The Economist Jan 28th 2012
For China’s rise to continue, the country needs to move away from the model that has served it so well

IN THIS issue we launch a weekly section devoted to China. It is the first time since we began our detailed coverage of the United States in 1942 that we have singled out a country in this way. The principal reason is that China is now an economic superpower and is fast becoming a military force capable of unsettling America. But our interest in China lies also in its politics: it is governed by a system that is out of step with global norms. In ways that were never true of post-war Japan and may never be true of India, China will both fascinate and agitate the rest of the world for a long time to come.

Only 20 years ago, China was a long way from being a global superpower. After the prοtests in T1annamun Square led to a massacre in 1989, its economic reforms were under threat from conservatives and it faced international isolation. Then in early 1992, like an emperor undertaking a progress, the late Deng Xiaoping set out on a “southern tour” of the most reform-minded provinces. An astonishing endorsement of reform, it was a masterstroke from the man who made modern China. The economy has barely looked back since.

Compared with the rich world’s recent rocky times, China’s progress has been relentless. Yet not far beneath the surface, society is churning. Recent village unrest in Wukan in Guangdong, one province that Deng toured all those years ago; ethnic strife this week in t¡betan areas of Sichuan; the gnawing fear of a house-price crash: all are signs of the centrifugal forces making the Communist Party’s job so hard.

The party’s instinct, born out of all those years of success, is to tighten its grip. So dissidents such as Yu Jie, who alleges he was tortured by security agents and has just left China for America, are harassed. Yet that reflex will make the party’s job harder. It needs instead to master the art of letting go.

China’s third revolution

The argument goes back to Deng’s insight that without economic growth, the Communist Party would be history, like its brethren in the Soviet Union and eastern Europe. His reforms replaced a failing political ideology with a new economic legitimacy. The party’s cadres set about remaking China with an energy and single-mindedness that have made some Westerners get in touch with their inner authoritarian. The bureaucrats not only reformed China’s monstrously inefficient state-owned enterprises, but also introduced some meritocracy to appointments.

That mix of political control and market reform has yielded huge benefits. China’s rise over the past two decades has been more impressive than any burst of economic development ever. Annual economic growth has averaged 10% a year and 440m Chinese have lifted themselves out of poverty—the biggest reduction of poverty in history.

Yet for China’s rise to continue, the model cannot remain the same. That’s because China, and the world, are changing.

China is weathering the global crisis well. But to sustain a high growth rate, the economy needs to shift away from investment and exports towards domestic consumption. That transition depends on a fairer division of the spoils of growth. At present, China’s banks shovel workers’ savings into state-owned enterprises, depriving workers of spending power and private companies of capital. As a result, just when some of the other ingredients of China’s boom, such as cheap land and labour, are becoming scarcer, the government is wasting capital on a vast scale. Freeing up the financial system would give consumers more spending power and improve the allocation of capital.

Even today’s modest slowdown is causing unrest (see article). Many people feel that too little of the country’s spectacular growth is trickling down to them. Migrant workers who seek employment in the city are treated as second-class citizens, with poor access to health care and education. Land grabs by local officials are a huge source of anger. Unrestrained industrialisation is poisoning crops and people. Growing corruption is causing fury. And angry people can talk to each other, as they never could before, through the internet.

Party officials cite growing unrest as evidence of the dangers of liberalisation. Migration, they argue, may be a source of growth, but it is also a cause of instability. Workers’ prοtests disrupt production and threaten prosperity. The stirrings of civil society contain the seeds of chaos. Officials are particularly alive to these dangers in a year in which a new generation of leaders will take power.

That bias towards control is understandable, and not merely self-interested. Patriots can plausibly argue that most people have plenty of space to live as individuals and value stability more than rights and freedoms: the Arab spring, after all, had few echoes in China.

Yet there are rights which Chinese people evidently do want. Migrant workers would like to keep their limited rights to education, health and pensions as they move around the country. And freedom to organise can help, not hinder, the country’s economic rise. Labour unions help industrial peace by discouraging wildcat strikes. Pressure groups can keep a check on corruption. Temples, monasteries, churches and mosques can give prosperous Chinese a motive to help provide welfare. Religious and cultural organisations can offer people meaning to life beyond the insatiable hunger for rapid economic growth.

Our business now

China’s bloody past has taught the Communist Party to fear chaos above all. But history’s other lesson is that those who cling to absolute power end up with none. The paradox, as some within the party are coming to realise, is that for China to succeed it must move away from the formula that has served it so well.

This is a matter of more than intellectual interest to those outside China. Whether the country continues as an authoritarian colossus, stagnates, disintegrates, or, as we would wish, becomes both freer and more prosperous will not just determine China’s future, but shape the rest of the world’s too.

There are many rabbits China can pull out of its hat - rabbits that just don't exist in the West, where stockholders are better protected than in China. Don't forget . . . TIC.

Bugaga wrote:

There are many rabbits China can pull out of its hat - rabbits that just don't exist in the West, where stockholders are better protected than in China. Don't forget . . . TIC.

ha ha ha

Rabbit, may you, please help me to understand one matter ? IF, say, somewhere, no matter where,

govt closing a Bank, and you have some money on account, how to take it back ?

If in USA, all account insured for $100k, but if you has $101k, will $1k - dissapered ?

* http://www.fdic.gov/bank/individual/fai ... klist.html

rickettyrabbit wrote:
First, RB, when you make a DEPOSIT in a bank, you're not a shareholder. And presumably you know the FDIC rules and will spread your deposits around? You would, wouldn't you? Right?

In the USA, you own a share of the company when you buy shares.

Can you explain what you own in China when you buy shares?

And since you mentioned banks and insured deposits, what level of deposits is insured by the government in China?

rickettyrabbit wrote:You're mixing up different issues, RB.

Shareholders in the US have rights. They take risks, too.

shareholders in China have no real ownership in the companies
whose shares they buy. The shares are like a Las Vegas casino bet.

China’s bloody past has taught the Communist Party to fear chaos above all. But history’s other lesson is that those who cling to absolute power end up with none. The paradox, as some within the party are coming to realise, is that for China to succeed it must move away from the formula that has served it so well.

rickettyrabbit wrote:STRENGTH .. BECOMES a WEAKNESS.

wolfyx wrote:The country already became an economic giant and they can no longer rely on the exports towards the economically weakening Western World to grow. But they will continue to grow by focusing on the internal market. They still have almost 1 billion people that have not yet reach "middle class" status. A batter repartition of wealth (dictated by the government) in will ensure both an appeasing of the social tensions and a sustainable economic growth for the country. I think that this should (and will) be the next "rabbit" that the CCP well take out of their hat.

China’s bloody past has taught the Communist Party to fear chaos above all. But history’s other lesson is that those who cling to absolute power end up with none. The paradox, as some within the party are coming to realise, is that for China to succeed it must move away from the formula that has served it so well.

When Chinese civil society will become rich, educated and powerful, how will the CCP adapt? Are they ready to share power and to allow the creation of opposition parties? I personally don't see this happening peacefully in the near future. But they can maintain their legitimacy at least for one more decade is they continue into the steps of Deng Xiaoping's philosophy and remain pragmatic.

Bugaga wrote:And you've got it, Rabbit. Hypocrisy.

In his latest Viewpoint note, Jim O'Neill, Chairman of Goldman Sachs Asset Management, notes that the latest reads on the Chinese economy provide more evidence that this shift is indeed occuring:

And beyond just this, it seems more and more evident that the balance of growth is shifting. We don’t have any details yet, but given that the trade surplus ended 2011 at only just over 2 pct of GDP, it seems clear that net trade negatively contributed more and more as the year progresses. Consumption, therefore, must have started to rise as a share of GDP. And certainly my travel anecdotes would suggest so. The China Daily, European Weekly edition, had a fascinating article the week of Jan 20-26th in which two authors linked to the all important NDRC – National Development and Reform Commission – wrote about the “hurdles ahead.” In this piece, when discussing the trade balance, they suggest import growth was 4.6 pct higher than export growth last year. They also wrote that “general trade” grew by 29.2 pct compared to “processing trade” which grew by 12.7 pct, which is suggestive of an economy changing its balance. And in case you don’t realize how strong trade between the BRICs and/or Growth Markets is becoming, their bilateral trade last year grew by 23.9 pct, 34.5 pct, 42.7 pct and a whopping 76.7 pct with each of ASEAN, Brazil, Russia and South Africa. Not bad for a country whose trade surplus overall is declining.

UNiOnFluX wrote:It's way back to the US government since those companies do not want it to be taxed so those companies keep the money until they can muster enough lobbing to get a tax holiday passes again.

btb wrote:

In his latest Viewpoint note, Jim O'Neill, Chairman of Goldman Sachs Asset Management, notes that the latest reads on the Chinese economy provide more evidence that this shift is indeed occuring:

And beyond just this, it seems more and more evident that the balance of growth is shifting. We don’t have any details yet, but given that the trade surplus ended 2011 at only just over 2 pct of GDP, it seems clear that net trade negatively contributed more and more as the year progresses. Consumption, therefore, must have started to rise as a share of GDP. And certainly my travel anecdotes would suggest so. The China Daily, European Weekly edition, had a fascinating article the week of Jan 20-26th in which two authors linked to the all important NDRC – National Development and Reform Commission – wrote about the “hurdles ahead.” In this piece, when discussing the trade balance, they suggest import growth was 4.6 pct higher than export growth last year. They also wrote that “general trade” grew by 29.2 pct compared to “processing trade” which grew by 12.7 pct, which is suggestive of an economy changing its balance. And in case you don’t realize how strong trade between the BRICs and/or Growth Markets is becoming, their bilateral trade last year grew by 23.9 pct, 34.5 pct, 42.7 pct and a whopping 76.7 pct with each of ASEAN, Brazil, Russia and South Africa. Not bad for a country whose trade surplus overall is declining.

Only consume!

The problem with this solution is in what it implies about future growth in demand. If investment is being wasted, it must be reduced or it will create a debt crisis eventually. If the external environment is tough, the demand impact of a sharp drop in investment cannot be made up for by a surge in the trade surplus – in fact the trade surplus may actually contribute negative demand. So where will the demand come from needed to pull the Chinese economy? The only possibility is a surge in domestic consumption.

Can consumption possibly surge? No, not if the household sector is going to be forced to clean up the banking mess again. This is the same problem that caused household consumption to drop after the last banking crisis from a very low 46% of GDP in 2000 to an astonishing 34% in 2010.

In that light, it was interesting to see this article in Wednesday’s South China Morning Post:

The Chinese government is planning new policies to boost domestic consumption, especially of vehicles and appliances, in a bid to offset the effects of sagging export demand, the China Daily reported on Wednesday, quoting a government official. With tax rebates on vehicles and domestic appliances either having expired or due to expire, the government is working on new measures, said Huang Hai, former assistant minister of commerce and a member of the economic and trade policy consulting committee linked to the Ministry of Commerce.

These may include subsidies for families living in affordable housing that buy electrical appliances and for consumers planning to change cars, the paper said. The newspaper also quoted a Ministry of Commerce spokesman as saying that the ministry was considering new programmes to expand consumption, with details to be announced next week.

Huang also said over 10 government agencies, including the Ministry of Commerce, the National Development and Reform Commission (NDRC) and the Ministry of Finance, are expected to co-operate and propose concrete plans to boost consumption at a meeting slated for April.

“If at first you don’t succeed, try, try again,” WC Fields advised but, he added, “then quit. There’s no point in being a damn fool about it.” I don’t think this new attempt to boost consumption has any chance of succeeding, any more than similar polices did in 2009 and 2010.

Sure, consumption of automobiles and white goods surged back then, just as you would have expected given the subsidies, and they will surge again no doubt, but since those subsidies were ultimately paid for by the household sector, the policies did not translate into an overall surge in consumption because there was no net increase in household wealth. In fact during both of those years consumption continued to decline sharply as a share of GDP.

The Financial Times version of this story makes a classic mistake:

China has ample room to stimulate consumption. Household spending accounted for half of gross domestic product two decades ago but dwindled to just 33.8 per cent of GDP in 2010, a record low for a major economy in peacetime. China is probably now at a turning point in that consumption is beginning to become a bigger force in the economy, but this will be a “longer-term process”, said Zhu Haibin, an economist with JPMorgan.

For years China bulls have been arguing that because the Chinese save so extraordinarily much money, there is plenty of room to stimulate consumption – just get them to save a little less. The problem with this reasoning is that consumption is not low because Chinese households save a lot (they save in line with other Asian countries as a share of their income, and less than some). It is low because household income is such a low share of GDP.

It isn’t about household savings

The only way to boost household consumption is either to redistribute income from the low-consuming rich to the high consuming poor, or, better yet, to redistribute wealth from the state to households. Both of these have serious political implications that have to be resolved and are unlikely even to be addressed with consumption subsidies. After five years of this argument, during which time consumption has plummeted relative to total savings, you would think they would start to abandon the idea that all we need to do to get consumption to surge is to reduce household savings a little.

When we add in the possibility of a continued decline in house prices throughout China, we may start to feel some kind of wealth effect dragging consumption growth down even further as a share of GDP, although I am not sure I am too worried about that. The housing boom seems to have mainly benefitted speculators, and I don’t think that it translated into a significant increase in consumption when housing prices were on their way up. In that case it shouldn’t matter too much on the way down either, although it is better to wait and see what happens.

Nonetheless on Tuesday Xinhua has this to say about housing prices:

Sales of both new and existing homes in Beijing plummeted in 2011 as a result of the government’s efforts to cool down the runaway property market. New home sales in Beijing dropped 18.4 percent to 90,605 units in 2011 from a year ago, the Beijing News reported Monday, citing data from the city’s housing regulator.

In terms of square footage, sales slumped 22.4 percent to 9.56 million square meters last year, falling below 10 million square meters for the first time in six years, the paper said. Existing property transactions also plunged. Sales in 2011 shrank 38.2 percent to 121,512 units, hitting a three-year low. Monthly sales of existing homes have stayed below 10,000 units since April, the paper said.

Increased down-payment requirements and mortgage rates, as well as limits on home purchases, led to the declines, the paper said, citing Zhang Dawei, a chief analyst with Centaline Property. Consumers will likely expect further price drops in 2012, as the government has reiterated that it will maintain the policies, Zhang said. Property prices in Beijing are likely to fall 10 percent to 20 percent over the next six to 12 months, he said.

On a related note, on Tuesday, Li Yan, a young musician I know, called me up to ask me for some advice. His parents, who come from and still live in a small town in Hebei province, wanted to buy him an apartment in Beijing, where he lives and works, because they were sure that in a few years the same apartment would cost an awful lot more. He wanted to know from me whether it made sense to do so. He had heard prices are coming down rapidly and asked me whether he should tell his parents to wait. Yes, I told him, wait.

I mention this story because Li Yan is a 21-year-old kid who has just started to become famous among Chinese youth for his wild antics and wilder music, and I suspect he thinks about and discusses finance and real estate as often as I think about and discuss life on Venus. Yet even he has heard that real estate prices are dropping. Two years ago, of course, no one in China had any doubt that real estate prices can only go up.