This is getting tiresome, so please let’s declare the crisis over

1. chan-lee james April 20, 2009 at 03:16

   

   Your blog’s thoughtful views are greatly appreciated. However, your distinction between short-run stop gap measures necessarily undermining long-run potential growth may be too Cartesian?
   While one can criticise the microeconomic logic of recent measures (cf. the burst of bank lending in 2009 Q1) the first critical constraint is to restore confidence and “animal spirits”. Hence “dumb” quantitative targets are consistent with a Political Economy view of path dependency. As 8% growth absolves many past sins — it makes sense to stop the boat from sinking — and to fine tune later. Indeed, China’s successful past reforms have been based on a “second best” or a dual track approach. Pragmatic short-run solutions are hence not necessarily bad “if” final goals are strictly adhered to with sunset clauses and 1st world market tests.
   This strategy differs from “Cartesian” 1st best market-based views and it is highly vulnerable to political capture. Paradoxically the CPC may be less susceptible to “capture” than the USA or UK and perhaps why China may emerge from the crisis in better shape than sceptics claim. Idem for East Asia in the aftermath of the 1997 financial crisis. I would underscore that the 2 Chinese characters for crisis are “danger” and “opportunity”, yours faithfully, JamesC

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2. Dr.Frank Loo April 20, 2009 at 04:34

   

   Once upon a time there was a Chinese emperor who was pointing at a deer and said, “This is a horse”. Those Imperial Court Officials who were with the emperor responded, “Yes, it is indeed a horse”. Thus we now have the saying “zhi lu wai ma”.

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3. Dr.Frank Loo April 20, 2009 at 04:57

   

   Michael: I am getting tired as well. Let’s declare the crisis is over but a deer is still a deer. Read this to see if you can change the deer to a horse unless you have a magical wand.

   http://www.globalresearch.ca/index.php?context=va&aid=13241

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4. fatbrick April 20, 2009 at 05:13

   

   Let me just say that your argument on trade-off between short-term and long-term goals are legitimate and accurate. I think that any long-term structural change would need a period of time to prepare on all fronts, such as education reform, health care service, judiciary, and pension system. I know that many people including you are not satisfied with the current policies aimed at these areas scine they are too conservative. I do not like these policies too because I would love to see some really big changes on education and judiciary but so far I did not see any. But I still hope the policies already announced cuold be effective over time. The necessary time can be bought by those short-term stimulus package. Without those preparation, so called structural change would only lead to chaos and collapse. I think you wuold agree with this view, according to your testimony and answers back in Feb in D.C.

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5. Bob_in_MA April 20, 2009 at 05:23

   

   Michael,

   I think your post illustrates there are two issues:
   1) The choice between a short-term fix and long-term restructuring.
   2) The manner of implementing the short-term fix.

   They may have made a big mistake in choice #1, but the way they are implementing it just seems ludicrous.

   The only model that can be used to explain China’s actions of the last few months is that of Soviet-style state planning. Under that model some goal is set, say the amount of new lending. The state banks are ordered to achieve a massive increase in lending. The quality of the loans and their usefulness to the over-all economy isn’t even attempted to be measured.

   Next, boost shipbuilding by ordering state owned companies to by ships they don’t really need.

   And finally, make sure everyone knows what the state position is (crisis over) and stays on message.

   Four years ago, I was a Jim Rogers-type China booster. They seemed to be very methodically and reasonably reforming many aspects of the economy. Now, in the course of a few months, they have gone back to where they started: banks saddled with bad loans to huge state enterprises whose main purpose is to maintain employment.

   If the world economy really has bottomed due to the short-run policies in Washington, Beijing, etc., than it’s a sure thing we are on track for a new crisis and it will probably make this one look like a walk in the park.

   Anyone who has looked at what happened in the 1920s and 30s is struck by how many governmental actions could have been so obviously foolish (starting maybe the UK’s return to the gold standard at the prewar rate.)

   Well, now we know.

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6. J Ryan April 20, 2009 at 06:20

   

   Isn’t there already a huge excess of capacity in nearly every manufacturing segment? If so, how would spending the stimulus on infrastructure accomplish anything but creating an even larger excess? I’m not a proponent of digging holes and filling them back up. However, compared to building more excess capacity, digging holes may make more sense.

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7. tyaresun April 20, 2009 at 07:35

   

   Confucius say, those who try to pick bottom end up with shit on finger.

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8. Twofish April 20, 2009 at 07:59

   

   Pettis: The paths as I see it lead either to a very deep, short-term contraction followed by a healthy and balanced recovery, or to a slow contraction that may take many years and may result in much slower productivity growth over the next decade or so – perhaps we could call it a US-style crisis versus a Japanese-style crisis.

   And I’d argue that this is just plain wrong. There are many, many examples in which a deep short term contraction which was intended to fix the economy, utterly destroys it. Examples are the US in 1929, Russia and East Asia in the 1990′s. The problem is that any sort of structural change takes time, and if you create a short term crisis it leaves an economy more unable to deal with any sort of long term transition. If nothing else, it destroys the political credibility of the government.

   The only time that I’ve seen “tough love” tactics actually work are in situation such as the US in 1980 when you had stagflation, in which you have to choice which beast to kill first.

   Japan-1990 is not applicable because Japan in 1990 did not have 600 million poor peasants. Japan-1960 or Japan-1890 is a closer analogy and even then it isn’t perfect.

   Pettis: I don’t think I have previously mentioned Yasheng Huang’s very thoughtful and surprising book, Capitalism with Chinese Characteristics, in which he argues that following a period of real reforms that encouraged the development of SMEs and saw a huge increase in Chinese productivity, since the early mid-1990s there has been a refocusing on the state-sector, and a corresponding decline in productivity growth, but anyone who has read it will be struck by this trend.

   And IMHO, Yasheng Huang completely misinterprets what happened. In the 1980′s, you had huge productivity gains because Maoist policies were horrifically bad, and just reversing those policies gave you a lot of productivity growth. By the early 1990′s, those gains were used up, so at that point improving productivity became a much, much more difficult thing to do. So the rate of productivity *growth* was going to drop, but there was still productivity growth.

   The policies of the 1980′s were the right ones for the 1980′s, but they were completely unsustainable and trying to continue those policies lead to a massive credit bubble in the late 1980′s which China spent the 1990′s trying to deal with. In many respects China in 1990 had a lot of similarities with the US in 2008, and the increasing role of the state in the 1990′s was motivated by a lot of the same motivations that underlie the increase role of the state in the United States today. China basically did to its industrial structure what the United States is trying to do with General Motors today.

   Also Huang completely ignores the growth of SME’s and entrepreneurial companies after 1990, such as the “generation of 1992.” These companies were important because they allowed the SOE’s to lay off tens of millions of workers who found new jobs in the non-state sector. Once the SOE’s removed large numbers of people from the payroll, they became profitable and could undertake capital investments, which were impossible in the early 1990′s. Viewing SOE’s and non-state companies as enemies is just incorrect. Non-state companies were able to absorb surplus labor from SOE’s, and by reforming themselves, SOE’s avoided taking capital from non-state companies who could then undertake green field enterprises.

   Pettis: China is not likely to collapse economically, and we may see one or more “rebounds” over the next few years

   China could have economically collapsed it followed deflationary policies and increased unemployment. That didn’t happen. There was a period of about two to three months in which bad policies could have destroyed the global economy. Fortunately that didn’t happen.

   Pettis: but the glory days of growth are well and truly behind

   The best days of the Chinese economy are yet to come. China is moving out of an export driven, insular, implementation economic model to an innovation driven, global one. Right now China is in the “sweet spot” in which you can get massive productivity growth by pouring more concrete, and this is going to last for another decade until urbanization rates increase. Infrastructure driven growth will provide enough cushion so that China will get through the crisis of 2020, at which point what happens next will depend on the decisions that were made from 2010 to 2020.

   Pettis: Until, I suspect, the financial system is sufficiently reformed that it leaves behind governance constraints that almost automatically assure systematic and massive capital misallocation

   The banking system has been reformed, and over the last five years, the Chinese financial system has allocated capital far, far better than the US financial system did. Reform is a continuous process, and there is always room for improvement, but the Chinese banking system is nowhere near as broken as it was a decade ago and is in much better shape than the US system.

   Pettis: is likely to be longer and more difficult as a consequence of the fiscal and banking response to the crisis.

   Personally, I think that the Chinese government made mostly the right decisions, and that when this mess is behind us, then you are going to see a massive economic boom in China.

   At that point, we’ve placed our bets. We just aren’t going to convince each other by arguments because how the two of us think that economies behave are just too different. But it should be obvious in about a year or two who is correct.

   What puzzles me is this. Your book the “Volatility Machine” is one of the most influential works on my economic thinking particularly the sections in which you analyze the importance of 19th century Latin America and present a national balance sheet framework for analyzing economic decision making. Given that I agree with practically everything you wrote in that book, and I also agree strongly with Hyman Minsky’s theory of the business cycle, I do not quite understand why we have such sharply differing ideas on what the Chinese government should be doing.

   My own thinking is that given that market economies are extremely volatile, the first role of government is to actively manage the economy to limit the damage due to crisis, and if governments can limit the pain of crisis, then growth can more or less naturally occur.

   The second point is that as you point out in the 19th century Latin America listened to economists arguing for free trade, which didn’t work, and then in the 20th they listened to economists that argued for import substitution which didn’t work, before going back to free trade (after everyone forgot about the 19th century), which still didn’t work.

   This sort of thing is common in economics, which makes me very skeptical of people that say “do this nasty painful thing at which point everything will be fine.” What happens if they are wrong? If you don’t blow up an economy and you find out that what you are doing isn’t working, you can change policy.

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9. Twofish April 20, 2009 at 08:20

   

   Also to argue in favor of “shock therapy” you have two issues:

   1) first you have to explain why “shock therapy” policies should be used in China now, when they appear similar to policies that people in Beijing think destroyed the Russian economy in 1993.

   2) second, you have to deal with the fact that the policies that China is following are not that much different from the one’s that everyone else in the world are trying to follow right now. When someone from the People’s Bank of China shows up at the Federal Reserve and says, “we are flooding the economy with massive loans to keep unemployment from increasing.” Obama, Bernanke, and Geithner are likely to say “Great!!! That’s exactly what we are trying to do.”

   It’s really hard to argue that nationalization is evil and shouldn’t even be considered, when you have Paul Krugman writing articles in the New York Times saying that Obama should national all the banks, and when the US government has effectively nationalized large parts of the financial sector.

   It may be that both China and the United States are *both* wrong, but one simply cannot ignore current US policy in this discussion, and once can’t assume that there is any sort of consensus on this issue. When one argues that you should let the economy collapse to so that a much better economy will come out at the end, one really is a lone voice in the wilderness. Nothing wrong with that, but you have to realize that you are not only arguing against Chinese policy but also US policy.

   Also, it’s not clear what “reform” means. In 2005, you could say “reform means copying the US”, but with people from the Federal Reserve Bank actively studying what China did in the 1990′s and copying from it, that definition doesn’t work. You also have to answer the question “why do all this is going to work for China when it doesn’t seemed to have worked for the US.”

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10. vivchy April 20, 2009 at 09:33

    

    Yes, it is true that the primary task in face of crisis is to restore confidence, so we see extraordinary government interventions across the global so far. But whether the policy makers’ measures to revive growth is sustainable is an issue of debate.

    The US’s Great Depression and Japan’s lost decade may provide some parallels to today’s crisis. For these two cases, we all saw severe double-dip or multiple-dip after rejoicing at the initial sign of recovery since the goverments stepped in. Now the lesson policy-makers are drawing from these two failures is the loose policy should not be withdrawn too soon. Ok, let’s see what if they put in easy monetary policy there for long – we will repeat the recent history in which how the property bubble was created! Post burst of tech bubble in 2001, there was a popular bumper sticker reading ‘another bubble please’ in California, then here we are. Now the Fed and central banks in major countries are trying to create another bubble to save the world from collapse. Will they succeed? Let’s see.

    BTW, it’s very interesting to explore what in the end could bring economies back to recoveries. For the U.S., it is World War II, not the New Deal, to close an end of Great Depression. For China, it is hoursing reform as well as access to WTO to revive growth post-Asian crisis. For Japan, they are still searching for new growth drivers, so the lost decade is now the lost two decades.

    To this end, I am really not too worried about China. As I said before, China is still a poor and low-efficient country. It is relatively easier for China to find a growth driver than the developed economies. Before new growth driver emergies, I don’t eliminate the possiblity of a W-shape or even WV shape path ahead.

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11. Glen M April 20, 2009 at 18:29

    

    Some more details on the ‘increase’ in auto sales….

    “The overall sales numbers look pretty good this year, but profitability may not be so rosy,” said Yu Bing, an analyst at Ping An Securities Co. in Shanghai. “Minivan and small-car sales really do little for the bottom line.”

    Sales of minivans surged 40 percent last month as the government began giving out 5 billion yuan ($731 million) in funds to help rural residents buy new minivans and light trucks. Minivans, usually fitted with engines of less than 1.3 liters, generally lack features such as electric windows, leather upholstery and air-bags.

    Sedan Slump

    By contrast, sales of cars with 2.3-liter engines or above fell 33 percent last month, according to the China Association of Automobile Manufacturers. This category includes sedans, such as Toyota Motor Corp.’s Camry, which starts at 189,800 yuan.

    The market share for “bigger cars was short of previous expectations,” Xu Liuping, chief executive officer of Changan Automobile (Group) Ltd., the country’s fourth biggest automaker, said yesterday. “There may be vehicle sales growth for the industry this year, but revenue and profit may fall.”

    http://www.bloomberg.com/apps/news?pid=20601089&sid=aGLz4gjXguL4&refer=china

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12. Juan April 20, 2009 at 21:00

    

    One line of thought would question the effect of fiscal stimulus on rate of economic profit, which must be understood as more than a function of demand but also the technical [and value] composition of production capital.

    Paul Mattick spoke to this in his, I believe, 1969 book “…The Limits of the Mixed Economy” and, my recollection, concluded that yes, fiscal stimulus could have beneficial short-term consequences but over the longer run these were more than offset through, e.g., perpetuation of conditions such as over-accumulation.

    Shen Minggao’s position can be seen to be at least relatively more correct.

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13. MoneyIllusionist April 20, 2009 at 21:14

    

    Prof Pettis,

    I finally find out why you are so worried..It seems the “glory old days” are finally over and China will stagnate like another Japan.

    But

    Let me point out just one piece of history:there has been horrifying catchwords coming out all the time(the coming collapse of China,etc)

    Let me point out one single fact that nobody can deny:China is still a poor country and people here all have Chinese dream not so different from American dream.

    Like US always innovate out of a crisis,China should reform out of a crisis.We Chinese people will push towards that end.

    Prof Huang’s argument seems so silly to me.SOE reform is largely a successful thing here in China,so in theory,it should increase enterprise value and overall productivity.ISN’T THIS A SIMPLE ECONOMIC PRINCIPLE???

    China dont want to rely on export-led growth model.2/3 export value are generated by foreign firms.This outsourcing and outshoring process is not what China choose,it is what others choose.

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14. Mike G April 20, 2009 at 22:08

    

    Prof. Pettis:

    You have once again hit the nail on the head. The title of your post succinctly sums up what I am hearing from the media in that States over and over again. Modern man is impatient and cannot understand that even collapses take time to play out.

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15. Erik April 20, 2009 at 23:17

    

    Professor Pettis,

    I agree with your analytical framework that China may suffer long-term growth by trying to pump it up over the short-term.

    I was wondering if you had looked at the issue from the other side, that is, if your hypothesis is correct, what does this mean for other countries in Asia? In particular, wondering what you think would happen to Japan, Korea, and Taiwan in such a scenario.

    Thanks

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16. kobe24 April 20, 2009 at 23:55

    

    Michael, maybe it is a little bit irrelevant to this entry, but I really found it becoming useless for more discussion on whether the crisis is over or not. My understanding is that from top policymakers to local governors, actually few of them have no idea about what the problems are. They are probably quite aware of what they are doing and the consequence, but still, even these guys in power are not capable of making a change in a US way due to various reasons. So won’t it be useless if you tell someone “you are heading a wrong way” and get an answer like “I know that better than you, but I cannot stop now”?
    Of course this is not sustainable and there must be a more or less turning point which we don’t see today. So Michael I would like to hear your prediction on how things are gonna evolve further if the golden time for China’s economic growth has really passed as you said. Do you think Western countries will save more and consume less in the next global demand expansion period, if there’s any in the short future? Could China afford a period of 3-5 years with GDP growth around 5% when its overall population is still rising but with a battered social welfare system as today? You have mentioned that China is more or less forced to run trade surplus and become bondholders of foreign countries due to demographic reasons as sort of accumulation of wealth for future use, and as China produce less it will be a trade-deficit country then. So has this process already begun amid this crisis which some said would be an unusually long and painful one?

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17. Bruce April 21, 2009 at 00:22

    

    Professor,

    A plethora of insightful comments. The thing is you can try every cure for a hangover you like but nothing works as well as abstinence. Too late for that! Vitamin B? Water? Food? Nope. Nothing really makes a difference – except time. BUT the hair of the dog that bit you will take the edge off won’t it? But that too wears off. It is what it is.

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18. Michael Pettis April 21, 2009 at 00:53

    

    James, I am not sure if Cartesian is the right word because I am not proposing that there necessarily must be an irresolvable conflict between short-term and long-term objectives. My point is simpler. The transition from export-led growth to domestic-led growth typically occurs as a function of two things. First, economic policies aimed at constraining consumption and channeling subsidized resources into the tradable sector (low interest rates, unlimited credit, limited workers’ bargaining power, monopoly profits domestically, etc.) must be reversed. Second, this usually forces the tradable goods sector to redirect resources, usually via bankruptcies and/or much slower growth, towards serving domestic needs. The short-term result tends to be a rise in unemployment as the economic shift takes place. This is what has happened in every country I can think of that has made, or tried to make, the transition.

    However given the crisis, authorities are not surprisingly very reluctant to allow this rise in unemployment. Instead of enacting policies to speed the transition, they do the opposite, in an effort to boost employment via the existing economic structure, which unfortunately means exacerbating the over reliance on the export sector. The conflict between short-term and long-term objectives is not an existential conflict. It is simply a conflict in this particular case because the changes needed to speed up the transition are the opposite of the changes needed to raise employment.

    Whether or not the government is justified in doing this is a separate issue, and I would argue that it is a political issue, not an economic one.

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19. Michael Pettis April 21, 2009 at 00:54

    

    Fatbrick, you may very well be right, and I suspect you are, but since I am neither a political expert nor a Chinese citizen I don’t really think I can weigh in on this part of the debate. I limit myself to trying to understand and explain the tradeoff.

    Twofish, you seem largely to be arguing against positions of your own choosing that have almost nothing to do with anything I have said. I have never been even a mild proponent of shock therapy and certainly would strongly oppose it in the China case, nevertheless I think that the fact that shock therapy has failed in some cases is so irrelevant that I am not sure how to address your concerns. In some cases restructuring has been harmful and in other cases it has been very useful and necessary. Simply to point out one or the other case in no way settles the question on every form of restructuring. At any rate I am delighted and honored by your appreciation of my book, and if you don’t mind I will send you chapters of my new book as I complete them (which will be even more Minsky-ite than the last, I think) for your comments. We certainly seem to disagree on a lot but I suspect your disagreements will force me to be much clearer than I otherwise might have been, or at least more careful.

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20. Michael Pettis April 21, 2009 at 00:54

    

    Vivchy, I am not sure I am a believer that the primary task is to restore confidence. I would argue that the primary task is to repair imbalances and distortions that will prevent recovery. If we rebuild confidence before we fix the problems, we will undermine it much more severely when the economy peters out again. I am also afraid that the standard comparisons between China on the one hand and the US and Japan on the other hand that many in China make indicate differences that are far less important than they seem. China should not be compared with the US and Japan. It should be compared with Brazil, Mexico, India, Indonesia and other poor countries, in which case it becomes much clearer that being a “poor and low-efficient country” in no way absolves China of difficulties in recovering from a crisis. On the contrary, I would argue that poor countries have always had a much slower and more difficult time emerging from crises.

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21. Michael Pettis April 21, 2009 at 00:54

    

    Juan, yes, I am not smart enough to wade into these waters but I do not there is a serious attack based on alternative readings of the historical evidence on the impact of fiscal stimulus on real recovery.

    MoneyIllusionist, I am not sure I agree. Export-led growth may have been accommodated by foreign firms transferring technology to China, but they did not “choose” China’s development model. They simply responded to the conditions created by Chinese policymakers.

    Erik and Kobe, I think this will be the subject of my next entry.

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22. Thomas April 21, 2009 at 01:14

    

    @Twofish

    Quote: “Right now China is in the sweet spot in which you can get massive productivity growth by pouring more concrete, and this is going to last for another decade until urbanization rates increase”

    Why do you think China can get massive productivity growth from pouring yet more concrete? I don’t quite see why additional infrastructure would have a huge impact on productivity, considering that China’s infrastructure is already superb for a “lower-middle-income” country.

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23. Thomas April 21, 2009 at 01:32

    

    @Michael

    Quote: “Henan province will be receiving RMB 1 trillion as part of the stimulus package and, according to the Henan Development and Reform Commission’s calculations, these key projects will only generate 650,000 jobs”

    As far as I could figure out the article, the 1 trillion is not Henan’s share of the stimulus package, but the overall amount the province will spend for “key investment projects” (i.e. all the stuff they would anyway have done + stimulus-related stuff).

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24. China Interest April 21, 2009 at 02:34

    

    @Twofish

    I would argue that while the SOEs have made some progress the word through those I know working in them are that many of the practices of the past are still well-entrenched (i.e., unproductive work, bribery, questionable accounting practices, and lack of innovation). So I just don’t see how they are going to help – rather they are part of the problem.

    I also concur with Thomas about your quote “Right now China is in the sweet spot in which you can get massive productivity growth by pouring more concrete, and this is going to last for another decade until urbanization rates increase.”

    Have you looked around China Twofish?? Yes there are opportunities for good infrastructure development but most of the money being used now is not going to productive uses. There are too many projects I could list in Beijing or any other major city in China that won’t get a positive return now or anytime in the future.

    Where I do see a very positive return – albeit it is long term – is on quality education throughout the country, extending beyond the 1st tier cities. Education and health care both need to see a substantial increase in resources coupled with massive reform. For instance, just as an example, the salaries of those working in primary and secondary schools need to be increased to attract more qualified/motivated individuals.

    Perhaps a sign of times ahead (Asia Aluminum’s Debt Plan):
    http://english.caijing.com.cn/2009-04-21/110150540.html

    Here is an interesting article that probably concurs with Michael’s view of not counting on the US consumers to step in any time soon to buy exports: http://english.caijing.com.cn/2009-04-20/110149909.html

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25. bill j April 21, 2009 at 02:52

    

    Urbanisation increases productivity as no matter how relatively inefficient they may be workers are more productive than peasants. The transition from country to city is the motor of industrial development, it was in the UK, USA, Japan or any other country you care to pick.
    It continues to have a long way to go in China for the reasons 2fish has explained. There’s a good case to say that we’re in a period similar to the long upward wave of the “belle epoque”, 1890-1914. The present financial crisis has all the hall marks of the collapse of 1907. A banking disaster was followed by renewed strong growth. Followed a few years later by a war.

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26. Twofish April 21, 2009 at 03:31

    

    Pettis: Twofish, you seem largely to be arguing against positions of your own choosing that have almost nothing to do with anything I have said.

    The key paragraph is:

    (The paths as I see it lead either to a very deep, short-term contraction followed by a healthy and balanced recovery, or to a slow contraction that may take many years and may result in much slower productivity growth over the next decade or so – perhaps we could call it a US-style crisis versus a Japanese-style crisis.)

    What you seem to be arguing that there is a choice between “pain now” and “pain later” which is seems to be exactly the argument that was used in favor of “shock therapy” and “structural adjustment” in the 1990′s. I don’t think that there is this choice, and I think that in arguing that there is a choice between “pain now” and “pain later” that you are making the same mistake that the advocates of “shock therapy” were making in the 1990′s even if the specific policies are different.

    The fallacy is that contracting an economy will encourage economic reform, whereas if you have a situation in which there is mass unemployment, it makes any sort of economic reform and structural change much, much harder, not easier. There are about a dozen structural changes that need to be made to the Chinese economy, but all of them will take about three to ten years to have any effect. For example, China needs to develop private equity to fund SME’s. That’s not going to happen in six months.

    In the meantime, increasing unemployment and contracting the Chinese economy will make it much more difficult to undertake those reforms, because you are spending a huge amount of energy basically undoing the damage caused by massive unemployment.

    So what you are suggesting looks very much to me like the arguments in favor of “shock therapy” in the early 1990′s, and I’d be interested if you could explain why it isn’t the same thing.

    By the way, I do agree that the Chinese financial system tends to direct too much capital toward large SOE’s and too little capital at SME’s, and that the stimulus may be inefficient at generating employment. But that doesn’t lead to the dilemma that you mentioned earlier. If you can through policy redirect some of the stimulus toward SME’s, then do it, but if you can’t that that isn’t a reason for cutting stimulus, since having a massive employment contraction isn’t going to increase funding to SME’s.

    Pettis: China is not likely to collapse economically, and we may see one or more “rebounds” over the next few years, but the glory days of growth are well and truly behind us

    What “glory days”? Chinese economic reform over the last thirty years has been a history of lurching from crisis to crisis. The only reason for high economic growth is that the Chinese economy was so messed up in 1978 that it was easy to find places to fix.

    at large SOE’s and not toward small SME’s, but

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27. Twofish April 21, 2009 at 03:38

    

    Thomas: Why do you think China can get massive productivity growth from pouring yet more concrete? I don’t quite see why additional infrastructure would have a huge impact on productivity, considering that China’s infrastructure is already superb for a “lower-middle-income” country.

    There are still areas where you can get productivity growth by pouring concrete. There isn’t much use in building new superhighways or airports, but the railroad system needs fixing and cities need massive amounts of construction for apartments for lower/middle income rural migrants. Also, if you look at the number of university campuses that need to get built, it’s quite staggering. You will eventually run out of things to build, but China isn’t quite there yet.

    Certainly, you aren’t going to get nearly the productivity growth that you did in the 1990′s, but China is still not quite at Japanese or late-Soviet levels of infrastructure development yet.

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28. Twofish April 21, 2009 at 04:09

    

    Pettis: I would argue that the primary task is to repair imbalances and distortions that will prevent recovery.

    And I think this is the big difference here. I’d argue that the primary task is crisis resolution and damage control. Put out the fire *then* try to figure out how to remodel the house. If you try to deal with the structural problems of an economy while there is a major crisis, you will neither resolve the crisis nor will you be able to deal with the structural problems.

    Pettis: It should be compared with Brazil, Mexico, India, Indonesia and other poor countries, in which case it becomes much clearer that being a “poor and low-efficient country” in no way absolves China of difficulties in recovering from a crisis.

    Precisely, and if you look at why Brazil, Mexico, and Indonesia have stayed poor, one reason was because they all had major crises that completely overwhelmed the system, and from which they never were quite able to recover from. One common element in all three of the countries (and Russia), is that the crisis wiped out savings, and once you wipe out savings, then you are in really, really bad shape, since you then have no mechanism for capital development.

    The other big reason is that they had very bad distribution of agricultural wealth. One issue is that if you have a crisis that you are unable to recover from, this destroys the credibility of the government and makes it impossible for the government to expend political capital on structural changes.

    Pettis: The short-term result tends to be a rise in unemployment as the economic shift takes place. This is what has happened in every country I can think of that has made, or tried to make, the transition.

    Which is why it is important to create new businesses and social safety nets to deal with the unemployment, and why you should do the shift when you have a booming economy. If you try to make this sort of transition while you have a demand shock that is already killing employment, you get yourself in a deflationary spiral that you never get out of.

    So there isn’t a conflict here. If you deal with the structural issue now, you’ll weaken the economy to the point that you’ll never be able to make the transition.

    Pettis: Instead of enacting policies to speed the transition, they do the opposite, in an effort to boost employment via the existing economic structure, which unfortunately means exacerbating the over reliance on the export sector.

    I strongly disagree that this is the effect of current economic policies and of the stimulus.

    The massive amount of credit that is being pumped into the Chinese financial system is going through the state banks, which tend to fund infrastructure and state-owned enterprise, and have not funded at all export industries. Export industries are outside of the formal financial sector (which Yasheng Huang points out in this book), so the current stimulus is likely to kill export industries, and result in an economy that is SOE, construction, and infrastructure dominated.

    The crisis has really killed export industries because for the most part, they got credit via FDI from foreign sources, and both their markets and their credit have dried up. Also I think there is some amnesia because the export industries tended to be SME’s and “private” and were the darlings of the privatization advocates.

    Other than immediate payments to keep workers from rioting, I don’t see any sign that export industries are getting any benefit from all from the economic stimulus. Also to build up export industries, you need to export to someone and if the US just ain’t buying then those factories are going to shutdown anyway.

    Also it’s important to point out that export industries were in bad shape even before the current crisis. Toy manufacturers in Guangdong were shutting down and going bankrupt in huge numbers even before the crisis, and the crisis just put the nail in the coffin.

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29. Dwayne H. April 21, 2009 at 05:19

    

    Professor Pettis,
    Could you comment on China’s recent move into copper?
    http://www.telegraph.co.uk/finance/comment/ambroseevans_pritchard/5160120/A-Copper-Standard-for-the-worlds-currency-system.html

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30. Jeff April 21, 2009 at 05:27

    

    Mr. Pettis: isn’t your comparison of China to 1920s United States in the runup to the Depression flawed in that the US built its sales on productivity and dynamism whereas China has accomplished it by moving peasants to only slightly higher manufacturing wages AND deliberate restraint of their currency below a free market rate?

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31. Twofish April 21, 2009 at 07:01

    

    Pettis: My point is simpler. The transition from export-led growth to domestic-led growth typically occurs as a function of two things.

    Pettis: First, economic policies aimed at constraining consumption and channeling subsidized resources into the tradable sector (low interest rates, unlimited credit, limited workers’ bargaining power, monopoly profits domestically, etc.) must be reversed. Second, this usually forces the tradable goods sector to redirect resources, usually via bankruptcies and/or much slower growth, towards serving domestic needs. The short-term result tends to be a rise in unemployment as the economic shift takes place. This is what has happened in every country I can think of that has made, or tried to make, the transition.

    The only country that I can think of in which this model applies is South Korea, and even the barrier to economic restructuring was workers with too much bargaining power rather than too little. In the cases of Hong Kong, Singapore, and Taiwan the markets are too small to even try to promote economic growth, and those markets have moved from light manufacturing to high end design and services. In none of those cases, was there much unemployment.

    In China’s case you have huge internal markets, and you have a banking system that avoided many of the issues involved with Japan/South Korea/Soviet economic structures. In particular, Chinese banks do not loan money at low interest rates and do not provide unlimited credit. The trouble with loaning money at low interest rates is that you end up with inefficient industries and busted banks, neither of which are problems with China in 2009.

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32. Dr.Frank Loo April 21, 2009 at 07:45

    

    The 2 greatest jokes in the history of America:

    (1) Mark to Market = Mark to Believe
    (2) Stress Test = Smoke screen test. Insolvent banks are still insolvent no matter how one tests them. The test will only create a smoke screen to mislead.

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33. chan-lee james April 21, 2009 at 10:35

    

    Michael: You are absoolutely right. There is a consensus that China has to switch from an export plus investment led economy to a more domestic demand, service oriented one. This requires demand switching and demand increasing policies to raise domestic absorption. I thought that that is in fact what is going on, albeit too slowly? (Idem for the US who should be doing the opposite thing).
    The RMB has risen albeit modestly against the $ over the past couple of years, but increased much more on a trade weighted basis against its Asian trading partners (Korea, Malaysia, Thailand, Indonesia, etc). Moreover, China’s purchase of US Treasury paper has slowed, which will slowly drive up the RMB.
    As regards domestic absorption, you may be holding China’s fiscal stimulus to a higher standard than others? After all, isn’t the goal of subsidising rural purchases of white goods, automobiles rebates, kick starting the housing market with tax holidays, reductions in stamp taxes, cutting agricultural taxes, boosting rural education and health spending, etc. etc. — aimed precisely at boosting domestic absorption? I understand your misgivings about capacity increasing investment, but the best way for dealing with that would be a unilateral revaluation — but that is a non-starter as it would kill too many low-tech labour intensive jobs.
    This will happen eventually, but in the interim, one way of boosting domestic demand would be to reverse the adverse terms of trade between the agricultural sector versus manufacturing. A good start would be to rapidly implement the long promised reform of rural property rights, plus recent initiatives to improve access to education and health care — and to set up a rural pension scheme.
    These steps could provide a sea-change for 600 to 700 million people in terms of their life cycle savings targets. Another sensible thing to do would be to totally liberalise imports of cereals as suggested by Keidel. Peasants would then be free to diversify into much higher added ag production which would at a stroke boost rural incomes and reduce yawning income differentials — as well as raising domestic demand.
    Finally, I agree with the others’ criticisms of Huang’s analysis of productivity as being simplistic. The last time I looked at the data, industry TFP (total factor productivity) actually accelerated from the late 1990s into the early 2000s and took off again after 2002 until 2006. Average numbers obviously hide what is going on. What appears to be happening is that sharper national competition and greater financial discipline via the banks has forced white elephants to close. It is also forcing the median firm to close the productivity gap between itself and industry best practise to survive. This process automatically raises average TFP.
    What is clearly needed is a clear policy of steadily phasing in a higher RMB — while not repeating the follies of the boom and bust of the japanese Yen.
    Yours faithfully, JamesC

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34. Twofish April 21, 2009 at 22:47

    

    Chan-Lee James: There is a consensus that China has to switch from an export plus investment led economy to a more domestic demand, service oriented one.

    Curiously enough I strongly share in this consensus, and I also strongly agree that the Chinese financial system needs fixing because it is biased toward manufacturing instead of services, large companies rather than SME’s, state-owned companies rather than private ones, urban versus rural.

    The thing that I don’t understand is how contracting credit and increasing unemployment is going to make the problem better rather than worse. It seems to me that if you want people to consume more rather than put huge amounts of money in precautionary savings, the last thing that you want to do is to throw tens of millions of people out of work.

    Similarly if you want to expand private, small business low-skill services, it seems that it is a very bad idea to adopt policies that would reduce employment. What you want to do is to get cash in the hands of construction workers, who then decide that they want to eat at restaurants, watch some movies, and get their haircut. If you contract the economy and cause people to lose their jobs, they stop spending, and this kills demand for the types of SME’s that China really needs. If you want further development of SME’s, then you first need to create demand, the satisfy that demand with informal financing, and then once you have paved the way for informal financing, then you formalize the informal financing.

    I really don’t see the dilemma between “employment now prevents employment later.” If you have massive unemployment, this destroys demand for services which is a very bad thing if your goal is to expand the domestic market. Whatever you do to reduce employment now, creates the basis for a domestic market later, and conversely if you take policies that increase unemployment, you aren’t going to ever have a recovery, because you never end up with the demand that you need to support domestic industries.

    My disagreement is that:

    1) I don’t see massive credit as “propping up” the old system. Export factories in Guangdong are shutting down, and people are already out of work. Unlike the situation in Japan and South Korea, the credit is not going to prolong the old system because the exporters are thinly capitalized companies that pretty much instantly go out of business once their credit and their customers disappear. If the US isn’t buying, then none of the credit is going to go to export industries.

    I see it possible that the US economy recovers to the point that exports stabilize, but you are never again going to see that double digit growth that you did from 2003-2009, and nothing that the China does is going to cause exports to be a major source of economic growth over the next ten years. It’s just not going to happen.

    2) The important thing to increase domestic demand is “cash to consumers.” What you spend the stimulus on is less important than getting cash in the hands of migrant workers, so that they keep spending and increase spending on services. If in the process of getting cash to consumers, you manage to do something useful (like fix up railroads), this is good, but it is secondary.

    The key people to get spending are migrant workers. If you can get tens of millions of people at the bottom of the economic ladder to spend an extra $10 a month, this creates a chain reaction of economic growth. Conversely, if they spend less and start dipping into savings, this causes a huge contraction, and I don’t see how this is going to help increase domestic demand.

    3) There are a dozen things wrong with the Chinese financial system, but it is basically functional. Which is to say that if you pump money into the system, it gets lend out for new projects. They most certainly aren’t the absolute most useful projects that you can find, but they are “good enough.” The problem with the Japanese banking system was that the second you put a yen into the system, that yen was used to cover an old loan, so you all of the credit that you put into the system never made it into anything that was economically productive. This is also why problems in the banking system in the US are causing problems. You are basically trying to fight a fire with a leaky fire hose.

    This isn’t a problem with the Chinese banking system. It was five years ago. If people don’t watch loans, it could be a problem five years from now, but it isn’t a problem right now, and I worry sometimes that people are too worried about what might happen in five to ten years that they forget about what is happening now. Whether China has a big NPL problem in five years is determined not by one big decisions, but by a series of little decisions.

    If it’s a choice between investing in small SME’s and or big SOE’s then go for the small SME, but if people have to make a choice between investing in big SOE’s and nothing at all, then go for the big SOE’s in a way that the money will trickle across to the SME’s.

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35. Twofish April 21, 2009 at 22:58

    

    chan-lee jones: A good start would be to rapidly implement the long promised reform of rural property rights, plus recent initiatives to improve access to education and health care — and to set up a rural pension scheme.

    Reforming rural property rights is a very tricky thing to do, because if you have farmers sign away their right to farmland, without a social safety net in place, then you end up with Latin American style problems in which you have people with no means of support. There are also social stigma issues as well.

    Someone that is working hard as a farmer sees and is seen as a worthy citizen, whereas there are huge stigmas associated with getting money from the government for doing nothing.

    The problem with Chinese agriculture is that anything that increases agricultural productivity is going to generate mass unemployment. Chinese agriculture is the world’s largest social welfare problem, and I don’t see any way that the most people in the countryside can get rich through agriculture. Now if you increase productivity in agriculture and move lots of people into services, that will work, which is why focusing the Chinese financial system to supporting service-based SME’s is so important.

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36. Thomas April 21, 2009 at 23:02

    

    @Twofish

    “the railroad system needs fixing”

    It does? You mean secondary tracks in rural areas, right?

    I’ve taken a number of train journeys in China last year, and every one of them was perfectly comparable to the standards of German Rail, and far ahead of -say- Italy.

    My (Chinese) wife keeps complaining that European railways are rather inferior to what she’s used to from back home.

    Agreed. Though building such apartments does nothing to increase productivity, it “only” increases the utility of those that get to live in them. Unless you are arguing indirectly (as in: people moving to cities have higher productivity in the city, but they need apartments to be able to move there).

    Or take the massive subway networks that are presently being built throughout China: They are certainly useful, and lots of commuters and other travelers will love them, but they don’t do much to increase productivity. They cut travel time, but once the worker arrives in the office or factory, his productivity will be the same as before.

    “but China is still not quite at Japanese or late-Soviet levels of infrastructure development yet.”

    Why “late-Soviet”? I went to the Soviet Union in 1992, when it was in the process of disintegrating. The infrastructure was totally atrocious, far worse than present-day China (and I don’t mean Shanghai, I mean China including rural China!).

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37. Dr.Frank Loo April 21, 2009 at 23:02

    

    Tyaresun: “Confucius say, those who try to pick bottom end up with shit on finger”.

    He is half correct. It depends on which side of the bottom.

    Reply →
38. Thomas April 21, 2009 at 23:04

    

    P.S.

    Just noticed that parts of my quote got lost when I posted my last comment:

    Before the paragraph starting with “agreed”, I had meant to insert this quote:

    “cities need massive amounts of construction for apartments for lower/middle income rural migrants”

    Reply →
39. China Interest April 22, 2009 at 03:05

    

    @swordfish

    You have made a valid point that the government knows well the long-term choices it must make but nonetheless has immediate concerns. This isn’t much different then when I stated on the previous blog posting that China was like the bus in the movie “Speed” that can’t drop below 50mph or the bus explodes. So, China is hoping to buy enough time between now and a world recovery and keep the bus above 50mph. But unless the world recovers by 2010 (which there is a good chance it won’t), China might find it has exhausted its fuel and failed to replenish (conserve enough) for the trip ahead.

    One of the dilemmas that remains a mystery to me is just how financially sound are the balance sheets of the SOEs (including the banks). The problem I have is a lack of disclosure and the fact that they are all owned by the government. In other words, could the SOEs be playing an Enron shell game? If so, when the bus drops below 50mph, could the SOEs have a hard time hiding all the balls that might be in play in the game?

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40. China Interest April 22, 2009 at 04:03

    

    @swordfish

    Another thought I have concerning your reference to building more infrastructure – it is an often stated reference by outside visitors to China – ‘they got the hardware but they still have a lag on the software’. In other words, in the major cities the infrastructure is often world class and sometimes frankly more advanced then in other comparable western cities but the service/more advanced sectors remain weak. And this is where the quality of education becomes so imperative. The hardware can be replicated and relatively easily built but the software requires planting seeds well in advance. For instance, China embraced building research parks with the famous phrase from the movie ‘Field of Dreams’, build it and they will come. But a visit to many of the research parks will reveal that it often still remains a dream.

    Too many people in China (and frankly most places in the world) are ill-prepared for a paradigm shift in manufacturing. However, I would argue that there are some changes perking below the surface that could dramatically change the way things are done. These changes, when, not if, will require a lot less low-skilled labour.

    Published on the Economist website is a powerful graph (www.economist.com/research/articlesBySubject/displaystory.cfm?subjectid=7933596&story_id=11605232), that in my opinion, is a blueprint to how manufacturing will be done in the future. On this graph is the average robot costs relative to labour compensation. The graph indexes these costs at 100 in 1990 and shows a dramatic drop to about 25 (approximately 75% lower) in 2006. Couple this with nanotechnology and it becomes quite a convincing argument that low-skilled labour has a limited shelf-life. Furthermore, mass collaboration and global production teams make it ever more important for countries to nurture globally connected companies. These same companies will rely almost exclusively on a highly skilled workforce. However, it could be argued that China is by putting its resources in SOEs, starving the very companies it needs to nurture. Add that while China is graduating 6 million students from universities (many of whom are in the fields of engineering/sciences), not nearly enough of them are appropriately prepared for the types of skills needed in this new workforce. For instance, McKinsey Global Institute found in a survey quoted by the Economist that less than 10% of Chinese job candidates, on average, were suitable for work in a foreign company. (www.economist.com/displaystory.cfm?story_id=9645045) My experiences are that many might have the technical skills but they haven’t had ample opportunity in their schooling to learn teamwork, leadership, and organization skills.

    Swordfish in conclusion I would reiterate that the China needs to do a lot more than just build more of the same hardware, and rather the problems have a far more to do with the software needed.

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41. Twofish April 22, 2009 at 06:59

    

    China Interest: One of the dilemmas that remains a mystery to me is just how financially sound are the balance sheets of the SOEs (including the banks). The problem I have is a lack of disclosure and the fact that they are all owned by the government.

    Most of the big SOE’s are listed in Hong Kong and/or NYSE and audited by international accounting firms, so their disclosure isn’t worse than Western corporations. It is true that you can play some accounting games, but those tend to blow up very quickly, and the longer something lasts without a major blow up, the harder it is to argue that there is something broken. Also at the end of the day, someone in China has the ability to buy several trillion dollars of US treasuries, and the money to do that has come largely from the SOE’s.

    China Interest: If so, when the bus drops below 50mph, could the SOEs have a hard time hiding all the balls that might be in play in the game?

    The Chinese economy has slowed, and it’s not the Chinese banks or SOE’s that are having problems right now. I think part of the issue is that there are people that think that SOE’s *must* be inefficient and unprofitable because anything that is state-owned *must* be inefficient and unprofitable. Therefore if an SOE looks profitable and efficient, then this *must* be an illusion.

    As time passes without a big blowup, this is going to be harder and harder to argue. The other problem with this point of view is that it’s useless for the current economic issues that people are facing. If you argue that SOE’s are doomed to be unprofitable and inefficient, then what does the US do with GM, Chrysler, AIG, Fannie Mae, Freddie Mac, and Citigroup which are now effectively SOE’s? If you argue that is it *possible* for the US to turn around GM and AIG to become healthy and profitable, then you have to ask why it is so difficult to believe that the Chinese government did the same thing with its SOE’s a few years ago.

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42. Bob_in_MA April 22, 2009 at 08:10

    

    Not only is the crisis over, “China’s Wall Even Greater Than We Thought!”

    http://online.wsj.com/video/china-wall-even-greater-than-we-thought/3575C2A3-B7F4-4156-B164-BBF869BE40DA.html

    Also, it turns out the Great Leap Forward was even greater than people remember, so they’re going for GLF 2.0! A blast furnace in every village….

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43. Nemo Incognito April 22, 2009 at 09:00

    

    I think what money illusionist and the like are missing about SOE reform is that while reform was good (and painful) it would be a lot more sensible to sell them down to the public and make them widely owned companies. Giving a handout of these equities to people might be a beneficial wealth effect or endowing them to national funds. Public ownership is a poor second alternative at best an a disaster at worst elsewhere, why doesn’t China just make SOEs private companies and stop banks lending to them at absurd levels? It just might make China a lot more efficient and avoid them having to trash their banking system.

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44. bcg81 April 22, 2009 at 09:51

    

    First, I’m skeptical that “Chinese banks do not loan money at low interest rates and do not provide unlimited credit.” (Twofish) All that lending to SOEs stuffed through in Q1 was arm’s length, market rate/terms lending? Puh-lease. I heard it argued today that soft, off-market terms will be the real problem for banks as opposed to NPLs since the state-directed loans will perform, they just won’t be profitable.

    Second: shouldn’t “First, do no harm” be a guiding principal of “crisis resolution and damage control” (Twofish)? I take the point that one should get the fire out before remodeling. But it seems that China is putting out the fire by filling the gap left by collapsing exports less with infrastructure than with investment in more manufacturing capacity. Unless one expects external demand to recover (and surpass the bubbleyear levels), that seems kind of like putting gasoline on the house (respect to Dr Jim Walker), which if you’re wrong about demand leaves you with a lot less to remodel.

    But maybe the Chinese bet is not that global demand will snap back, but that other producer/exporter countries will be unwilling and/or unable to subsidize manufacturing to the extent China is/can. By doing so, China increases its own and global overcapacity, but the necessary reduction in the net excess globally may have to come from firms that must be profitable, earn their cost of capital, and borrow on market terms. Maybe any pain China takes waiting for such firms to fail competing with Chinese SOEs is an acceptable cost of greater market share. For when demand eventually recovers.

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45. greg April 22, 2009 at 13:16

    

    Great discussions.

    Michael Pettis started the blog post by faulting China’s current economic stimulus package and policies and then further questioning whether the glory days of China’s rapid growth may be behind us now. Thomas challenged that China’s huge infrastructure spending are all that useful and productive.

    Chan-lee james made strong defense for China’s current economic stimulus package and I believe his characterization of the packages are much fairer than Michale’s. Twofish’s arguments about short-term growth vs long-term structural problem are powerful and convincing.

    By weighing the arguments and counterarguments between the four of them, I believe we can get a pretty good picture of how effective the current economic policies are and what long term prospect that China has.

    I have always had problem with Michael’s characterization of China’s economic stimulus package. It is not difficult to find information about China’s various stimulus programs and it’s fair to say that it’s mostly about infrastructure spending (roads, airports and railways), social spending (health care, education, environmental projects and low-cost/subsidized housing) and some tax reduction. There is also the 10-industry revitalization programs which mostly consist of consumer subsidies (electric appliance and auto), industrial consolidation and R&D support. To be sure, there are also some support to the export sectors, mostly in the forms of restoring the export tax rebates to various degree that was phased out in the last year or so.

    Michael has been insisting that China’s economic stimulus packages are mostly manufacturing credits and export support. His favorite example is the ship building industry. Let me just say that first of all this example is hardly representative of the overall stimulus package. Secondly, even if we only consider the measures for the shipbuilding industry, I would say it’s still a sensible policy. China’s ship-building industry consists mostly of large state-owned shipyards and thousands of private shipbuilders sprouting out in the last decade or so, mostly in Zhejiang and Jiangsu provinces. The economic crisis and collapsing demands are akilling the private shipbuilders. There is no particular supports for them. The support for large state-owned ship builders are justified. There is no way China is going to let any of them to fail due to collapsing external demands. These ship builders usually make much larger and more advanced ships. They’re also building ships for Chinese navy. Ship building is one of China’s more successful industry in the last two decades, behind only South Korea and Japan and are closing the gaps quickly. There are still room for improvement and upgrading the technologies and to build better and more advanced civil and military ships. Government’s support in the forms of R&D, credit and (military) orders are important and necessary. When the world economy recovers, China wants to make sure its ship builders will be there better and stronger.

    Twofish’s arguments that you need certain level of economic growth in order to solve the more deep-seated structural problems are very much consistent with China’s successful experience in the last three decades. China, for all its success in the last 30 years, is still very much a transition economy and long way from a mature economy. It may appear to some that China’s economic development model is flawed and unbalanced currently. But if you look back to the 30 years of history of China’s economic reform and opening, it’s been a history of growth and solving one-after-another structural problems. Sure, at every stage and crisis the pressing issues and challenges were different, but China has been following a well-tested strategy of gradualism, incremental changes and local experimentation. If you compare how China has been coping with the current economic slowdown with how China handled the previous crisis, we can safely conclude that China is much more confident and calm this time around – just compare how the Chinese leaders felt and faced the respective situations: Deng Xiaoping in the late 70′s, Zhao Ziyang in the late 80′s, Zhu Rongji in the late 90s’ and Wen Jiaobao currently.

    The current problem with China’s flawed and unbalanced economic model can not be corrected in a short term. The structural problem will not go away simply by immediately firing large number of people in the so-called excess capacity industries (well, they’re happening now anyway) or by government distributing consumer coupons, as suggested by some clueless economists. At the time when private demands are stagnating or contacting, it’s important for the government to step in with public spending to absorb some surplus workers and even to provide supports to some struggling industries to stabilize the employments. To be sure, it’s fair to question how efficient or wasteful these spending will be. For a country that does not yet have a comprehensive social safety net, I would consider some of the “wasteful spending” to be welfare expenditure.

    The natural question is whether this will prevent the economy from adjusting and correcting the structural problems. The simple answer is no. There are three reasons why.

    First, the world economy, particularly the developed economies where most of China’s exports go, will not recover soon. It’s highly unlikely that China will experience double-digit export growth any time soon. This will put an external constraint on export sector and will force the adjustment. The government policy now is to hold RMB (dollar) exchange rate stable (which actually means real appreciation relative to the currencies of other competing exporting economies and non-US importing countries) while providing some limited support to the export sectors (to steady the employment and maintain some export market share).

    Second, the government is rolling out policies much more quickly to address the economy’s short term and long term needs. This manifests itself in the huge stimulus package, the quickening of the health care reform, the large investment in R&D (RMB 600 bn investment in R&D have been accelerated from the original 10-year plan). I believe there will be more forward-looking polices coming out as the world economic recession persists. And lest everybody forget, Chinese government command considerable resources and ordinary Chinese citizens still have large savings.

    Finally, probably most importantly, China is still a developing economy with a large domestic market. China does not need a perfect economic system and to invent cutting-edge technologies to sustain a relatively healthy growth rate. There are still large area of inefficiencies in the economy that will ensure considerable growth. I believe that urbanization and development of the interior will be the next big theme of the Chinese economic development story.

    Ten years ago, I would have never believed China would have a group of ambitious and promising domestic auto manufacturers (still well behind the world majors) in a mature automobile industry. Twenty years ago, who would have thought that China would have two of the leading world telecom equipment companies in Huawei and ZTE in a highly competitive high-tech industry which western countries dominated? Well, China has both today. Why? Because it has the world’s largest automobile and telecommunication markets. For the same reason, who can say with certainty that China’s determination and investment in developing an aircraft industry is doomed to fail?

    At GDP of only $3,200 per capita, the glory day of China’s economic growth is still ahead of us. It is not difficult to predict China will maintain high growth rates at least until it achieves the development level of Taiwan and South Korea.

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46. Chinese reader April 22, 2009 at 14:21

    

    China Interest:

    On the issue of software, you might want to reference another one of Michael Pettis’ oft-repeated themes: under-employment amongst university graduates.

    The number of Chinese graduating from universities every year has literally doubled (and perhaps tripled by now?) from 5 years ago. And the transition process isn’t entirely smooth, as the quality of recent graduates is extremely mixed. Degree in hand, they’re also find the job market isn’t ready to absorb quite so many graduates so quickly.

    But bottom line, I think it’s clear the Chinese government is aware of the problem you describe, and in fact started implementing the long-term policies needed to eventually address the need 10 years ago. Education levels in urban China are soaring.

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47. greg April 22, 2009 at 21:45

    

    Thomas: Why do you think China can get massive productivity growth from pouring yet more concrete? I don’t quite see why additional infrastructure would have a huge impact on productivity, considering that China’s infrastructure is already superb for a “lower-middle-income” country.

    Fair question. In fact, there have been a lot of debates within China on the very issue. There was one professor from the Northern University of Communications going so far as to threaten to sue the Ministry of Railway to force them to disclose the profitability analysis and justify the huge investment into railway for the next few years.

    Partly to respond to the opposing voices, the Chinese government has reduced the infrastructure investment in the RMB 4 trn stimulus package from RMB 1,800 bn to RMB 1,500 bn.

    But I think on balance China’s current large investment in infrastructure is justified and there are strong rationales from both short-term and long-term perspectives.

    1. Short-term perspective
    If you ask me, I would say there are more unmet demands and needs in health care and education than in infrastructure in China now. The problem is, without structural reforms in health care system and education system, throwing more money does not solve the problems at all. Investing in welfare systems is not just a temporary expenditure, but have long term fiscal implications. Welfare spending is largely irreversible. China is still a developing country with over 1.3 billion people and you don’t want China to stuck with an unaffordable welfare system.

    Most of the infrastructure projects, on the other hand, are shovel-ready. Since 2004, China has developed comprehensive medium- and long-term national plans in transportation and energy infrastructures. The reason we see China could quickly ramp up the infrastructure spending since late last year is because most of these projects have been planned and even completed feasibility studies. The country’s railway development plan by 2020, for example, is expected to be completed by 2015 at the current rate of investments.

    When the financial crisis hit, the government simply accelerate the investment schedule of the existing projects and plans. At a time when private investments are stagnating or contacting, it is less likely to crowd-out the private investments.

    2. Long term perspective
    For a developing country with a large territory and huge population, China’s infrastructure is still underdeveloped. The railway you traveled on in China last year probably reflect the better part of the country.

    The current infrastructure buildout in China is much more than just a short-term spending program, it is also strategically important for China’s long term economic development model and national competitiveness. The prevailing view within the government is that it’s ok to build slightly ahead of time in infrastructure.

    For example, China’s huge investment in high speed rail is far-sighted and has far-reaching consequences. Short-term, it will significantly increase the passenger and freight capacity of the railway system; longer term it will promote the national and regional economic integration and facilitate the urbanization process, the next big theme of China’s economic development. More important, it has far-reaching energy and environmental implications. With Chinese consumers buying more and more automobiles, it’s a race against time.

    Consider the situation in the U.S. The US is now stuck with a “legacy” infrastructure compared to Europe and Japan. The urban sprawl and spreading exurbs are the direct product of a infrastructure based on expressways and airports. This was painfully clear last summer when oil price hit $4. President Obama’s recently announced high speed rail plan, while bold and visionary, will encounter formidable obstacles due to the sunk-in cost in the existing infrastructure and communities.

    About “the massive subway networks that are presently being built throughout China.” The subway system is one of the three integrated components of China’s emerging urban transportation systems, which consist of urban subway network, inter-city express rails, and national high speed rail network. The system is integrated to encourage more public transit.

    In Shanghai, the municipal government has always placed more emphasis on public transportation and subway network and restrict automobiles by auctioning limited license plates. Beijing, on the other hand, had always invested more heavily in highways. As a result, Beijing has most cars and expressways in the country, but suffered severe traffic congestion and pollution. Beijing lagged behind Shanghai in subway building. Since Olympic Games, Beijing has had a change of heart and substantially increased the investment in subways. It even lowered the subway fare to two yuans regardless of travel distance to encourage ridership and relieve traffic congestion.

    While Beijing and Shanghai are in the vanguard of China’s urban development, China’s other mega cities are increasingly like them with rapid urbanization.

    There is also the argument of cost: while 1 km subway in Beijing costed less than RMB 200 million ten years ago, it costs RMB 800 million today, mostly due to land appreciation.

    Reply →
48. China Interest April 22, 2009 at 23:09

    

    @swordfish

    You said:
    “Most of the big SOE’s are listed in Hong Kong and/or NYSE and audited by international accounting firms, so their disclosure isn’t worse than Western corporations. It is true that you can play some accounting games, but those tend to blow up very quickly, and the longer something lasts without a major blow up, the harder it is to argue that there is something broken.”

    Actually there have been a number of problems with the Chinese firms listed on the NYSE. Refer to the following articles: http://findarticles.com/p/articles/mi_m0EIN/is_2007_Sept_17/ai_n19521265/
    http://www.ratefinancials.com/images/Forbes%20news.pdf

    In response to another thing you mentioned swordfish – I would say that turning GM, Chrysler, AIG, and Citigroup” into national government owned agencies for any extended time period would be a very serious error (there should be no Fannie Mae or Freddie Mac). I would hope that these companies are quickly reverted back to the private sector. There is no place for state-run organizations in sectors where it would be more efficient for the private companies to be competing in. That is Economics 101 – why nationl/state-run organizations are a poor choice unless there are positive externalities to justify their inefficiencies (i.e., education, health care, perhaps utilities)

    Reply →
49. Peter B April 23, 2009 at 00:02

    

    Michael, Twofish and Greg…thanks for the educational, interesting and insightful comments. Some of the best material I have read on these issues in a long time. Please keep it up.

    Reply →
50. Thomas April 23, 2009 at 01:42

    

    @greg

    I did not mean to say that I consider China’s investment in trains and subways to be wasteful. It can be discussed if it’s maybe a bit too much when compared to some other things they could spend the money on, but I do think the trains and subways are useful, and anything that prevents overreliance on car-based transport is good.

    However, I do wonder why such investment would have a substantial impact on China’s productivity, as claimed by Twofish.

    I’m not saying it needs to have an impact on productivity to be justified (better health-care for the elderly certainly doesn’t increase productivity either, but that is no reason for not providing it), just wondering if it has an impact or not.

    Reply →
51. Thomas April 23, 2009 at 01:55

    

    @bcg81:

    Quote: “I heard it argued today that soft, off-market terms will be the real problem for banks as opposed to NPLs since the state-directed loans will perform, they just won’t be profitable.”

    I’m not quite sure I understand your point: If the loans will perform, then what is the problem for the banks? Are you saying that the loans are handed out at extremely low interest-rates? Or what do you mean by “soft off-market terms”?

    With deposits extremely cheap, and lending rates also strictly regulated, it seems to me that the only thing banks need to worry about is NPLs. If there won’t be NPLs fr whatever reason, there won’t be a problem. Not a major one, at least.

    Reply →
52. Anders April 23, 2009 at 01:59

    

    The first quarter numbers for 2009 Total Investment in Fixed Assets seem to tell a little bit about what is happing. It is about 2.8 trillion yuan for the whole country.
    Investment in Cities (maybe over 500.000) and Towns (maybe over 100.000) make up for 2.35 trillion yuan of it, so we could properly conclude that a large part of the government’s stimulus package went to urban areas. State owned or State holding enterprises put in 1.0 trillion yuan, so we could conclude that they have been given a fair share of the stimulus package. It is indicated as a 37 % increase (no indication of compared to when), so the SOE and SOHE must have been given an ok to start spending on fixed assets.
    Now the railroads investments where 54 billion yuan an increase of 100% (no indication of compared to when) and the power and heating producers got 135 billion an increase of 15 %. This shows that the railroads infrastructure is getting its fair share of the stimulus package, but the numbers is still very small or too small to be a significant part of a national fiscal package.
    The question is if the government really thinks the crisis is over, when it starts showing off some of its spending bills for the first quarter of 2009?
    By the way I would go with Twofish on the employment versus economical inefficiency on this one. There is not house on fire, the party is just doing what any good pater familias does when the teenager doesn’t have anything to do, he gives him a shovel and puts him to work in the garden.

    Reply →
53. Thomas April 23, 2009 at 02:00

    

    @Twofish

    Quote: “It is true that you can play some accounting games, but those tend to blow up very quickly, and the longer something lasts without a major blow up, the harder it is to argue that there is something broken”

    I tend to agree with you that there don’t seem to be too many horrible legacy problems at SoEs right now.

    To me, the question is more: Does the current initiative of “invest as much as you can and as fast as you can” also infect SoEs, which will put too much money into stuff that turns out to be tomorrow’s problem assets? (According to official stats, investments throughout all major manufacturing sectors are growing very fast, and I simply don’t understand what sort of mega-investments they can be doing that make sense in the current environment. Always assuming the official stats are reasonably accurate, which they may not be)

    Reply →
54. kalasend April 23, 2009 at 02:05

    

    I am surprised by the lack of comments that the CCP’s fear of rising unemployment turning into social instability being the most significant reason behind the choice of economic policies since the emergence of this crisis.

    Reply →
55. China Interest April 23, 2009 at 02:06

    

    For those who are a little skeptical about the official information from Beijing press here is a refreshing pair of eyes writing on the occurences from the capital. An article in particular worth a read is entitled “Chinese Art: Tricks of the Trade.” (http://www.forbes.com/2009/04/10/china-art-sothebys-markets-emerging-beijing-dispatch.html) I would suggest to Swordfish this is part of the reason I stated before my concerns about the balances of the SOEs.

    Gady Epstein at http://search.forbes.com/search/colArchiveSearch?author=gady+and+epstein&aname=Gady+Epstein

    Reply →
56. chan-lee james April 23, 2009 at 03:35

    

    Hello Twofish: I think that we agree that it is better to carry out big needed structural reform on the back of strong economic growth. In short, a rising tide lifts all boats. That is why China is in pretty good shape to carry out price switching (via revaluation of the RMB) and demand augmenting policies (fiscal expansion).

    The rub is that the US (and UK) should be doing the exact opposite, but that is not happening because other big surplus countries (Germany, Japan, etc.) are doing too little. This is the crux of the world adjustment problem that Prof. Pettis and Martin Wolf underscore.

    To be sure there will inevitably be waste in China’s big quantitative stimulus that Prof. Pettis emphasises, but he risks being more catholic than the pope — i.e. the top priority is to stop the fire.

    The really HUGE question is the adjustment costs that the world crisis will have on China’s labour intensive, low tech sector (toys, textiles, etc.) These industries have absorbed hundeds of millions of unskilled workers and it is a hidden “unemployment system” that has fueled torrid growth, via export “dumping” to California. The viability of this sector is in doubt as some firms have already migrated to Vietnam etc. So if this sector disappears, how and where do you create 100+ million new jobs to maintain social stability?
    I don’t have the answer nor does the CPC — that is why they are opting for “growing out” of the crisis by gradually winding down this sector — and by moving it to the hinterland (and why pouring concrete is not such a dumb idea, cf. Schumpeter’s railroads).
    Take the case of “clearer rural property rights” (and liberalising cereal imports) the idea is not to encourage peasants to sell their land to a bunch of loan sharks and to end up being landless serfs à la Brazil. Not at all. Clear property rights will facilitate pricing of these “frozen assets”. It would allow peasants to use these as collateral to borrow and invest either in their land to raise productivity, to create larger farms, diversify their output or to set up parallel processing or service based activities to enhance their incomes. One can recall that the creation of TVEs was largely a historical accident that built on the legacy of the work brigades of the Great Leap Forward. Hence, create positive incentive structures, give people a greater choice set (seed capital, training) and let people find their own solutions ! Your idea of giving migrant workers more money will help put out the fire — but will not create durable growth.
    Above all clearer property rights create greater fungability over personnel wealth that lowers precautionary as well as life time target savings. The analogy (an ironic one) is a reverse mortgage in Anglo Saxon countries that allow owners to draw down their equity to smooth lifetime consumption.
    Similar results could be obtained by broadening and improving the social safety net (health, pensions, plus better access to education) to the rural areas. This approach would narrow income differentials as well as enhance social stability.
    None of these measures is a “silver bullet” — there isn’t one. What is needed are clear final goals, competent leaders with a long-term vision and pragmatism to adjust to huge shocks and changing circumstances — without losing sight of “over arching” national goals.
    Ironically, the CPC may be better suited in carrying this off than the USA — because it can make difficult long term decisions — albeit remaing very vulnerable to hugely bad choices in the absence of a lively public debate — to which you are all contributing to in this forum.
    Yours faithfully James

    Reply →
57. Thomas April 23, 2009 at 03:35

    

    Quote greg: “There was one professor from the Northern University of Communications going so far as to threaten to sue the Ministry of Railway to force them to disclose the profitability analysis”

    That’s interesting, and rather surprising (to me at least). On what grounds could a university professor force a government ministry to make such disclosure? Do you know if he obtained any such information? Since you say he “threatened”, that presumably means he didn’t go ahead with it?

    (If I understand correctly, Beijing Jiaotong University used to be China’s “railroad college”. Does that mean they are still linked to the railway ministry due to their history?)

    Reply →
58. brosna April 23, 2009 at 15:58

    

    About infrastructure: twofish and greg make good points, and I want to add that extending roads into underserved rural areas aids local development.
    A string of isolated, no-hope villages can, by the building of a decent road, turn into a local market big enough to support a cinema, a few barbershops and several restaurants, as well as the guys that drive the buses and delivery vans.
    I read lately that teaching jobs in remote villages go begging because college grads can’t stand the living conditions, even after months of unemployment.
    Several people here have said something like “Everywhere I go in China, the transport is already excellent” – may I point out an element of tautology: you don’t go to places where the transport is abysmal.

    Reply →
59. Caonimazhige April 23, 2009 at 21:18

    

    I am still amazed at how many people are still missing the forest for the trees where it comes to China’s current economic conditions. Statements that equate building more roads and houses, and capuses, as a means of improving productivity are simply inane. Houses are not productivity enhancing, especially when they are built to a very low standard and the first thing that a new buyer has to do is revnovate it. Roads and bridges that are not used (reference Japan’s bridges to nowhere) do not enhance productivity either. Building for building’s sake only gets more buildings, not efficiency gains. In the end, what people are missing most is the fact that China’s negative feedback loop will be in the opposite direction of what the west is seeing – it will start in the real economy and feed back to the financial economy sooner or later. (China knows this, and watch for the creation of some bloated investment fund to buy dud assets that are being kept alive at present by bank loans before the loans go bad and regulators look bad for having induced so much reckless lending). Such is the fate of a bloated producer nation given the current state of the world industrial economy. We all need to step back and look at the big picture again, because, as Mr. Pettis reminds us, it is still out of balance, and all the lending in the world will not solve the consequences of the outcome of rebasing global consumer demand at a lower level. Chinese consumers will not solve this problem because far too many of them (the 90% of the people who own 10% of national wealth) are too poor.

    Reply →
60. Thomas April 23, 2009 at 23:48

    

    Quote Brosna: “I want to add that extending roads into underserved rural areas aids local development.”

    I don’t disagree with that. But I wonder how important the remaining “underserved rural areas” are in comparison to the overall Chinese economy. For instance, I’ve travelled quite a bit in Yunnan, not exactly one of China’s richer provinces. While I haven’t gone to any obscure hamlets (and accept the point that such hamlets still exist), I must say I found the quality of the road network remarkable. Lots of new (and – once you leave behind the outskirts of Kunming – rather empty) multi-lane highways connecting various secondary towns.

    Reply →
61. Dr.Frank Loo April 24, 2009 at 03:37

    

    I agree China massive investment in infrastruture is justified to pave the way forward for future economic growth. The professor whoever he maybe at the Northern University of Communication is talking nonsense. Investments by the government is not driven by short-term profits but rather to adjust short-term economic down turn and to provide jobs and domestic consumption.

    A case in point is Chek Lap Kok International Airport. When the project was proposed there were so many people believed that the Hong Kong Government which was then still under the British
    rule had termed the project as “The Rose Garden” and they were spending massive amount of money before they 1997. Looking at it now Chek Lap International Airport now it is surely not a “White Elephant”. If we are still using the old Kai Tak Airport today it would be a nightmare!!

    I would like to take this opportunity to hijack this thread a bit. The statement made by this guy Jackie Chan at the recent BOAO Conference at Hainan Island was absolutley ridiculous. He said the Chinese people needed to be controlled and Hong Kong and Taiwan are in the midst of unrest. He was talking through his arse. He was not fit to be a speaker at the conference in the first place. All he was trying to do was to get into the good book of Beijing. Sorry, Mr Chan our leaders in Beijing are smarter than you think. They sure know your background!!! Mr. Chan, do we have any “Red T.Shirt” mobs running around Hong Kong Streets. Yes, we had a few hundreds people marching to the government office over the Lehman Brothers mini bonds situation. Do you consider it as “unrest”?

    I know you can’t read English. If any of his “boys” happened to read what I have just posted here tell him about it. I am prepared to have an Open Debate with him on this issue. The Chinese is a peace-loving race and Hong Kong is a very peaceful city.

    Francis Loo, Ph.D

    Reply →
62. bcg81 April 24, 2009 at 04:09

    

    Thomas -

    I think the idea was that loans are made at such low rates and on such loose terms (collateral, covenants, reporting, enforcement rights, etc.) that they’re more like equity and thus only profitable for the banks if, when and to the extent the borrowers are, although while banks waits for that day they may be able to avoid classifying such loans as non-performing. It’s a distinction without a difference except that an NPL ought to trigger a bankruptcy/restructuring and either business improvement or reallocation of capital. But that seems to be what we’re trying to avoid by making such loans in the first place.

    Reply →
63. China Interest April 24, 2009 at 04:41

    

    Here is a wild idea that might offer a small token to the global imbalance. What if China were to create investment funds using some of their foreign reserves? These funds could provide low-interest loans made available to Chinese companies planning to invest abroad. In other words, Chinese companies could expand their business outside China and draw credit from the fund(s) at favourable rates/conditions.

    Because as it currently stands now, there are few Chinese brands that have a global presence. Yet it is imperative in the long-run that Chinese companies develop markets outside of China for sustainable growth (China is only 5-6% of world GDP). Furthermore, by doing so, the Chinese companies start the transition of creating a global synergy comparable to their multinational counterparts.

    The foreign reserve is now largely invested in very low return investments, i.e., t-bills, agencies, etc.. and could not be repatriated to China (without substantially appreciating the RMB and causing huge losses on the foreign reserve/exports). Thus, it would seem an opportune time for China to begin to go global and establish manufacturing/distribution/marketing/research units abroad and while at the same time score some positive goodwill while taking bold steps to resolve a geopolitical dilemma.

    Reply →
64. Dr.Frank Loo April 24, 2009 at 09:34

    

    China Interest wrote “Here is a wild idea that might offer a small token to the global imbalance. What if China were to create investment funds using some of their foreign reserves? These funds could provide low-interest loans made available to Chinese companies planning to invest abroad. In other words, Chinese companies could expand their business outside China and draw credit from the fund(s) at favourable rates/conditions”

    This is indeed a wild idea. Just take a look at Ping An Insurance’s investment at Fortis Bank. The China government has got its fingers burnt with their investment at Blackstone.

    Take a look at Tamasek Holdings in Singapore. The Chairman of Tamasek happened to be The First Lady of Singapore and she got fired by Lee Kwan Yew who happened to be her father in law!!

    Reply →
65. Dr.Frank Loo April 24, 2009 at 09:56

    

    China Interest: I would like to add that China Life made the right move by calling off the AIA deal. China needs to focus at home at this point in time. There are so much to do here right in China as the 21st Century belongs to China according to Warren Buffett. He is right. The 19th Century belonged to England and 20th Century belonged to America.

    Reply →
66. greg April 24, 2009 at 17:13

    

    chan-lee james?

    “…These industries have absorbed hundeds of millions of unskilled workers and it is a hidden “unemployment system” that has fueled torrid growth, …”

    “Take the case of “clearer rural property rights” (and liberalising cereal imports) the idea is not to encourage peasants to sell their land to a bunch of loan sharks and to end up being landless serfs à la Brazil. Not at all. Clear property rights will facilitate pricing of these “frozen assets”.”

    You’ve really touched on the core issue of China’s modernization, i.e., how to convert the hundreds of million rural population into more productive citizens, via industrialization and urbanization. China would still be a developing country if majority of its population still live in countryside – it doesn’t matter if Beijing and Shanghai are world-class metropolis or not.

    That’s why export industries afford China a historical opportunity, without which China will still achieve its modernization goal albeit at a slower pace. The export sector employment, as you correctly pointed out, are mostly low-skilled and labor-intensive jobs. Construction (property and infrastructure) and service are two other most common jobs for rural migrant workers.

    China’s hundreds of million of migrant workers are in a gray area now: officially they don’t have a legal resident status in the city they work and therefore are not covered by the welfare system (education, health care and social security); on the other hand, they work and consume in the city and don’t really belong to the countryside of their official residence.

    I think the current government policy regarding urban residential status should be really re-considered and re-designed to encourage the migrant workers to settle down and acquire residential status and be covered by the urban welfare system. The policy should be similar to the immigration policy in developed countries: as long as the applicant meets certain criteria of income, asset and length of employment, he or she should be granted the resident status, along with his/her family. Actually, some provinces and cities are adopting the more or less the kind of policies, but the thresholds are usually pretty high. What is needed is a national policy that deals with inter-provincial issues such as portability of welfare benefits and rural land ownership.

    The “clearer rural property rights” issue is also a critical one. The benefits associated with clearer rural property are easy to understand in theory, but in reality it’s a lot messy. The rural property rights is China’s de facto rural welfare system and China is a country in short of arable land and government strictly regulates the use of rural land for any other uses. The barrier to allow peasants freely transferring property rights is pragmatic, not ideological.

    The solution, as so many other seemingly unsolved problems in China, is to allow local experiments and be open-minded; the problem will gradually not be such an acute one as economy grows and more people are absorbed into the urban economy and consequently eases the constraint.

    Which takes us back to one of the key topics we’re discussing in this thread, i.e., it’s important to maintain economic growth as so many constraints and structural problems are either directly associated with the level of development or can be significantly relaxed by economic growth.

    “Development is the hard truth,” as Deng Xiaoping pointed out before and was broadly accepted in China.

    Reply →
67. China Interest April 24, 2009 at 18:44

    

    I have taken the liberty of elaborating and fleshing some meat on this idea of an investment pool for Chinese firms investing abroad (as a means of addressing global imbalances). Because there no doubt would be many questions and much deeper thought needed to be done. For instance, there would be many legal ramifications to resolve, i.e., pertaining to fair play, WTO, etc…

    I am no lawyer but perhaps if the Chinese government could put out a request to bid to Chinese firms specifying the terms and conditions / procedures that Chinese firms would need to access funds it could be structured in a way to not cause grief. For instance, Chinese firms are asked to respond to the government bid by issuing commercial paper and corporate bonds in US dollars that are then made freely accessible to anyone wanting to acquire them but perhaps only of interest to the Chinese investment pool. This way the lending to the Chinese firms would be less likely to run into an legal quagmire and the lending remains relatively transparent. It would also set out a limited time period that the Chinese firms would have to turn their operations into a global presence with government help (making it well known to the world when the government strings would be cut).

    Furthermore, the SOEs would in unison need to take bold steps toward privatization. For instance, Any Xie proposed the idea of giving shares of SOEs to Chinese citizens.

    http://english.caijing.com.cn/2009-04-01/110131506_4.html

    I think that his idea might have some merit. Lets say for instance, that every citizen in China was eligible for a certain number of coupon vouchers. They could use these vouchers to convert to shares in any of the SOEs over a specific time period. The conversion from coupon value to share price of the SOEs would be determined by market forces. If people were interested in Company A more than Company B then it would take more coupon value to buy the same amount of shares. Once the citizens had shares in the SOEs they could be freely traded, with some people cashing them in, using their funds to increase consumption now, and others buying-and-holding.

    Reply →
68. China Interest April 24, 2009 at 19:34

    

    Victor Shih has a good way of putting how the stimulus is measuring up so far. Check out his blog dated April 23 at:

    http://chinesepolitics.blogspot.com/

    Reply →
69. China Interest April 24, 2009 at 19:57

    

    @ Dr Loo

    While I would agree that China has important role in the 21st century, and so does Asia, there will be many important regions, and those multinational companies that are placed in all of them will be the ones that thrive.

    I would even argue that multinational companies decide what will be of the 21st century more than many nation states.

    P.S. don’t forget the importance of India (demographics are far, far better than those of China). I would also argue that North America is in a position no different than it was in the 1970 and 80s. It will reinvent and bloom again. Even Europe will remain important (just look at all those MNCs that have their headquarters in Germany, UK, Netherlands, and France), and the Middle East, perhaps even Latin America/Africa will have their importance. It is after all a global world.

    Reply →
70. Dr.Frank Loo April 25, 2009 at 10:01

    

    China Interest: I with you that ” it is after all a global world”. China knows it. This reminds me of the Beijing Olympic’s slogan. “One World One Dream”.

    I still believe China should focus more at home e.g. agriculture and farming. This will not only upgrade the living standard of the rural population it will create jobs. Furthermore 1.3 billion people in China need food.

    Reply →
71. Dr.Frank Loo April 25, 2009 at 10:05

    

    China Interest: China is aware of it. This reminds me of The Beijing Olympic’s slogan which says “ONE WORLD ONE DREAM”.

    Reply →

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