When it comes to North Korea, China can’t help but be dragged into any and all political conversations, and at the same time other potential conflicts that involve sovereignty and competition for regional coalition power with Taiwan and Japan have been latent but continue to loom in the near-term. My recent research trip to the region provided some insight into these situations.

North Korea: Genuinely Conflicted

North Korea is the micro topic of the moment when it comes to security issues in our Asian Game Theatre.

U.S. President Donald Trump has pressured China to get tough on North Korea’s leader, Kim Jong-un, and many can’t see why China won’t take a stronger stance. But I believe China is genuinely conflicted.

China has historically opposed harsh international sanctions on North Korea in the hopes of avoiding a regime collapse and an influx of refugees across the countries’ 870-mile border.

Now China has an additional concern: increasing U.S. involvement in Asia. If the United States’ influence increases in the region, China could end up with an even stronger U.S.-aligned South Korea as a neighbor. On the other hand, if the United States pulls back, a re-arming of the region could result, and China doesn’t want that either.

With the conclusion of China’s 19th National Congress of the Communist Party, I believe China is more likely to consider a more aggressive posture with North Korea.

Taiwan: A New Party Brings New Worries

The problem between China and Taiwan is simple: China sees Taiwan as a breakaway province and would like it to be part of the mainland but Taiwan wants independence.

The Kuomintang party that ruled Taiwan in the past was mainland-friendly. But in 2016, Tsai Ing-wen of the Democratic Progressive Party defeated Kuomintang party candidate Eric Chu. Tsai’s party has not yet firmly articulated a satisfactory way forward between reunification and independence, and that has caused concern.

That may be why, in a rare move, China recently demanded that Congress back off new laws that would strengthen the U.S. relationship with Taiwan, including the Taiwan Travel Act, the Taiwan Security Act, and Taiwan-related provisions in both the House and Senate versions of this year’s National Defense Authorization Act.

Whether Taiwan will actually push for more formal independence is nuanced, but my sense is that China will begin to re-engage with Taiwan after the Party Congress and use carrots and sticks to influence a more definite commitment to the mainland.

Japan: A Tertiary Concern

This year marks the 45th anniversary of the normalization of Japan-China relations, and both countries have shown signs that they are moving toward a long-awaited rapprochement.

But there is still a chill in the air, with both countries having their most powerful leader in decades. China’s Xi Jinping wants to expand his country’s influence throughout Asia, while Japan’s Shinzo Abe wants a stronger defense and alliances for his own nation in the face of China’s aggressiveness.

To illustrate, consider the countries’ differing approaches to North Korea, with China Xi pushing for negotiations and Abe calling for pressure on the problem state.

Now, both are on track to be among the longest-serving leaders in their nation’s histories following China’s recent National Party Congress and Japan’s snap election. How these leaders interact as we move forward will remain near the center of our radar.

Our Game Theatres

With all this said, China is still unlikely to rock the boat too much. Xi knows the nation is on a solid long-term growth trajectory, and the more things stay stable, the more the country continues to accrue economic and political leverage. Yet, as Xi has reinforced his mandate after the Party Congress, China’s primary objective is now to further assume and demand global leadership. So, while we are watching the region carefully, and we’ve trimmed exposure to China a bit, the implications of our updated Asia Game Theatre do not yet point to a wholesale shift in implications, but a modest step up in risk tolerance for China (as well as for Japan and the United States).

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Any statements or opinions expressed are those of the author as of the date of publication, are subject to change without notice as economic and markets conditions dictate, and may not reflect the opinions of other investment teams within William Blair Investment Management, LLC or the Investment Management Division of William Blair & Company, L.L.C.

This content is for informational and educational purposes only and not intended as investment advice or a recommendation to buy or sell any security. Investment advice and recommendations can be provided only after careful consideration of an investor’s objectives, guidelines, and restrictions.

Factual information has been taken from sources we believe to be reliable, but its accuracy, completeness or interpretation cannot be guaranteed. Investments are subject to market risk. Forecasts, estimates, and certain information contained herein are based upon proprietary research and should not be interpreted as investment advice, as an offer or solicitation, nor as the purchase or sale of any financial instrument. Statements concerning financial market trends are based on current market conditions, which will fluctuate.

William Blair does not provide legal or tax advice. Please consult your tax and/or legal counsel for specific tax questions and concerns.

Distributed by William Blair & Company, L.L.C., member FINRA/SIPC.

Copyright © 2017 William Blair & Company, L.L.C. "William Blair” is a registered trademark of William Blair & Company, L.L.C. No part of this material may be reproduced in any form, or referred to in any other publication, without express written consent.

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