Speculation and Shipping in the South China Sea

Less has been said about the Permanent Court of Arbitration's ruling on territorial claims to the South China Sea than about the People’s Republic’s controversial—and yet not unexpected—dismissal of the tribunal’s conclusion. When dealing with an area said to match the size of Mexico with an estimated US $5T in myriad forms moving through it at any given time, everybody involved is bound to wonder what it means for business. A destabilized shipping route drives up costs in more ways than one, but how close are we to a problem that has yet to definitively present itself?

Spanning quite a distance.

To speak of the situation as if disruption were imminent would be unwise, lest bridges over troubled waters be burned before they've even been built. The historic line still claimed by Beijing—despite contrary findings—referred to rather accurately when drawn out on a map as “the cow’s tongue,” covers the Paracel Islands, the Scarborough Shoal, the Spratlys, and sidles right up to several Southeast Asian countries’ borders: namely, Brunei, Vietnam, Malaysia, and the Philippines. At 3.5M square kilometers, the area provides vital passage between the Western Pacific and the Indian Ocean.

Commercial vessels in the tens of thousands connect markets in East Asia with Australia, the Middle East, and Europe—including a third of the world’s liquefied natural gas—mostly bound for Japan and South Korea. For instance, around 25 Very Large Crude Carrier (VLCC) supertankers carrying up to 11 days of Japanese demand pass through the Paracels and Spratlys at any time. And while we’re on the subject of oil, let’s not count out the reported 11B barrels of it and the 190T cubic feet of natural gas said to be sitting around underneath all the action. Often described as the “Second Persian Gulf,” it’s no wonder speculation surrounding ongoing political tensions continue to fuel worst-case scenario conjecture. After all, the best indicator of future behavior is past behavior. Isn’t it?

Everything has a cost.

Having to tiptoe around any untoward developments in the region would potentially toy with 14.5% of ASEAN’s total trade, set Australia back a good $20M in cargo annually, and cost $270 and $600M in rerouting for South Korea and Japan, respectively, every year. Luckily to date, strong military presence in the region has not restricted the free movement of merchant vessels. Leading maritime industry players have stressed that if there were any real cause for concern, insurance would have already gone up, with firms demanding an extra war risk premium. That isn't to say that the likes of Hapag-Lloyd, Maritime Industry Australia, Ltd., and Latitude Brokers aren’t already monitoring the situation as closely as possible. A representative from IHS Markit remarked that it was difficult to see why China would ever deliberately obstruct shipping or trade flows.

Since 2009, the PRC has been the largest exporter overall, and overtook the United States as the largest trading nation globally in 2013. Even for what is currently the world’s second-largest economy, the cost of shutting down such a lucrative avenue isn’t just irrational from an economic standpoint, but a step backwards politically.


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