China, the New Norm

Back in the late 1990’s, very few economists believed that within 20 years, China would grow to become the second latest economy in the world. Fast forward to nowadays, many economists believe that in another 20 years, China can overtake the United States as the largest economy in the world. Some policy makers in the United States even expressed that preventing China from overtaking the United States is the most important guiding factor in deciding the policies of the United States. How did China achieve phenomenal growth in the last 40 years? What should we expect from China in the next 20 years?

The rise of China

China was admitted into the WTO in 2001, 6 years after the formation of the multilateral trade organization, after 15 years of negotiations with the WTO, the earlier trade organizations and other countries, and 23 years since the dramatic change of direction (from exporting revolutions to exporting goods) in China’s policy. Riding on the wave of globalization, China quickly became the world’s factory as we know it today: Export tripled in a mere 2 years from 2001 to 2003, and tripled again in 4 years inß 2007. The main driving force behind China’s growth was the global demands of manufactured goods, particularly from the United States. China seized this opportunity not just by luck; the preparation has been 23 years in the making: A market driven economy that created a blooming private sector, an abundant and educated workforce that are willing to work for a very low wage in the western standard, and a better infrastructure compared to other developing countries. So it was China, not anyone else, that hit the jackpot.

After the first few golden years of China in the WTO, the leaders of China realized that there are a few structural problems created by this unprecedented growth: Deteriorating environment, growing social inequality, and above all, the demand from the external, primarily from the developed countries, would slow down someday soon. Evidently, China did not have to wait for long for the slowdown: The sub-prime crisis in the US happened in 2008. So the then prime minister Wen tried to devise some policies to level the income inequality within China and cultivate the internal demand as the second driving horse beside the exports. His policies had mixed successes; in 2010 the export over GDP ratio was lowered from the height of 35% down to 24%, which would be further reduced to 21% in 2014, while China can still attain 6%+ growth in GDP YoY over the period. On the other hand, the Gini index did not improve, and the pollution problem was worsening. Even more alarmingly, the debt level of the local government and the SOE were at all time high, with many debts being essentially unserviceable.

After Xi came into power, the search for new demand to drive growth went outwards again. In his One Belt One Road initiative, China is trying to cultivate demands for Chinese goods and services from the developing world, using state sponsored financial aids and private investment abroad as leverage. Again, I’d call the result of this policy shift a mixed success. On one hand, some demands have been created that fueled the growth of GDP in recent years. On the other hand, demonstrating the influence of China abroad became not just for the ego of Xi himself, but also a necessity. This influence, or “flex of muscle” if you wish, raised concerns from other countries, and put China in a clash course with the current dominant power of the world, the United States.

The conflicts

I do not believe the trade deficit is the main conflict between the US and China. There are at least 2 other conflicts that are even more profound: The tight control of capital flows across the border by the Chinese government, and the iron tight control of information censorship within China. In China’s view, controlling capital flow is a necessary self-defence because she has seen what a sudden outflow of foreign investment has done to some Latin America and Southeast Asia countries. However, the capital control created a deep untrust of the Chinese government, not just from the foreign entities, but also from Chinese firms and nationals themselves: Are my assets safe here?

Censorship is an even bigger problem. From the viewpoint of the Chinese government, there is a deep mistrust of foreign influence, because the legitimacy of the current form of government is very questionable, or at least unpopular. So they have to do everything in their power to “weed out” the dissent. However, from the US point of view, the number one competency of the US is the leadership in information technology, and the resulting dominance in media, both in traditional form and the newer social form. Now that the US firms are denied access to a market they are otherwise very favorable, it is unfair and immoral.

Even discounting the tension with the US and the West, censorship is stiffening innovation in China and is becoming a major detrimental factor for future productivity growth of China. I don’t know what will happen; It is likely that both the US and China will experience a prolonged period of stagnation in the foreseeable future, so their relationship may not matter that much. One thing I know: whatever happened in 2001 will not happen to China again, or to any country for that matter.