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"Canada can, within a positive friendly atmosphere, ask the Chinese government to resolve the Tibetan situation."

FACTBOX: Key political risks to watch in China

August 5, 2010

By Emma Graham-Harrison
August 3, 2010

BEIJING, Aug 2 -- China is pulling past the
global economic downturn with robust growth, but
this has generated new risks and concerns over
trade imbalances, currency policy and the overheating of the domestic economy.

Following is a summary of the key risks for China:


A June announcement that Beijing would allow more
flexibility in its yuan currency caused a brief
let-up in pressure on one of the most sensitive
issues in the bilateral relationship.

But there is now mounting anger in the United
States about the slow rate of appreciation of the
yuan, which had been tightly pegged against the
dollar for two years. Analysts have always said
Beijing is likely to sanction only a very gradual rise.

With both countries still worried about growth,
there is also room for disputes over trade
protectionism or China's currency policy to flare
up again. U.S. lawmakers have scheduled a hearing
for Sept. 15 to consider whether government
action is needed to address China's exchange rate policy.

Rising disquiet about Chinese trade policy in the
United States could be exacerbated by broader
tensions over Tibet and Taiwan and now the South
China Sea, and inflamed by rhetoric in the run-up
to U.S. Congressional elections in November.

Foreign investors are worried about the country's
"indigenous innovation" rules for government
procurement, which they say favour domestic
producers. Beijing says it treats foreign firms
fairly and modified draft regulations to address their concerns.

What to watch:

* The speed of the yuan's climb. Economists
expect a cumulative rise of 2.4 percent against
the dollar by the end of the year. Would that be enough to disarm U.S. critics?

* The rhetoric from Washington and Beijing. Both
sides want to avoid any serious economic dispute
but also protect domestic industry and maintain
popular support at home. Signs Congress is
gaining more influence over U.S. policy, or that
retaliatory trade measures could expand, would unsettle markets.

* The debate in China. A top-down political
system limits outright clashes between officials
and ministries with rival views on the currency,
but tracking public comments can provide useful
hints on the direction of policy.


Relations between Washington and Beijing had
improved after a tense start to the year, but a
recent spat over the South China Sea risks rekindling tensions.

China made clear earlier this year it had put the
issue of its sovereignty over the South China Sea
on a list of "core" national security interests
including Tibet and Taiwan -- leaving little or no flexibility in negotiations.

The United States appears to have responded by
strengthening support for rival claimants to
parts of the sea, an area potentially rich in
energy and key for shipping which has long been
dogged by a web of sensitive territorial claims.

China was furious after the United States and
several other nations launched the first ever
substantive discussion of the issue at Asia's top security forum in July.

Beijing had kept the South China Sea off the
agenda of the ASEAN Regional Forum (ARF) for a decade and a half.

Beijing insists that the disputes -- serious
enough to have sparked sometimes deadly naval
clashes -- should only be handled on a one-on-one
basis. Some describe the strategy as "divide and
conquer" because China is by far the most powerful claimant.

The decades-old disputes are with Brunei,
Malaysia, Taiwan, the Philippines, and Vietnam.
China claims the majority of the sea based on
what it says is historic ownership of small, often uninhabited islands.

For Washington, staking out a position on the
South China Sea dispute is a gamble. It allows
the Pentagon to reassert U.S. influence in a
distant but vital area. However, it does so with
no clearly defined goal and is up against a resolute and patient Beijing.

What to watch:

* China pressuring foreign resource firms not to
work in disputed waters under contracts with other claimants.

* Potential standoffs with U.S. ships and spy
planes, or clashes between Chinese forces and militaries of other claimants.

* More Chinese military drills in disputed waters.

* More public Chinese discussion of the South
China Sea as a "core" interest, underlining a more aggressive approach.


China has been hit by a series of strikes in
recent weeks, especially in its southern
manufacturing region, at factories making
everything from car parts to air conditioners.
Most have ended with substantial wage increases for workers.

Wider discontent among an estimated 150 million
pool of migrant workers could potentially
undermine government authority or erode the
country's competitiveness as a low-cost factory hub.

But the unrest also fits with one of Beijing's
main economic agendas -- trying to boost domestic
consumption and narrow the yawning rich-poor gap,
by lifting the share of national income taken home by workers.

China's Communist Party has so far maintained
general authority and control. Outbreaks of
discontent have remained brief and localised, and
authorities have been toying with bringing
usually toothless official unions into negotiations.

But with the Party treating social stability as a
crucial issue, even limited challenges to the
Party's control can produce outsized policy
reactions. If Beijing feels strikes are getting
out of its broad control, expect a rapid crackdown.

Simmering tensions about land seizures and forced
eviction remain another flashpoint, with several
suicides by desperate homeowners in recent months
stoking public anger. The government has laid out
new rights for home and land owners, although it
is yet to be seen whether they will be respected on the ground.

Ethnic tensions in Tibet and Xinjiang have
distracted the central government and drawn
international concern, but have not seriously threatened national stability.

What to watch:

* Emergence of any regional- or national-level
protest movements. So far, protests have tended
to be organised at individual factories or
directed at local officials. Strict controls make
it difficult to form organised national
movements, but the internet played a role in
spreading labour unrest as workers read about
successful activism in other plants.

* Signs that urban public concerns about
inflation and housing costs are congealing into broader discontent.


After worries about a housing bubble and
unsustainable levels of local government debt in
the first half of the year, some investors now
fear that government efforts to take the market
off the boil could have a chilling impact on economy.

China's vast manufacturing sector cooled further
last month as the government kept its foot on the
credit brakes and held firm in its efforts to deter real estate speculation.

The official purchasing managers' index (PMI)
fell to a 17-month low in July of 51.2 from 52.1 in June.

But China's growth is underpinned by rising
incomes and vast infrastructure spending.

So while over-tightening has been a problem
before, most economists expect a slew of more
experienced policymakers to guide the economy to
growth of around 9 percent this year.

So far, there has been only a mild correction in
the property sector in response to the tightening
campaign, and Beijing has indicated that it is
determined to keep its foot down until prices drop to a more reasonable level.

The issue is of particular concern because
economic growth is the Communist Party's main
tool for ensuring stability and legitimising its rule.

What to watch:

* Hints from officials or state media that
Beijing might step back from tightening policies
and allow looser real estate and lending
conditions again. Easing the grip on these
sectors would rekindle concerns about a housing
bubble and bad debt, but lessen fears of a sharp tightening of the economy.

* Government data on everything from housing to
factory output and prices, although sometimes
flawed, offers the best indication of underlying economic trends.


Northeast Asian ties have been put to the test by
the sinking in March of a South Korean warship, with the loss of 46 lives.

Seoul, Tokyo and Washington blame Pyongyang.
China, secretive North Korea's only major ally,
has refused to join the chorus of condemnation
and says only that it is still assessing Seoul's
investigation into the sinking.

The United Nations Security Council last month
condemned the attack but did not directly blame the North.

Beijing is wary of abandoning its unstable
neighbour, fearing loss of influence. Ultimately
it wants to avoid a collapse of the government of
Kim Jong-il, which could send hundreds of
thousands of refugees flooding across its border
and remove a buffer against the U.S. troops stationed in South Korea.

China's relations with its near neighbours are at
risk, and the U.S. has stressed the importance of
a strong response to the "act of aggression",
while Obama has suggested Beijing is hiding from
the risks posed by North Korea.

China and the U.S. have however narrowed their
differences over how to contain Iran's nuclear
ambitions, with Beijing supporting a new round of United Nations sanctions.

What to watch:

* China's eventual response to South Korea's
report. If China remains reluctant to press
Pyongyang, ties with other neighbours could
suffer, as well as progress on other issues that
require Seoul and Tokyo to work with Beijing.

* Beijing and Pyongyang seem keen to revive
six-party talks on denuclearisation, in limbo
since 2007. But Seoul and Washington have said
Pyongyang must admit responsibility for the
Cheonan incident before they will return to the table.

* Any signs of further belligerence from North
Korea, which threatened to begin a "sacred war"
against the United States and South Korea in
response to military drills by the allies. (Editing by Andrew Marshall)
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