Australia Shows the World What Decoupling From China Looks Like

When Australia had the temerity to call for an independent inquiry into the origins of COVID-19 last year, China was incensed. It responded with an unprecedented wave of trade restrictions that froze many categories of Australian exports, rapidly decoupling economic ties. But if Beijing hoped to punish Canberra for its defiance with economic pain—and send a warning to other countries not to oppose China—it has failed on both accounts. The impacts on Australia have so far been surprisingly minimal. If this is what decoupling from China looks like, Australia’s resilience suggests the costs are far lower than many have assumed. That fact will not be lost on other countries that have differences with China.

Australia-China relations have long been marked by a fundamental tension. Economically, the two sides have been increasingly intertwined, with Australia providing many of the commodities on which China’s industry relies. But politically, much divides them. Beyond differences on values and human rights, Australia is concerned by China’s increasingly belligerent behavior in the Indo-Pacific. China, meanwhile, bristles at what it believes to be Australia’s anti-China stance. Over the past several decades, the two countries operated under an implicit bargain to shelter their rapidly growing economic ties from any political differences.

It worked: From 2009 to 2019, Australian exports to China tripled to 149 billion Australian dollars (around $110 billion) per year. Around half of that is iron ore, which fuels China’s insatiable need for steel to fuel its construction boom. The rest is mainly coal, gas, and agricultural products, plus substantial Australian earnings from Chinese students and tourists. This bargain held even when relations hit a rough patch—such as in 2009 and 2017—with trade increasing every year.

The bargain suddenly broke down last year. In April 2020, the Australian government led an international call for an independent inquiry into the still-murky origins of COVID-19 in Wuhan, China. An incensed Beijing quickly denounced Canberra’s call as an affront and political witch hunt.

Australia demonstrates that China’s bark is worse than its bite.

The reprisal came just one week later, when the Chinese ambassador to Australia, Chen Jingye, threatened consumer boycotts of several products in response to Australia’s call for the investigation. Then, in May 2020, China applied massive anti-dumping duties on Australian barley, pricing a $1 billion industry out of its principal export market overnight. But it did not have the intended effect of getting Australia to back down: Instead, the government responded defiantly, with Australian Foreign Minister Marise Payne publicly accusing China of economic coercion.

With the barley ban failing to produce the desired response, China doubled and tripled down. Beef was next, with several Australian producers losing their export licenses. More tariffs were applied to wine, while customs bans were slapped on wheat, wool, lobsters, sugar, copper, timber, and table grapes. Chinese importers were instructed to stop purchasing Australian coal and cotton, and electric utilities were encouraged not to buy liquefied natural gas on the spot market. The trade guns were still smoking when, in November 2020, the Chinese Embassy in Canberra issued a list of “14 grievances” that Australia was expected to correct to return to a normal relationship.

This is not China’s first attempt to force trading partners to toe its line. It has previously applied trade coercion during diplomatic disputes to eight other countries: Canada, Japan, Lithuania, Mongolia, Norway, the Philippines, South Korea, and Taiwan. But its massive onslaught against Australia was like nothing before. Whereas China usually sanctions minor products as a warning shot—Norwegian salmon, Taiwanese pineapples—Australia was the first country to be subjected to an economywide assault. Iron ore was the only major commodity spared, a purely self-interested move given the dependence of China’s steel industry on Australian supplies.

If the scale of China’s trade coercion against Australia is unprecedented, it also offers an intriguing experiment: What does a sudden economic decoupling from China look like? With China accounting for nearly 40 percent of Australian exports, one might assume the costs of Canberra’s defiance would be grave.

But in fact, the effects have been surprisingly mild. The reason is trade diversion: When a trade barrier is erected, businesses seek alternate outlets for their products. In open international markets, the outcome is rarely the destruction of export industries. Most of the time, trade flows adjust around the barrier.

Coal provides an illustrative example. Once China banned imports of Australian coal in mid-2020, Chinese utilities had to turn to Russian and Indonesian suppliers instead. This, in turn, took Russian and Indonesian coal off the market, creating demand gaps in India, Japan, and South Korea—which Australia’s stranded coal was able to fill. What’s more, the global energy crunch has pushed up the price of coal, leading Australian coal producers’ export earnings to rise this year—not exactly the effect China had in mind. The result of decoupling for one of Australia’s core industries was therefore just a game of musical chairs—a rearrangement of who traded with whom, not a material injury.

Many Australian industries successfully applied this tactic. Barley was redirected to Saudi Arabia and Southeast Asia, copper to Europe and Japan, and cotton to Bangladesh and Vietnam. Other sectors developed more creative workarounds. The beef industry sent cattle to be processed at abattoirs that still had export licenses, while lobster farmers used gray routes—for example via Hong Kong—to enter the mainland. These successful diversion tactics greatly cushioned the blow for industries whose trade with China was suspended.

As a result, the cost of decoupling the Australian economy from China has been far lower than anyone had expected. According to Australian Treasury estimates, sectors affected by Chinese trade restrictions lost AU$5.4 billion (around $4 billion) in exports to China during the first full year of sanctions, but they simultaneously found AU$4.4 billion ($3.3 billion) of new markets elsewhere. The net loss of AU$1 billion is a mere 0.25 percent of Australian exports. What’s more, due to surging iron ore prices, the value of Australian exports to China actually grew by 10 percent since sanctions have been in effect. “Our economy has … proven to be remarkably resilient,” Australian Treasurer Josh Frydenberg said.

To be sure, diverting trade won’t always work as a response to coercive decoupling. Australia could reroute many exports relatively easily because much of its trade with China is in generic commodities that can go anywhere. Australian timber and wine, mainly produced specifically for the Chinese market, have struggled to find alternative destinations. For more complex supply chains in the technology and manufacturing sectors, decoupling is an even more difficult exercise. Still, Australia’s experience offers an important lesson: Trade decoupling does not automatically mean trade destruction.

While the adjustment process is not pain-free, it is far less costly—and less of a deterrent to political action—than most assume.

If China intended to bully Australia into silence, the campaign has been a spectacular failure. With economic costs proving trivial, an emboldened Australian government suddenly had a free hand to press ahead with policies to oppose China. At the 2021 G-7 summit in Rome, the Australian delegation distributed copies of the “14 grievances” to highlight Chinese coercion. Australia pressed ahead with efforts to strengthen the Quadrilateral Security Dialogue with India, Japan, and the United States. And in its most provocative move, it formed the AUKUS security partnership with the United Kingdom and the United States with the explicit purpose of countering China militarily in the region. Far from producing a quiescent Australia, coercion has had the opposite effect and hardened its stance.

More importantly, Australia’s experience offers broader lessons on the strategic implications of decoupling from China. First, governments can no longer count on separating their economic and political relationships with China; difficulties on the political side will quickly be met with economic threats. Second, Australia demonstrates that China’s bark is worse than its bite.

China may be a large and important economic partner, but it is far from the only one out there. International markets quickly rearrange themselves to adapt to sanctions, greatly reducing their actual impact. While the adjustment process is not pain-free, it is far less costly—and less of a deterrent to political action—than most assume.

Indeed, Australia’s resilience may now be inspiring others to take a stand. In May, Lithuania withdrew from the controversial 17+1 group consisting of China and Eastern European nations, and it has since agreed to establish a representative office in Taiwan. The Chinese response was predictable: a suspension of rail services to Vilnius and the rejection of food export licenses.

Perhaps inspired by Australia’s example, Lithuania—a small country of 2.8 million people—is undeterred. “We are ready to talk [to China], but we would not be ready to reconsider … our decision,” Lithuanian President Gitanas Nauseda said. Lithuania is now pushing for European Union unity and support on the issue.

Australia has shown the world it can say no to China and still prosper despite trade sanctions and a forced economic decoupling. It may not be long until more countries start to follow.