If the Chinese ‘miracle’ hasn’t puzzled you at some stage during the last 10 years, you either haven’t been giving it much thought, or you kept running into what appeared to be a wall of Mandarin inscrutability.
You’re not alone.
Alternatively, you’ve been reading (or paying your advisers to read) Jeffrey Sachs and Joseph Stiglitz on the matter, in which case you’re happy and whistling and learning Mandarin. But learning economics from old-school Keynesians is a mistake one should never make.
On Friday, the Mail & Guardian reported that President Jacob Zuma will announce a major change in economic policy for South Africa.
Out with the tentative market liberalisation of the Thabo Mbeki era, and in with the old. With old, we mean the original ideas the ANC had written in its pre-1994 policy documents. The ideas they got at universities in Moscow and Beijing and the left-wing institutions of the West.
This idea is to copy the so-called ‘Chinese model’. Establish a strong form of ‘state capitalism’, in which state-owned enterprises and massive funding for public works programmes serve to stimulate economic growth and create employment.
The whole article is required reading, to put flesh on the summary by Malusi Gigaba, the minister of public enterprises, who explains: “If we had to rely on the market forces today and just say let the state pull out and let the state privatise the SOEs, you will not be able to achieve the transformation that we envisage. For us, SOEs have a critical role to play in rolling out infrastructure, in reducing the cost of the business, creating employment, industrialising the country and developing skills. That’s why we have put these three issues at the centre of SOEs.”
This all sounds very nice, but there’s a problem with this optimistic view of the Chinese economic model. Not very much about the Chinese model is both true and sustainable.
It is true that the country employs a relatively large proportion of its people by historical standards. It is not true that all those jobs are productive and sustainable. It is true that the state owns a large part of the economy. It is not true that the state can afford to do so. (In fact, as we shall see, it is very, scarily false.)
It is true that the value of the renminbi against international currencies is often described (mostly by protectionist US manufacturers), as undervalued. It is not true that it really is undervalued, nor that its present manipulated value is in any way sustainable. It is true that the country has been reporting extraordinarily high GPD per capita and growth numbers, and has pulled millions of starving peasants out of poverty and into rising industrial prosperity. It is not true that those numbers are an accurate reflection of the success of the Chinese model. In fact, they’re not very accurate at all.
Throughout the Soviet era, there were western economists who believed the propaganda fiction that the central-planning model was outperforming the free markets of the West. The USSR’s economic data was revealed to be a fraud even before the dawn of the 1960s, but many prominent writers on economics clung to the fantasy of Soviet idyll. They ridiculed those who thought the bankruptcy of the Cold War opponent would cause it to collapse without the need for a single ICBM fired in anger. They ridiculed Ronald Reagan for yelling at Mikhail Gorbachov over the Berlin Wall. They never saw the fall of the Soviet Union coming.
Those same economists, or their intellectual progeny at least, never saw the US housing crisis coming either. Nor did they see Europe’s sovereign debt crisis coming. No, no. Affordable housing was a bet on which they wanted to “roll the dice” a bit more, to quote one of the chief Pollyannas, Barney Frank. Everyone thought the European model was so civilised: everyone was either wealthy or on welfare or both. Wasn’t that an ideal to aspire to, despite justifiable distaste for copying former colonisers?
Today we know that those dreams were fictions. That government-planning ideals, whether in the form of communism, the welfare state, or the state-sponsored and thoroughly misnamed ‘ownership economy’, were pipe dreams.
And so it is with China. Let’s break the story of its apparent success down.
China has appeared to be successful as a function of the low base from which it grew, the vast under-employed population it could harness – often by implicit by force – and the extent to which it opened up its markets to industrialisation, capital and trade.
That’s all common cause, and that’s the part of the story you’ll usually hear from capitalists who argue against central planning. The thing is, even though many free-market advocates don’t go much further in their analysis, that’s not the half of it.
China’s GDP and GDP growth figures have been nowhere near as spectacular as we were always led to believe. A fact that quietly slipped under the radar towards the end of 2007, when the eyes of the world were turned to the US housing market and the fear of a global economic downturn, was an announcement by the World Bank that it had revised the basis for its Chinese GDP figures. Instead of using price data dating back to 1980, it had updated its price basket. For the first time. Since just two years after Deng Xiao-ping began to institute market reforms in agriculture with his ‘Household Responsibility’ programme.
The consequence of suddenly having current purchasing-power data at hand? Instead of standing on the cusp of overtaking the US as the world’s largest economy with $10-trillion, the new valuation method put China’s GDP closer to $6-trillion.
You read that right. A truly colossal 40% of China’s ‘miracle’ just vanished over Christmas in 2007. All the while, Chinese growth had looked better than it was, as did global growth. The World Bank’s famous dollar-a-day poverty estimates grew by 200-million new poor people at the stroke of a pen.
And that’s still not all. A lot of growth clearly did appear to happen. China’s banks were drowning in bad debt a mere 10 years ago. It looked so serious, that few Western economists expected the ‘Chinese miracle’ to survive the decade. It did. Not only that, those very same banks are today held up as a model for prudent Basel-style regulation. The two biggest banks in the world are Chinese, and two more fit in the top 10. How did this happen, and how did they escape the global too-big-to-succeed epidemic?
Nobody Chinese (or diplomatic) will call it that, of course. What happened is that within the byzantine network of Communist Party cronies, where the government owns 80% of the stock market, and everyone sits on each other’s boards and scratches each other’s backs, they bought each other’s pig swill too.
If you followed the Enron story, you’ll know how it works. The Chinese government created a whole lot of off-the-books special purpose vehicles, known euphemistically as ‘asset-management companies’, to take over the non-performing loans. These loans, many of which had been extended to the government, would never be repaid with anything more than a nod and a wink.
Where those loans are now, is anyone’s guess. Out of sight, out of mind.
The banks, meanwhile, got a new lick of paint, shiny bronze banisters, and a capital firehose straight from the central bank, the People’s Bank of China. This way, they can continue acting as the government’s private slush funds, paying for vast make-work projects building public infrastructure.
You can see how this would appeal to the South African government.
And where does the People’s Bank of China get the money to bail out its overextended banks on this scale? Common wisdom is that the Chinese, in contrast with the consumer-credit-crazy Yanks, are a thrifty bunch who save a lot. That this explains the rise in the money supply to fund all this state-controlled growth.
It is true that the Chinese people save, but they don’t particularly like saving with banks. After all, interest rates punish savers and reward borrowers like the clique that runs the largely state-owned country.
(Ultimately, however, when the whole house of cards comes crashing down, as it inevitably will, the prudence of savers may be what will rescue ordinary Chinese from their government. Heaven knows foreigners can’t afford to do it.)
Moreover, the major Chinese bank’s leverage ratios, though high, would have to be way higher than they are to explain the reported growth in the Chinese money supply.
The Chinese central bank gets its money where all central banks get their money when they can’t raise taxes and bondholders don’t bite: they print it.
An accomplished young business graduate in Shanghai, Matt Dale, understands China and its financial markets very well, and his explanation makes for clear and staggering reading.
His conclusion is not only that money supply growth is out of hand, placing great pressure on the renminbi, but startlingly, that the People’s Bank of China is leveraged by an astonishing 1,300 to one. A fall of just 0.07% in the value of the Chinese central bank’s assets would render it insolvent. (By contrast, the bailout- and stimulus-funding US Federal Reserve is leveraged about 50 to one, and the sovereign debt-plagued European Central Bank’s leverage ratio never peaked above 10 even during the darkest days of 2008.)
Remember, those Chinese central bank assets, which must not go down, are largely denominated in US dollars. And the US dollar has been holding its value only by comparison with banana republic funny money such as Zim dollars and the euro.
The impact of a devaluing dollar is concealed only by the continual manipulation of the renminbi. The US is right to accuse China of fiddling its exchange rate, but if China stopped doing so, it might well go bust overnight.
This also helps to explain China’s overseas drive. It is dead keen to get rid of its dollar surplus by using them to buy up hard assets in unsuspecting developing economies in Africa. Though China once was quite subtle about dumping dollars, times are getting tight, and it has recently been stocking up on gold quite openly.
The “insane” leverage ratio for the People’s Bank of China described by Dale is corroborated by the economist Doug French, who in turn cites Carl Walter and Fraser Howe, authors of Red Capitalism: The Fragile Financial Foundation of China’s Extraordinary Rise.
His short version of the China story is also well worth digesting. Remember it. It is the story of South Africa’s future, in which our banks – and ultimately the SA Reserve Bank – will serve as the providers of capital to fund the state’s cherished make-work projects.
It might look great for a while, as all bubbles do, even if we won’t be able to sustain it for anywhere near as long as the opaque and oppressive Chinese Communist Party was able to. It strikes me that the book, Red Capitalism, would make a marvellous gift for Jacob Zuma on the occasion of his State of the Nation speech on Thursday.
Any bets where he wants to build the first of his ghost cities? Coega would have been the obvious candidate, but if he’s throwing out the entire Mandela-Mbeki-era economic playbook, perhaps that dead horse will be spared another whipping. That would leave Nkandla, the Zuma ancestral home, which happens to be conveniently located near the Richards Bay Coal Terminal. Lots of lovely lolly will be heading up there on a Transnet train anyway. DM