taiwan, the most sensitive issue for Xi Jinping, will remain the key flashpoint in the US-China relationship. The Biden administration is straddling between efforts to reassure Taiwan of strong US backing, bipartisan pressure from Congress to scale up military and diplomatic support, and a desire to manage tensions with Beijing.
The upcoming presidential election in Taiwan reduces the tail risk of a crisis over Taiwan this year. A KMT election in January would lower cross-Strait tensions, but a victory by the DPP party would increase them – particularly as the DPP candidate for president will very likely be current vice president William Lai, known for strong pro-independence views that he has somewhat downplayed in recent months. In the event of a DPP victory, 2024 could be quite rocky, particularly as Republican candidates for US president compete over who can be the most hawkish in support for Taiwan.
We continue to think that the probabilities of a Chinese invasion of Taiwan in the next several years are very low but encourage investors to keep in mind that invasion is not the only risk to consider. There are other scenarios, such as a Chinese blockade of Taiwan, or a military standoff, that are less dramatic than an invasion but will still pose risks for markets and the global economy.
