This article is the continuation of The Chinese Economic Transition, published on August 20.
It was during the Nixon term that the USA decided to approach China, following the tense relationship that was in place since the establishment of the People’s Republic of China in 1949, and especially with the Korean War. Nixon happened to be looking for solutions for the economic crisis that followed the Oil Shocks and the end of the Bretton Woods monetary system. Despite Nixon’s controversial departure from office, the path ahead was clear – Deng Xiaoping began his emergence as leader of China in the late 70’s, and with him, the policy of Reform and Opening-up.
Despite the end of the dollar-gold convertibility, the core ideas of the Bretton Woods system remained in place, and the free-trade regime was engraved in the international order of the last third of the 20th century. This phase, which we also came to know as one that was marked by financial bubbles, was also the stage for major growth spurts in economies seen as peripheral, a fact which came to full fruition since the 90’s. This process is seen by authors such as Hans Rosling as conducive to large advances in the human condition, especially in developing countries, although there’s the admission by economists such as Paul Krugman, who were always staunch defenders of globalization as a mechanism of absolute gains, that its consequences, especially for the middle class in developed countries, have been nefarious, above their own expectations.
However, its inescapable that these developments are based on a contradiction. The transfer of employment opportunities from developed countries results logically in prosperity gains in the target countries, especially in the least qualified strata of the population, who thus find access to alternatives to subsistence agriculture, an effect that, perhaps as a result of the sheer magnitude of the country, is notable in China, and thus announced its economic rise. It’s necessary to recognize, however, that it would be hard to maintain the conditions that favored the outsourcing of employment positions in the long run, since the very nature of the monetary system leads to the fact that commercial surpluses translate into an increase in monetary value, thus nullifying the export competitiveness that was the essential condition. The occurrence of such a paradox was named the middle-income trap, a situation in which developing countries would be prevented from maintaining growth rates, precisely due to the loss of competitiveness.
Regarding this issue, it also becomes obvious that maintaining export competitiveness comes directly into conflict with the directive of creating a consumption economy, since we know that the propensity to consume in a given population is a direct function of disposable income, mediated by the propensity to save, if we look at the aggregates, seeing as the latter differs between income brackets, something that the law of marginal utility explains elegantly. As income rises, so does the propensity to save, which, may be advantageous or not, depending on what the limiting factor is, in a given economy, as authors like Michael Pettis argue. In an early stage, it is necessary to concentrate wealth and generate savings, so that one may mobilize capital for investing in essential infrastructure for development. After this initial phase, one needs to redistribute wealth, so that the largest population bracket may rise in its consumption ability, and generate a sustainable economy in the long term. Since this last step hasn’t taken place in the Chinese economy, it’s necessary to once again take a deeper dive.
The investment factor is still the predominant element in Chinese GDP, which raises questions over its efficiency. Pettis also reminds us that an economy flooded with capital that’s unable to find productive allocation is not an advantage, since firstly, that generates roadblocks to sustainability as returns don’t make up for capital costs (interest), as well as the fact that certain asset classes tend towards inflation, in a direct supply-demand relationship, since there’s large amounts of capital seeking little investment, as in the historical example of Germany following the defeat of France of Napoleon III, from which it extracted financial concessions in the form of direct monetary transfers. This inflation leads to an inflexibility in the economy, inhibiting initiative by making the costs of investing prohibitive. It’s arguable to what extent China still needs investment to realize its objectives, but its industrial capacity and the fact that its still an attractive destination for a company to base its production, despite the fact that salaries are not as low and other neighboring economies offer more competitive conditions in this particular aspect, as well as emerging geopolitical issues and conditions that the government imposes on FDI, tells us that, largely, this imperative has likely been met.
From the mechanisms that the Chinese economy found to maintain the status quo, we realize that there is a currency exchange mechanism in which Yuan are traded for foreign reserves, keeping its relative valuation and thus its competitive advantage for the export industries of China. However, this is one of the factors that reduces the consumption capacity of the large working masses of China, confined to a situation of fixed salaries, and whose purchasing power remains, as a result, stagnant. The devaluing of currency constitutes, in practice and roughly speaking, a wealth transfer from salaried workers to the owners of means of production, and this fact, associated to the very nature of the political system of China, where economic activity necessarily goes through the political class in some form, leads us to believe that this same political class will have precisely the incentives to maintain the situation as it is, as it benefits directly with said wealth transfer. Also for this reason, the accumulation of monetary reserves has led to the growth of Chinese influence overseas, where it channels large volumes of capital, resulting from its trade activity, which is conducive to geopolitical gains.
Some authors state that a bigger intervention of the Chinese government, especially in the field of wealth redistribution, not would would impact the consumption share of GDP, as it would be a fundamental pivot to change Beijing’s positioning on the international stage, leading more markedly to mutual gains relationships. The trend in globalization since 2008 has been one of reversing the advances of the previous decades, and this deglobalization has a particular characteristic – the centralization of trade flows to China. This trend hasn’t diminished with the pandemic, and the mobilization of the Chinese government seems to be headed towards supply side reforms, which goes directly against the transition towards a consumption economy. With this information, it’s hard for one to imagine, given the apparent lack of political will, that the situation may alter without it happening via a forced economic adjustment