Business

Economic Paradigm Shifts

By Sean Nelson

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In a previous column, I spun out a bit of conventional wisdom, saying that China has (in part) been following a path of export-led growth, just as other East Asian nations have done. This is often contrasted in recent Western economic literature with India, which has focused more on achieving economic growth through expanding its domestic market. Well, after reading a new report by Albert Keidel and released by the Carnegie Foundation for International Peace, I have to admit to making a bit of an error. If China was pursuing an economic model based largely on exporting goods to richer nations, then times when American imports would fall would correspond with slowing economic growth in China. In his report, Keidel argues that this pattern does not hold for China, although trade is still an important factor in China's economic success for the past few decades. Instead, rising and falling rates of economic growth in China are dependent on Chinese government policy. Various government policies and reforms have created incentives that have led to economic growth. When the economy has been at risk of overheating, the government has helped to scale back economic growth to prevent inflation from rising too quickly. This more multi-faceted picture of the Chinese economy provides us with a deeper understanding of what has been happening in China since the beginning of the Reform Era.

An interesting component of China's economic posture is that it actually gives it the opportunity to benefit from economic slowdowns in the US. Recently, Antoaneta Bezlova reported in Asia Times that the darker economic outlook this cycle in the US means that Chinese investors see opportunities to unload some of their savings by buying up American assets relatively cheaply. To quote Zhu Yiwei, a legal expert:

If it was not for the subprime mortgage crisis, China could not have dreamed of pumping money into top Wall Street financial institutions…But now that China has acquired a 10% stake in Morgan Stanley, there is hope that, through building a network of personal connections on Wall Street, we can work to reduce trade frictions between the two countries.

Anyone who has been paying attention to Chinese-American and Chinese-EU bilateral economic relations have noticed that there has been much Western pressure on China to let its trade surplus fall, preferably by letting its currency appreciate to promote Western imports into China and raise the prices of Chinese exports on the world market. However, as Keidel's analysis notes, since China's economic growth is not based on promoting exports, it is not dependent on exchange rates (namely having an undervalued currency to make Chinese exports cheaper on the international market and foreign imports more expensive in China). As such, external pressure on China to let the Renminbi (人民币) appreciate is unlikely to lead to results that foreign leaders would find satisfactory because they are focusing on an economic mechanism that is only peripheral to their larger concerns.
 
Instead, Chinese leaders have tried to damper such criticism by relaxing the regulations on Chinese investment overseas. Elemental trade theory tells us that a country that has a trade deficit needs to finance that excess consumption by having foreign direct investment into its market equal to the size of the deficit; otherwise domestic consumers would not have the money to buy a greater value of imported products than domestic firms exported. As such, domestic consumers are borrowing from foreigners. The reverse is true for a country with a trade surplus. Encouraging Chinese entrepreneurs to spend the money burning a hole in their pockets by buying shares on Wall Street is a path towards lowering China's massive trade surplus that offers a greater chance of success in a way that can please both Chinese and Western business interests while also being realistic.

Hastily causing the Renminbi to rise in value risks unleashing numerous unforeseen problems that will take time to address. If done improperly, the resulting market instability in China would not be good for anybody. It would be bad for Chinese consumers and firms for obvious reasons. In addition, the US, Europe, Japan and numerous other countries of various other levels of wealth also have much money invested in China, buy Chinese imports and export goods and services to China. If such economic instability would end up hurting these three economic elements, Western nations would have in effect hurt themselves by demanding that the Renminbi rise too quickly. Undervaluing the Renminbi has helped China's economy by promoting exports, but at some point the Renminbi will have to appreciate in value to prevent the creation of market distortions and / or dangerously large bubbles that will prove difficult to manage otherwise. However, dealing with these problems will take time.

Keidel's final piece of advice for American leaders, "the United States should concentrate on improving domestic components of its own international competitiveness rather than focusing so heavily on alleged Chinese violations of international commercial norms," holds greater promise for a mutually beneficial solution than a potentially self-defeating measure. Even if improving American competitiveness ends up not affecting the American trade deficit vis-à-vis China, Americans will still be better off economically overall. For instance, this year sees the rare American occurrence in which all of the major Democratic candidates are supporting universal health care plans at the same time that the current Republican delegate leader is also someone who, as governor of Massachusetts, enacted a similar universal health care plan at the state level. All other things being equal, a multinational corporation looking to invest abroad is more willing to invest in a country with a universal health care system because then they are not financially responsible for their employees' health insurance. Focusing on helping Americans will benefit Americans in a way complaining about an undervalued Renminbi fails to address. At the same time, this will buy Chinese leaders time to figure out how to deal with their currency situation in the least painful way possible.

Vocabulary:
Export-led growth: 出口导向型增长 chū kǒu dǎo xiàng xíng zēng zhǎng
Entrepreneur: 创业企业家 chuàng yè qǐ yè jiā
Foreign direct investment (FDI): 外国直接投资 wài guó zhí jiē tóu zī
Wall Street: 华尔街 huá ěr jiē
Democratic Party: 民主党 mín zhǔ dǎng
Republican Party: 共和党 gòng hé dǎng

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