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The UN has dealt China a blow by ruling that its claims in the South China Sea are incompatible with the laws of the sea, but the impact on trade is likely to be minimal for now.

The Philippines had initiated a case against China late in 2013, claiming that China’s “nine-dash-line” within which it considers to hold its own maritime area, was illegal.

The UN court of arbitration in The Hague ruled more strongly in the Philippines’ favour than expected, declaring not only that the nine-dash-line was invalid, but also that the Taiwanese-held Itu Aba is not an island. By declaring it an island, China could under the law of the sea delegate it an “exclusive economic zone”.

By ruling against this and providing more concrete definitions around what constitutes an island, the court has effectively stroked off large parts of China’s territorial claims, many of which are artificially constructed islands, inhabited only by military personnel and military constructs.

The court finds that these artificial islands, which have brought tensions in the region to a head, are illegal and interfere with Filipino exploration for oil and gas, as well as fishing activity. The ruling says that islands have to be able to sustain human habitation as well as economic life.

Away from this dispute, the precedent could be set for territorial disputes around the world, with many countries claiming maritime territories in remote areas that are thought to be rich in natural resources.

The South East Asian claimants will seek to avoid becoming too dependent or to reduce their dependence on China. Thomas Eder, MERICS

The world’s busiest shipping route, the South China Sea has territories which are claimed by Vietnam, Taiwan, Malaysia, Brunei, the Philippines and Japan, as well as China. The case brought by the Philippines was the only one currently pending, but it could embolden other nations to bring their cases to the UN, with Vietnam likely to be the next claimant.

Affairs in the South China Sea have been escalating for a number of years, with nations in the region investing heavily in their militaries. The US has sought to bring Japan, Brunei and Vietnam closer to its sphere of influence, through membership of the TPP, while China has courted Asia-Pacific states with its own multilateral equivalent, the RCEP.

Rajiv Biswas, Asia-Pacific Chief Economist at IHS, tells GTR that the protracted disputes are one of the key geopolitical risks facing the world today.

He explains: “Tensions between China and Vietnam escalated into widespread anti-Chinese riots in Vietnam in May 2014 after China sent an offshore oil rig into an area of disputed sovereignty, forcing China to evacuate its citizens from Vietnam. Relations between China and the Philippines were also severely damaged in recent years over the South China Sea dispute, although incoming president Rodrigo Duterte has proposed negotiations with China in order to settle the dispute.”

He continues: “China’s territorial claim as set out by the nine-dash line also overlaps with Indonesia’s territorial waters around the Natuna islands. There have been several incidents this year when Indonesian naval vessels have opened fire on Chinese fishing vessels around the Natuna islands, as well as seizing ships illegally fishing in Indonesian waters.”

The ruling is unbinding: unlike the WTO, countries can’t bring sanctions against China because of the ruling. And the initial response from China is as expected: it refuses to acknowledge the hearing or its results.

The People’s Daily newspaper in Beijing described the result as “ill-founded” and the tribunal itself as “law-abusing”.

However, the trade impact is – for now at least – expected to be minimal. “The South East Asian claimants will seek to avoid becoming too dependent or to reduce their dependence on China. That’s been a motivating factor in Vietnam becoming a part of the TPP and seeking a trade agreement with the EU. The Chinese strategy of seeking FTAs now with regional states and beyond will continue and won’t be influenced by this,” Thomas Eder, analyst at the Mercator Institute of China Studies (MERICS) tells GTR.

In terms of the impact on investor confidence, Eder expects this too to be minimal. He says: “I think it’s much too early for that. I don’t think risk assessments warrant that at this moment in time. The only thing I would say is that the interests of states worldwide can be impacted if the security situation deteriorates. For example, insurance rates for this freight could go up, commercial freights could be to a degree reoriented, but I don’t think it goes beyond that.”

It is unlikely that the situation will escalate to full combat any time soon, but the militarisation of the region has become a key concern for experts.

Biswas says: “There has already been an escalation of military tensions in the South China Sea, with both Vietnam and the Philippines trying to modernise their armed forces to have a greater deterrent capability to protect their sovereign interests. While the risk of armed conflict remains low, this is a downside risk scenario that is of increasing concern to Asia Pacific governments, due to the possibility of an accidental clash between naval ships or fighter jets in a heavily militarised area.”