The rise of China and the decline of the United States are often taken for granted these days, with the only difference being in predicting the precise date when China becomes the world’s biggest economy. Yet what it implies is a massive shift in the way these economies have grown. Far from being rivals, they have complemented each other, with China relying on the markets of the US, while recycling its surpluses into US treasury bills, helping to fund US current account deficits. It’s a system that has benefited the elites in both the economies immensely.
The financial crisis, however, has led to deep cracks in this cosy arrangement. The Chinese have, by a mixture of government stimulus and easy lending, been able to get their economy back on track. Unfortunately, though, their export markets are still mired in a slowdown and the consensus view is that the developed world will face years of slow growth as they wind down their over-leveraged economies. China is yet to adjust to that prospect.
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The critical question for China is whether they will be able to sever the ties that have so far bound them fast to the US. Will they, as numerous economists have pleaded, be able to substitute reliance on exports with domestic growth? A recent article by Hung Ho-Fung, a professor of sociology at Indiana University, examines why that may be a very difficult task. The article, which appeared, of all places, in the New Left Review, is provocatively titled, “America’s Head Servant? The PRC’s dilemma in the Global Crisis”, a clear pointer to China’s subservient relationship with the United States.
Hung points out: “China’s exceptional competitiveness is largely founded on the prolonged stagnation of manufacturing wages in comparison with other Asian countries at equivalent stages of development.” So much for the country being supposedly communist. He then explains that this is the result, not just of keeping its exchange rate low or of its huge reserves of labour from the countryside, but a deliberate policy measure. He argues that Chinese investment in the last 20 years has been largely concentrated in the urban-industrial areas. Writes Hung, “State-owned banks have also focused their efforts on financing urban-industrial development, while rural and agricultural financing were neglected. In the last two decades, rural per capita income has never exceeded 40 per cent of the urban level.” The neglect of the countryside has led to mass migration to the cities, which has helped to keep industrial wages down. Hung argues that China’s high savings rates are the result of keeping consumption low by keeping wage rates depressed.
A recent note by the European Chamber of Commerce on “Overcapacity in China: Causes, Impacts and Recommendations” listed the policies that have resulted in Chinese household income growing more slowly than GDP, thus leading to a lower share of consumption in GDP. These include: An undervalued currency—this reduces real household wages by raising the cost of imports while subsidising producers in the tradable goods sector; excessively low interest rates—these force households—mostly depositors—to subsidise the borrowing costs of borrowers—mostly manufacturers, service industry companies or other net consumers; a large spread between the deposit rate and the lending rate—this forces households to pay for the recapitalization of banks hit by non-performing loans made to large manufacturers and state-owned enterprises; sluggish wage growth; and unravelling social safety nets over the past two decades.
The Chinese leadership, of course, is fully aware of all this, but there is opposition to reform from the coastal elites. Nevertheless, Hu Jintao, the current president, is in fact the leader of the “populist” faction, which tried in 2005 to assuage the growing anger of the peasants by abolishing agricultural taxes and raising procurement prices for agricultural products. The result was that it “slowed the flow of migration to the cities, and a sudden labour shortage and wage hike in the coastal export-processing zones ensued”. Later on, when the global economic crisis struck, China’s stimulus package was overwhelmingly skewed towards investment in fixed assets, with only 20% aimed at increasing consumption. Hung says this has put a brake on the relative rise in rural living standards since 2005, which had helped fuel modest growth in domestic consumption.
Hung points to the similarity of interests between the financial elites of the West, intent on preserving their hegemony and the Chinese manufacturing coastal elites and says that both of them have a vested interest in preserving global imbalances. He has an excellent chart of the share of wages in Chinese GDP declining over the past few years, while that of profit rises. Morgan Stanley’s Stephen Roach has often drawn attention to a similar trend for the US.
As for the US, Hung has a novel take on their policy. He believes that the objective of the Obama administration is “to buy precious time to secure its command over emergent sectors of the world economy through debt-financed government investment in green technology and other innovations, and hence remake its ailing supremacy into a green hegemony.” But the crux of the issue is this: the trajectory of the world economy in the last two decades has created enormous vested interests. Creating a more balanced global economy will need to overcome their opposition. Unfortunately, there are few signs of any such resistance.
Manas Chakravarty takes a weekly look at trends and issues in the financial markets. Your comments are welcome at firstname.lastname@example.org