Sunday, October 18, 2009

not so bright: China's Economic Future

oct 18th, 2009

from ram narayan

---------- Forwarded message ----------
From: <ram
 

Two scholarly pieces have just been published on emerging trends in the Chinese economy -- one by Steven Dunaway, Adjunct Senior Fellow for International Economics, Council on Foreign Relations; and the other by Michael Pettis, Professor at Peking University's Guanghua School of Management, where he specializes in Chinese financial markets.

The Steven Dunaway article titled, "Why China May Stumble," says there are at least three reasons why China may stumble in the period ahead.


First, time appears to be running out on the investment-driven, export-led model of economic growth that China has used to develop its economy. Since the mid-1980s, China's economic development has been driven by investment growth. Distortions in basic prices (such as low costs for capital, land, energy, other utilities, and pollution abatement), incentives, and institutional arrangements have strongly favored investment over consumption. In turn, because investment has created new productive capacity that has consistently outstripped domestic demand, exports and the substitution of domestic production for imported goods have been relied on to employ the excess productive capacity created. Reliance on exports and import substitution to lead China's economic growth has been supported by China's policy of maintaining what has become an increasingly undervalued exchange rate.With the slow growth in external demand that is likely to prevail over the next decade or so, continued adherence to this model will result in slower growth in China.

Second, the rule of law remains underdeveloped; without it, China will find sustainable growth and development difficult to achieve over the long run. The lack of adequate means to enforce contracts and protect property will have an increasingly detrimental impact on growth over time.

Third, political arrangements in China may make it difficult to establish the economic conditions needed for the country to maintain rapid growth. Only if China can deal effectively with these challenges will it be able to live up to its economic potential. The authorities are drawing the wrong lessons from the present crisis.

These issues are discussed more fully in the article which is available at http://www.cfr.org/publication/20384  

The second piece, by Michael Pettis is titled, "China September Data: Long-Term Overcapacity Problem Is Intensifying." 

He is pretty skeptical about China's fight against overcapacity. According to his model of China's overcapacity problem, the source of the imbalance is a set of industrial policies that systematically shift income from households to producers, and as long as these policies continue there is little chance of resolving the problem of excess production. He has a longish piece coming out next month as a Carnegie Brief on the Carnegie Endowment website, in which he discusses this as part of a discussion about why he expects a rising US savings rate to lead almost inexorably to trade tensions.

Consumption has declined as a share of national income, and China's total production has exceeded its total consumption by a large and growing amount. This is at the root of China's high savings rate. "The basic problem, then, is that there are very powerful policies that force a discrepancy in production and consumption growth, and the only way to eliminate overcapacity is by reversing these policies. I am not sure that attempting to address overcapacity by administrative means can succeed, and certainly the track record of other efforts over the past year to address the imbalance doesn't suggest otherwise."

This article is available at http://seekingalpha.com/article/166966-china-september-data-long-term-overcapacity-problem-is-intensifying?source=email  


Ram Narayanan
US-India Friendship


 

2 comments:

san said...

I'm worried that China's economic troubles could lead their scheming authoritarian rulers into starting a border war with India, to distract the discontented Chinese masses from problems at home.

We Indians should be wary of such stunts, because regimes like the Chinese and the Pakistanis survive on stuntsmanship.

Anonymous said...

This is the same argument that Ravi Batra makes in his book "Greenspans Fraud" and it makes perfect sense.

The phenomenon of wages lagging productivity is also seen in the United States and is one of the prime reasons for the current prerdicament in the global economy.

Consider this:

In the US: Productivity of the nation has been rising for the past 20 years. But Wages have been stangnant. Since the nation produces more, but people do not earn any more money, the demand for the excess supply comes from an increase in debt.

In China: The fruits of productivity gains have not been passed to workers in the form of higher wages, but instead accumulate as profit at the corporations, which are mostly government owned (and/or promoted by government leaders). The savings that result from increased efficiency are reinvested in increasing capacity. Since the wages of average chinese worker have not increased, the domestic demand for good produced from the excess capacity is non existent. The excess capacity, till this time was sent to the US and western europe for their consumption, by making additional debt available to them.

This consumption has now died. There is no one to consume the stuff the gets produced at China's factories anymore. The chinese worker is still relatively poorer. There will not be anymore economic growth for a short period because of this mis-investment. They could still recover, but it will take time.

The above two paragraphs are the gist of Ravi Batras book, which does a good job of explaining todays economic conditions. The book was written many years back, before the credit crisis became known.