Arthur K. Kroeber – CHINA’S ECONOMY (2016)
TLDR: Comprehensive and very readable overview of Chinese economy from a China expert, with especially useful discussions on Chinese SOE’s, financial system, and the validity of Chinese economic statistics (spoiler: They’re fine). Learned some interesting new things from it, despite having already read a considerable amount on this topic over the years. However, there are some rather questionable takes that prevent me from giving it a full five stars.
China is an emerging superpower with a nominal GDP at 70% of the US level (130% in PPP terms). The physical correlates of that are illustrated on the cover of this book – as China’s share of the urban population trebled since 1980, cities and megalopolises have sprouted on the sites of former villages (follow Carl Zha to get a a regular visual dose of such transformations). Yet even as China let go of Maoist lunacies and built up the infrastructure and productive capacity of a First World nation over a single generation, it encountered new problems – pollution, inequality, debt – that some pundits have argued will eventually derail its ascent. This book offers a comprehensive account of the story of the world’s most successful major economic growth story after the heyday of the East Asian tigers, and a more realistic background for analyzing China’s prospects.
(1) As I have argued in the past, Maoism was a disaster in economic terms – at the end of it, China had a lower GDP per capita than India, despite their human capital disparity. This is not so surprising when one learns that you had a greater chance of dying on the job than getting fired in late Maoist China (cf. “THE CHINESE ECONOMY” by Barry Naughton). It made the Soviet Gosplan look like a paragon of technocratic efficiency. So no wonder that on Mao’s death, the Politburo decided to adopt the proven East Asian developmental state model instead (based on land reform, export manufacturing, and financial repression).
But Chinese practice differed from Japanese and Korean in two key respects.
First, the state played an even more paramount role, with China relying much more on State-Owned Enterprises (SOEs). In contrast, most Japanese banks and corporations were private, and while many of Korea’s banks were state-owned, the chaebols were generally private; interesting, the most state-dominated economy was Taiwan’s, where all the banks were (and still are) state-owned, and many companies were owned by the state or Guomindang (though these were mostly privatized in the 1980s to early 1990s).
Second, foreign direct investment (FDI) played a much greater role. Counter-intuitively, this was because of the East Asian tigers’ security integration with the US. In exchange, the US “tacitly allowed to run mercantilist economies, shutting out foreign companies from their markets even as their own companies enjoyed easy access to the US market.” As Kroeber argues, this was a deal that China was never going to get – “as the price of admission to the US-dominated world trading system, China would need to give foreign companies substantial market access.”
Incidentally, one corollary of this, that I was not previously aware of, is that the East Asian democratic transitions – far from conferring to “end of history” eschatology – were to a significant extent forced by local elites’ need to keep the US invested in their security after its restoration of ties with the PRC.
In Taiwan, the move to representative democracy was a strategic choice made by leader Chiang Ching-kuo in the 1980s in response to the US decision to normalize relations with Beijing (and hence sever formal diplomatic ties with Taipei). Chiang believed that in order for Taiwan to retain its autonomy in a region increasingly influenced by a fast-growing China, it had no choice but to align itself as fully as possible with American political and ideological values. Similarly, South Korea’s military dictatorship was tolerated by Washington during the Cold War, but would not likely have outlasted the fall of the Berlin Wall by very long, even had it not crumbled in the face of embarrassing student-worker protests ahead of the 1988 Summer Olympics in Seoul. By contrast, China’s position outside the US alliance structure means that it has no need to accept the liberal-democratic framework.
Would they have happened otherwise? And, more importantly – with China conceivably approaching military superiority in the West Pacific within another 1-2 decades and forcing the US to cede control over the region – will Japan, Korea, and Taiwan remain democracies?
(2) Useful chart of China’s power system: Policy largely determined by “leading small groups” tightly linked to the Politburo (especially under Xi Jinping) – ministries don’t have much power, are largely tasked with implementation.
(3) Why isn’t China crushing the Hong Kong protesters under tank treads?
Another facet of the FDI strategy was that much “foreign” investment was not really foreign. Nearly half of inbound direct investment has come from Hong Kong, and while much of that may simply reflect the activities of Hong Kong–based subsidiaries of American or European firms, it is clear that Hong Kong firms have been major investors in the mainland… Moreover, as much as a third of China’s reported FDI may in fact be “round-tripping”—investments by Chinese individuals and companies that are routed through companies in other jurisdictions, especially Hong Kong.
(4) Forget Russia’s “sale of the century” – the single largest transfer of wealth in world history was probably the privatization of the urban housing stock controlled by Chinese SOEs beginning in 1998, and mostly culminating in 2003, when urban house owners attained unrestricted rights to own, buy, sell, and mortgage property.
The value of this privatization was valued at $540 billion (doesn’t specify what date; I assume as of the time of writing). Since then, urban Chinese properties have become some of the priciest real estate in the world. Meanwhile, commenter AquariusAnon tells us that professionals in Tier 1 Chinese cities now earn near-American salaries, in a country where most things are twice cheaper, with home ownership at 70-80% amongst hukou holders. This group of people must have some of the highest material living standards in the world. Meanwhile, contrast that with the peasant living in his modest shack over which he doesn’t even have full property rights to this date.
Naturally, inequality soared.
(5) More from the Annals of Maoist Lunacy:
One of the major reasons for this “partial urbanization” is the hukou or residence registration system. This system has its roots in the baojia household registration method established by the Song Dynasty in eleventh-century China, versions of which later appeared in other Asian countries including Vietnam, Korea, and Japan. The modern hukou, which dates from 1958, is far more restrictive than the traditional baojia, which was used mainly for census and taxation purposes. Hukou incorporates elements of the “internal passport” system used by the Soviet Union to limit the mobility of its citizens. In addition to assigning each person a place of registration that is difficult to change, the system sorts people into two categories: rural and urban. When it was strictly enforced during the Maoist era, hukou made it very difficult to obtain a job outside one’s place of registration, and almost impossible for people to migrate from the country to the city. Between 1960 and 1978 the urban share of the national population actually fell, from 20 percent to 18 percent. This repression of city growth in the 1960s and 1970s is one of the main reasons why even today China’s urban population is lower than is normal for a country of its income.
That said, I do wonder if this could have canceled out the losses in actual and potential population from the Great Leap Forwards and the One Child Policy, respectively. After all, the Chinese kept the rural population artificially higher than it “should have been” for several decades, and rural dwellers have higher fertility rates.
Moreover, this effect may have been further strengthened by suppressing the growth of the biggest metropolises in favor of small towns.
The cities with the most vibrant economies and best job opportunities, like Beijing and Shanghai, also have the most restrictive immigration policies, so their populations and economies are smaller than they would be without hukou barriers. Many migrant workers are diverted from these hubs into smaller cities, where construction jobs have created a temporary demand for labor and more relaxed migration policies, but where the potential for long-term productivity growth is lower.
Highly ironic if the Communists who implemented the One Child Policy were simultaneously running an unintentional pro-natality program.
(6) While Kroeber doesn’t make the analogy himself, he would clearly agree with Richard McGregor’s argument in THE PARTY that China’s current political economy may be best described as a Leninist/NEPist state. While it has many vigorous small companies, the “commanding heights” of the economy remain state dominated. This includes three of the ten largest companies in the world (Sinopec, CNPC, State Grid), as well as 82 of the 92 Chinese companies on the Fortune Global 500.
Comparison to Japanese and Korean industrial organization:
Chaebol are diversified conglomerates, typically controlled by a founding family. Like keiretsu, they involve extensive use of cross-shareholdings among related companies. Unlike keiretsu, they are prohibited by law from owning banks. This prohibition on bank ownership was a deliberate choice made in the 1960s by the Korean government, which wanted to make the chaebol dependent on credit from state-owned banks and hence responsive to the government’s policy objectives. … After much experimentation, the system that evolved in China was that of the “business group” (qiye jituan). The business group was first legally defined in 1987, and over the course of the next fifteen years the central government created about two hundred such groups by corporatizing various ministries and production bureaus. …
SOE business groups typically operate within a single industrial sector. This rule is somewhat elastic and most SOE groups have a cluster of investments in sectors unrelated to their core businesses, often in property, travel services, and restaurants. But these investments are generally modest relative to the core businesses. This single-industry focus distinguishes Chinese business groups from the highly diversified Japanese and Korean conglomerates.
Over the years, the SOEs have been steadily reformed:
- “Grasping the large, letting go of the small” (抓大放小) in 1995, that is, getting rid of the most ineffective and smallest SOEs and holding on to the largest and potentially most competitive ones.
- Listing commercially attractive assets in a subsidiary on stock markets, while retaining lower-return investments and politically sensitive projects in an unlisted parent company.
- Creation of State-Owned Assets Supervision and Administration Commission (SASAC) in 2003, which is a government shareholder in ~200 central SOE business groups.
- There were plans – at least, as of the time of writing – to make SASAC into a purely regulatory body, and transfer ownership to a set of “asset management companies” broken down by major industry sectors (modeled after Singapore’s Temasek).
While the adjustments were occasionally painful, SOE performance did improve: “The average return on assets in state firms soared from 0.2 percent in 1998 to 5 percent in 2007.”
(7) While state ownership in Russia is high relative to the West – even once dirigiste France – it’s nothing out of the ordinary relative to BRICS, as well as South Korea (which I have argued is Russia’s closest analogue in East Asia). Meanwhile, China is clearly the most state-dominated.
(8) One major thing to bear in mind is that while the SOE system have been criticized for producing monopolies, this is inaccurate:
As noted above, a deliberate feature of the SOE reforms of the 1990s was the creation of multiple, competing state firms even in sectors marked down for central control, such as aviation, telecoms, oil, and electricity generation. In less strategic industries the degree of state-sector fragmentation is even greater: in 2011, for instance, there were 880 SOEs in coal mining, 312 in steel, and 264 in nonferrous metals processing. …
One lesson from this experience is that, for countries making the transition from a socialist planned economy to a market economy, full privatization of state assets is not necessarily the critical step, as many economists believed in the 1990s. The indispensable feature of a market economy is not private property but competition. If state assets are privatized but competition mechanisms remain weak, the results will be poor: one just substitutes private monopolists or oligopolists for state-owned ones.
This is a very legitimate point. While China was carrying out intelligent reforms of its SOE sector, the US-worshipping market Bolsheviks in Russia were giving away the crown jewels of the Soviet economy to shady, well-connected characters. This just led to private monopolists replacing the public ones, with a new class of rapacious oligarchs thrown in for free. But at least the Communists didn’t get back into power in 1996 and that’s all that matters.
(9) Whence thither for Chinese SOEs?
Probably as before: Regulatory reform to promote greater efficiency, while the private sector organically displaces it through winning greater market share over time (“growing out of the plan”).
Kroeber finds no evidence for “the state enterprises advance, the private sectors retreat” (国进民退) in recent years, though the pace of SOE decline relative to the market as a whole fell since the 2008 global recession.
(10) Despite its status as a “bureaucratic-authoritarian” state (Kroeber’s description), China is also one of the world’s most decentralized economies.
Interesting, this is a legacy of Maoist-era geostrategic concerns:
Decentralization of production partly resulted from China’s immense geographic diversity and its relatively poor transportation links. But it was also a deliberate strategy pursued by Mao Zedong, who believed that China’s best insurance against attack by the Soviet Union or the United States was a system that ensured that production of both daily necessities and military equipment could continue even if one or more major industrial area were wiped out.
… though today’s rationale is more purely political-economic:
Unlike Western analysts, who see a fatal contradiction between a dynamic economy and a tightly controlled political structure, Chinese leaders see the two as complementary. Tight political control provides the stability within which economic activity can be decentralized; and the resulting rapid economic growth in turn enhances the party’s legitimacy for having “delivered the goods” of higher living standards.
(11) We don’t actually know China’s TFR – the SPFC claims ~1.6 children per woman, the Census hints at ~1.1. Amused to see Kroeber take a stab somewhere in the middle:
In 1980 the fertility rate was 2.4; by 1990 it was around 2.1, which is the replacement level. By 2000 it was down to 1.4, and since then it has fluctuated between 1.4 and 1.5.
(12) But the really big demographics story in China is the great rural to urban migration, which Kroeber assess as ~2/3 done as of the time of writing.
The World Bank estimates that the excess rural labor supply (i.e., workers not needed to maintain the present level of agricultural production) is somewhere around 100 million people. Accounting for future increases in agricultural productivity, somewhere around 120 to 135 million workers are likely to move from country to city between 2012 and 2030—in other words, about half as many as have already made the move. … An important footnote is that while worker migration to the cities will slow down, movement of nonworking family members to the city will probably pick up, as immigration restrictions are relaxed. This could add as many as 100 million more people to the migrant flow by 2030. At that point, China’s total urban population will be about 1 billion, or roughly 70 percent of the total population.
This syncs with my own tallies. Basically, China’s 2030 will be the RSFSR’s 1980 – the point at which the Russian urban population passed 70% of the total, to max out at 73% a decade later. By the middle of the 2030s, I expect a growing trickle of Central Asian Gastarbeiters rerouting to increasingly labor-starved Chinese cities (as they already are from Russia to South Korea).
(13) Interesting to know that Ethiopia (my favorite African country) and Rwanda are the two fastest growing African countries, and the two African countries that have most closely adopted the Chinese model.
Justin Yifu Lin, who established China’s top economic think tank in the 1990s and served from 2008 to 2011 as chief economist of the World Bank, argues that African countries are in a good position to emulate China’s experience of economic development, using state-led infrastructure investment to attract FDI from companies (including Chinese ones) that no longer find China attractive as a site for low-cost manufacturing.19 Two African countries, Rwanda and Ethiopia, have adopted a more or less explicit policy of imitating the Chinese growth model. Over the past decade Ethiopia has been the fastest-growing economy in Africa, with an average GDP growth rate of 11 percent since 2004. Rwanda is not far behind, at 8 percent.
Life has become better, comrades. Life has become more cheerful.
Despite some of the problems highlighted above, Kroeber is certainly no ideologue, and does highlight that life has become much better:
- While China allocates a prodigious amount of GDP to investment, people are still consuming more – consumer spending increased by 7% annually in 1990-2013.
- They have bought the most cars of any country since 2010, and make up the majority of the world’s international tourists since 2012.
- Labor conditions better than in comparable income countries. Child labor is not a major problem like in much of the Third World.
- Social spending is going up as Hu Jintao rebuilt the tattered safety net to replace the old SOE-based welfare system, including nationwide health insurance schemes, free schooling for nine years, and pension scheme coverage from 200 million to 700 million people.
Meanwhile, many problems that analysts cite as potential mines underneath Chinese economic progress are in reality fairly modest and manageable.
Low efficiency of current investments?
These are summed up in a motto frequently cited by one of China’s leading economists, Justin Lin, who attributes it to Premier Wen Jiabao: “When you multiply any problem by China’s population, it is a very big problem. But when you divide it by China’s population, it becomes very small.” … This observation illuminates a common feature of China’s economy in both the Maoist and reform eras: the main goal throughout has been to mobilize resources. Maximizing the efficiency with which those resources are used has always been a secondary concern. This often distresses economists from rich countries, where virtually all economic growth and improvement in living standards comes from efficiency improvements. Visitors to China observe the waste and inefficiency visible everywhere, and often conclude that the economy will soon hit a crisis. These predictions have so far been wrong, not because observers are wrong about the degree of waste, but because they fail to realize that in a country of China’s size, such waste can be irrelevant so long as it is a by-product of an effective process of meeting basic needs.
Nonetheless, Kroeber does later note that with China’s capital stock/GDP ratio approaching rich country levels, there will be diminishing returns from more capital investment. China will have to become more efficient about resource use.
Growth based on unsustainable currency manipulation?
A low exchange rate played some role in China’s export boom, but no more than a supporting one. From 2001 through 2010, when most experts agreed that China’s exchange rate was undervalued, China’s share of global manufactured exports rose by about 1.1 percentage points a year, from 5 percent to 15 percent. In 2010–2013, when China’s exchange rate appreciated rapidly and other costs such as wages were also rising, China still gained about 0.9 percentage points of global market share each year, to nearly 18 percent in 2013.
It is, however, worth putting China’s environmental challenges in international and historical perspective. Every country that has grown rich has gotten quite dirty along the way. Today the headlines are filled with stories about toxic smog in Chinese cities and chemical spills in Chinese rivers. It is easy to forget that four decades ago, almost identical headlines were being written about Japan; and that in the 1960s the United States faced severe air pollution problems in big cities like Pittsburgh and Los Angeles, rivers in industrial regions caught on fire, and localities were rendered unfit to inhabit because of chemical pollution.
Finally, nor is Kroeber unduly worried about Chinese debt. Mortgages are unlikely to be the trigger…
The average down payment for a home purchase in China is well over 30 percent and the legal minimum is 20 percent. On average, urban households carry debt that is less than 50 percent of their annual disposable income. This is a far cry from the United States, where down payments of 5 percent or less were common, and household debt peaked at nearly 130 percent of disposable income. This means that even if house prices fall quite a bit, Chinese homeowners will still have positive equity in their homes and will be able to continue paying off their mortgages. China is unlikely to suffer a housing-related financial crisis.
… nor a sovereign debt crisis…
Whatever the level, however, a large and rapid increase in debt, such as we have seen in China since 2008, often does lead to financial crisis. But not necessarily. To have a crisis, you need two things: fast-rising debt, and a trigger event that forces shaky borrowers to pay up or go bankrupt. China has the debt, but not the trigger. The classic trigger for an emerging-market debt crisis is an inability to pay back foreign lenders. …
This is obviously not China’s problem. Its foreign borrowings are small—about 10 percent of GDP—and its gigantic foreign reserves of US$3.5 trillion (nearly 40 percent of GDP) give it plenty of ammunition to ward off a speculative attack and preserve the value of its currency. It runs an annual current account surplus of 2 to 3 percent of GDP, meaning that it has more than enough current income to cover its short-term foreign debts.
… nor from weird financial instruments…
The Financial Stability Board, an international group that monitors shadow banking around the world, found that for the entire world in 2013, nonbank assets accounted for 25 percent of all financial system assets, and were equivalent to 120 percent of world GDP. In the United States, nonbank assets accounted for nearly 60 percent of all financial assets, and equated to 150 percent of GDP. In China, nonbank assets were just 9 percent of financial assets, and a relatively modest 31 percent of GDP. … Second, China’s shadow finance is boring. Almost all of it consists of ordinary bank loans that are routed through nonbank institutions. Virtually all of the exotic features that make shadow banking both difficult to measure and potentially destabilizing in advanced countries are absent in China. China has basically no securitized loans, no derivatives, no collateralized debt obligations, no credit default swaps, few hedge funds and real estate investment trusts, and no structured finance vehicles.
Kroeber doesn’t foresee urbanites demanding democracy anytime soon.
It seems likely that the Communist Party’s twin desires to turn China into a great economic power and to retain its own political monopoly are incompatible, and sooner or later one of those goals must give way. So far, though, this prediction has proved wrong. Xi Jinping’s top-down reform program aims at a sort of “Leninist capitalism” in which the economy will be driven more by market efficiency, while the party’s power will be strengthened, not weakened. There are several reasons to think this strategy could be effective, at least for the next few years.
First, the acquiescence of the governed appears to remain relatively high. …
Second, the party does not simply crush dissent; it also makes a real effort to address the underlying material causes of discontent. …
Third, the natural class advocate of a more open political system is not obviously interested in change. … On the whole, members of this group have benefited disproportionately from economic reforms—notably through the privatization of state-owned housing, which gave them a valuable tax-free asset; and through the quotas for university admission, which are heavily skewed in favor of urbanites. In a more representative system, the interests of this group would almost certainly lose out to the interests of poor rural people, who are twice as numerous as the urban middle class. So long as the party continues to deliver the goods, in the form of a rising standard of living (not just financial but environmental), expanding opportunities, and reasonably secure property rights, the urban middle class is unlikely to agitate for political change.
Corruption is certainly bad – though as I have argued with respect to Putin’s Russia, or Orban’s Hungary, is it even possible to maintain sovereignty from the Blue Empire without building up your own elite?
Profiteering from corruption ran right to the top of the political system. The biggest case that the government has acknowledged was that of Zhou Yongkang, who served on the Politburo standing committee in 2007–2012 and ran the nation’s security services. In 2014 Zhou was formally investigated for corruption and expelled from the party; police claimed to have confiscated assets of $14.5 billion from Zhou, his family members, and his business associates. That amount would rank Zhou as seventh in the list of China’s richest people compiled annually by the Shanghai-based Hurun Report. Foreign media have also documented extensive wealth in the immediate family of former prime minister Wen Jiabao (US$3 billion, according to the New York Times) and current president Xi Jinping (US$55 million in Hong Kong property, and investments in companies worth US$2 billion, according to Bloomberg News). The widespread perception that, in the party and government, no one’s hands are clean of corruption is probably accurate.
In any case, Kroeber rightly points out that Chinese economy is dynamic enough to support significant corruption, and in any case, corruption has often served understandable political purposes, such as getting elite consensus for reforms, or purging hostile political factions.
Moreover, those people who steal too much & too flamboyantly do eventually get punished.
Finally, this tacit license to steal was not unlimited. Beginning in the early 1980s, the Communist Party waged a continuous and occasionally intense fight against corruption. … Researchers have found that at most one in ten corrupt officials are ever charged with corruption; but those that are charged are almost invariably convicted, and they face harsh sanctions including prison terms of ten years or more or even death sentences, of which 700 were handed down in corruption cases in the decade to 2008.
Finally, regional inequality is getting better:
By 2004, growth in rural consumption began to catch up to urban levels, and the urban-rural income gap began to shrink in 2009.6 As late as 2005, only a half-dozen provinces had urban wages within 10 percent of the national average. The rest of the country was divided between a handful of provinces, mainly on the coast, with much higher than average wages, and a vast mass of interior provinces with much lower incomes. By 2011 this provincial wage gap had closed: half of provinces had urban wages within 10 percent of the national average, and only the coastal megacities of Beijing, Tianjin, and Shanghai had wages more than 10 percent above the national norm.
So most likely we are not going to see George Friedman’s fevered predictions of the interior regions rising up against the fat cats in the coastal cities anytime soon.
Nonetheless, while Kroeber is not a China bear, nor is he any sort of Sinotriumphalist. I would call him a Sinoskeptic, but I happen to disagree with most of his assessments here – so if they make sense, then perhaps Sinotriumphalism really is warranted.
(1) Huge headline growth rates obscure paucity of successful Chinese brands in automobiles…
The auto industry represents a failure of industrial policy in several dimensions. Since 1990, Beijing’s stated aim has been to reduce the number of automakers and have three giant state-owned companies dominate the industry (similar to the triopoly of Toyota, Honda, and Nissan in Japan). In fact, the number of car assemblers has stayed constant at around 120 since the early 1990s. The “big three” SOE car makers make most of their money from joint ventures that are effectively controlled by foreign firms, and have proven unable to market their own independent brands. The success stories of the Chinese car industry have all been small, upstart companies, often sponsored by local governments—most notably the private firm Geely, which in 2010 acquired the Volvo passenger-car company.
… and even electronics (where a large percentage of production is final stage assembly).
As it demonstrates, Chinese companies remain far from achieving the highest global standard in products that require multiple levels of technology, intricate production processes, and high degrees of precision. In addition to autos, examples include jet engines, airplanes (where China has tried for years, without much success so far, to develop homegrown commercial aircraft), and many consumer electronics sectors. International firms have been able to maintain a wide technological edge in these areas, despite having major production bases in China where concerns about theft of intellectual property are high.
The electronics industry is another interesting case study. At one level, it is a spectacular success story: China now accounts for over 40 percent of global exports of electronics goods like computers and smartphones, up from 5 percent in the year 2000. But the vast majority of electronics activity in China remains final-stage assembly, where profit margins are extremely thin, and even this activity is largely controlled by foreign enterprises—especially Taiwanese firms, of which Foxconn (the main contract assembler of Apple products) is the best known. The highest-value components of the technology value chain—design and marketing of final products, design of integrated circuits, and original software development—remain firmly in the hands of global giants such as Apple, Samsung, Intel, and Microsoft. …
Like many successful Chinese firms, it is caught at the bottom of what Taiwanese technology baron Stan Shih famously called the “smile.” Shih observed that in the tech industry, high profits are earned at one end by companies that control the design of core technologies (such as Intel), and at the other by companies that control the design and distribution of products to consumers (such as Apple). In between are commodity firms that manufacture and assemble the products, in high volumes but for low profit margins. Taiwan is filled with such low-margin bottom-of-the-smile firms, such as Shih’s own Acer, TSMC (the world’s biggest contract maker of integrated circuits), and Foxconn (the world’s biggest contract assembler of consumer electronics). For the most part, China’s technology companies seem to be heading in the same direction.
These are all legitimate criticisms, and probably don’t bode well for China’s future if the current situation persists. After all, monthly wages in South Korea, which has powerhouses like Samsung, are now almost twice higher than in Taiwan (which normie has heard of TSMC? Or of Foxconn in a context other than labor violations?). Korea is developing dynamically, while Taiwan is getting brain drained by the mainland.
But will this situation persist? Here, I think, Kroeber is unduly pessimistic.
First, Chinese firms are broadly quite good at “adaptive” innovations—taking existing products, services, or processes and modifying them, often in substantial ways, to make them more responsive to the needs of the Chinese market. This is an important type of innovation. But Chinese companies have shown little ability to develop new products, services, or processes that are adopted or emulated in other countries. This is an important distinction between the China of today and, say, Japan in the 1960s and 1970s. Japan pioneered some important business-process innovations—notably “total quality management” or TQM in manufacturing (actually a Japanese development of ideas conceived by the American engineer W. Edwards Deming)—that were later studied and adopted by many firms in other countries. By the mid-1970s Japan had a long roster of companies that were beginning to set global quality and technology standards for a host of industries: firms like Toyota, Sony, Panasonic, Nikon, Canon, and Seiko. China has no such companies today, nor are any on the horizon.
Japan in the mid-1970s was developed country – it was ahead of UK in GDP per capita at that point! Meanwhile, brands like Huawei are already becoming better known. I think what was true when he was writing the book in 2014-15 is rapidly becoming much less so.
China is spending a great deal more money on basic scientific research than most countries. But a willingness to spend money does not equal results. A crude but handy test of a country’s prowess in basic scientific research is a count of Nobel Prizes in physics, chemistry, and medicine. Between 1990 and 2015, two-thirds of these prizes went to researchers in North American institutions, another quarter to Europe, and 5 percent to Japan. China got its first prize in 2015, for work done in the 1960s and 1970s on malaria cures.
Nobel Prizes are a lagging indicator; the Nature Index, a much more relevant and current measure of elite science production, has China at over 50% of the American level, and far ahead of any other country.
Kroeber doesn’t believe the renminbi will displace the USD as the world’s reserve currency anytime soon – or ever.
The financial press frequently carries stories about how China plans to turn the renminbi into an alternative to the dollar, which since the end of World War II has been the world’s principal currency for trade and investment. This plan might exist—we have no way to know—but we can be sure that it will be many decades before the renminbi rivals the dollar, and there is a good chance that it never will. …
First, international use of the renminbi is still microscopic compared to that of the dollar. The dollar is over forty times more frequently traded than the renminbi on foreign exchange markets. The dollar accounts for about 60 percent of the reserve holdings of the world’s central banks, a share that it has maintained, with some variation, since the late 1940s. Virtually all the rest of central bank holdings are in euros or yen; the renminbi’s share is probably less than 1 percent. …
Moreover, there are reasons to think that renminbi internationalization will slow down. Here the precedent of Japan is interesting. In the 1980s, many people talked about Japan in much the same way they talk about China today, as a rising financial superpower. By 1990, the yen accounted for 14 percent of international foreign exchange trading (seven times China’s level in 2013) and 9 percent of global central bank reserves. Backed by Japan’s seemingly unstoppable economic juggernaut, the yen seemed poised to join or perhaps even replace the dollar at the top of the international currency rankings. It never happened: 1990 turned out to be the peak of the yen’s importance. By 2010 its shares of foreign exchange trading and global reserves fell to 9 percent and 3 percent, respectively. This was partly because Japan’s economic growth slowed to almost zero for nearly a decade. But it was also because its leaders refused to open up the financial system, and clung to an economic growth model that depended on large trade surpluses. …
For a nation’s currency to be truly global on a sustained basis, it must have deep, open, and trustworthy financial markets that foreigners can easily move money in and out of. In the absence of such markets, foreigners will be inclined to look elsewhere for places to park their liquid funds. …
Willingness to run a trade deficit also helps. When the United States runs a trade deficit, as it has virtually every year since the early 1970s, it sends more dollars abroad than it collects. That means the world has an abundance of dollars. People are always hungry for safe places to invest these extra dollars, and America’s deep, open, and trustworthy bond market is a good place to do so. …
Will China prove any different? Perhaps. For now, it seems committed to keeping its financial markets relatively closed and to running trade surpluses. According to the standard indices of financial openness, China has the least open financial sector of any major economy.
This makes sense, except for the unfortunate comparison to Japan – as I have long pointed out, comparing Japan (40% of America’s population) to China (4x America’s population makes zero sense).
That said, by the time the USD decisively displaced the GBP as the world’s reserve currency in the 1940s, the US had three times the UK’s population and perhaps 5x its GDP. Britain was saddled with war debts. It is unlikely that the extreme conditions which provoked that tectonic shift will ever be recreated.
However, if the trade war continues degrading into a Great Bifurcation of the world economy – as I believe there is a substantial chance of happening – then it is entirely possible that the renminbi will dominate in the part of the dominated by the Sinosphere.
China’s capacity to conjure up some alternative, competing system should not be overrated. What would be the basis for such a system? It cannot be technological leadership, since China is a technological laggard. It cannot be a military alliance structure, since China has no alliances and no credible prospects of creating any. It cannot be a regional power bloc, since all of its neighbors view China with a degree of mistrust and are busy with hedging and balancing strategies to constrain China’s influence. It could perhaps be a claim that China has discovered more effective methods of governance and economic management, and hence a stronger claim to global legitimacy and moral leadership.
Lack of soft power is a problem. I don’t see much of an improvement in terms of cultural soft power until 2050 or so. Really, when you have your own people in Hong Kong agitating for the Anglo colonists to come back, that can only be called a pretty hard fail.
Nonetheless, he repeats the much more questionable canard about China having no cool brands.
Take, for instance, the world’s most popular consumer-technology item, the iPhone. Virtually all the world’s iPhones are assembled in China, and their wholesale value shows up as part of China’s trade surplus. None of the technology embedded in an iPhone comes from China. The operating software and the overall design emerged from Apple’s labs in California. The integrated circuit chip that is the crucial part of the hardware was designed and fabricated by Samsung in South Korea. The touch screens depend on materials science research conducted in the United States, Europe, and Japan and are produced by Toshiba. Many of the other electronic components, such as the wireless transceiver and camera, are produced by Infineon, a Germany company. Even the assembly process (which counts as a form of “soft” technology) is managed by Foxconn, a Taiwanese company.
Huawei is frequently cited because other examples are hard to come by. Chinese civil engineering firms are emerging as important builders of infrastructure throughout the world, and it is likely that they will dominate this market, in terms of total construction volumes, in the coming decades. Yet for the most part, they conform to the “80 percent of the quality for 60 percent of the price” business model…
I would argue that Huawei is now more like 100% of the quality for 80% of the price.
One could also argue that it is still early days yet for China. Most of its private companies are less than twenty years old, and it is only a matter of time before they emulate the international success of their Japanese and Korean peers. A comparison with Japan gives cause for doubt. In the early 1970s Japan’s per capita GDP, adjusted for purchasing power, was about the same as China’s is today. By then Japan already had a large number of firms with important positions in international markets for technology-intensive goods: Canon and Nikon in cameras, Seiko in watches, Toyota and Honda in cars, Sony and Panasonic in consumer electronics, and NEC in semiconductors. Not only does China lack a single such company, it has few plausible candidates for firms that might achieve this sort of global prominence.
But the world was poorer in the early 1970s today – as I pointed out above, Japan was already a developed country by then. Apples and oranges.
Ironically, I think Kroeber himself makes the best argument against his own Sinoskepticism:
If we assume that eventually industrial technology will spread across the world in the same way that agricultural technology did around ten thousand years ago, we can imagine that over the next century or two all countries may industrialize, and living standards around the globe will be much more equal than they are today. If that happens, the biggest economy will be the one with the most people, as in the days when the whole world was agrarian. But the fact that a country has the biggest economy will tell us nothing about that country, other than that it has a large population.
This sort of comprehensive convergence is unlikely because different populations have varying capacities to improve their level of human capital (see Our Biorealistic Future).
In reality, China will account for approximately half of the world’s population residing in high human capital countries.
That is obviously huge, and will eventually put it in a position to dominate the globe, unless the Western Powers consolidate and form their own bloc. Moreover, should technological progress slow down, this will further privilege China, since East Asian societies tend to be better at gradualistic optimization as opposed to groundbreaking innovation.
China’s governance system has many flaws but has generally proved effective, and has in fact changed substantially in response to shifting conditions, even if the Communist Party’s monopoly remains intact. Most important, outsiders can do nothing to change it—just outsiders can do nothing to change the aspects of the American system they deplore, such as the capture of the political system by big campaign donors, institutionalized racism, excessive consumption of energy and other resources, capital punishment, and so on.
Equally, however, the deep uncertainty over its long-run demographic and economic outlook, and the untapped expansive potential of the US economy, not to mention the richness and robustness of the US-led world order, make it unlikely that China will ever unseat the United States as the world’s technological, cultural, and political leader. Given China’s demonstrated pragmatism and caution under successive leaders over the past thirty-five years, there is reason to believe that an accommodation can be reached under which China enjoys increased prestige and influence—to the extent it can earn it—but the US-led system remains the core of the world’s political and economic arrangements.
Not quite sure what he means by “untapped expansive potential of the US economy”.
Twenty-first-century China is not the reincarnation of Kaiser Wilhelm’s Germany or the Soviet Union. Recognizing the fact and durability of its distinct value system does not constitute appeasement. And “containment”—the strategy that ultimately proved successful against the brittle and stagnant Soviet system—is a foolish idea when applied to China, which has proved itself dynamic and adaptable. There is plenty of room in the world for both the US and the Chinese systems, so long as people on both sides can agree that this peaceful coexistence is a goal worth striving for.
Are China’s Economic Statistics Reliable?
My strong intuition has always been that China’s statistics are essentially accurate for some of the following reasons:
- Extrapolation – I am rather familiar with the Russian state statistics system (Rosstat), I know that they are accurate, but I also know that Western ideologues hostile to Russia have questioned them when they showed Russian successes (while not noting converse cases). Why wouldn’t there be similar dynamics in play with respect to China?
- Coming up with fake statistics and keeping them consistent is really hard. Not even the Soviets managed.
- Who are you to believe anyway? The critics, or your lying eyes? China is building cities out of villages in a historic blink of an eye. Independent indices of wellbeing such as car purchases and Internet penetration suggest that if anything China’s GDP (PPP) may be slightly underestimated.
That said, I didn’t have sufficient material to write an article about it, as Ron Unz once suggested to me; at least not without significant further research. Nor did Polish Perspective want to do it. (Incidentally, thanks to him for recommending me this book in the first place).
But no matter, because Kroeber deals with this question in the appendix – perhaps single most useful chapter in this book. I will end the review by quoting it in extenso:
This book, like all works of practical economics, relies heavily on statistics. Most of the official Chinese government data are sourced from the CEIC database, which is the authorized online reseller for China’s National Bureau of Statistics (NBS). Some data not available from the CEIC is sourced from Chinese government publications, notably the yearbooks published by various agencies, the Ministry of Finance’s annual budget reports to the National People’s Congress, and occasional ad hoc reports that appear on government websites. …
The unserious ones are those advanced by nonspecialists, typically analysts for hedge funds or other financial firms, alleging that Chinese data on GDP, or energy consumption, or inflation, or whatnot are falsified by the government in order to cover up some major problem. These claims, often hyped by the media, are best ignored. Economic data in all places are subject to various problems and distortions, which are addressed by the constant revision of published data and the underlying methods used by national statistical agencies, as well as by enormous volumes of academic econometric research that seek to refine our understanding of how numbers relate to reality. …
Many serious analysts do believe that the government tends to smooth out the quarterly GDP growth numbers, underreporting growth when it is very hot and nudging the figures upward when it is cool. Most other data problems and inconsistencies can be explained by ordinary analytic econometric work, without resort to conspiracy theories about deliberate falsification. Those interested in making sensible use of Chinese data should consult Tom Orlik’s excellent Understanding China’s Economic Indicators (FT Press, 2012). …
The falsification theory also fails a simple logical test. If the government publishes false data, it must either rely on this false data to make economic policy, or it must keep a secret set of true data. If it uses false data, economic policy will quickly run aground, as it did during the Great Leap Forward of the 1950s, when reliance on bogus agricultural production numbers led within a couple of years to a catastrophic famine that killed tens of millions of people. …
This leaves the possibility that the government uses a secret set of true data to form policy, while feeding lies to the public. No evidence has ever been presented that such a secret data set exists. There are certainly a few data series that are not published but are reserved for the internal use of government officials. What is interesting is how boring these prove to be when occasionally they come to light through a leak—as, for instance, when a classified unemployment figure was accidentally disclosed at a press conference. The figure was 5 percent, compared to the published “registered unemployment” figure of 4 percent. In any case, if the government really kept a full set of secret accounts, the falsity of the published data could be exposed by the same statistical tests used by forensic accountants to prove chicanery in corporate balance sheets. These tests have been applied, and have failed to show any evidence of systemic falsification. …
The more serious claim, made by several economists, is that China’s long-run growth rate has been systematically overstated, not because China sought to bamboozle the world but because its statisticians employed faulty techniques. The most recent version of this argument is by Harry X. Wu of The Conference Board, who heroically reconstructed China’s national accounts for the sixty-year period 1952–2012 in order to arrive at a better understanding of long-term trends in productivity growth. Wu concluded that, thanks mainly to weaker than reported productivity gains, China’s average annual real GDP growth during the reform era (1978–2012) was 7.2 percent, well below the official figure of 9.8 percent. …
This is an interesting exercise, but it raises some conceptual problems. If we assume that the size of the Chinese economy was accurately measured in 1978, then the lower growth rate compounded over thirty-four years implies that China’s economy in 2012 was less than half as big as the official data say it was. This is impossible, because the economy’s present size is roughly confirmed by a wealth of information, including the government’s own economic censuses, and indicators including exports, foreign exchange reserves and consumption of physical items such as automobiles, oil, steel, and cement that are independently verifiable and not subject to falsification. If, on the other hand, we assume that the economy’s reported size today is correct, then the lower growth rate compounded back thirty-four years implies that China’s economy was more than twice as big in 1978 as the government believed it to be. This is slightly more plausible than the first case, but not much. Alternatively, we can try to pick values for China’s 1978 and 2012 GDP that are not so obviously incredible, for instance that the economy was two-thirds bigger than reported in 1978 and one-quarter smaller in 2012 (in which case we need merely explain away $2 trillion—an India’s worth—of phantom output). Any way you slice it, it is quite hard to reconcile the arithmetic of these alternative growth calculations with observed reality. …
To anyone who has spent much time in China since the 1980s, it is clear that (a) China has grown very rapidly for a long time; and (b) the speed and nature of that growth was roughly comparable to that of Japan, South Korea, and Taiwan, each of which uncontroversially grew at 8 to 10 percent a year for about a quarter-century in the post–World War II era. The reluctance of some observers to accept that China achieved similar results to those of its neighbors, using essentially the same economic playbook, is odd. It probably reflects the belief that because China’s government is secretive, authoritarian, and untrustworthy in many political matters, its economic data must also be untrustworthy. The feeling is understandable, but the conclusion is supported by neither logic nor the preponderance of evidence. A government so dependent on sustained economic growth for its legitimacy, and so keenly aware (thanks to its own recent history) of the disastrous consequences of relying on bad data, has a strong self-interest in maintaining statistics that are approximately right, at least with regard to trends, even if they do not meet the highest standards of modern statistical science. Like all economic data, China’s must be used with care; but they are useable.