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China’s strategy to address water stress offers Beijing opportunities to become a world leader in water management technologies, but it also threatens Beijing’s debt mitigation efforts, relations with Southeast Asia and attempts to attract foreign investment. July and August have heralded severe floods and droughts in China for the past three years, prompting new response measures as Beijing attempts to address China’s water stress issues. In the aftermath of recent extreme weather events, Beijing launched investigations into officials’ neglect of duty, dispatched emergency response teams for early harvesting to stem crop losses, and released billions of yuan in funds to ward off follow-on disasters, like pest infestations. Extreme weather is already hitting this summer, with the central rail hub of Zhengzhou receiving 9.2 inches (23.4 centimeters) of water in just three hours on July 8; videos on social media showed cars submerged on main roads, and local authorities closed tourist sites, urged residents to stay home, and moved to prevent flooding in the subway system.
The July 2021 floods in Henan province’s rail hub of Zhengzhou left at least 400 people dead or missing and disrupted national transportation after 23.6 inches (60 centimeters) of rain fell on the city over three days.
In August 2022, a drought left the Yangtze River’s water levels at record lows, triggering hydropower rationing in Sichuan, Jiangsu and Anhui provinces. The drought also caused Tongwei Co. Ltd., the world’s biggest solar cell and polysilicon producer, to curb production.
Typhoon rains in July-August 2023 ruined much of China’s wheat harvest and flooded Beijing, sparking outrage online when Beijing released floodwaters into nearby Hebei province and spurring China to import record volumes of wheat in 2023.
China’s Millennia-Old Focus on Water
For millennia, China’s breadbasket and the cradle of civilization has been the area south of the Yellow River and north of the Yangtze River. Partly because of this geography, water management has historically been a key marker of great leadership in China, with China’s first emperor Qin Shi Huang (reigned 221-210 BC) known partly for connecting the Yangtze and Pearl rivers via the Lingqu Canal to improve grain transport. The territorial limits of modern-day China stretch far beyond this cradle of civilization, with the area north of the Yellow River vulnerable to drought and the area south of the Yangtze prone to flooding. In fact, floods are so common in China’s history that the Yellow River is nicknamed “China’s sorrow.” In order to fulfill the Chinese Communist Party’s ambitious economic and industrial development goals — in short, overcoming the middle-income trap and becoming the world leader in next-generation technologies — Beijing must manage water supply, distribution and quality problems to overcome China’s geographical constraints, just like the imperial dynasties that preceded the Party.
In response to disasters and perennial water management challenges, Beijing recently released a national water security plan, put forth laws to protect key watersheds and ad hoc regulations, and pledged to expand an ambitious water diversion project. China’s five-year plan for water security (2021-25) encourages households to upgrade to more water-efficient appliances, aims to establish a water-trading rights system and water usage limits for industry, pledges to mobilize the “internet of things” for water resource monitoring, and promotes sponge cities and the strengthening of flood and drought mitigation systems. Beyond its specific details, the mere fact that water has been included under the umbrella of “security” (the central theme of Chinese President Xi Jinping’s leadership since 2012) suggests its importance to Beijing, as it is lumped together with other important security concepts like supply chain security, food security and data security. Separate from this five-year plan, China has recently passed legislation like the Yangtze River Protection Law (2020), the Yellow River Protection Law (2022) and the Qinghai-Tibet Plateau Ecological Conservation Law (2023). These laws aim to protect key water resources like glaciers, coordinate cross-provincial water management and river basin restoration, and curb industrial construction and water usage near key rivers while making water conservation an aspect of local officials’ job performance evaluations. Over the last two years, Beijing also has released various ad hoc regulations to flesh out the implementation of water conservation efforts. These include using remote sensing to monitor local soil and water loss, connecting local and national water management and distribution systems, requiring industries to upgrade water-inefficient equipment and follow water usage limits, outlining ways for downstream localities to compensate upstream localities for conservation efforts, and pricing water usage to reflect water scarcity and ecological damage. In addition, Beijing has vowed to revive and expand mega-scale, Maoist-era infrastructure projects like the South-to-North Water Diversion Project, or SNWDP, to divert water resources from the wet south to the dry north. Vice Premier Hu Chunhua claimed in July 2022 that the SNWDP has already diverted 26 billion cubic meters of water since 2018.
China’s Key Rivers and Water Diversion Efforts
However, massive financing and policy coordination requirements, as well as widespread corruption, will constrain Beijing’s water management ambitions. River and water table monitoring, hydropower maintenance, and water distribution infrastructure (e.g., the SNWDP) do not come cheap. Moreover, China’s local governments are already in the midst of one of their tightest funding squeezes of the 21st century due to Beijing’s “Three Red Lines” policy of real estate debt limits that cut local government revenues from land sales. Thus, central government debt will increasingly have to fund water management infrastructure. However, Beijing has been loath to deepen central debt, both as a matter of fiscal responsibility and to discourage corruption and inefficiency at the local government level, where central government funds are spent. Unless Beijing backtracks on its real estate debt controls or opens the taps on systemic central funding — a slowly increasing possibility the longer China’s post-COVID-19 economic growth lags — the CCP’s ability to prevent disasters and better manage water resources will be severely limited. Meanwhile, given that Chinese officials are tasked with so many new unfunded mandates, key performance indicators and political dictates, job performance has become an exercise in prioritizing a few key issues and avoiding punishment for neglecting everything else. Because of these local limitations, central regulators also tend to prioritize a few key goals for large-scale policy programs and let the rest go more or less unfulfilled. Finally, corruption is a perennial constraint any time Beijing embarks on big-ticket spending programs, as graft reduces the efficiency of any allocated funds. This inefficiency makes policy solutions more expensive over time and further reduces the scope of what is achievable.
Beijing revealed 1 trillion yuan ($167 billion) in sovereign debt bonds for water infrastructure projects in late 2023, which broke a taboo on large-scale projects funded by national debt in the wake of the Beijing floods earlier that year.
The aforementioned laundry list of unfunded mandates for city governments means local officials are always looking for new slush funds to meet their policy goals. For example, local leaders can use part of a $10 million fund for waterway restoration to pay off backlogged payrolls or make interest payments on debts, given municipal revenues from land sales to real estate have dried up in the last three years. Moreover, local officials can charge fees to allow enterprises to skip the line for water usage applications, which complicates compliance efforts for companies trying to play by the rules.
At home, the government’s reliance on fixed asset investment to address water security issues risks stymying China’s economic transition, while megaprojects open a low likelihood but high impact risk of a catastrophic failure that harms the CCP’s image. As part of its goal of avoiding the middle-income trap, Beijing is trying to reduce China’s economic reliance on expensive public works projects that employ many and give contracts to bloated state-owned enterprises in industries like steel and concrete. Projects for flood mitigation and water redistribution (e.g., lengthy canals) are projects of the same ilk, and they will require continuous inflows of central government funding as Beijing tries to mitigate municipal debt for fear of a financial crisis and subsequent unrest. These projects thus represent a throwback to the inefficient, state-led growth paradigm that builds debt bubbles and delays China’s transition to a consumption-led, high-income economy that allocates private investment toward more profitable projects. Moreover, like the agricultural communes of the late 1950s, Beijing’s mega-scale water management projects risk man-made disasters. The SNWDP, intended to divert river waters from rainy to drought-ridden areas, could erratically and suddenly redirect China’s rivers as flow rates change and soils shift to accommodate new and expanded water flows. There is precedent for such mishaps, as the 1974 Banqiao Dam failure killed a quarter of a million Chinese, mainly poor farmers and others living in riverside communities. A repeat of such disasters, even on a smaller scale — like the Beijing floods of 2023 and Beijing’s floodwater diversion response — risks denting the CCP’s political legitimacy. The CCP’s bargain with the people is that the government provides for their physical safety and comfortable living conditions, and in return, the people accept CCP rule without violent uprisings, which have taken down many dynasties and brought about the rule of the CCP. If Beijing cannot effectively protect people from floods, droughts and other weather-related events, citizens’ concern about the growing chasm between the haves and the have-nots — who tend to live in areas more affected by floods and droughts — could grow. As with the emperors of old, the CCP sees every new natural disaster as a potential harbinger of its demise; thus, it is guaranteed that Beijing will persist with megaprojects (like the SNWDP) to address water issues because the alternative, in Beijing’s view, is waiting for the other shoe to drop.
The government’s attempt to mitigate the Beijing city floods last summer by opening floodgates and spillways caused widespread flooding in the cities and towns in nearby Hebei province, causing outrage online among Chinese citizens.
Foreign businesses accustomed to getting things done “on the cheap” in China will see costs mount and intellectual property threats grow alongside Beijing’s water management efforts, adding further momentum to supply chain diversification away from China. Businesses operating in China will have to consider the rising costs of regulatory compliance — including water usage quotas, water monitoring requirements and mandatory purchases of upgraded, more water-efficient industrial equipment — as the government seeks to reduce the impact of industry on the country’s water quality and availability. Moreover, Beijing will persist in prioritizing household water use above all else, so when future droughts cause rationing, water-intensive industries — especially in heavy manufacturing — will bear the brunt of shortages. As rising labor costs in China compound with growing water compliance costs and trade tensions with the West, the steady drip of companies diversifying their operations with “China+1” strategies or even moving entire parts of the value chain from China to South Asia and Southeast Asia (where labor costs are lower and regulations laxer) will accelerate into a slow stream. A water trading system, more inchoate than even China’s nascent carbon trading system, could marketize these water reforms, but corruption and local government favoritism for city-invested state-owned companies would perpetuate foreign business perceptions of an “uneven playing field” in China. China’s common response to water disasters — boosting imports and state funding for innovation in yield-boosting agricultural technologies, like genetically modified seed varieties and better pesticides — will also fuel Beijing’s intellectual property theft from Western companies in agriculture-adjacent sectors, like seed, chemical and food processing companies.
A survey by the European Union Chamber of Commerce in China from May 2024 showed that 47% of member companies did not have China in their top three destinations for future investment, the highest since at least 2014. Likewise, a February survey by the American Chamber of Commerce in China showed that the proportion of member companies with China in their top three destinations for future investment dropped from 60% in 2022 to 45% in 2023. In both surveys, members cited geopolitical risks and China’s slowing economy for their dim outlook.
China’s attempts to mitigate water-related problems will impede Southeast Asia’s economic development and cause temporary setbacks to China’s green transition as the volatility of hydropower production prolongs the country’s reliance on fossil fuels. The government’s efforts to maximize hydropower energy output from the scores of dams on the upper reaches of the Mekong River — which supply power to China’s industrialized east coast — have limited water flow downstream and constrain the utility of the Mekong for transportation, fishing, agriculture and industry across mainland Southeast Asia. During recent meetings of the Lancang-Mekong Cooperation — formed to better manage water resources across southern China and Southeast Asia — Chinese diplomats have refused to entertain altering Chinese damming and water usage activities on the Mekong, leaving Southeast Asian nations constrained in their food production and industrial export strategies, which rely on riverine transport to the sea. However, as droughts and floods become more frequent and more severe in China, hydropower availability will become even more unpredictable, which will prompt renewed Chinese efforts to bolster baseline energy security with imports of coal, natural gas and oil (in addition to China’s buildout of other renewables besides hydropower), causing temporary setbacks in China’s efforts to decarbonize and reduce emissions. This is evidenced by China’s recent buildout of coal power plants, partly a result of Beijing’s efforts to insulate China’s energy grid from seasonal droughts and concomitant dips in hydropower generation. In 2023, China brought 47 gigawatts of new coal power capacity online, making up two-thirds of global new coal power capacity that year, while hydropower generation dropped 3.5% year on year to 1,246 terawatt-hours amid a drought.
China’s scale of governance in disaster mitigation efforts will also help it become a global leader in water management technologies, particularly if Beijing persists in funding water infrastructure projects with large-scale, central government funds. Partly as an artifact of intellectual property theft, but also due to genuine innovation and state support for water projects, Chinese companies could become next-generation leaders in irrigation, canals and ecological monitoring just as other countries around the world are experiencing more severe flooding and drought events. This is plausible given that China’s mega-scale water projects will require much more high-end technology — like next-generation water level monitoring via satellite, 5G/6G and internet of things devices — than traditional rail or road projects. In doing so, Beijing hopes to kill three birds with one stone: mitigate water security issues while employing underemployed youth and helping Chinese technology companies become global leaders. This would be in line with Beijing’s technological and economic strategy of trying to flip the script on China’s trade reliance on the West — whereby China exports lower- and middle-value goods and imports high-value goods — by making the United States and Europe so reliant on Chinese high technology goods that they cannot afford to start trade disputes. Moreover, this strategy has precedent, as Beijing has attempted to leapfrog dominant producers of internal-combustion engine vehicles (like Germany, Japan and the United States) through state-supported, rapid innovation in electric vehicles. However, this effort has caused trade disputes of its own, as seen by recent European and U.S. tariffs on imported Chinese EVs and EV batteries.
Source: Stratfor.com | August 2, 2024