Chinese Miracle or House of Cards?

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For years our financial press and media have hailed the rise of China to the rank of global power. Such phrases as “the Chinese miracle”, “the workshop of the world” or “the engine of the global economy” and “the Asian (meaning China’s) century” have become common parlance.

The tone started changing, quite suddenly, a few weeks ago. Apparently China is now in some kind of trouble. Some even blame the developing stock market crash on Wall Street on contagion from Shanghai and Hong Kong, where a similar market collapse is occurring.

Are these problems only growing pains or something much deeper?

The answer requires a critical look at China’s economic rise, which until now has been presented as an extraordinary success, the result of both political genius and superb economic management.

In fact it has been something quite different.

China’s growth to-date has occurred in several distinct phases:

The classic Marxist, centrally planned phase, under Mao, provided basic infrastructure and heavy industry development, as happened in the Soviet Union during the 1930’s. Progress was, however, marred by Mao’s “revolutionary” initiatives, the Great Leap Forward and the Cultural Revolution. As a result China in the 1980’s faced a far more powerful, dynamic and resurgent U.S. With the Soviet Union in decline China could not play one superpower against the other. A new policy was needed to move the country forward.

China’s leaders then launched the export-led, manufacturing boom phase, in which they offered extremely low manufacturing costs to multi-national (primarily American) corporations. This was highly attractive to corporate leadership: not only were product prices lower than attainable at home, but labor issues, environmental constrains, work safety problems and supplier relations were eliminated by transferring production to China.  This made China (for a while) “the workshop of the world”.

But there was a major flaw: the policy did not take into account the cyclical nature of capitalist economies. Lower prices fed a consumption boom, but the loss of manufacturing wages and assets reduced the income and wealth of China’s export customers (primarily the U.S.). Cheap credit supported consumption for a while, but the inevitable bust arrived in 2007. Suddenly China faced a huge drop in export demand, potentially leading to massive unemployment and social unrest.

The leaders’ answer was the domestic fixed investment phase. The government ordered the nation to build, build and build: thousands of housing blocs, miles of railway tracks, airports, highways, and additional manufacturing capacity in major industries. Anything went; as long as it kept people employed and raised GDP numbers.

But this time there were two major flaws:

  • The work was financed with borrowing at all levels, making China one of the most indebted countries in the world.
  • Little attention was paid to return on investment: apartments, once built, stood empty; new rail lines had no passengers, expanded production facilities saw no demand. At the same time economic growth among China’s export customers (primarily the U.S.) lagged. Within China high debt levels now preclude additional investments while those already made offer little return. China is stuck with high debt and little income to show for it.

This is where we stand now: China can produce, but no longer sell, because potential customers cannot afford to buy. It has a huge national pollution problem, resulting from decades of uncontrolled industrial expansion. Money is leaving the country, and the stock market just crashed. Debts must be paid, but the income to do it is in question.

Looking back, one sees that China’s growth was as much an exercise in improvisation as the result of strategic planning. It was brilliant, but short term. Now the question is: can the growth be maintained, and the implied promises to the population kept?

There are two fundamental issues:

The first is what can be termed “the shadow sector” of the economy. In order to make the country both rich and powerful, China’s leaders created a capitalist economy within a communist dictatorship. The operational rules of these two systems are not compatible, so a “shadow interface” had to grow between them in order to minimize friction. This “grey sector” which by itself contains considerable wealth and power, is not answerable to either the capitalist or Marxist side, and thus essentially out of their control. The Chinese dragon has three heads. Can such a beast be ruled at all, particularly in a crisis?

The second issue is related: governing a nation or empire requires a set of rules over which the majority of citizens agree, whether by choice or by tradition. So the United States have the Declaration of Independence and the Constitution. Regardless of the variety of interpretations given these two documents, they remain standing, providing the nation with a rallying point in peril and a “how-to” manual.

The Chinese equivalent was Confucianism, which inspired 25 centuries of Chinese civilization. But Mao destroyed it – in Chinese parlance he “burned the books”, replacing ancient tradition with his own will. With Mao gone, where will the Chinese find their ultimate inspiration?

Born in Poland, Jacek Popiel was educated in Africa, Canada, and the United States. He speaks five languages. His career spans military and international business development in the Soviet Union, Eastern and Western Europe, North America, and Japan. He is currently a freelance writer and political consultant. His book “Viable Energy Now,” grew out of his military and international business experience and his professional involvement with energy issues.

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