China's caution on the war in Iran is improving its strategic position in the Middle East

Relations between China and Iran seemed to be warming in recent years. The 2021 25-year cooperation agreement suggested Tehran could become the next beneficiary of major Chinese investment in the form of energy and infrastructure deals, although in practice capital has continued to flow to the most politically stable states in the region. Xi Jinping’s attendance at the China-Arab States Summit on 7 December 2022 and Iran’s entry into BRICS and the Shanghai Cooperation Organisation all indicated that China was looking to convert its economic weight in the region into diplomatic influence. Yet these initiatives were stymied by a diplomatic retreat and economic risk calculations following the 7 October 2023 Hamas attack on Israel, accelerating further after the start of the US-Iran conflict.

China has positioned itself as a good-faith actor in the current conflict, supporting Pakistan-mediated negotiations over the Strait, offering sanctions relief to Iran and continuing to exports goods, including dual-use technology. Despite the conflict, it continues to grow its economic clout in the region. For the Gulf states the conflict has produced a dilemma. On one hand, the value of US security guarantees has been underscored by Iran’s indiscriminate attacks on neighbouring states’ civilian infrastructure, particularly as no other power can match the sheer volume of US military hardware or its willingness to use it. The billions invested by Gulf sovereign wealth funds into China have certainly not resulted in any equivalent guarantees from China. Post-war reconstruction will likely now keep Gulf capital directed inward rather than outward, with potentially negative consequences for the Gulf’s investment overseas, including in China.

On the other hand, as the war drags into its fourth month, China’s silence and restraint are a strategic asset. The US’ inability to deliver a swift victory or keep the Strait reliably open has undermined its aura of indispensability. Meanwhile the damage to China’s economy from Iran’s closure of the Strait of Hormuz has been less pronounced than anticipated. Decades of deliberate diversification and large strategic reserves, privileged access to Russian oil, the still-substantial role played by coal in the energy mix and the rapid growth of renewables have successfully cushioned the blow. Gulf leaders, who once viewed Washington as the ultimate guarantor, now see a superpower entangled in its own strategic miscalculation. By contrast, Beijing’s transactional approach looks appealingly level-headed. If China becomes the provider of reconstruction contracts in Iran and renewed infrastructure deals in the Gulf, it could offer economic stability without the threat of new wars.

Yet Beijing has good reason to remain circumspect towards the region moving forward. It has learned the hard way that a single Saudi-Iran handshake – such as the one brokered by China in March 2023 – does not end decades of proxy conflict. Overplaying its hand could spook its export markets and torpedo the global trade on which its growth depends. Silence and solvency remain its greatest strengths.

Europe should be paying close attention to the geopolitical dynamics in the Middle East, not only because of its negative economic consequences but also because they unveil a painful reality: Europe’s fading relevance. For too long, European capitals have made contradictory signals towards the Middle East, alienating Gulf partners with half-hearted sanctions and an instinct to follow US military adventures. In the recent crisis, Europe has again come across as a bystander – strong on values but weak on delivery. This is mirrored by economic relations; the Gulf’s sovereign wealth funds and AI ambitions now court US technology and Chinese capital more eagerly than European green deals or diplomatic initiatives.

All in all, the Iran war has not turned China into the region’s new hegemon, but it has confirmed Beijing understands and plays to its strengths in the region: strategic caution paired with huge economic power. America has reminded everyone of its limits. Europe, sadly, has reminded everyone of its absence.

This episode is part of the ZhōngHuá Mundus series of The Sound of Economics.

ZhōngHuá Mundus is a newsletter by Bruegel, bringing you monthly analysis of China in the world, as seen from Europe.

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