The Chinese Economy

A recent New York Times editorial gives China broad advice on the economic and financial crises, most of it wrong. Headlined “As Goes China, so Goes…” (an allusion to the old U.S. presidential election bromide, “As goes Maine, so goes the Nation), the editorial distills the essence of the macroeconomists’ conventional wisdom about the proper future direction of the Chinese economy: reduce exports, expand imports, and create a modern consumer economy. The Times implies that China’s government budget surplus, high individual savings rate, and endless consumer and social welfare needs make the task easy, if only Chinese policymakers would catch on. In fact, this transformation would be far more disruptive. Moreover, neither China nor the world can survive the creation of a clone of the 20th-century U.S. economy in the coming era of high-cost energy and low-carbon footprints.

To get China’s consumers to spend, the government will need to spend more at home, investing in public works projects and providing more social benefits — including health insurance and pensions so its citizens don’t feel they have to save so much for a rainy day.

Noting that private consumer spending amounts to only about one-third of the Chinese GDP (in the United States it has been over 70%), the editorial says China “must do more to unlock the savings of its citizens and encourage them to spend.” And the switch would be easy — the Chinese government has a “huge budget surplus” and “money to spare”to execute this policy.

Attempting to reshape China into an American-style mass consumer economy, however, is a recipe for economic, environmental, and probably political, disaster. It’s a path to the past, not the future.

This prescription bears an ironic similarity to the economic policies of the Clinton and Bush administrations, and one wonders why the Chinese (or anyone) would want to emulate that model after watching the Western financial and economic systems collapse this year. The editorial makes no reference to the economic dislocations and political risks inherent in this transformation, or the unsustainable reliance on cheap energy and natural resource destruction, or the folly of building 21st-century cities dependent on the private automobile. Creating economic institutions and policies that ensure long-term viability is a formidable challenge that will require China to find a dramatically different direction.

China is already feeling the impact of a slower world economy. Both economic growth and export growth have braked sharply. The slowdown threatens job creation, direly needed to absorb millions of rural Chinese seeking employment in the cities.

Government action to increase the income of the poorest Chinese would be relatively easy. But unless the economy can manufacture and distribute the products and services they want to buy — some of which, like higher education or healthcare services, cannot be quickly mass produced — the primary result will be inflation rather than a significant improvement in real standards of living. Moreover, Chinese consumers, unlike Americans, are extremely sensitive to indications of bad times ahead. The China Daily recently reported a typical Chinese consumer postponing purchase of a new bicycle after reading the news about the financial crisis, although it has not affected her at all. Stimulating consumer confidence and consumer demand when the Chinese economy is in turmoil and transition will be a difficult task.

As [the] industrial economies sputter, China is now in a position to pick up some of the slack: selling more of its own goods at home and buying more from the rest of the world.

Rapid transformation of the manufactured product mix could also be extremely disruptive for workers and businesses. Many Chinese export factories will not be able to redirect their production to domestic products. Much of the export complex provides discretionary-purchase goods, from toys to TVs, for rich Western consumers. These products are markedly different from the more basic goods and services needed by the bottom half of China’s consumer economy. Moreover, export factories are located near the coast, where a huge coast-oriented transportation infrastructure delivers goods overseas to distributors and retailers. Comparable domestic distribution and marketing systems do not exist, since none is needed for exports. Overall, it would probably be cheaper for new businesses to build new factories in central and western China, with new workers and new distribution systems, rather than redirect export manufacturing facilities. Many existing facilities and workers will be abandoned.

The national economic statistics may mask these impacts with positive aggregate numbers, but the human costs do not show up in the GDP. And the political implications are troublesome. Already, toy workers are protesting their lost jobs and lower wages since the Mattel lead-painted toys scandal reduced demand for their output. As the West reduces its imports, the number of protesting workers will grow. A stronger social safety net and reduction in income inequality, not more private goods consumption, are China’s most critical needs.

China has grown 13-fold over the last 30 years, thanks to hypercharged exports and white hot investment. But its economy is lopsided.

While telling a tale of excessive exports and stagnant consumer spending, the editorial misses the inconvenient truth. It does not mention the environment, global climate change, or natural resources limitations to a mass-consumption Chinese economy. Did the editorial board read the Times‘ own excellent series of articles on the Chinese environment last winter, or peruse Thomas Friedman’s new book, Hot, Flat, and Crowded? The Chinese economy is already on a collision course with physical and economic realities, without any dramatic increase in consumption.

China’s energy needs, if the goal is a Western-style consumer economy, are enormous. Yet its primary energy resource, coal, is increasingly problematic because of uncontrolled air and water pollution as well as global climate disruption. While conservation could yield some benefits, it has nowhere near the potential of conservation in the United States. Continuing to build the economy on subsidized energy is certainly a dead end: over the long term, oil imports will become unaffordable or unavailable and the adverse environmental effects of China’s domestic energy production from coal will become overwhelming.

China’s current urban planning assumes a transportation system, based on private autos, which requires unsustainable infrastructure and energy consumption. The designs of the architectural wonders of new Beijing and Shanghai’s Pudong district make them unlivable without automobiles. China is heavily subsidizing the cost of oil and gasoline, largely to satisfy urban consumers who recently acquired autos (with government encouragement). Gasoline prices are comparable to prices in the United States, far less than those in Europe. Iblon a high-energy-cost, small-carbon-footprint world, these Chinese urban areas may well become completely unworkable.

Other resource and environmental problems are also severe. China is running out of water in the northern half of the country. It is still cutting forests, mining coal, and operating factories in destructive, unsustainable ways that not only harm “the environment” in the abstract, but have concrete and immediate adverse economic effects on agricultural productivity, potable water, and human health.

A boost to consumer spending would undoubtedly help China weather the economic storm.

But the editorial doesn’t consider how China might weather the long-term political storm from following this path. The current regime bases its legitimacy on delivering a better life to everyone in China. Current government leaders, as unelected officials, have no claim to loyalty in hard times from any segment of the public. If a significant percentage of the people find their economic life getting worse instead of better, the viability of the regime will be threatened. Chinese leaders are already worried about these trends and warning the public of harder times ahead, which they of course blame on external circumstances. Some of the richest Chinese are already suffering enormous losses. Stimulating consumer spending could provide short-term relief, but it would lead China further down the path to an unsustainable economy and ultimately to political vulnerability.

Ultimately, the editorial’s facile prescriptions are a recipe for turning China into a 20th-century America, without considering the unfeasibility of that path over the long term. George Soros succinctly described a better prescription for China and the United States in a recent interview in Caijing Magazine, China’s counterpart to The Economist:

I hope both the U.S. and China will introduce energy saving and alternative energy generation as a way of stimulating the economy because that is what you need to come out of this global recession that we are currently facing. The global economy was supported by U.S. consumers spending more than they were earning. That is finished. That has come to an end. Something else has to take its place, and in my view, the world is facing the problem of energy shortage and global warming. To build this requires very large investments and those investments should provide the motor for the world going forward. Otherwise we will be in a worldwide recession, and at the same time, we are going to be cooked together.

Two weeks after the Times published this editorial, China announced a 4-trillion-yuan ($586 billion) stimulus plan to combat its economic decline. One hopes that, as the Chinese leadership shapes this spending, it will pay more attention to George Soros than The New York Times editorial board.

Samuel Bleicher is currently principal in his consulting firm, The Strategic Path LLC. From 2001 to 2007, he served as Chief Strategist for New Initiatives in the Overseas Buildings Operations Bureau of the U.S. State Department. He is also a contributor to Foreign Policy In Focus.

He can be reached at: Bleicher at StrategicPathLLC dot com