All 2 entries tagged China

The China Deal: Why China's economic success is fragile

Writing about web page http://ideas.repec.org/p/cge/warwcg/91.html

Why has China succeeded where Russia failed?

The explanation that is most widely shared is that the Chinese rulers kept political control and used it to reform the economy gradually. They pursued Deng Xiaoping's "four modernizations" (of agriculture, industry, defence, and science and technology) but rejected calls for the so-called "fifth modernization" (democracy). In the Soviet Union at the same time, in contrast, Mikhail Gorbachev abandoned the levers of totalitarian control. He allowed the Berlin Wall to be pushed over. The Soviet communist party imploded; insiders "stole the state." The Soviet Union collapsed and Russia entered a decade of near anarchy.

This explanation has obvious appeal but is incomplete on closer inspection. It is widely believed that the Soviet leaders did not try the China solution of gradual economic reform without political reform. The historical record shows, however, that this is untrue. Over a period of many years, while their system of one-party rule was completely intact, the Soviet leaders tried all the reforms that the Chinese communists followed to revitalize their economy. This included several experiments with a household responsibility system, the so-called zveno, in agriculture (1933, 1947, and 1966); a regional decentralization (from 1957 to 1965); and several rounds of public sector reform (beginning in 1965), culminating in new laws to reduce the compulsory obligations on state-owned enterprises, allowing them to supply the market directly at higher prices (1987), and to permit private enterprise (1988).

In other words, rash political reforms are not the factor that decided why communism failed in Russia. The collapse of Soviet rule came only after the gradual economic reform initiatives that worked in China failed in Russia.

We must look somewhere else, therefore, to explain China's success. In a survey of Communism and Modernization, I suggest that the answer must begin with China's capacity for continuous policy reform. To break out of relative poverty and catch up with the world technological leader, an economy must undergo continuous reform of its policies and instutions. Continuous policy reform is fragile. The reason for its fragility is that, as the economy undergoes successive stages of modernization, policy reform at each stage must infringe upon the vested interests formed in the previous stage. Where continuous reform becomes blocked (as in Italy, for example), the economy will lag and fall behind. From the 1970s, the Chinese economy institutionalized a capacity for continuous policy reform. This is what has enabled China's spectacular rise.

Continuous policy reform was a by-product of China's system of "regionally decentralized authoritarianism" (described by Xu 2011). This system set China's 31 provincial leaders to compete with each other economically and also gave them considerable freedom to choose how to do so. Those leaders who could make their provincial economy grow faster, if necessary by attracting labour from neighbouring provinces, would rise politically; the laggards would fall. Such incentives were very strong.

Deng Xiaoping allowed the provincial bosses to strike a "China deal" that created new space for private business to come out of the cold and thrive within market socialism. This opening of markets to private entrepreneurs, modest at first, became much more radical than the limited "deals" struck in the Soviet Union and Eastern Europe. Economic reforms under European communism gave legitimacy, at most, to low-powered, short-term profit-based incentives, insider lobbies, and shady sideline trading networks.

In China the main limit that was placed on market access was political: China's new business class must continuously demonstrate its loyalty to the one-party state. The best way to prove loyalty was through political and family connections to the regime. This raised the danger of the new business class exploiting their personal links to power to grow rich without economic effort. One answer, but an imperfect one as we see today, was to expose them to foreign competition. In fact, there was more product market competition in export markets than across China's internal provincial borders.

A crucial and completely accidental advantage on China's side was its size. The Chinese population was so large that its 31 provinces each formed an economic region with tens of millions of people -- the size of a large Western European country. In contrast, the Soviet Union decentralized economic management across a much larger number of much smaller provinces, averaging little more than a million people each. Unlike a Chinese province, the typical Soviet province was highly dependent on its neighbours. The danger was that a Soviet provincial boss could gain more by sabotaging his neighbours than by honest effort within his own limited sphere. In the Soviet Union regional rivalry turned out to carry high costs and few if any benefits.

If regional rivalry was not productive within the Soviet Union, why did it not work across Eastern Europe as a whole? After all, each East European country had considerable freedom to experiment with national economic models, and was more like a Chinese province in size and diversity than a Soviet province. Nonetheless, international competition did not work any better than interprovincial rivalry. Most likely, East European communist leaders had too much job security and tenure, did not depend on doing better than their neighbours to keep their jobs, could not be promoted to Moscow, and, even if they succeeded economically, could not build on success to attract labour from their neighbours because international borders, even within the communist brotherhood of nations, were rigidly sealed.

It may also have been a factor that East European and Soviet leaders just did not "get" continuous policy reform. They thought catching-up growth could be achieved by one-off reforms or interventions. It is also a good question whether Chinese leaders "got" continuous policy reform, or whether they stumbled across a design for it by accident.

Either way, the result was this: The recipe that happened to make communism work in China was tried and did not work in Europe. That raises a question of vast proportions: Will the same recipe continue to work in China's future?

Here we come back to the fragility of continuous policy reform. China's level of output per head has multiplied several times over the level of the 1970s. It must multiply several more times before China can approach the level of the world's richest countries. This is a very long haul. For China to maintain the continuity of policy reform over the distance is beyond unlikely. At some point, some coalition of interests is bound to form that will be strong enough to block it, at least for a time. At that time China's oligarchy must be willing to intervene on the side of movement, not stability. If not, the China deal will come unstuck.

References:

Harrison, Mark. 2012. Communism and Economic Modernization. CAGE Working Papers no. 92. University of Warwick. Repec handle http://ideas.repec.org/p/cge/warwcg/91.html.

Xu, Chenggang. 2011. The Fundamental Institutions of China's Reforms and Development. Journal of Economic Literature 49:4, pp. 1076-1151. Repec handle http://ideas.repec.org/a/aea/jeclit/v49y2011i4p1076-1151.html.

Mark Harrison : 29 Jul 2012 15:23 |  Tags: China Economics History Politics Russia |  Comments (0) |  Close comments |  Report a problem

A Flood of Cheap Chinese Goods

Writing about web page http://papers.ssrn.com/sol3/papers.cfm?abstract_id=1964156

Late in the Old Year, I listened to a radio interview. The question was: "What has the world gained from China's emergence into global trade?" The response was something like this:

A few countries have gained by selling raw materials to China -- Australia, Canada, parts of Africa.

What about the rest?

The rest of us have just had to face a flood of cheap Chinese goods.

To me this neatly encapsulated one of the central tenets of Do-It-Yourself Economics:

Production (and exports) good. Consumption (and imports) bad.

The mixed feelings with which the world's media greets the deluge can be readily illustrated by Googling the search terms "flood" and "cheap Chinese goods." On a recent morning, the first page of search results yielded the following:

Brazilian factories tested by Chinese imports - FT.com
But a growing flood of cheap Chinese manufactured goods into Brazil is testing the relationship. “The relationship with China is important but, ...

Why do we allow cheap chinese goods to wreck the western economies ...
Why do we allow cheap chinese goods to wreck the western economies? we sell them very little where they flood our markets with cheap products that used to ...

artificially cheap Chinese goods « Savvy Writers & e-Books online
What many American, Canadian and European citizens don't grasp is this: The flood of artificially cheap Chinese goods, putting America out ...

UK retailers tell Brussels: we want cheap Chinese goods | Business ...
UK retailers tell Brussels: we want cheap Chinese goods ... He has warned that a flood of cheap T-shirts and flax yarn is harming producers in Italy, ...

Chinese tyres cause accidents: police | The Zimbabwean
The flood of cheap Chinese goods has also retarded the reopening of many industries which cannot compete with the goods of cheaper quality. “I urge people to ...

CHINESE IN AFRICA: ON ASSIGNMENT: PHOTOGRAPHY BY PER ...
has created a Chinese market in Luanda flooded with cheap Chinese goods. The Chinese are currently working on two major railway renovation projects ...

It's good to talk - even better to sell
Cheap Chinese goods are flooding into Africa's markets. China's trade with Africa has increased from $900m (about £500m) in 1990 to nearly $30bn last year ...

Involvement of the People's Republic of China in Africa ...
China does not purchase manufactured products from Africa, while cheap Chinese imports flood the local marketplace, making it difficult for local industries...

Indonesian Study Shows Trade Pact Led to Flood of Chinese Goods ...
A wide range of Chinese goods has flooded Indonesia since the ... that cheap Chinese goods are swamping Indonesia under the free-trade ...

China Ties Aiding Europe to Its Own Trade Goals | Think on That!
Nevertheless, Europe must consider the effects of very cheap Chinese goods that some consider “unfairly priced” flooding their markets. ...

The reality is somewhat less dramatic than these quotes would suggest. What proportion of the goods that our firms and households buy is actually sourced from China? Almost certainly, less than you think.

In 2010, for example, the UK imported goods from China worth £30.6 billion (see the 2011 edition of the Pink Book published by the Office of National Statistics). This sounds like a lot, but is only two percent of the UK's £1.5 trillion national expenditure, or three percent of household consumption. Even this will overstate the proportion of British expenditure originating within China's borders since many Chinese exports incorporate components previously imported into China from abroad. In short, the Chinese economic tsunami is really more of a ripple, although a growing one.

Why is the perception so much more dramatic than the reality? Several reasons.

• China sells things that nearly every household is likely to buy, such as clothes, toys, and consumer electronics.
• These things are especially salient because they are sources of pleasure.

Oh -- and the domestic firms that are displaced by the Chinese goods we prefer then noisily beat the drum of "unfair" competition by tricky foreigners in pursuit of a clever plan to wash away our industries. You can hear that drumbeat clearly in the Google search results above.

Anyway, never mind the facts. Just how bad is this and how much worse can it get? We can learn something from a historical parallel: the tale of Indian textiles in the nineteenth century.

The last time we saw a flood of cheap goods from a single country was in the nineteenth century. At this time British factories sent a tidal wave of cheap textiles across the world. By 1913, Lancashire was providing four yards of cotton cloth for every man, woman, and child on the planet. The world price of textiles came crashing down.

Who lost and who gained? Most obviously, they gained whose labour and capital was employed in the Lancashire cotton mills. At its peak, cotton employed half a million English workers. These won a living wage, while the profits went to the Manchester millocracy and their agents overseas. At the same time the English cotton interest took only a small fraction of the total gain. They had to share the rest with 1.8 billion global consumers, many of whom found they could afford comfortable, washable, durable clothing for the first time. The mechanism that distributed this global gain was the market: as prices plummeted, more and more people in distant lands could pay for a cotton shirt or even a suit.

There were a few losers. These were the world's artisan spinners and weavers. The products of their hand labour were previously a luxury; only the well-to-do could afford them. When a new product came along that consumers preferred and could pay for, the same market mechanism that shared the gain from Lanchashire's high productivity across the world told the handloom weavers: "Stop now. You can find something better to do."

When the history England's industrial revolution came to be written, Lancashire's contribution was well remembered. But its gift to the world was little emphasized or ignored. Instead, what was remembered was the destruction of Indian hand spinning and weaving.

How were Indian consumers affected by the destruction of native artisan textiles? Did the flood of cheap British goods wash away the basis of Indian economic life? It should be possible to tell. A simple test would be this: Whatever happened to India's production of textiles, what happened to consumption? If the Indian economy was truly wrecked by imported cloth, then India's masses would surely have been excluded from the benefits.

A new paper by Tirthankar Roy tells the story. It comes in two parts:

Part 1. 1820 to 1860

• The Indian price of imported cloth relative to prices of hand-spun cloth fell by 80 percent.
• The outputs of Indian hand spinning and weaving did not change.
• Cloth imports into India rose from nothing to around four fifths of the level of domestic cloth production.
• Consumption of cotton cloth per head of the Indian population rose by about 60 percent.

Part 2. 1860 to 1900

• The price of imported cloth relative to those of hand-spun cloth fell by a further 50 percent.
• Hand weaving fell by one third and hand spinning disappeared.
• But it was new Indian cotton mills, not English mills that displaced the products of Indian handloom weaving; the total output of Indian cloth did not change.
• Cloth imports rose by two thirds, reaching around twice the output of domestic weaving.
• Consumption of cotton cloth per head of the population rose by a further 40 percent.

What's important here? Two simple facts:

• First, the flood of cheap English textile did not destroy the Indian textile industry. Native spinning and weaving were restructured by competition and became much more efficient.
• Second, however difficult was the transition, Indian consumers became better off on average at every stage of this process, and were markedly better off at the end compared with the beginning.

To summarize, innovation is local but the gains from innovation are global. Adjustment to changes in national competitive advantage is psychologically painful and economically difficult, as the English textile industry discovered in the twentieth century. But the same competition in international trade is the mechanism that redistributes the gains from innovation in one country to consumers in all countries.

In conclusion, whatever you think of Chinese politics or nationalism, the flood (or floodlet) of cheap Chinese goods is not a threat. Those whose business competes directly with Chinese products should aim to beat the competition or get out of the way. Whether they succeed or fail is up to them, and that's how it should be. Either way, there is a gain to be won from China's entry into the world market, and the gain will accrue to all the world's consumers, that is to say, to every one of us.

Mark Harrison : 03 Jan 2012 13:03 |  Tags: China Economics India Politics |  Comments (0) |  Close comments |  Report a problem