What is the state of China-Taiwan relations?

President George Bush fanned the flames of the longstanding conflict between China and Taiwan during his November 16 speech in Kyoto, at the start of a week-long state visit to Asia. In urging China to expand openness and allow its people more freedoms, the president used Taiwan as a model, saying Taiwan had brought prosperity to its people by embracing freedom and creating a democratic Chinese society. China rejected Bush's comments. "Taiwan is an inseparable part ofChina, and China does not brook any interference in its internal affairs," Foreign Minister Li Zhaoxing told reporters at the Asia-Pacific Economic Cooperation (APEC) summit in South Korea. Bush meets Chinese President Hu Jintao and other Asian leaders at the summit November 19.

What is the history of the conflict?

Taiwan, an island of 23 million off China's southern coast, was occupied by Japan for fifty years, from 1895 to 1945. In 1949, after Chiang Kai-shek's Nationalist Party lost its power struggle with the Communist Party in China, Chiang and his followers fled to Taiwan. Their Kuomintang (KMT) government-in-exile in Taipei defined itself as the alternative to Communist rule and hoped one day to return to power in Beijing. The KMT governed Taiwan from 1949 to 2000; its often harsh rule included discriminatory laws against ethnic Taiwanese and nearly forty years of martial law, which was finally lifted in 1987. The KMT has historically seen Taiwan as a part of "one China" that would eventually be reunited under Nationalist rule.

Taiwan's current ruling party, the predominantly ethnic Taiwanese Democratic Progressive Party (DPP) was founded in 1986 to counter the KMT, and only became legal in 1989 after a longtime ban on opposition parties was dropped. Taiwanese President Chen Shui-Bian is a member of the DPP, which envisions Taiwan as an independent nation, separate from China. In 2000, Chen was the first DPP candidate to be elected president. Taiwanese sovereignty is the first and most prominent issue on the party's platform. This position has put the DPP severely at odds with China's leadership, which views Taiwan as a renegade province that will one day be reunited with Communist China--by force, if necessary.

What is the U.S. position?

The United States officially recognizes only one China -- including Taiwan -- and urges a peaceful resolution to the Taiwan question. However, Washington is also bound by the 1979 Taiwan Relations Act to aid in Taiwan 's defense, including selling the island the weapons it needs to defend itself against China. Experts say the United States is walking a fine line between China 's growing influence and the historical U.S. relationship with Taiwan. "Bush had to stand up for freedom and democracy and all the other values he constantly talks about, without picking a fight with China that nobody really wants," says David Kang, an Asia expert and visiting professor at Stanford University's Shorenstein APARC. Bush stressed in his speech that "there should be no unilateral attempts to change the status quo by either side."

What is the impetus behind independence for Taiwan?

After the long KMT reign, many Taiwanese are now pushing for self-determination. Independence advocates say Taiwan is a free and democratic nation with multiparty elections and a very successful economy, with a gross national product (GNP) of $328 billion in 2004, of which $174 billion was due to exports including electronics, computer parts, textiles, metals, plastic, and rubber. They say the Taiwan people should have the right to decide for themselves if they want to join China or become an independent nation. Since Chen was elected to his first term in 2000, he has steadily pushed the idea of Taiwanese independence. He provoked Beijing August 3 by supporting the idea of a referendum to ask Taiwanese citizens if the island should declare formal independence from China. China is very hostile to such talk: On August 7, the official China Daily newspaper quoted a Chinese military official saying, "Taiwan choosing independence is tantamount to choosing war."

What has China been doing?

Making both incendiary statements and conciliatory moves. In July, General Zhu Chenghu, the dean of China's National Defense University, warned that China would attack the United States with nuclear weapons if it intervened in a military dispute over Taiwan. Although he later claimed the comments were his own and did not reflect the views of the state, Zhu's words generated international concern. However, China's actions toward some Taiwanese officials have been friendlier. James Soong, head of the Taiwanese opposition party People First, has visited China several times in the last year at the invitation of Beijing. Experts say Beijing is reaching out to opposition leaders in Taiwan in an attempt to sidestep the DPP and build new bases of support on the island. Soong is taking advantage of the opening to play for domestic political support and attempt to show up the DPP, they say. His actions infuriate the ruling party in Taiwan because, despite his unofficial status, Soong is building friendly relations with China in direct contrast to DPP policy.

What are the next steps?

Bush alluded to peace talks in his November 16 speech, but experts say such talks between China and Taiwan are unlikely in the near future. "There are elements moving towards peace talks, and other elements, especially in Taiwan, that are pushing toward independence and want to stick China in the eye," David Kang says. But "it's hard to say what Taiwan wants," he adds, noting the Taiwan electorate is almost evenly split between those who favor independence and those who want to improve relations with Beijing for historical, cultural, and especially economic reasons. David Kang says that, in the last several years, as many as one million Taiwanese have moved to China to do business.

What are Taiwan's security concerns?

China, located just 100 miles away across the Taiwan Strait, has hundreds of ballistic missiles aimed at Taiwan, and is targeting much of its recent militarization campaign specifically at the island, including building amphibious tanks that can be used to storm Taiwan's shores. China's military buildup has put Taiwan at a strategic disadvantage: Taiwan's military spending has dropped 25 percent over the last five years, to only 2.4 percent of gross domestic product (GDP). The United States has been pressuring the island to buy a specially designed $18 billion package of U.S. arms to improve its military capabilities. But some Taiwanese politicians are reluctant to devote resources to military buildup given the presumed U.S. protection, and opposition leaders have blocked the sale over what experts call domestic political squabbling. But, David Kang points out, a military invasion of Taiwan by China is highly improbable. "That's the least likely scenario," he says. "You can have a military dispute that's far short of all-out war."

On the surface, President Bush's week-long swing through Northeast Asia has been a strong contrast with his recent stormy (and, some say, stumbling) excursion into Latin America.

There was little sign of overt anti-Americanism. And no Asian leader will openly oppose American leadership in the flamboyant manner of Venezuela's Hugo Chavez. Even prickly China swallowed President Bush's barbs about lack of democratic freedom in China, quietly acknowledging the two powers' differences. In contrast to the meeting of leaders from the Americas, the annual summit of the Asia Pacific Economic Cooperation (APEC) forum in Korea will embrace the principles of free trade.

Beneath the polite appearance, however, there is no less a challenge to American leadership in Asia. While Washington fiddled, a powerful momentum has been building up in Asia toward the formation of an East Asian Free Trade Area or, more ambitiously, an East Asian Community, modeled on the European community. Led by China, the East Asian grouping pointedly excludes the United States.

The APEC agenda focuses on an initiative to counter the spread of avian flu and to offer a common push at the WTO meeting in Hong Kong next month to revive the Doha Round of global trade talks. The Bush administration has its own agenda for the APEC meeting: to reposition itself as a leader of economic growth and integration in the region. For this, APEC has the virtue of being a more open organization than those behind the disappointment at the American summit. Its 21 members span the Pacific Rim, bringing together nations from Chile and Mexico to Russia, China and Southeast Asia. But this attention to APEC may be a case of too little, too late. The momentum to give the amorphous APEC an ongoing institutional role, beyond its annual summit meetings, has slowed in recent years. Its pledges for mutual tariff reduction exist almost entirely on paper.

Until this year, the Bush administration barely addressed regional economic issues at APEC. It preferred to use the meetings to promote a post-9/11 security agenda of anti-terrorism. U.S. trade policy has focused more on reaching free trade agreements with a few selected "friends" in that war, such as Singapore and Australia.

Meanwhile a Chinese-sponsored move to hold an East Asian summit offers the most visible expression of a trend of declining American influence in Asia. That meeting will take place in Malaysia in mid-December. The gathering groups the 10-member Association of Southeast Asian Nations, Japan, China, South Korea, India, Australia and New Zealand. Pointedly not invited is the United States.

This meeting is an outgrowth of the ASEAN Plus Three (APT) process - an annual dialogue of ASEAN with China, South Korea and Japan that began in December 1997 in the midst of the Asian financial crisis. The APT has grown into an elaborate mechanism for cooperation in a range of areas from finance and agriculture to information technology. This reflects an underlying economic reality - the growth of regional and bilateral trade agreements and the rapid rise of intra-Asian trade.

Until fairly recently, foreign trade in East Asia was dominated by trans-Pacific trade with the United States. But the share of Asian exports headed to the U.S. has dropped dramatically, while those destined for other Asian nations has risen. In the two decades from 1981 to 2001, according to economist Edward Lincoln, the share of intra-regional exports has risen from 32 percent to 40 percent, and intra-regional imports from 32 percent to 50 percent.

Much of the growth of regional integration is being driven by China, which is generating enormous demand for imports of raw materials as well as for semi-finished goods that are assembled for export. China has not been hesitant to use this role to expand its influence in the region. It has embraced the APT as a road towards creation of an East Asian community. At the ASEAN summit last year, Chinese Premier Wen Jiabao declared that such a community was a "long-term strategic choice in the interests of China's development." China has also outmatched the U.S. in negotiating free trade agreements, both bilateral and regional. The most impressive is an FTA deal between China and ASEAN set to take effect in 2010. Beijing even dreams of an Asian currency, based on the Chinese yuan, to rival the dollar and the euro.

China is not the first nation to try for such East Asian economic unity. Back in the days when Japan was riding high as an economic superpower, it too talked of leading an East Asian bloc, based on a yen currency zone. As late as 1997, in response to the Asian financial crisis, Japan proposed the creation of an Asian Monetary Fund, a kind of alternate regional financial system. More recently, both South Korea and Japan offered their own visions of an East Asian community in 2001. And both countries tried to match China in the APT by offering to form free trade agreements with ASEAN.

Japan, however, was never as successful as China is likely to be. "It would seem that Japan is a natural counterweight to China, but Tokyo is generally perceived as reactive and incapable of outflanking Beijing," Brad Glosserman, director of research at the Pacific Forum of CSIS, wrote recently. "Its economic dynamism is no match for that of China."

The United States has never been friendly toward efforts to create an East Asian economic bloc, viewing them as chipping away at the global trading system and rivaling American leadership. But Asia is arguably only following in American footsteps -- witness the NAFTA deal with Canada and Mexico and the more recent trade pact with Central America.

Many American policymakers believe these developments are partly a product of the failure of the Bush administration to articulate - much less pursue - a strategy to engage East Asia.

"The United States has greater strategic interests in Asia now than it did in Europe before World War I or World War II,'' argued a recent report of the Grand Strategic Choices Working Group, co-chaired by John Hopkin's University's Francis Fukuyama and Princeton's G. John Ikenberry. "Thus," the report continued, "it is unfortunate that part of the problem, in East Asia in particular, is that America's relative lack of interest in tending to the region has caused some allies of the U.S. to doubt our resolve and question the value of resisting unfavorable developments alone."

The report echoes other policymakers in suggesting the U.S. form its own East Asian economic zone with Japan, South Korea and Australia."That's a non-starter,'' says Professor Vinod Aggarwal, director of Berkeley's APEC study center. "Nobody wants to be cut out of the China market."

Privately, Bush administration officials downplay the importance of the East Asian summit in December, pointing to the lack of any concrete agenda. The addition of India, Australia and New Zealand to the invitation list, along with Japan, should effectively counter any Chinese initiative, they believe.

But those countries also fear being left out of whatever may emerge from this process. They cannot afford to be left on the outside, looking in.

Ultimately, neither can the United States. The President's trip is a belated recognition of that fact. But to be more than a momentary gesture, the United States must give East Asia the consistent attention it deserves.

Over the last several decades, there has been a strenuous debate about policies for economic development between the Washington Consensus promoted by the major international financial institutions and the revisionist political economists . Followers of the former view advocate free and unfettered markets buttressed by institutions to protect property rights. The revisionists argue that development involves social and political processes not adequately captured by the narrow prescriptive focus of the Washington Consensus.

In confronting globalization, there is also a new split among the revisionists themselves. Whereas the Washington Consensus welcomes globalization as a boon to developing countries through expanding the scope of market forces, the revisionists divide over the prospects for developing countries under globalization. The optimists, such as Ernst and Saxenian, see transnational networks as providing opportunities for developing countries to continue to learn the skills and competencies necessary to further their progress. The pessimists of the revisionist camp, such as Stiglitz and Strange, see globalization eroding the capabilities of the state or state-societal alliances necessary for development.

Using the case of technological upgrading (one aspect of economic development) in China's information technology (IT) industry, I demonstrate that opportunities for development exist under globalization. These paths to development are not simply the result of picking the right international networks to join nor are they due to the continued efficacy of state action. They also do not arise from well-developed market institutions within China. China's development success in spite of low levels of state industrial policymaking capacity and very incomplete market institutions tells us that other developing countries similarly unequipped can develop even in this globalized world.

In China's IT industry, two local institutional variables, firm operational strategies and state-firm relations, have interacted with the technology flows present in global networks to create opportunities for certain types of firms to upgrade. A firm's operational strategy (OS) determines its motivation to upgrade in China as opposed to doing so elsewhere. The relationship of firms to the state determines their sources of finance i.e. whether or not they can access functioning financial institutions.

The relationship of firms to the state determines their sources of finance and these sources of finance in turn impact their ability to upgrade. Sources of finance that provide credit with hard budget constraints give firms incentives to upgrade. Firms have hard budget constraints when they do not receive free help in covering their own financial obligations. With hard budget constraints forcing firms to meet their financial obligations, firms have to remain competitive to survive. For technology firms, a critical part of their competitiveness is their technology so they have every incentive to improve their technologies to keep pace with competitors. Finance that provides credit with soft budget constraints deprives firms of the incentives and even the capabilities to upgrade. Firms have soft budget constraints when they do not have to pay for some or all of their financial obligations themselves. These firms can rationally expect to survive even if not competitive because others are willing to bail them out. A third possibility is no source of finance. Firms without financing will not be able to invest in technological development.

There are four types of firms in China: the favored domestic firms, the neglected domestic firms, the hybrid foreign-invested enterprises (FIEs) and the regular FIEs. Financing and motivation have varied across firm categories. Due to different state-firm relations, FIEs rely on foreign finance and domestic firms do not. Hybrid FIEs differ from regular FIEs because the hybrids have a China-based operational strategy. This operational strategy (OS) is a mix of interests and ideational factors that causes these firms to perceive China either as the vital center of their operations (the China-based OS) or as just another location among many (the non-China-based OS). Thus, variation in firm-state relations (finance) and operational strategy (motivation) determine the variation in technological upgrading.

This thesis finds that the two types of FIEs are more likely to contribute to upgrading in China than the two types of domestic firms. Among the FIEs, the hybrid FIEs are more likely to contribute than the regular FIEs though the discrepancy is not as large as it is between the FIEs and domestic firms.

The hybrids are the most successful upgraders because they have both disciplined finance (i.e. credit with relatively hard budget constraints) from foreign financial institutions and the motivation to upgrade in China due to their China-based OS. The unsuccessful domestic upgraders lack finance (neglected domestic firms) or financial discipline (the favored domestic firms) due to their particular relationships to the state. The regular FIEs have the capabilities to upgrade due to their financial discipline and access to transnational technology networks, but undertake less upgrading in China than the hybrids because they lack the China-based operational strategy.