China is experiencing stagnant growth, falling exports, and high unemployment. What are the main causes of this round of the country’s economic difficulties?
The main causes are the same causes they have been wrestling with for 15 or more years. They have wasted a lot of capital, and the debt acts as a drag on growth. Starting in 2009, they poured a lot of money in the economy with very little return because they were worried about falling growth. And they haven't really gotten off the stimulus train. Bank loans are growing considerably faster than nominal GDP, which is the broadest measure of leveraging, so they continue to waste money. It slows your growth when you have capital resources and you employ them poorly, just look at Japan. Xi Jinping has attacked the private sector on a repeated basis starting about five years ago. That hurts growth and innovation. They have now had small annual labor force declines for about eight, nine years. And they add up after a while, especially when you're comparing them to very large annual labor force increases for the 10 years before that. So labor is going to be an increasing problem. It's a long-term problem, but we're heading towards the long term. The debt is a weight on the Chinese economy, and it continues to grow larger. And China was doing okay with this before Xi Jinping decided the private sector is bad. And now what's driving the economy forward? It's not the private sector, it’s not high return to capital, it's not increasing quantities of labor, they don't have an engine. So this is what they get.
What do you believe are the most sensible solutions for Chinese policymakers to adopt in addressing their economic challenges? What have they done in response to the economic slowdown? What lies behind their policy preferences?
The best thing for them to do, which is not on the table, is to return to pro-competition and pro-property rights reform which started in China at the local level in 1977. That's what carried them forward for 25 years. And they've wandered off the reservation for the past 20 years, slowly but steadily. What they should do is privatize rural land and privatize some firms and some state banks, not all of them, maybe not even most of them in the case of state banks. You can have a large state sector, but if you make it smaller, you'll get more efficient use of capital, more innovation, and more efficient use of labor. Stop attacking the private sector and detaining people in various ways. Those are the major steps. They can't really do that much on the labor front because they can't make people have more children. Labor mobility is only going to help them a little bit. They should probably drop the system where it's harder to work away from where your residence is registered. They've been afraid of people rushing into the major cities. You have to get over that fear or you're going to use labor inefficiently when you when you no longer have enough labor. Promoting competition will help, but this idea does not seem to appeal to Xi Jinping.
What they've been doing is deleveraging or deflating the property sector. It has sort of worked. They're not actually deleveraging; they're still wasting money, because they have an inefficient financial system and inefficient large state-owned enterprises. The deflation of the property bubble has worked okay; it's painful and taking a long time. They were never going to do it in the sudden fashion of saying, okay, everybody who can't pay their money back, you're dead, because it would upset too many people. So that means it takes a while. But they’re following that course. It's something they should do. That's a positive. The actual deleveraging has not worked, partly because growth is slowing, partly because of the pandemic, partly because it's too hard for them to actually stop lending money.
What else are they doing? Not much else. That's the main tactic. Try to let air out of the property bubble without pouring in excessive stimulus. And there's nothing wrong with that, it's just inadequate. So they get inadequate results. As for the strategy behind this, I think they don't particularly care about growth. They obviously don't want growth going from 5.5% to 1.5% in a year, not that they would report it, but the growth is not really the goal. You're having people leave the labor force in greater quantities than those that are coming in, so you don't need fast growth for jobs the way you did 15 years ago, or even 10. They care about being able to direct resources and having economic tools to do so on the capital side, on the labor side, even on the technology side. So that's the state controlling factors of production. China still wants to move up the ladder technologically on its exports. You need to have some way to coerce countries that don't want to trade with you, and the way you do that is embed yourself in supply chains. And then you say it's a win-win, but of course, China does not want your influence over them to be equal to their influence over you. So it's not exactly a win-win. Their internal and external strategies are both about control.
Despite the slowdown, China remains a key player in the global economy, in particular in clean energy. What may be the impact of China’s economic problems on its position in the global economy? Does it present opportunities for its competitors?
The Chinese are just not going to be able to maintain a competitive advantage in that many sectors because they don't have the labor force for this, and now they don't have the capital for this. They have the labor and capital to maintain a competitive advantage in some sectors still, and they will direct labor and capital toward those sectors. Where you have an opportunity is you look at what the Chinese are emphasizing and you don't try to fight them there, but where they've been good in the past is not necessarily going to hold up. They have a massively overbuilt shipping industry, and that's just not going to last. Look at the industries that China is not going to be able to maintain its competitive position in, while granting that they're going to maintain a competitive position in the industries that they value. EVs are an obvious example. They want to increase their competitive position in semiconductors, and they want to maintain it in telecom equipment. There are a lot of sectors in which you're still going to have to deal with the Chinese, but there will be fewer sectors they will be able to participate in and countries with a younger labor force should be able to step into that gap.
How has the deteriorating U.S.-China economic relationship affected China’s economic problems? How has China responded to the “decoupling” of U.S.-China trade, investment, and technological transfers?
The US doesn't really matter to China as much as we imagine that we do. We haven't done anything, so the deteriorating economic relationship is mostly about words. We haven't really restricted money or technology going to China. We had the second highest trade volume on record last year, it's dropping this year, although suspiciously quickly. China has a big economy, and big economies don't tend to be that influenced by the outside, and they’re not muddling through in the middle of the road. They've made some very clear choices. In that context, the US doesn't matter that much. As one of the original advocates of decoupling quite some time ago, there isn't any decoupling of material nature with the possible exception of goods trade this year. But we’d have to see if that is just goods flowing through other third countries from China that we're counting as coming from those third countries, or did we really have a shift in production. There has not been any decoupling in investment or technology, just a bunch of talk.
Who are the losers and winners of China’s economic problems and worsening ties with the West? How are American companies responding to China’s economic slowdown and tense U.S.-China geopolitical relations?
American companies are responding by complaining bitterly because there is not an obvious winner here. India is not going to displace China because they don't have the capacity. They don't have the right policies, they're not set up to be as competitive as the Chinese across a range of industries. Mexico is too small, Vietnam is too small. Indonesia is more interesting because it's considerably bigger than Mexico or Vietnam. But it's not being aggressive about moving into the space that China is going to leave behind. On the country side there are not obvious winners, which means that American companies really want to be able to move out of China at their own pace. And they really don't like the idea that the US government might push them. They're doing it, they're just doing it slowly because they don't have good options. They feel the need to find alternative sources of dynamism in their business. But that's hard to do. However, if somebody picked up their game, you would see American businesses move really quickly. They moved really quickly into China, they'll move really quickly out of China, but right now there's no place to go.
Now, in terms of losers and winners, a big set of losers over time, not in the short term, are going to be commodities producers. Chinese demand has really bolstered commodities production and commodities prices all around the world. You are going to get a shift in food, you're going to get less metals demand, the iron ore demand that the Australians and Brazilians have been living off of is going to drop. You're going to get a somewhat different but also less energy demand, or at least no growth in energy demand. So big losers, not in the next two years but over time, are going to be the commodities producers, and it's not really clear who's going to rise up to take China’s place, because the Indians just aren't growing that fast. China's high-speed growth was in the 11 to 12 percent range. And India's talking about growing at seven. I'm not even sure they're going to make seven, and that's a lot different from 11 to 12. Year after year of seven percent growth versus year after year of 11 percent growth is a completely different thing for commodities. Workers overseas in manufacturing are winners, but it's just going take a while and it's not clear in what country those workers reside. It could be the US, Mexico, India, Indonesia, Bangladesh, or the Philippines, we don’t know.
Ucabunx, CC BY-SA 4.0 <https://creativecommons.org/licenses/by-sa/4.0>, via Wikimedia Commons