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(John Kemp is a Reuters market analyst. The views expressed are his own)
By John Kemp
LONDON, June 6 (Reuters) - Territorial disputes over tiny islands and reefs in the South China Sea are poisoning relations between China and its neighbours in Southeast Asia.
"In recent months, China has undertaken destabilising, unilateral actions asserting its claims in the South China Sea," U.S. Defense Secretary Chuck Hagel told an audience in Singapore last month.
"(China) has restricted access to Scarborough Reef, put pressure on the long-standing Philippine presence at the Second Thomas Shoal, begun land reclamation activities at multiple locations, and moved an oil rig into disputed waters near the Paracel Islands," Hagel complained at the Shangri-La Dialogue.
The defense secretary's speech drew an angry response from China, which rebuked him for making "harsh, provocative" comments - signalling a further deterioration in the already strained relationship between the two countries.
According to Hagel, the United States takes no position on territorial disputes in the South China Sea that pit China against Vietnam, the Philippines, Malaysia and Brunei.
But Washington will oppose any attempt to use "intimidation, coercion or the threat of force to assert those claims". It will also oppose any attempt to restrict overflight and freedom of navigation.
Washington says it wants to uphold a "rules-based order" in which disputes are settled through diplomacy, well-established norms and international law.
However, all that is threatened by long-standing disputes over the ownership of two hundred or so tiny islands, islets, shoals and cays, reefs and rocks scattered across the area.
The various outcrops cover just a few square kilometres in total. Many are only just above the waterline even at low tide. But with them come claims to regulate navigation, fish, and drill for oil and gas over much more extensive areas.
In 1974, China and South Vietnam fought a short war over one island group. In recent years, there have been frequent and worsening low-level clashes in the South China Sea, severely straining relations between China and the other littoral states.
The area is strategically vital. Hagel called the South China Sea "the beating heart of Asia-Pacific and a crossroads of the global economy".
The South China Sea contains the world's most important shipping lanes and sits astride supply routes essential to South Korea and Japan as well as China.
More than half of the world's merchant shipping tonnage passes through the Straits of Malacca, Sunda and Lombok each year with nearly all of it continuing on through the South China Sea.
Almost a third of the world's crude oil trade and half of its liquefied natural gas pass through the sea en route to China, Japan and South Korea.
The South China Sea contains rich fishing grounds that have been customarily exploited by all the coastal states.
The area is also thought to contain oil and gas deposits. There are several large sedimentary basins, though estimates of the amount of recoverable oil and gas they contain vary widely.
The U.S. Energy Information Administration puts proven and probable reserves in the area at 11 billion barrels of oil and 190 trillion cubic feet of natural gas, which is small but significant ("South China Sea", February 2013).
However, there could be another 5-22 billion barrels of oil and 70-290 trillion cubic feet of gas waiting to be discovered, according to the U.S. Geological Survey ("Assessment of undiscovered oil and gas resources of Southeast Asia", 2010).
China's oil companies and government agencies have published even higher estimates of the oil and gas likely to be found in the region.
China claims sovereignty over all the islands, rocks and reefs in the four main groups, while Vietnam, the Philippines, Malaysia and Brunei each claim some of them.
Much of the dispute revolves around the "Nine Dash Line", which appears on China's official maps and encompasses almost the entire South China Sea.
The Nine Dash Line made its first appearance in official atlases issued in 1948, though the territorial claims on which it rests go back much further. It has been subject to only minor modifications since then.
The number of dashes - which roughly indicate the boundary - has varied between nine and 11 at various times and currently stands at 10 after a new dash was added east of Taiwan in 2013.
China has included the Nine Dash Line on illustrative maps used in disputes with the other coastal states, and it is now used in passports issued by the People's Republic. But the exact status of the line remains "ambiguous", according to Euan Graham at Britain's Royal United Services Institute ("China's new map: just another dash?" September 2013).
The latest edition of the official atlas designates the line as a national boundary and uses identical shading to the lines on China's land borders. Exactly what China is claiming, however, remains somewhat mysterious, even to experts.
According to one leading Chinese maritime expert, the line indicates the island groups over which China claims sovereignty, rather than laying claim to the sea area itself. It is a sort of envelope around the islands China considers to be part of its sovereign territory.
Gao Zhiguo, China's judge on the International Tribunal for the Law of the Sea, explains that the Nine Dash Line "has become synonymous with a claim of sovereignty over the island groups that always belonged to China and with an additional Chinese claim of historical rights of fishing, navigation, and other maritime activities (including the exploration and exploitation of resources, mineral or otherwise) on the islands and in the adjacent waters".
Writing in the American Journal of International Law, Gao suggests the line may have "a residual function as potential maritime delimitation boundaries". It was, Gao suggests, an early attempt to define China's continental shelf ("The Nine Dash Line in the South China Sea: History, Status and Implications", 2013).
Nonetheless, China accepts that any rights to fishing, oil and gas extraction, exclusive economic zones, and power to restrict navigation in the neighbouring sea stemming from ownership of the islands are governed by the United Nations Convention on the Law of the Sea (UNCLOS).
The convention, which was opened for signature in 1982 and entered into force in 1994, sets out detailed rules defining territorial seas, navigation rights, exclusive economic zones, the extent of the continental shelf and delimiting maritime boundaries. It also contains a range of binding procedures for settling disputes.
China and all the states around the shores of the South China Sea have signed UNCLOS and are bound by its provisions. Some commentators have expressed hope that UNCLOS could be used to settle disputes between China and its neighbours peaceably.
"Many hope that international law will impose a resolution," according to Elizabeth Economy and Michael Levi at the U.S. Council on Foreign Relations. "This would, however, be a strong departure from historical precedent," they note sceptically ("By all means necessary: how China's resource quest is changing the world", 2014).
In 2009, Vietnam and Malaysia submitted a joint claim to the continental shelf under UNCLOS. In 2013, the Philippines requested binding arbitration in its territorial dispute with China at the Permanent Court of Arbitration in The Hague. China has refused to accept arbitration.
There are several problems with trying to rely on UNCLOS. First, the dispute settlement provisions of UNCLOS may not apply in this case.
On signing the convention, as well as on ratification, and afterwards, countries can opt out of the binding dispute settlement processes relating to certain sea boundary disputes (Article 298). China exercised that opt-out in relation to maritime boundaries in 2006.
More controversially, on ratifying the treaty in 1996, China declared that it "reaffirms its sovereignty over all its archipelagos and islands as listed in article 2 of the Law of the People's Republic of China on the territorial sea and the contiguous zone".
Second, UNCLOS deals with issues of maritime law and rights in the seas around the islands. It cannot settle disputes about who owns the islands themselves.
Third, unlike the later Agreement Establishing the World Trade Organization, signed in 1994, UNCLOS lacks an effective enforcement mechanism.
Finally, it is hard to see how attempts to resolve the disputes purely through commercial and legal means can succeed if they do not recognise the broader strategic realities, as Economy and Levi point out.
The solution must be political and diplomatic, a position all sides seem to recognise.
"Attempts to resolve tensions that focus purely on commerce and law and ignore broader strategic realities may not result in stable outcomes," according to Economy and Levi.
China's Gao reaches a similar conclusion: "China relies heavily on its long and overwhelming history to justify its title to territorial sovereignty and maritime jurisdiction in the South China Sea, other claimant states repeatedly stress the imperative of their rights under UNCLOS. Nonetheless the solution perhaps lies somewhere in the middle."
The compromise solution is shared exploitation of the resources. "Pending a solution acceptable to the littoral states concerned, the parties would do well to shelve the disputes and work toward a temporary solution involving joint development," Gao wrote.
UNCLOS itself encourages the use of practical, provisional arrangements in the case of disputes.
There are precedents for shared development of resources. In 2008, China and Japan agreed to develop jointly the Chunxiao gas fields in a disputed area of the East China Sea, though that pact has since been derailed by the rising tensions between the two countries.
A more hopeful example is the archipelago of Svalbard/Spitsbergen in the Arctic.
The 1920 Spitsbergen Treaty recognised Norway's sovereignty, but granted all signatories equal access to hunting and fishing rights on the islands and in their territorial waters, as well as the exploitation of minerals found on the islands.
Something similar would be desirable in the South China Sea. Sovereignty over the islands could be split or put to one side, while the coastal states agree to joint development of fishing, oil and gas resources.
If the solution is fairly clear, the harder question is how to get there. In that respect, the U.S. position and Hagel's speech have done more harm than good.
The U.S. position (no stance on sovereignty, but an insistence on legal processes to resolve the dispute) is particularly unhelpful since there is no real legal answer.
The defense secretary was speaking to a domestic audience and regional allies, trying to reassure them that Washington will stand up to what some see as bullying by China. But singling out China for blame was unhelpful if the United States wants to play a constructive role in resolving the dispute.
In the end, Washington will have to use its influence with all the regional states, including its allies, to push them towards a diplomatic and political compromise.
Coastal states must set aside the ownership question and focus on how jointly to exploit the resources and regulate shipping in the area peaceably, in accordance with their other international commitments. (Editing by Dale Hudson)