Summary

A China-Israel free trade agreement (FTA) makes a lot of economic sense. China is one of the world's leading manufacturing markets, while Israel is among the leaders in research and development (R&D). The Chinese want Israeli technology, and the Israelis want the cheaper consumer goods that the Chinese can make. The countries' economic relationship has expanded, with bilateral trade climbing to nearly $11 billion in 2015 from $50 million in 1992, and an FTA would accelerate the process.

It is no surprise, then, that the two recently launched formal negotiations on such a deal. Fewer trade barriers would be good for both sides, but there are also political and supply chain concerns pushing them together.

Analysis

An FTA between China and Israel would enable Israel to import cheap consumer goods from China such as machinery and electronics, and China would be encouraged to purchase more of Israel's high-end goods. Under an FTA, it is estimated that exports of Israeli goods to China would be 39 percent higher than in 2015, and China would be expected to export 24 percent more goods to Israel for a total trade increase of almost 30 percent. Israel would see the most immediate benefit because of the difference in scale between the countries' economies. Israeli gross domestic product would increase by 0.13 percent from 2015 numbers, whereas it would increase the Chinese GDP by only 0.003 percent.

China is eager, though, to benefit from Israeli water technology. Northern China is facing mounting water scarcity over the next several decades because of chronic overuse, mismanagement and uneven geographic distribution. This could hinder Chinese agricultural output. As a world leader in water management technology, including recycling, irrigation and desalination technologies, Israel is well-equipped to help China mitigate the issue both by creating new sources of fresh water through desalination and by helping to make water use more efficient. This relationship has already begun, and in 2013 the Dowell Technological and Environmental Engineering Co. started constructing a Sino-Israeli Water Treatment Innovative Industrial Park within the city of Dongguan.

Far more important than the boost to trade would be the influence that closer economic relations would have on Chinese investment in Israel, particularly in R&D. Chinese venture capital investments in Israel, predominantly in the tech sector, are about $1.77 billion, which constitutes 40 percent of total venture capital investments in Israel in 2015. By comparison, Israeli national expenditure into R&D during the same year was just under $11 billion. This investment is enormously important for Israel, and there are several R&D investment programs to encourage it, including the 2010 China-Israel Cooperation Program for Industrial R&D as well as other geographically targeted R&D cooperation programs. In addition, in 2015 China invested some $500 million in local Israeli startups, and Chinese companies have bought several Israeli companies; this kind of investment will continue to grow.

Besides the economic benefits of an FTA, for Israel the deal is also about diversifying its political relationships. The West is becoming more politically distant from Israel, and the Boycott, Divestment and Sanctions movement, which calls for economic actions in what it says is a nonviolent struggle against Israeli occupation, is gaining prominence in Europe. Israel is looking to work more closely with other partners and move away from its reliance on the United States. The process is already underway: Last year, two Chinese companies won tenders to build a port in Ashdod and operate another port in Haifa.

A similar urge is motivating China. Looking out into the South China Sea, Beijing sees a U.S. effort to physically contain China's expansion. To reach China's ports, seaborne trade must pass through chokepoints such as the Strait of Malacca — separating the Malay Peninsula and the Indonesian island of Sumatra — which are secured by the United States. One part of China's counter to that effort has been to make itself indispensable to countries that could help exert political pressure on the United States. China is also worried about the extent to which Taiwan, South Korea and other U.S. allies in Asia dominate its supply chain for electronics and high-tech goods. Removing trade barriers and increasing its imports of Israeli high-tech products would gradually lessen those countries' influence on China.