Geopolitical tensions a reminder for the West to seek greater rare earths independence from China
There are two geopolitical disputes that could have significant effects on the prices of strategic commodities. The first is in Crimea, involving Russia, the Ukraine and NATO; the second is in the Sea of Japan (also known as East China Sea) and it involves China, Japan and not so indirectly the United States. A mathematician might reduce the two issues to one geopolitical equation: Russia and China vs. the West (that is the USA, the European Union and Japan). The Crimean crisis will likely cause grain and other agricultural prices to increase, which will in turn strengthen mineral fertilizer prices. The Sino-Japanese crisis over control of the Senkaku/Diaoyu islands, which intensified in 2012, when Japan decided to formally annex the territory, meanwhile has grown deeper and will inevitably affect Japan’s access to much needed rare earth products from China. China’s minister of foreign affairs stated, last week, that “there is no room for compromise” with Japan over the Islands. He added that China would maintain a decisive stance in matter of territorial integrity and sovereignty and that it would defend “every inch of the territory that belongs to us”. China is also at odds with other Asian neighbors, triggered by spats over territorial control in the South China Sea. In the latter case, the triggers are both natural resources in the disputed sea areas and the control of important waterways.
These issues are not new; however, tensions have exacerbated since China recently established an air defense zone in the East China Sea. Any non-Chinese passenger and military aircraft must identify themselves and follow the instructions of the Chinese Air Force when flying over the area. The Crimean crisis has added more spice. China has demanded the United States respect the territorial claims and China’s core interests while noting that relations between China and Russia are “in the best phase of their history”. China’s state and party chief Xi Jinping and Russia’s President Vladimir Putin have developed a “deep friendship”. The first conclusion is that any threat of US or western led sanctions presented before the UN Security Council would be totally rejected by China. As the crisis intensifies between Russia and the West, therefore, tensions with China will also rise. In the strategic resource context, this means that the US Defense department will become more concerned about where critical materials are sourced. Indeed, in the past few years, a Pentagon investigation has found that the F-35 latest generation fighter jet uses components made in China. A deeper inquest uncovered more Chinese made components in the B1 bomber and F-16 fighters. The components include manufactured ones and raw materials, such as the titanium found in Raytheon’s Standard-Missile-3 (designed in cooperation with Japan).
The Pentagon would rather US military equipment not rely on foreign suppliers and US law bans this practice when foreign supplier is China – and any other country that is not considered an ally. The idea is that such dependency would leave it vulnerable in the face of conflict. The current geopolitical situation, therefore, marked by the revival of long forgotten tensions with Russia and China has the US defense establishment even more concerned about the supply chain of its military industry. Given, the lack of adequate alternatives, the Pentagon did issue permits for Lockheed Martin to use Chinese rare earth magnets (all the while US diplomats were accusing China of military and industrial espionage). The Pentagon will likely conduct a deeper inquiry into the use of Chinese sourced materials in the context of the rising tensions with China and Russia. China may still be the world’s main producer of critical materials – many of which are needed to make the sophisticated electronics used in modern defense system – and will likely recommend that more efforts be made to find alternative sources and alternative – especially domestic – alternatives. Of course, the alternatives will need to be somewhat market effective, but it is certain that the Pentagon will recommend a tightening of existing regulations and stiffer fines for violators. The Chinese, says a legend, spell their word for crisis with the symbols for ‘danger’ and ‘opportunity’. The opportunity, in this case, is for the West to break free of having to rely on China’s virtual rare earth monopoly.
The dangers of a prolonged crisis with Russia over the Ukraine are more complex and it is unlikely that NATO would get involved militarily; however, the resulting tensions can serve as the catalyst for more investment in, and support for, the rare earths industry. If any more incentives are needed, China announced – in the wake of more tensions in the Island dispute with Japan – that it would increase its military budget 12.2% in 2014, yet another double-digit growth since last year while Beijing is involved in territorial problems with several of its neighbors – most or all of which allies of the West – even as the US has been considering cuts to the military, boosting intelligence and special forces, which would likely shift more funds in favor of such equipment as rare-earth intensive drones and other surveillance tools). China’s military budget has increased six fold since 1992. China’s neighbors and critics say that reducing the U.S. military budget could leave it weakened against the potential of the Chinese threat. China has been known to have conducted military exercises in the fall of 2013 aimed at destroying the Japanese fleet in the East China Sea with the ultimate goal of capturing the Senkaku/Diaoyu islands. Even 10 to 15 years ago, there were few incentives for superpowers like the United States, or its allies, to secure future rare earth reserves. If China adds defense concerns and military prestige to its already intense plans for economic domination, it will generate a serious risk to global growth. The current geopolitical climate suggests that superpowers and emerging powers will be fighting over these resources.
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