China Comment

Energy, Environment, and Economy

Publishing in China

Have you ever wondered how a Chinese book gets published? Books in China are once again in the spotlight, due to Google Books’ scanning of Chinese copyright owners’ works without their permission, so I decided to comparatively examine the process of copyright and book publishing in China versus in the United States.

Book Identification Numbers

Anyone can publish a book and sell it in the United States and books are not reviewed by any state agency before publication. Despite the relative ease of publishing and self-distribution, selling a book to stores (and yes, even Amazon) is a bit more complicated. Retail outlets will only order books if they have something called an ISBN number. An ISBN number may only be purchased directly in blocs of 10 for $250 (Although larger bloc purchases of 100 or 1000 are possible) (Source). However, ISBNs can also be purchased individually from a company that previously purchased a bloc of ISBN numbers. These companies then sell ISBNs piecemeal to would-be self-published authors.

Until 2003, all Chinese publishing houses were owned by the state, but the state has gradually decoupled its ownership of publishers (Jing Bartz). The Chinese publishing industry has undergone three phases of changes since 2002. The first stage pre-2002 was government control over publication and oversight of book issuance. The second stage, after WTO entry, from 2003 to 2008 was a time when the state gradually divested both control over publication and oversight degraded. The third state, from 2009 until the present day is another time of tightening or shou of oversight, but loosening (fang) of control regarding publication. (See: Peterson Institute, page 3 for a description of China’s cycles of fang/shou, loosening and tightening, throughout reform periods.)

Books in China, unlike those in the United States, are not supposed to be published and distributed at all unless they have a state-issued identification number, a 书号 (shu hao) from the GAPP (General Administration of Press and Publishing). China today uses ISBN numbers, as can be seen from the back page of any recent-published book from China. These numbers may be purchased only from several state-designated publishing houses. Before 2009, the publishing houses made extra money by buying large numbers of book numbers and then selling them to third parties who were not directly associated with government approved (or run) print houses. (Jing).

A new system went into effect in 2009. The new system issues “book numbers on a per-title basis, eliminating the surplus ISBNs that could be sold off to unlicensed cultural companies.” (Martinsen, Danwei). Apparently, the new system will increase the Government’s influence on the book publishing industry. One Chinese newspaper expresses some fear that books may only be allowed to gain book numbers after being examined and approved by officials or those influenced by officials. (Martinsen, Danwei). Still, the 2003-2008 system has apparently continued in part due to the logistics of implementing the new system–the titles just may be more closely examined by officials than before: “[E]ven under the title-based application system, many publishers are still book number dealers: their books are actually produced by other cultural companies… . For books that have poor sales projections, authors use “self-financed publications” — actually, they buy book numbers from a publisher[,]” (Martinsen, Danwei) which in practice- despite murky legality in China, is similar to the path taken by some U.S. self-published authors.

A China Youth Daily article suggests that implementation of this new system is merely a tightening step enforcing existing laws before the publishing industry becomes more open three to five years (CYD, see second paragraph and phrase beginning “2010年年底…”) after the government decouples its remaining publishing units from their attached bureaus. Still, although these new publishing units may be more vibrant and nimble economically,  that does not necessarily mean the books will not  have to be approved. Under new policies, the censorship process merely shifts back a step as the Government retreats from ownership, but not from supervision.

Copyright

Copyright in China of a book lasts for 50 years past the author’s death (Article 21). The United States used to limit copyright’s extension to such a limit, but the Sonny Bono Copyright Term Extension Act— the “Mickey Mouse” law, passed in 1998, changed the law to “protect” works for up to 70 years after an author’s death.

Book Sales

“China had [about] 544 book publishing houses in 2007, turning out 248,000 varieties of books, of which 136,000 varieties being published for the first time. [NOTE: The 136,000 number is the number commonly used to compare to Britain and the US’ numbers of books released.]” (Hu Dawai’s Comments at Frankfurt Book Fair). In 2003, Britain published 120,000 titles and the United States 175,000 titles. (Beijing Review). (172,000 in the US in 2005)

China’s publishing industry as a whole sold 55 billion RMB of books in 2008 [about 8.5 billion USD.] (Jing). $24.3 billion in books were sold in 2008 in the United States, down from $25 billion in 2007. (Jing).

Appendix and Links

* PRC Copyright Law (english version; bilingual)

* Richard Lea of The Guardian gives a general overview  of Chinese Literature

* Overview of the Sonny Bono Copyright Term Extension Act.

* US Book Industry Statistics, 2008.

* Religious Book Publishing in China (Interesting).

* China Statistics on Books (2004).

* China Publishing Today (chinese)

* China Books Blog.

* And of course, Danwei.

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22 January, 2010 Posted by | China Economy, China General | , , , | 5 Comments

Beijing Commodity Demand Boom– A Bust?

China’s commodity demand has risen sharply in the past few months. Its stock market is up and China seems to have dragged commodity prices out of the cellar. However, China seems to be gambling with its stimulus growth. Its demand boom seems to be artificially backed more by government lending rather than sound economics.

Professor Michael Pettis’ article at the RGE EconoMonitor inspired this examination of China’s commodity demand, its existing liquidity, its borrowing spree, and a possible aftermath in the wake of these radical changes.

(Conversion note: ~6.7 RMB/Yuan to a dollar)

1. China’s Commodity Boom

* Oil is up above $65 dollars, driven by hopes of expanding demand in emerging markets.

* “In May, China produced 46.5 million tonnes of crude steel, the highest rate of production since June 2008.” (Hindu Business Line).

* “Chinese customs statistics show record copper imports. For the first five months of 2009, Chinese total copper imports hit 1.76 mt compared with 1.15 mt for the same period in 2008. However, imports are likely to slow after June as demand enters a seasonally weak period. So, until there is clear evidence of a slowdown in copper demand, prices could stay firm.” (Hindu Business Line).

China is demanding a lot of commodities, and is apparently producing a lot of manufactured goods. But it does not appear to be selling a lot of goods abroad, or at home– which implies that China is creating a pseudo-bubble market– and that should be a reason for concern.

(For more sources and citations; See my comments and sources on China’s declining exports and shrinking tax base in section 2b below)

2. Worries About Artificial Growth

Artificial growth, fueling a pseudo-economy and backed by shady investments in real estate and over-extension of debt, contributed to the economy’s crash in America. It is possible that China’s 4 trillion yuan (~520 billion USD) stimulus package may, likewise, create weak institutions and tendencies across its country even as China’s rising commodity orders help drag the rest of the world back into GDP growth.

Including local government debt, according to the Wall Street Journal, China’s stimulus debt is not at the officially claimed sub-20% of GDP level. Instead, China’s debt is nearly 40% of GDP. (Still, this compares favorably with the US’ over 60% of government-held debt as a percentage of GDP– but there is one difference between the two places; China is a developing country, whereas the US is a developed country-Economists will argue whether that means China’s debt is better or worse than America’s). (Wall Street Journal).

2a. Government Borrowing

Some echoes of the United States’ spendthrift ways can be seen Chinese Cities’ spending on bond issuances and construction projects. Caijing has many good articles on this topic (See Appendix below).

As much as two-thirds of Beijing’s 4 trillion yuan stimulus program will be spent by local governments, primarily financed by state-owned banks.

The extent of borrowing in China is massive, even just by cities and provincial governments. “About 2.8 billion yuan in local government bonds were issued across the province last year. But so far this year, municipal bond issues have totaled 8.5 billion yuan. And 7.9 billion yuan in borrowing is pending NDRC approval… Maturity periods range from seven to 10 years. ” (Yu Ning, Zhang Man and Fang Huilei; Caijing)

The borrowing may lead to difficulties since China’s province and township-backed companies are competing with each other for State-backed money and for customers.

The borrowing in China also seems a bit reminiscent of the real-estate market troubles in the United States:

According to Huang Huidong, the general manager of Liuan City Investment Co., the city’s government has a 1.5 billion yuan budget gap. The company borrowed 1.24 billion yuan from banks and issued 1.5 billion yuan in bonds. Income from land leasing seems to be the only way to make ends meet.

“We can make about 3.6 billion yuan by leasing land to balance the 2.7 billion yuan in debt,” Huang said.

However, Huang admitted leasing will be difficult if the real estate market sours. “If land is not leased, and there are no government subsidies, city investment companies will go bankrupt.”

Liuan collateralized its bonds with 28 properties valued at an estimated 4 billion yuan. But Caijing learned from the local land bureau that the Liuan government earned only 800 million yuan from land leases last year, and the city has had no major real estate sales so far this year. Flats in six buildings near Liuan’s best school are currently for sale at 3,200 yuan per square meter – cheap by Beijing standards, but the most expensive housing in Liuan.” (Yu Ning, Zhang Man and Fang Huilei; Caijing)

Chinese local governments increasingly lack land to collateralize against for loans, an assistant director at CASS (China Academy of Social Sciences), warned. “Some local governments will virtually go bankrupt,” Professor He told BusinessDay. “Previously, local governments got all their money from selling land. This is not sustainable. Some areas have already sold quotas from the next 30 years.”

If China’s stimulus money was mostly being corralled toward infrastructure and long-term investments that can unequivocally help the local governments that are spending the disbursements, the long-term aftermath of China’s bond issuances might be more positive.

However, it appears that the majority of China’s stimulus money is going toward manufacturing- which leads to jockeying amongst the provinces and townships to prove the best rate and the best deals for eventual export or domestic manufacturing plants.(And the manufacturing is generally the dirty low-end kind rather than the high-end kind: See: Tom Miller, Financial Times on Dongguan)

This competition between local governments, financed through state-owned banks, could have grave consequences as at least some provinces will bet poorly and their SOE, TVE, or local government-loan backed factories will go out of business. Then, the provinces may be at a loss to pay their debts. (To say nothing of the possible crowding out of wholly private non-Town and Village Enterprise-owned factories… such as they exist).[Admittedly, the current situation of SOE/TVE/Local Government participation rates is worth a book– and the paragraph above is only a broad overview. Wu Jinglian wrote some comprehensive books on China’s state-business interaction.]

Due to declining demand (and perhaps rising competition??) “China’s consumer price index fell 1.4% in May from a year earlier, the fourth straight month of drops,” (Terence Poon ; WSJ) Increased competition could cause prices in China to continue to decline; still, economists almost paradoxically fear eventual inflation (due to extensive government borrowing) – which should offset the deflation.

Ultimately, the real story and worry here is neither inflation nor deflation, but of Chinese local governments’ backed-enterprises potentially competing each other out of business.

As a Caijing article reported: “Where is the money going? Unlike an economic development blueprint sketched out by the central government that favors infrastructure projects and low-emissions, high-tech industry, the province’s local governments have shown that they still prefer the old standbys — manufacturing.”

2b. Industry Borrowing

“A National Statistics Bureau survey of 22 regions found industrial profits totaled only 323 billion yuan during the first quarter, down 32 percent from a year earlier. That means annual profits for all industries will amount to only about 1.6 trillion yuan this year.

Outstanding loans currently stand at 35 trillion yuan. Assuming companies have kept a moderate debt ratio averaging less than 50 percent, their capital investments now exceed 35 trillion yuan. And profits of 1.6 trillion yuan versus 35 trillion in capital investment means an annual return rate of only 4.57 percent, below the weighted loan interest rate of 4.76 percent we saw in March.”  (Lu Lei, Caijing)

“China’s relatively new corporate-bond market, where many local governments also are raising funds, provides a bit more clarity. By the end of May, issues of local corporate bonds — virtually all of which are indirectly backed by local governments — totaled 102.53 billion yuan, already more than the 68.39 billion yuan sold in all of 2008.” (Wall Street Journal).

Although a lot of money is being borrowed, it seems to be borrowed more to prop-up flailing businesses rather than to reflect businesses catering to increased Chinese or foreign demand for services. Overall exports were down 22% year-on-year for April, ” “Electricity generation is down y/y, even though industrial value added it up” (Setser) and this year China’s tax base is smaller.Looking at tax revenues, local governments nationwide were unable to collect as much in the first quarter as in the same period 2008. In fact, tax receipts fell 1.4 percent, in sharp contrast to the 34.7 percent increase posted a year earlier.”

3. How Long Can the Borrowing Be Sustained?

Economists will debate the complicated question of how long Chinese local governments’ borrowing can be sustained and how long the worldwide economic downturn will continue.  Regrettably, those questions are a bit too rich to effectively treat here at this time.

4. What Is Left In The Aftermath of China’s Spending Spree?

It seems that without worldwide economic recovery and a rebound in the demand for Chinese manufactured goods; China’s cycle of bubble-borrowing may lead to inflation and instability, or defaults that may bring its financial system into danger.

However, China’s financial system has the strong backing of the government. (And China’s Investment fund and foreign reserves continue to grow.)

“At the end of March, the State Administration of Foreign Exchange (SAFE)—part of the People’s Bank of China (PBoC)—managed close to $2.1 trillion: $1.95 trillion in formal reserves and $184 billion in “other foreign assets.” China’s state banks and the China Investment Corporation (CIC), China’s sovereign wealth fund, together manage another $200 billion or so. This puts China’s total holdings of foreign assets at $2.3 trillion. That is over 50 percent of China’s gross domestic product (GDP), or roughly $2,000 per Chinese inhabitant.” (Brad Setser; CFR)

Here, although I very much believe in China’s long term economic success, I argue for some sobriety in assessing the extent of the current “Chinese miracle” of recovery.

It is nice to see China take some lead in stimulating a worldwide economic recovery. But it makes one wonder, is China’s debt-fueled growth rising demand for commodities like oil causing an artificial climb in prices that will ironically hurt demand for Chinese exports?

Could the Chinese be doing a disservice to themselves by embarking on a massive borrowing spree? China has benefited over the past 20 years from a high savings rate (30-40% per person), that the country may only now be cashing in so that the country may maintain stability and over 6 percent yearly growth needed to employ the majority of their college graduates.  So China may be able to afford its spending spree- it is certainly better positioned to afford a spree than is debt-heavy Japan, for example.

Interestingly, one Financial Times commentator argues that at least in Guangdong, the employment situation seems to be holding steady:

“the local government estimates that of the 10m migrant workers who went home for the lunar New Year, 9.5m have returned to the province. Of these, about 5 per cent (or 460,000 people) had not found jobs… in the context of a province with a total population of 110m, half a million migrants is a sizeable [sic] but manageable army of unemployed.”

However there is a real fear by the Chinese government that a sizable amount of unemployed could lead to real troubles of unrest. And of course, the numbers could be exaggeratedly small– especially given China’s real decline in Q1 tax receipts and in electricity demand (Setser) .

Although China is out borrowing and stimulating the world economy, just as some in the West have called for China to do, there may be a worrisome double-effect of the infusion of so much government-backed “play cash” into the market.

If one believes in the power of the market to correct, then there may be a correction. Without demand for its exports, Chinese demand for commodities will slacken and commodity prices will decline. But at what price for China?

As Professor Michael Pettis stated, perhaps best, this appears to be an opportunity for China to shift its economy’s composition; and the gamble it is taking with its stimulus requires either a rebound in foreign export demand or for an increase in domestic demand.

Although “China will be the first one out of the crisis because it is least likely to be affected by it,… China [still]may be the last one to say goodbye to the recession, because it has to make “difficult adjustments” to transform its economy from exports-driven to domestic consumption-oriented.” (Caijing)

Appendix:

Cities Rush into Debt … Caijing

No End in Sight for Loose Monetary Policy… Caijing

China’s Stock Market Could See a Huge Drop… MarketWatch

The Chinese puzzle: why is China growing when other export powerhouses aren’t?… Brad Setser

(Interesting Argument: “The answer, I suspect, is that China – unlike many other countries that relied heavily on exports for growth – actually did have an underlying dynamic of domestic demand growth… It is now clear that the majority of China’s stimulus has been off-budget: the huge increase in lending by state owned banks mattered far more than the change in the budget of the central government.”)

15 June, 2009 Posted by | China Economy | , , , , | 1 Comment

China’s International Leadership

From February 26th through the 27th I attended a symposium at the University of Texas in Austin, TX on China’s Emergence: Effects on Trade, Investment, and Regulatory Law.

Here are some thoughts on the more notable issues raised at the symposium:

Raj Bhala, a professor of law at the University of Kansas and a graduate of Harvard Law, Oxford, and the London School of Economics, spoke about China and the Doha trade round. He suggested that China’s actions at the WTO’s Doha round discussions demonstrate that China’s claims to be a global player in the highest echelon of nations are premature.

Bhala argued that China’s failure to take leadership to promote the common good with a compromise solution for the Doha round is a worrisome indicator for the future of the agreement. Without the leadership and investment of time and effort by one of the world’s most populous and economically involved countries, it may be impossible for Doha to become satisfactorily resolved.

Some tangential issues raised by Prof. Bhala’s talk were:

(Note: Professor Bhala merely raised the topics; the below research and musings are solely the work of China Comment’s point of view that has been shaped by a synthesis of Bhala’s lecture and other sources.)


1) China’s Leadership in International Forums, or lack thereof

China has sent peacekeepers to the Caribbean and to Sudan (and accounts for 2,200 of the over 115,000 UN peacekeepers); and recently it has wielded its UN Security Council veto more forcefully, but China still appears to ascribe to the policy of waiting and seeing how circumstances develop before taking a firm stand on an issue.

For long, China would not wield a UN veto, instead abstaining when it disagreed with a policy. (China has only used its veto around six times in the past thirty years.) But recently, China vetoed resolutions attempting to levy sanctions on Zimbabwe in 2008 and Myanmar in 2007.

Although China’s comments about abandoning the dollar as the world’s standard trading currency surprisingly seemed to indicate a more assertive country, any comments that the Yuan will in the near term present a significant threat to the Dollar as a reserve currency are likely idle speculations, not the least because the RMB still trades in a managed band and is not fully convertible. There does not seem to be enough being done by the Chinese, other than a few meetings with Brazilian dignitaries to suggest that the proposal has merit and is being advanced for any reason other than to distract from US policies pushing for Chinese currency revaluation– although China Comment will follow the situation. (A measured and detailed discussion of the merits of Zhou Xiaochuan’s plan is presented by Pieter Bottellier which reveals that the suggestion is FAR more nuanced than a mere call for the RMB to supplant the dollar. Jeffrey Sachs sees some merit in Zhou’s plans, as do others. Brad Setser at CFR has a good round-up of all the important people’s views on the subject.)

China also failed to take leadership on agricultural trade issues during the Doha round. It could be argued that China used India’s objections to the Doha trade rounds in 2008 as diplomatic cover to likewise reject the deal in order to avoid being criticized too harshly for their demurral.  (See some collected views from major newspapers on who caused Doha to fail, HERE and HERE). [Note: The topic of China’s actions in Doha is far too expansive to discuss here. Likewise, the topic of China’s leadership in agricultural trade is beyond the scope of this digression.]

Gao Guangsheng, Director General of the National Coordination Committee on Climate Change, did posit an interesting argument about how the world could help decrease China’s pollution. He suggested that the developed countries pay China 1% of their GDP, about $350 billion in 2008 (Because, in past eras, developed countries were allowed to pollute as much as they wanted). It is a little difficult to take Gao’s environmental-hostage-taking demands seriously.

China Comment suggests that as China becomes more confident in its economy vis-a-vis America, it will increasingly throw its heft behind solutions and ideas. But before it can do this, it will have to become an international financier and investor. China has already begun to travel down that road, with an April 2009 annoucement that it would create a $10 billion investment cooperation fund, and offer $15 billion in credit to its Southeast Asian neighbors to promote infrastructure development (also “the trade value between the ASEAN and China increased from 59.6 billion US dollars in 2003 to 171.1 billion US dollars in 2007, growing at an annual rate of 30 percent”). Additionally, China made a May 2009 agreement to lend $10 billion to Petrobras, and has entered into assorted lending contributions to African countries, from Zambia to Mozambique (for a Hydroelectric dam).

Still, China has some way to go to compare its giving to the billions that the United States and Japan and the EU donate to the UN (US donated 22% of the UN’s budget. China paid 2.03%.), the IMF (China contributes 3.72%, the United States contributes 17.09%), and other organizations and countries. With China’s billions in reserves, however, the country is flush with enough cash ($1.95 trillion in forex reserves; and over 1,000 tons of gold) that strategically spent, can make a huge difference.

2) China’s International Diplomatic Style (Its “Grand Strategy”)

China’s putative international diplomatic style is to exert a large amount of “soft power,” to not “ruffle feathers,” and to pursue a policy of peaceful development. (China Daily, December 2005) China also expresses a support for multilateralism, which is a bit strange given that China also demands to resolve natural resource disputes bilaterally rather than multilaterally, specifically in regards to the Spratly dispute (Valencia, Mark J., Jon M. Van Dyke, Noel A. Ludwig, Sharing the Resources of the South China Sea, 1997. 118.)

To this end, China has made investments in Africa and in 2007 conducted $50 billion of bilateral trade with sub-saharan Africa (up from $10 billion in 2000). (Rotberg, Robert I. China Into Africa, 2008, page 3).

China’s policy of peaceful development, however, is sometimes looked on negatively by other countries as the Chinese can be seen as global free riders, who do not assume their international obligations, who contribute too few soldiers to UN peacekeeping missions, who contribute too little money to international lending institutions, who pollute the environment, and who have for long done too little to rein in their troublesome neighbors- like North Korea.

China has attempted to involve itself in multilateral institutions for discussion in both the economic realm (ASEAN) and the security realm (the SCO) in order to gain influence in a non-threatening fashion while working with regional allies.

– This topic certainly merits more in-depth study and research in a future article.

3) China’s Ultimate View of the International Trading System

– What are China’s long term goals? Its suggestion that the dollar be replaced as a global reserve currency may indicate a desire for China to assume economic leadership, but when will that be feasible? And what sort of leadership will China take? Will they be promoters of free trade- China has signed many bilateral free trade agreements (See China Comment’s Article), or will they be less ideological, and more realist in their plans- not pushing any philosophical strategy save that of friendship with China?

Conclusion

China does not seem to have yet taken leadership in inventing a workable global trade structure, one that is harmonious for all, or even one that is China-centric. When will the confidence to create and propose such a system come? Reflecting on China’s financial philosophy, and comparing that to the invention of Western financial philosophy- it seems that ideas for world financial structure are implemented only in times of great crisis or upheaval; Post Cold War-WTO, Post WWII-Bretton Woods (which had concepts germinated during the Great Depression and WWII), Great Depression Keynesianism (which had concepts germinated after World War I and in the early years of the Great Depression), and that the ideas which eventually shape the system originate from the “great power” at the time.

It could be a chicken and the egg problem of whether economic leadership causes a country to become a great power or if only great powers can take economic leadership, but even if China has decided to avoid its chance to grab world economic leadership during the current crisis as Prof. Bhala indicates, I believe that China and its academics are consolidating ideas and preparing themselves for the next worldwide military crisis, or are awaiting the next cyclical economic crisis (c. ~2012-2015) to grab its next opportunity. And when that opportunity arises, much of the thoughts germinated by Chinese academics during this current crisis may very well become world policy.

Note: It would be useful to conduct a literature review of Chinese academic writings on world financial markets. Since time for that project currently eludes me, I will point a link here to Michael Pettis’ wonderful site on China’s Financial Markets. The Jamestown Foundation may also occasionally have some information on what China’s academics are currently thinking.

1 June, 2009 Posted by | China Economy | , , , , , , | 1 Comment

The US Government and China’s Currency

From February 26th through the 27th I attended a symposium at the University of Texas in Austin, TX on China’s Emergence: Effects on Trade, Investment, and Regulatory Law.

Here are some thoughts on the more notable issues raised at the symposium:

Timothy Reif, the incoming General Counsel of the Office of the US Trade Representative, spoke as a private citizen to open the event as its keynote speaker. He expressed a desire for China to “stop manipulating” its currency and to move on currency reevaluation. Currently, China’s currency trades in a limited range of .5 percent daily against the dollar (up from .3 percent daily pre-2007).

Responding to a question, Reif acknowledged that China’s economy and the world’s economy would need time to adjust to a freely-floating regime. He suggested that China might not be prepared to freely float the RMB until perhaps 5-10 years in the future. Still, Reif speculated that if the Obama administration did not push China to take some actions toward reevaluating its currency, then the United States Congress may take aggressive action against China.

Reif’s speculation may be based on fears grounded on prior Senate actions directed against China’s currency valuation. (The following paragraph’s information is supplemental. The issues were alluded to, but not discussed in depth. The summary is provided for readers’ reference.)

In 2005, Senator Schumer introduced a bill in the Senate, S.295, that would impose an additional duty of 27.5 percent on “Chinese goods imported into the United States unless the President submits a certification to Congress that the People’s Republic of China (PRC) is no longer manipulating the rate of exchange and is complying with accepted market-based trading policies.” (Thomas.Loc.Gov) That bill was not put to a vote and, even if passed, would have been non-compliant with WTO standards. However, in 2006 and 2007, Schumer and others in the Senate tried again with a bill believed to be WTO-compliant. That bill was the Currency Exchange Rate Oversight Reform Act of 2007, which was placed on the Senate legislative calendar after passing the Senate Finance committee with a 20-1 vote; but the bill ultimately did not come to a floor vote.

Ultimately, Reif did not indicate support for China to take any particular policy. He expressed no opinion on support for a wider managed band in which the currency could trade, nor for increased disclosure on which currencies are included in China’s market basket. His believes it is imperative that China’s currency appreciate, but at the time and in this venue he could not comment on exactly how the appreciation should be managed.

The most interesting question raised by Reif’s talk was to what degree will US President Obama and the Congress push against China to appreciate its currency during this economic downturn that is negatively affecting both countries. His comments seem to reflect that if America’s economy fails to improve, then domestic pressure will encourage Obama and/or Congress to take significant action to counter “imbalances” caused by China’s currency policy.

(Part III will include commentary on presentations from Raj Bhala (Law Professor at the University of Kansas), and John Greenwald (International Trade Lawyer).

9 March, 2009 Posted by | China Economy | , , , , , , | 1 Comment

Subsidies and Trade Liberalization

From February 26th through the 27th I attended a symposium at the University of Texas in Austin, TX on China’s Emergence: Effects on Trade, Investment, and Regulatory Law.

Here are some thoughts on the more notable issues raised at the symposium:

Trade Imbalances, Subsidies, and the Market Distortion of Prices

Scott McBride of the US Dept. of Commerce, speaking as a private citizen, discussed countervaling duties, world poverty, and market distortions (my terms, not his) that contribute to inflate the real prices of goods. This particular point was only a small portion of his talk on the “US Government’s Recent Responses to China’s Enforcement Problems and Countervailable Programs.”

McBride claimed that one reason for American subsidization of farmers in the cotton industry is in order to combat cheap Chinese cotton. However, although US subsidies are aimed at protecting American farmers from subsidized Chinese cotton imports, the subsidies also hurt the four major C-4 African cotton manufacturing countries (Mali, Benin, Chad, Burkina Faso). These African countries lack the resources to subsidize their crops, or to increase their crops’ efficiency. Although African cotton would be relatively competitive in a trade-barrier-less world, it cannot hope to contend with cotton-subsidizing American policies, and a China that supports its cotton industry and has a relatively weak currency. He went on to state that the US’s position is generally that it will not drop its subsidies until China drops its support for its domestic cotton industry.

Extra research by China Comment revealed that the United States is also bargaining for enhanced market access to developing countries’ markets before it will significantly drop its cotton subsidies (AllAfrica, October 2008).

According to a source cited in a CRS report (Congressional Research Services), “cotton producers in developing countries (not just Africa) face annual losses of about $9.5 billion as a result of subsidies… the United States provides the largest amount of subsidies to its cotton producers, which it estimated at $2.3 billion in 2001/2002. Other countries’ subsidies in 2001/02 included China ($1.2 billion), European Union (EU) countries Greece and Spain ($716 million), Turkey ($59 million), Brazil ($50 million), and Egypt ($29 million).” (CRS). “Washington has paid out $2 billion (1 billion pounds) to $4 billion a year in subsidies in recent years to the 25,000 U.S. cotton farmers who export 80 percent of their output and account for 40 percent of cotton traded internationally around the world.” (Reuters; July 24, 2008 / See Also The Guardian; July 2003)

The Point:

(1) American subsidy policies that are aimed to combat unfair trade advantages gained by one country often have a double-effect that causes repercussions in (arguably innocent) third-party countries. (This is something to keep in mind when well-meaning NGOs suggest sending aid to Africa. Sometimes, the better policy may be to drop trade barriers first. Still, the African countries often wish to keep their own restrictive trade barriers.)

(2) The more America or China subsidizes their agricultural industries, the more other countries begin to subsidize their agricultural industries. These subsidy policies lead to a market-distorting situation similar to that suffered by the debt-fueled American mortgage-industry boom. Ultimately, the policy benefits no one except subsidy-receiving farmers. Meanwhile, national debts rise to unsustainable proportions.

In the interests of increased efficiency, China Comment supports trade liberalization and progress such as that imagined by the WTO’s heretofore disappointing Doha round. (A full discussion of exactly what details of trade liberalization would be fairest is far beyond the scope of this article. Even full-time economists and government negotiators have difficulty getting their minds around all the nuances of the Doha round in order to craft a compromise. Perhaps that is why Doha has been so much of a disappointment.)

(Part II will include commentary on presentations from Raj Bhala (Law Professor at the University of Kansas), and John Greenwald (International Trade Lawyer).

2 March, 2009 Posted by | China and Africa, China Economy | , , , , , , | Leave a comment

Fighting Corruption

Chinese national banks’ regional and provincial branches are audited by the state, and many state employees consider anti-corruption missions quite seriously. But to some degree, Chinese companies suffer from significant systemic corruption.

A Chinese friend served an internship over the Summer with the financial auditing arm of a provincial government. She worked on a team investigating a Shaanxi branch of a national Chinese bank’s accounting books. The team found several irregularities in the numbers, and they reported to their supervisor, who confronted the bank’s director.

The director offered to take the team to dinner and discuss the matter. He offered to pick up the check. My friend’s superior accepted and they ate, drank and discussed. The director argued that the misplaced amounts were inconsequential, somewhere around 7000 USD. He tried to convince the team to overlook the transgression in return for “help” and “benefits.”

The superior declined and the bank was fined. The director kept his job since the amount misplaced was only a “mistake” and the bank director was a “good man” who had long served. China’s system of friendship among bank officials almost guaranteed that unless the crime was disproportionately large, little negative attention would be fostered on the wayward director.

When asked what she felt about this situation, my friend seemed nonchalant. She stated it was common for bank owners to embezzle but she still admired her superior for being so “driven” in achieving his objective. She said most supervisors would probably have taken a bribe. Afterward, her team discussed the tragic situation whereby bribery and corruption are considered the status quo. They recalled their supervisor’s lament that although he always tried to quash corruption, his plans were often flummoxed. He annoyed too many in his bureau due to a “righteous” mentality, and was overlooked for promotions. He feared he could never move to a provincial-wide managerial position. Instead, for his efforts, he was stuck at a mid-level job, where he could be overruled if political considerations superseded a need for economic honesty.

China disciplined 115,000 Party members for corruption in 2005, and has dealt with an “average of 130,000-190,000 Party members each year for various types of misdeeds and crimes since the early 1980s,” according to Minxin Pei of the Carnegie Endowment for International Peace. For various reasons, “24,000 of the Party’s 68 million members” were expelled from the Party in 2005, according to Edward Cody of the Washington Post.

The country could have grown even faster without the stultifying effects of late-1990s corruption. According to Chinese economist Hu Angang, cited by Will Hutton in The Writing on the Wall, the annual cost of corruption “is between 13.3% and 16.9% of China’s [potential] GDP.” Admittedly, that number is difficult to believe and I would like to see it backed up by another independent evaluation. Still, when confronting the anecdotal evidence and the recent Gome and real estate scandals, it is not too difficult to perceive millions of RMB flowing where it should not.

My friend’s view of corruption is a common one, and she could not say she would refuse a bribe if it had been offered to her. The bank director was a powerful man and held lots of influence. Without protection, she may not dare confront such a man. She admired her heroic supervisor, but wondered whether she could emulate his courage.

Positively, the number of prosecuted corruption cases has risen in recent years. But negatively, many former Party and government members have “jumped into the sea” of business, and used government connections to flout laws, “grease wheels,” and avoid bureaucratic regulations.

Without a reevaluation and a recognition that everyone is equal under the law and none are more “equal than others,” people like my friend will hesitate in acting honorably and working against corruption. Eventually, they might do the right thing and oppose corruption, but without a change in its culture of privilege, China could face a very stormy and increasingly corruption-filled coming decade.

Links and Final Comment

Pei: http://www.carnegieendowment.org/files/pb55_pei_china_corruption_final.pdf

Cody: http://www.washingtonpost.com/wp-dyn/content/article/2006/02/14/AR2006021400672.html

It is far beyond the scope of this article to evaluate various countries’ approaches to fighting corruption. Corruption seems to be present everywhere in the world. Every few years the United States suffers something along the lines of an Enron, a Tyco, or a Bernard Madoff scandal; Germany suffers a Siemens scandal, Korea suffers a Samsung scandal, and so it goes ad. infinitum.

Note: This article was originally written in January 2008, and was recently updated.

2 February, 2009 Posted by | China Business, China Economy, China Future | , , , | Leave a comment

China Growth Is Just About Right (合适)

11/27/2008 Update Notice:

China Comment plans to return to its regular schedule of 1-2 articles a week in mid-December. Currently, in my free time, I am catching up on some China-related academic reading material. If you have suggestions of particularly insightful recently published Journal articles to peruse, I would much appreciate the advice. Thank you for reading.

—–

I agree China will only see 8-9% growth in 2009, which is less than its previous trend of double-digit economic growth; however, this slowdown will not be disastrous- in fact, it may be beneficial. Only a few months ago analysts complained how China was growing too fast, how inflation was hurting the economy, and how high commodity prices were thrashing China’s consumers, and how the government’s artificially cheap energy market was crippling China’s energy industry.

Now, commodity prices have descended, along with $65 and lower/barrel oil. And that is highly beneficial for China. If prices for steel, coal, and other commodities remained at their Summer levels, China’s prospects for stability and growth would greatly diminish. However, if in June China could be projected to grow nearly 10% y/oy despite $100+/barrel oil, it makes sense that the country- which is rapidly developing its domestic market, can readily afford domestic investments such as those included in China’s $586 billion “stimulus” plan.

China needed this decline in commodity prices, and easing demand to allow its infrastructure to catch up to its growth. On November 14th, State Grid Corp. said “it will invest an extra 2.7 billion yuan ($400 million) to expand power grids,” (IHT), which is a welcome upgrade since over the Summer, China experienced troubling shortfalls in power distribution and production. And when the infrastructure is there to improve transportation efficiency, China’s economy will be humming again with double digit growth.

In 2006, Business Week laid out the case that “An economy growing in the 8 percent to 9 percent range would be ideal,” and China’s 2008 growth target was 8 percent, “following last year’s sizzling 11.9 percent expansion.” (China Daily, June 19, 2008). Growth at that range is more sustainable for China and can prevent the country from building out too much over-capacity. In fact, the world-wide economic downturn may ultimately benefit China. If the country’s weakest-managed companies consolidate, and if the over-capacity is not too enormous (Which it very well may be in the shipping industry.) there is a chance that Chinese companies will emerge from the downturn better managed and better equipped to compete on a global scale, like Haier and Galanz did before and emerged as national champions (also; Made In China, Donald Sull).

Larger Companies… But Many Are Larger “State”-Owned Companies. (Perhaps A Problem)

An alternative view points out that the downturn has led to larger, and perhaps stronger state owned corporations at the expense of privately held ones.

Some larger state mergers, both first announced in June but only recently completed, include:

(1) Sinotrans CSC Group, combining China’s largest logistics (state-owned) and largest river shipping company (state-owned) [so much for the anti-monopoly law.] Apparently, “The merger of the two state-owned groups is a move to consolidate fragmented state-owned groups into fewer, more efficient and focused entities which can deploy their resources for developing identified business areas.” After the merger, Sinotrans CSC will become “the country’s second largest shipping and logistics conglomerate, just trailing COSCO Group.”* (See Below)

(2) Two state aircraft makers also merged.

(3) On October 27, “China Huaneng Group, one of the country’s largest power generating firms, bought a 40 percent stake in Huating Coal Group, the top coal mining company in the northwestern province of Gansu.” Laiwu Steel Corp.  and Jinan Iron and Steel Co. agreed to merge to form China’s second largest iron and steel group in February (Reuters and China Daily)

(4) On November 6th Rizhao Iron and Steel, one of China’s largest private-sector steel mills, “signed an agreement to consolidate with a state-owned rival.” (Reuters). Rizhao’s yearly output is 8 million tons of steel (CER); comparatively, the state giant Baosteel, which is being strengthened by the Central Government and is aggressively merging and acquiring assets, produced “28 million tons” in 2007 and hopes to raise its capacity to 80m tons by 2012 (FT, Nov 6, 2008). In consideration of the Laiwu and Baosteel mergers, it will be difficult for private manufacturers to grow fast enough to compete.

Jobs? Production? Trade?

The Canton trade fair was sparsely attended; and some workers’ wages have been cut in half, which will at best constrain spending and prevent China’s domestic economy from picking up the slack in growth from its export sector. At worst, this could lead to stability challenges and tax revolts as workers are laid off, then return to the provinces after find it increasingly difficult to gain and hold jobs.

Conclusion: A Strong China

Although China faces some challenges, the ameliorating effects of lower commodity prices, slowing inflation, economic reform, slash of lending rates from 6.93% to 6.66%, and some pro-export government growth policies such as “increasing tax rebates “on 3,770 export items, or 27.9 percent of all products shipped by China. [by December]” will continue to sustain China’s growing success.

Side Note on Western Manufacturing:

China’s tax rebates on export items, which were recently phased out, but which have now returned, may become a challenging issue in Europe and America, since the rebates will, along with alleged “currency manipulation,” undercut Western manufacturers’ prices. Coupled with cheaper oil and transportation costs, this will lead to a big discount and growth opportunity for Chinese exporters.

In response, Western countries may turn more protectionist, or else (barring a rise in energy or transportation costs from China), there will be another round of Western manufacturing demise.

Additional Information

* “Sinotrans posted operating revenue of RMB 57.7 billion in 2007, and aims to boost the figure to somewhere between RMB 80 billion and RMB 100 billion by 2010. Changjiang National Shipping focuses on river shipping. It has total assets of RMB 41.2 billion and a staff of 70,000, as of end 2007.” (SeaTrade Asia Online).

17 November, 2008 Posted by | China Economy, China Future | , , , , | 1 Comment

Bandwagoning About China’s Economy

In the wake of the global economic downturn, China’s economy is growing slower; “only” 9 to 9.9% on the year (Reuters), and perhaps expanding at 8 to 9% in 2009 (China Daily, 11/8/08). Some experts warn that China needs to grow between 6 to 8% to ensure stability and sufficient employment for newly-emerging workers. These worries led to a spate of articles spouting warnings about China’s 2009 economic prospects. Announcement of China’s “financial stimulus” package led to a brief hope-driven turnaround in investor opinion, but China alone cannot lead worldwide economic recovery (other analysts agree). Still, China’s economic composition allows it to weather this recession quite well.

The mass media seems at times to get into “bandwagons” of “fad” commentary that lose sight of the big picture behind issues. For purposes of perspective, I present a cautionary review of some now-ironic predictions and “dire warnings” that were made from November 2007 until today.

(Later, I hope to present a case for what circumstances will allow for continued Chinese economic viability.)

Inflation versus Deflation.

There always seems to be another crisis looming, and yet, China sustains its economic growth. This summer, China was buffeted by increasing energy prices, which contributed to rising prices for food and other commodities. Now, China has seen six consecutive months of declines in its inflation rate and China fears deflation may arrive around February 2009 (The Guardian). China last dealt with deflation in 2002, shortly after China joined the WTO (in late 2001); interestingly, that deflationary experience was similarly precipitated by domestic overcapacity.

Remember back in March 2008 when “Premier Wen Jiabao said tackling inflation was ‘the biggest concern of the people'”, and the BBC commented that “[t]his is a serious concern for the government, which fears higher food prices could trigger social unrest.” (BBC, March 11, 2008).

Deflation may harm China’s growth, but it may also correct a near-overheated inflationary market that was otherwise in danger of bursting. In 2002 the Hong Kong General Chamber of Commerce warned of deflation, but also noted its benefits (I emphasized the most pertinent part); “[a]lthough deflation can give consumers greater spending power, it ultimately gives way to weaker demand as consumer confidence begins to erode [because prices keep falling]… On the flip side, deflation can help increase consumers’ spending power, raise the standard of living of China’s poorer residents, and weed out weaker companies…Mild deflation in China has so far kept the economy from going into recession, and the economy has enjoyed steady growth for the whole of 2002.”

Both inflation and deflation can harm economies, given other surrounding factors, but when making “bets” on China’s future, this current situation should serve as a reminder to draft out a long term plan. In February and March, headline articles appeared not to see this slowdown coming. Instead, they were concerned that inflation driven by rising commodity prices would lead to rising prices for exported Chinese goods, and dire domestic consequences.

A Basically Strong China Supports the World versus A Structurally Weak China Burdens the World.

Just four months ago, Albert Keidel’s piece on China’s coming economic rise was touted as a harbinger of a Chinese Century of overpowering strength. Although people who study China know China currently lacks the economic heft to single-handedly support the world economy, TV newscasters, the BBC, and others complained about how China’s demand was either the main or a significant factor for driving up oil prices. Although China’s rising demand certainly contributed to some of the climb to $150/barrel oil, no one country’s sole future expected supply and demand caused oil’s massive price fluctuations from $60 to $150.

Importantly, China’s decreases in demand for certain commodities came after American consumers cut back on their mileage driven and energy utilized (June 2008 saw the biggest decline in US oil utilization in 17 years). In China, however, imported oil demand was up 17.3 percent in the first five months of 2008 [and was up 3 percent in June] despite prices rising 66.9 percent over the previous year (Xinhua, June 2008). China’s imported oil demand decreased 7 percent in July, but then gained 11.5 percent in August, according to Bloomberg.

Additionally, bulls who bet that oil would become scarce and that demand would remain high were confronted with Western public policy pushes toward financing and supporting recovery of additional energy sources.

When considering China’s current affect on the world, it is important to remember that although China is growing, “China accounts for no more than 11% of global GDP, against 21% for the U.S, on a purchasing power parity basis.  [5% for China and 28% on non-PPP numbers] Its domestic market is only one-eighth of the size of the U.S.’s at $1.2 trillion (2007 consumption). (Forbes). China can be a guiding factor, one of many in the growth of the world economy, so its domestic policies will likely neither harm, nor hurt the global economy much more than Japanese domestic economic policies (which admittedly is no small effect). But China alone cannot shake the world… yet.

Bonus

* A paper delivered at the Peterson Institute on April 3, 2008 argues that to combat inflation “the world economy really needs what is now forecast for 2008/2009: a significant slowing of economic growth.” It’s good to remember that some people thought this recession could help the economy avoid a larger future financial disaster. Could America’s economic implosion actually have saved China from its own domestic inflationary and energy-price-driven meltdown? It is an interesting point to consider.

To avoid over-capacity, economies need to grow at measured rates. 20 years of growth at 6% is arguably better than 5 years at 10%, 2 years at 5%, then 4 years at 9%, then 3 years at 4% since steady growth rates guarantee a modicum of both stability and job security.

* To allow another view to express itself; perhaps China caused part of the fluctuation in demand for some commodities. J. Christoph Amberger at Seeking Alpha warned in April 2008 that slowing growth in textile and light industry export toward Western countries would contribute to Chinese economic weakness post-Olympics.

12 November, 2008 Posted by | China Economy, China Future | , , , | Leave a comment

The Future of China Quality

“According to the Xinhua news agency, in the first seven months of this year, 3631 small scale enterprises producing toys mainly for the US market have closed down due to a decline in the demand for China-made toys from the US. These enterprises… constituted 52.7 per cent of all toy-making companies in China— Source “South China Morning Post” and AFP.” (South Asia Analysis Group)

China’s 2007 lead toy scandal, its 2007 diethleyne glycol poisoning scandal, and its melamine in milk scandal all highlight problems of accountability in China’s sourcing system, as well as the dangers of unsupervised small (and often-times unbranded and therefore often unaccountable) producers whose goods are purchased by players higher up the value chain.

The fallout from these negative news stories might have some chance of encouraging greater CSR (Corporate Social Responsibility) in the industries affected, but in a decelerating economy, it seems unlikely that Chinese companies will choose increased quality and differentiation practices rather than cost-focused strategies.

However, if the companies do have cash, they might see benefits in investing in something other than labor which has become more protected and expensive due to China’s 2008 Labor Law. Supply-chain management, RFID tagging, and greater computerization and modernization of systems can do much to raise accountability that retailers, such as Wal-Mart are increasingly demanding.

What does China Need to Ensure Quality?

* “No law places clear responsibility on food enterprises for the production of safe products,” according to a UN Report (AP, Oct 08). “[R]esponsibility for food and drug safety [as of 2007] involve[d] as many as 17 government agencies, ranging from the Ministry of Health, which sets hygienic standards, to the Public Security Bureau, which has power to investigate criminal cases” (NYT, July 07).

* Stronger oversight and more accountable expert-overseers. Increased cadre-responsibility.

* Allowing less restricted news reporting on real scandals. Permit people to spread information in an uncensored way about which foods are damaged and which are not.

* China could benefit from better tort laws that allow people to directly sue companies for damages. This will reduce the likelihood that a “big brother” government bureaucrat protects and enables some exploitative factory owners who are good friends of people in the overseeing administrative agencies (See Note 1).

* Consolidation in factories and in agriculture. The new Farm Land-Use Law might encourage and promote this chance for Chinese producers to move along the value curve and achieve greater economies of scale. The average Chinese farm has less than two acres (WSJ), and in total there are about 200 million farms (NYT). “China [also] has around 450,000 registered enterprises engaged in food production and processing but most — about 350,000 — employ just 10 people or fewer.” (AP and NYT).

* Greater business investment in technology and modern agricultural and manufacturing practices. The big players, the Lenovos, Haiers, Galanzes, etc. already recognized the value of modernity. It’s time other less-modern economic sectors caught up.

Mixed Results With A Slowing Economy

China’s economic growth is slowing to around 9-9.5% this year, and its economy may only grow at 8.5% next year; however, if it can achieve that growth, the country will continue to have vibrant industries. The more efficient and better capitalized export manufacturers will survive in a low-priced commodity world (less than $100 oil) since the China Price continues to be relatively low despite imposition of new labor and environmental laws.

Will the better capitalized and managed export manufacturers take this downturn as a chance to invest in capital improvements to increase quality and efficiency? Will they drive down costs not by racing to the bottom and paying workers less, but by hiring fewer workers and improving the manufacturing process?

Sometimes there is great pressure for companies, especially state owned companies to value employment over efficiency. However, the January 2008 labor law, which makes it more difficult to lay off workers, may encourage companies to draft strategic plans based around equipment rather than manpower.

It is difficult to generalize about the overall Chinese manufacturing economy, but previously when market forces encouraged chaff to be weeded due to oversupply, as documented in Donald Sull’s excellent book “Made in China,” more quality-conscious manufacturers emerged.

Sull described how the white goods giants Haier and Galanz emerged from a crowded field of hundreds of low-quality manufacturers back in the 1980s and early 1990s. Both decided their product strategy would be differentiation. They made higher-end, defect-free goods and improved their production processes.

Through investment and consolidation with some well-positioned competitors during supply-glut-driven downturns, both companies gained success and dominated their markets. The lesson learned by them, and taught to other Chinese entrepreneurs through books and lectures is clear; quality sells, and accountability and branding ultimately leads to greater success than anonymity and “selfish-off-the-books, off-the-records and under-the-table economic safety”.

Quality appears to be the route to success for Chinese businesses. China Journal pointed out on Oct. 27th that “in marked contrast to the firm’s survey of American consumers, who ranked price as a top concern, Chinese consumers place greater emphasis on service,” perhaps because they have been “burned” too many times before by faulty merchandise. American consumers can afford to value price over quality because American goods (arguably) are safe if they are sold– in China that is not always the case. With discretionary income comes greater sophistication and value of “quality” over “cheapness.”

While in China (before the melamine issue blew up), I attended a lecture and spoke with Xu Erming, a deputy dean at Renmin in which he discussed  Chinese dairy manufacturing, consolidation, and improvement of quality milking procedures. Despite the recent scandals, it is important to realize that milk’s quality and quantity ballooned exponentially since the late 1990s when cows were not even healthy enough to be milked en-masse. Product pipeline oversight today is much better than even five years ago. With time, consolidation, investment in capital expenditures for tracking the product, and increasing sophistication (agricultural and business-wise), China’s industries will increasingly see quality improvements.

Successful Chinese industries will move down the path of accountability simply to survive as labor costs increase. The “easy” and “dumb” money in China has already been made; real Chinese entrepreneurs realize the need for quality and will increasingly work toward increasing it.

Are Western Companies Also At Fault?

Blame for poor quality does not rest on Chinese manufacturers alone, so it is important to examine more globalized trends that can help China’s product quality improve. As foreign purchasers realize they need to spend more money to get quality in order to avoid recalls and negative publicity, they will create a system (as Wal-Mart has) where they do not encourage producers to indiscriminately cut costs.

Or, poor quality toy makers will depart for elsewhere in Southeast Asia where labor regulations may not be as stringent. Still, it is likely many toy manufacturers will remain in China since elsewhere there are more severe difficulties in stability, resources, economies of scale, and  infrastructure.

Conclusion

Quality in China’s industries depends on foreign companies’ oversight as well as internal regulatory measures. Scandals hopefully will result in less cost-cutting since few companies want the negative publicity and customer shyness that accompanies scandals.

The ultimate future of China’s quality is murky. A sudden policy turnaround favoring uncensored news reporting seems unlikely, and development of class-action tort damages is even less likely since to allow mass lawsuits would be much too similar to Beijing tacitly approving “mass incidents” which challenge the government’s legitimacy.

However, consolidation of industries, self-regulation by foreign purchasers, and greater funding and improvement of government regulation does seem likely in the next one to two years.

Ultimately, systemic problems affecting Chinese quality will continue to plague certain low-margin parts of China’s industries, but China appears to be taking practical steps to resolving shortfalls in its quality-control systems.

Extra

Note 1:  I agree that the “Chinese” solution of the government doling out compensation can rectify some damage. However, if the “Chinese characteristics” of a society are to be respected at the same time Justice is ensured, the government needs to rectify bureaucracies and hold people accountable to encourage others to proactively comply with regulations.

Mere ex-post administrative oversight may catch some culprits, but could just as easily protect other culprits who have better connections, better guanxi, better friends in the regulatory system.

Additionally, bringing government-pursued cases into the sunshine of public oversight will do much to ensure that the Chinese people can see justice is being pursued and that the Party truly cares about their interests.

27 October, 2008 Posted by | China Economy, China Environment/Health, China Law | , , , , , , | Leave a comment

What is Happening With China’s Economy?

Nuances and questions abound in discussion of China’s economy and where it is headed. Is it due for a fall? Will exports decline? What about currency reevaluation? What about inflation?

Here, I collect and comment on some recent numbers and articles dealing with China’s economic situation: 

Useful Numbers

Budget Surplus
“China’s budget surplus for 2008, to July 31, was more than $200 billion, up by 33 per cent year on year in the first half” (Callick, The Australian).

Consumer Spending / Domestic Consumption
“Retail sales, the main measure of Chinese consumer spending, grew by 23.2% year on year in August, slightly less than July’s 23.3% but substantially better than last August’s 17.1%” (Pettis).

Retail sales rose to $128.1 billion in August (Oliver). Interestingly, the Olympics did not appear to provide much of a “bump” in August retail sales.

This leads me to conclude that although industrial construction might rise post-Olympics, consumer spending will likely actually decrease for September as “belts tighten” and reasons for splurging diminish. Although more employees will be “back on the job,” they will not necessarily have extra discretionary income to spend. By October or November, the “Olympic bump” of disruption should cease affecting China’s consumer spending numbers, and it is wholly possible that they will trend downward.

Economic Growth
In its Asian Development Outlook 2008 Update, the Asian Development Bank “anticipated China’s gross domestic product (GDP) would grow 10 percent this year, consistent with its April forecast. However, it lowered China’s 2009 predicted growth rate from 9.8 to 9.5 percent… In the first half of this year, the nation’s GDP expanded 10.4 percent, 1.8 percentage points slower than the same period last year” (China Daily).

“Official loan growth, if adjusted to strip out the effects of inflation, expanded a modest 4% in August, according to Standard Chartered estimates” (Oliver).

“Effective Tuesday [September 16], the People’s Bank of China lowered by 0.27 percent, to 7.2 percent, the regulated benchmark rate that commercial banks may charge for one-year loans to business borrowers with strong credit histories… The central bank also lowered by a full percentage point the share of assets that small and medium-size banks must deposit as reserves with the central bank, effective Sept. 25. The so-called reserve requirement ratio is an important tool in China for limiting how much money can be lent by commercial banks” (New York Times).

Export Growth
“Export growth also slowed, to 21.1% year on year in August from 26.9% in July. That left the trade surplus for August at a record $28.7 billion – a number which will help ensure that China’s money supply will continue expanding sharply in August” (Pettis).

“If the “Chinese content” of China’s goods export sector is around 50% (Vox), goods exports account for between 17 and 18% of China’s GDP. Exports of goods and services account for about 12% of US GDP” (Setser.)

Setser’s numbers imply China is susceptible to a global downturn and decline in its export sector. To offset a decline in national growth, domestic spending will need to rise significantly if export demand suddenly drops off. Between rising oil prices, costs of doing business in China, and a developing worldwide economic malaise, it appears China will see some significant declines in export growth from September through October.

FDI Into China
“Foreign direct investment into China rose 41.6 percent in the first eight months of the year compared with the same period last year, Beijing said.

“Overseas companies invested 67.7 billion dollars in the period from January to August, the commerce ministry said in a brief statement on its website” (AFP).

This is an intriguing trend, when contrasted against a couple of alarmist mainstream media articles discussing business flight from China to elsewhere. (At the time of those discussions, China Law Blog, myself, and Business Week among others, notably demurred.)

Import Growth
“Imports grew last month at a 23.1% in August, down sharply from 33.7% in July” (Pettis).

Post-Olympics, Import growth is likely to resume as demand for internationally-acquired resources used in construction will increase.

Industrial Growth
“Industrial output grew by 12.8% year on year in August, versus 14.7% in July, and 17.5% last August. There was weakness in almost every sector, with iron and automobile production actually contracting versus one year ago” (Pettis).

“China’s industrial production expanded at its weakest pace in six years in August, reflecting factory shutdowns for the Olympics and cooling overseas demand for consumer goods … Merrill Lynch estimates the factory shutdowns, combined weaker demand for steel, cement other materials resulting from the construction freeze, knocked 2.5 percentage points off headline growth. [They] expect a post-Olympic rebound in industrial production growth [based] on both pent-up demand and the post-quake reconstruction.” (Oliver, MarketWatch).

Inflation
“CPI inflation for August, was surprisingly good, coming in at 4.9% year on year, which is well below July’s 6.3% and also well below market expectations of around 5.5%. The decline in CPI inflation was driven mostly by declining prices in pork and vegetable oil… All the decline in CPI occurred in the food sector – non food inflation was steady at 2.1%.” (Pettis).

“The [Asian Development Bank] bank also lifts its inflation projection for next year to 5.5 percent from [an April estimate of] 5 percent… citing possible price hikes of fuel and electricity, which may lead to higher production costs being passed onto consumers” (China Daily).

Monetary Policy
“Commenting on the moves, Zhuang Jian, senior economist at the ADB, said the rate cuts indicate the government’s tightening monetary policy is beginning to relax. He also expected more loosening policies to come either later this year or in 2009 in order to ensure the sustainable growth of the economy” (China Daily).

RMB Reevaluation and China’s Foreign Investments
“From June 2007 to June 2008, the foreign assets of China’s central bank increased by $681b” (Setser).

“If China’s total foreign holdings rise to $3 trillion by the end of 2009—an increase that is consistent with China’s current pace of foreign asset accumulation—a 33 percent RMB appreciation against the dollar and euro would produce a $1 trillion financial loss” (Setser, 30).

Value-Added To Exports & Results for Currency Reevaluation
According to a new way of evaluating value-added to products; “the share of foreign value added in Chinese manufactured exports is at about 50%… which is much lower than most other countries. This implies that a given exchange rate appreciation is likely to have a smaller effect on China’s trade surplus than for other countries. The domestic content share is particularly low in sectors that are likely to be labelled as sophisticated, such as electronic devices and telecommunication equipments. This means the competitive pressure China’s exports place on skilled workers in high-income countries is smaller than suggested by a simple-minded look at the raw trade data.” (Vox) (These assertions are well worth a detailed examination at a later time.)

Useful Information

Are Asian Central Banks Still Behind the Inflation Curve?
Arpitha Bykere and Mikka Pineda, Asia EconoMonitor
An Overview of Asian Monetary Policy, with tables, charts, and analysis.

CPI inflation was unexpectedly low, the trade surplus unexpectedly high
Michael Pettis, China Financial Marekts
Something is odd regarding China’s recent inflation numbers, Professor Michael Pettis (of Beida) argues.

How much of Chinese exports is really made in China?
Robert B. Koopman, Zhi Wang, Shang-Jin Wei
A new formula calculates the value-added content of China’s export-manufacturing. It finds the domestic value-added content to be 50%.

Fire and Ice
Michael Pettis, China Financial Markets
China’s falling stock market, declining increases in industrial production, and future economic challenges.

As Economy Slows, China Eases Monetary Policy
Keith Bradsher, The New York Times
An overview of China’s latest monetary policy developments.

22 September, 2008 Posted by | China Economy, China Future | , , , , | 1 Comment

China’s Free Trade

The Capitalistic country controlled by a Communist Party has free trade agreements with at least nine countries. Below, I give an updated view on current and potential trade agreements.

A more in-depth analysis of cost-benefits of said agreements will have to wait until a later post. If you can’t wait, check out W. McKibbin and Tingsong Jiang and the Brooking’s Institution who did a good study of the impact of current and future trade agreements. Their article was a basis for this one.

ASEAN
* Agreement on goods signed on 29 November 2004 for implementation in Jan 2005;
* Agreement on services signed in 14 January 2007 for implementation in July 2007;
* Agreement on investment under negotiation (McKibbin and Jiang believe this may be concluded by 2010. 10.) However, a more recent article (August 27, 2008) postulates the agreement may be signed as early as December 2008. 
* Phase-Out period for normal items ends for China and original ASEAN countries by 2010.
* Phase-Out period for sensitive items ends for China and original ASEAN countries by 2013.
* Phase-Out period for normal items ends for the newer ASEAN members (Cambodia, Laos, Myanmar, Vietnam.) by 2015.
* Phase-Out period for sensitive items ends for the newer ASEAN members (CLMV) by 2020.

* “According to ASEAN statistics, the trade value between the ASEAN and China increased from 59.6 billion U.S. dollars in 2003 to 171.1 billion U.S. dollars in 2007, growing at an annual rate of 30 percent” (Source).

Australia Under Negotiation
* The tenth round of negotiations was held on 22-26 October 2007.

Chile
* Agreement on goods was signed on 18 November 2005 “immediately removing all tariffs on 92 percent of Chile’s exports.”
* Agreement on services signed on April 13, 2008.
* Agreement on services goes into effect on January 1, 2009.
* “[B]ilateral trade soared 65 percent year on year to 14.7 billion U.S. dollars in 2007, up from the 23.9 annual growth of 2006. Last year, Chilean exports to China surged 79 percent to 10.3 billion U.S. dollars, boosted by copper and grape wine trade. Meanwhile, Chinese exports to Chile jumped 42 percent to 4.4 billion U.S. dollars with strong growth in computers and communications technology, electronic products and automobiles” (Xinhua).

East Asian Free Trade Area (of ASEAN+China, Japan, Korea) Under Negotiation
* The Brookings report believes this may be concluded for goods by 2015. 11.
* A services agreement may follow in 2017.
* An investments agreement may follow in 2020.

FTAAP (Free Trade Area of the Asia Pacific) Under Negotiation
* The Brookings Report (11) believes that this may happen for goods by 2025.
* Services by 2027
* Investments by 2030.

Gulf Cooperation Council Under Negotiation
* The third round of negotiations was held on 17-18 January 2006.
* A fourth negotiation meeting was held on 19-22 July 2006.

Iceland Under Negotiation
* A third round of negotiations was held on 17-18 October 2007.
* Fourth round: March 2008

New Zealand
* Agreement was signed on 7 April 2008. [Two-way trade between China and New Zealand currently is worth more than $6.1 billion a year, with Chinese exports making up about 75 percent. (IHT)]
* On October 1st, 2008 “tariffs on New Zealand’s exports to China that are currently set at 5 percent or less will be cut to zero” (IHT).
* “31 percent of New Zealand’s exports to China slated for tariff-free status by 2013” (IHT).
* Dairy and almost all (96%) of NZ’s exports should be tariff-free by 2019.

Pakistan
* Agreement on goods signed on 24 November 2006;
* Went into effect on July 1, 2007 (People’s Daily).
* 36 percent of products will be tariff free by 2010.
* 85 percent of products will be tariff free by 2013, and Phase II begins, with a goal to reduce tariffs on 90 percent of goods.
* Agreement on services under negotiation (Brookings).
* The current agreement already covers investments (People’s Daily).
* “China-Pakistan trade volume exceeded 4.3 billion dollars in 2005, representing a year-on-year increase of 39 percent. The officials said the trade deal could triple bilateral trade to 15 billion dollars within five years” (People’s Daily).

Peru Under Negotiation
* The 2007 Joint-Feasibility Study.
* The second round of negotiations held on 3-7 March 2008.
* A third round was held in May 2008.
* The fifth round was held at the end of August 2008.
* On August 26th, Peru’s foreign minister of trade and tourism stated a belief that negotiations could conclude by November, 2008.

Singapore
* The first round negotiation was held on 26 October 2006. There were a total of eight rounds.
* On September 4, 2008, negotiations for a full free trade agreement including goods, services, and investments were concluded. The agreement should be signed by October 2008 (International Herald Tribune). [Bilateral trade between Singapore and China  was $63.83 billion, in 2007.]

Southern African Customs Union Under Negotiation
* Negotiation started on 29 June 2004

Feasibility Study
Costa Rica
* The 1st Joint Meeting was held on 9-11 January 2008

India
* The feasibility study on Regional Trade Agreement (RTA) concluded at the sixth meeting on 21-22 October 2007

Norway
* A feasibility study concluded on 13 December 2007

South Korea
* The 4th Joint Meeting was held on 18-20 Febuary 2008.
* December 2007 China Daily article.

Switzerland
* In July 2007, the countries agreed to study the feasibility of a free trade agreement.

From: Page 7 of Brookings report; originally People’s Republic of China Ministry of Commerce news releases; also edited and updated with data inter alia from the Brookings report and from various news sources from around the Internet.

Potential Free Trade Timeline
October 2008 – “[T]ariffs on New Zealand’s exports to China that are currently set at 5 percent or less will be cut to zero” (IHT).
October 2008 – Singapore-China Free Trade Agreement signed.
November 2008 – Peru-China Free Trade Agreement signed.
December 2008 – Agreement on investment with ASEAN signed.
January 2009 – Agreement on services with Chile goes into effect.
2010 – Phase-Out period for normal items ends for China and original ASEAN countries.
2010 – Pakistan: 36 percent of products will be tariff free.
2013 – Pakistan: 85 percent of products will be tariff free.
2013 – Phase-Out period for sensitive items ends for China and original ASEAN countries.
2013 – “31 percent of New Zealand’s exports to China slated for tariff-free status″ (IHT).
2015 – Phase-Out period for normal items ends for the newer ASEAN members (Cambodia, Laos, Myanmar, Vietnam.)
2015 – ASEAN single-market finally established.
2015 – East Asian Free Trade Area (ASEAN, Korea, China, Japan) for goods.
2017 – East Asian Free Trade Area (ASEAN, Korea, China, Japan) for services.
2019 – Dairy and almost all (96%) of New Zealand’s exports should be tariff-free by 2019.
2020 – East Asian Free Trade Area (ASEAN, Korea, China, Japan) for investments.
2020 – Phase-Out period for sensitive items ends for the newer ASEAN members (CLMV).
2025 – FTAAP for goods.
2027 – FTAAP for services.
2030 – FTAAP for investments.

8 September, 2008 Posted by | China Economy, China Future | , , , , | 4 Comments

Post-Olympic Pieces

Here’s a couple of interesting “Olympic-Aftermath” posts from around the internet, and below is some value-added analysis:

* The Olympic Sponsor – Biggest Winners and Biggest Losers
All Roads Lead to China
Discusses how sponsors like Lenovo and GE may have benefitted from their Olympic sponsorship.

*Yeah! I’m a Llama Again
Silk Road International
Great Olympic-review/overview piece with even better links that are worth consideration. (Such as this harsh piece by TimesOnline (Some of its assertions might be treated with a grain of salt though- and it should be noted that the British Times appears to have an almost pathological dislike for China’s regime), and a thoughful piece in the Washington Post.)

* The Great Convergence?
The China Beat
Compares similarities between China and the United States and coverage of the Olympics.

* Making sense of what comes after the Olympics
Michael Pettis at Asia EconoMonitor
Discusses China’s still-weak stock-market, declining growth in expansion of tax revenues, and speculates on near-future performance of the Chinese economy.

*Rio Tinto predicts post-games boom
By Rebecca Bream and Chris Flood; Financial Times
The Financial Times reports how Rio Tinto believes commodity prices will rise again, amid a post-Olympics construction boom as transportation/supply chains are untangled, factories are reopened, and trucks get back onto the streets… This would probably happen starting sometime around mid-September after the Paralympic Games are finished.

Olympic Pollution: Comparisons
chinacomment
If you wanted to compare pollution pre-Olympics, or to compare Beijing’s pollution to Olympics’ pollution in Athens, or Barcelona, this is an excellent resource.

Wireless Data Roaming Wins Gold During Beijing Olympics
MarketWatch
Ever wondered how much information was sent over roaming phones during the Beijing Games? Now you can become enlightened. “[A] surge in wireless data roaming traffic exceeding 40 percent over the same period of days the month before. This increase in roaming traffic resulted in more than 332 GB of data being exchanged between 225 mobile operators in 106 different countries on the Aicent network. This increase in wireless data roaming is the equivalent of the content in books stored on nearly two miles of shelves.”

Conclusion… What Does This Mean?
Links without analysis are only of marginal use, so here’s some value-added content.

* Rio Tinto is probably right to believe demand in China for metals and resources will continue, despite a weak international economy. And if other countries’ demand for resources drops, China has the cash to step in and bargain-shop.

* A weaker international economy will harm China’s export-market, but the PRC appears willing to focus policy on expanding economic growth. Brad Setser of the CFR (Council on Foreign Relations) persuasively argues that China’s exports have not yet been significantly harmed by the global slowdown.

It appears RMB appreciation will slow if the Chinese continue to prop up their exporters. Michael Pettis, who specializes on Chinese Financial Markets and teaches at Beida in Beijing, believes that China might also sustain high inflation in order to support its exporters.

It is surprising that exporters are still maintaining at least a limited amount of strength, considering that the new Labor Law requires employers to pay workers more and treat them better, and considering that new tax provisions do away with some benefits for foreign companies based in China. A fuller examination of China’s economic future and the consequences of its economic policies definitely merits more in-depth future analysis that will certainly take a good deal of time to properly treat.

* And The China Beat reminds us that in many ways, China and the United States have similarities… things that often go unnoticed when the “China Threat Theory” is promulgated, or China’s collectivist culture is over-stressed, or when commentators focus on China’s “communism.”

* And, to close, I welcome your thoughts on where China’s economy is going post-Olympics or if the Olympics really changed anything about China in the long run. (Bonus Article: “Orville Schell discusses the future of Chinese nationalism and Olympic changes. (Written Before the Games)”) Thanks for reading.

29 August, 2008 Posted by | China Economy, China Future | , , , , , , | 1 Comment

China Energy Efficiency

China faces energy shortages. There has been power rationing in Shanghai, Hubei, and elsewhere this year. “China has forecast a power shortfall of 10 gigawatts for the summer, about 1.4 percent of installed capacity” (Reuters). Concurrently while boosting capacity, the country is struggling to achieve its stated goal of a 20% increase in energy efficiency from 2005 through 2010.

Steps have been taken to ensure that China’s energy efficiency goals are reached, but ultimately, it appears the Chinese will fall short of realizing their goal. Still, in striving, the Chinese government may realize that placing price caps on energy producers can actually harm the environment. As a result, China may come to allow market forces to dictate energy pricing- to a point. By doing this, China could finally succeed in chasing inefficient factories to other countries.

Energy Goals

In 2005, China drafted a plan to increase energy efficiency per unit of economic output 10% by 2010. “In 2006, the first year of the plan, the country’s reduction in energy intensity… was a mere 1.23%. For the first half of 2007, this figure was close to 3%… but that’s still short of the 4% reduction needed each year from 2006 to 2010 to achieve the goal” (Forbes).

Energy Consumption

“In 2005, China’s energy consumption per unit of GDP was… more than three times the level of the United States, more than five times that of Germany and eight times that of Japan” (Xinhua); specifically, “the energy intensity of China in 2005… was 35,766 British thermal units per U.S. dollar. In the U.S., the Btu/dollar ratio was 9,113. In the U.K. and Japan, the figures were even lower, 6,145 and 4,519 respectively” (Forbes).

Interestingly, unlike the US, which utilizes energy on a massive scale- about 7.794 kgoe/person as of 2003, China’s consumption per capital energy consumption is still only 1.1 kgoe/capita in 2003, which rose from 0.946 kgoe/capita in 2000, and 0.791/capita in 1990.

Also, “in 2005, China’s per capita commercial energy consumption was about 1.7 Mtce, only two thirds of the world average” (People’s Daily).

Since China currently uses such low amounts of energy per capita despite being vastly energy inefficient, it will be crucial for China to modernize its energy efficiency before more people become affluent and begin using larger amounts of electricity.

By starting from such a low base in per-capita energy usage, China has the potential to easily build state-of-the-art power transmission grids, to dictate strict regulations, and to build a culture based on energy conservation first, rather than reverse-engineering its energy regulations and energy consumption culture like other countries need to do.

kgoekilograms oil equivalent

mtcemetric tons carbon equivalent

Energy Expansion

China’s power generation capacity in 2002 of 356.6 GW was 9.6% of the world’s total power generation capacity, second only to the United States’ capacity of 979.6 GW. By 2005, China’s power generation capacity had risen to 508 GW (statistics from HERE). In 2006, China added over 114 GW of power generating capacity, and is continuing to expand generously.

If China is to satisfy its energy demands, it will need to increase energy efficiency. Otherwise, world energy prices, which recently saw oil rise to over $140/barrel, could check Chinese economic growth.

“Green” construction alone will not ameliorate China’s energy situation, since even construction of over 30 efficient nuclear power plants in the next 10-20 years will only add 60 GW of power. Wind and Solar electricity will account for much smaller increases in Chinese energy capacity at a little over 30 GW of power by 2020.

Considering China’s ambitious goal to improve energy efficiency, it appears the Government does realize the challenge. But what reprecussions might happen as the country struggles to meet this challenge?

Why Price Caps Harm the Environment

By putting price caps on how much energy can sell for and concurrently subsidising SinoPec and other energy companies, China encourages inefficient, polluting companies to remain in business or delay upgrading technologies. When subsidies and price caps are eliminated, prices rise and factory producers have to survive in a more Darwinistic competition model where the most efficient companies are rewarded for infrastructure investments.

Instead, partially due to the price caps, factories both efficient and inefficient have to endure power rationing.

Of course, too-low-set price controls sometimes encourage producers to produce less power. Or producers may decide to do things on the cheap and produce dirty coal instead of less environmentally destructive, but more expensive options (NYT discusses high-tech coal plants).

Results: Higher Quality Companies, Freer Energy?

It appears that regardless of its ultimate decision on price controls, China will maintain some sort of government intervention so its poor will be able to afford energy. Considering the widening GINI coefficient of wealth inequality in China, such supports will be necessary. And price assistance will be especially needed in rural regions, since urban income still outpaces rural income by at least 3.28:1.

Future government intervention, however, may be more in the form of direct subsidies to people rather than price caps on companies. 

Freeing energy markets will allow the market to incentivize energy efficiency, and continue the trend of driving away inefficient industries. For China to most efficiently continue its energy capacity expansions in an era of high oil prices and expensive energy, it makes sense that the country will move to price liberalization. When might this happen? To take a wild guess, I’ll predict it’ll happen whenever oil hits $200/barrel. Barring war or shortages due to a major conflict such as a Iran-US war, I don’t see that happening until at least 2012, so the move toward Chinese energy price liberalization might take some time– but since China’s power demands are so great, said liberalization will eventually happen.

Miscellaniety

* Official figures on energy efficiency increases in the first half of 2008. (2.88%).

* Erica Downs of Brookings is even more pessimistic about China’s eventual move toward energy efficiency and modernization, arguing that “China’s new energy administration is unlikely to substantially improve energy governance.”

* China Daily had evidence of a perhaps laudable, but perhaps disturbingly only stop-gap fix for solving China’s energy efficiency and “green” problems. By ranking 60% of cadres’ career evaluations on energy efficiency and pollution solutions, China’s government pursues a bureaucratic incentivistic solution to what appears to be mostly a market problem. 

* More reading on China’s progress toward greater environmental and energy efficiency care can be found at China Environmental Law.

19 August, 2008 Posted by | China Economy, China Energy, China Environment/Health | , , , , , | Leave a comment

A Weak China?

In the Washington Post, John Pomfret, former WP Beijing Bureau Chief and author of Chinese Lessons: Five Classmates and the Story of New China (2006), argues that China is not going to become a superpower. His argument is a bit misleading, however. He demonstrates that China faces challenges, but he admits China’s GDP will outpace the United States’ in size. 

Pomfret’s four challenges, while intriguing, appear to be the wrong challenges to address. Despite them, China will still become a superpower. In this article, I explain why his challenges are not the most apt. Then I suggest four different challenges to China’s growth.

Pomfret calls attention to four challenges; “dire demographics, an overrated economy, an environment under siege and an ideology that doesn’t travel well.”

Dire Demographics… But Room for Expansion

Pomfret successfully argues “that as the working-age population shrinks, labor costs will rise.” In China’s coastal provinces, labor costs have already risen, partially due to reduced migrant labor flows. It is also true that after 2013, China’s labor force will peak at 900 million and subsequently the elderly will be more numerous than adolescents and children. And there are nearly 119 males born for every 100 females, which will create tensions.  

But, it is also true that despite decades of posting productivity gains, China is still underutilizing its human capital. Its workers have not yet realized the full potential of productivity gains that workers in other countries have realized- which means that China still has a vast, untapped potential for growth.

Chinese labor productivity has grown from (in 1995 RMB values) around 5000RMB per worker in 1979 to 21,500 RMB per worker in 2005 (or roughly $3100). (Holz, 166 and He & Kuijs, 6) And productivity grew at around 8.7% per year from 2000-2006. (The OECD defines Labor Productivity as GDP per hour worked) The US Labor Productivity value-added per worker is currently ranked sixth in the world by the OECD, behind Luxemborg, Norway, the Netherlands, Ireland, and Belgium.) 

Japan and South Korea, which similar to China started at a low base for productivity, are currently at 71% and 41% of US productivity ratings. Regrettably, it appears these OECD numbers have not been adjusted for PPP (Purchasing Power Parity). However, the point remains, South Korea had low productivity and a majority of citizens employed in agriculture back in the 1960s. Now, only 7.5% of its population works in agriculture.

China still has up to 43% of its population employed in agriculture (due to the nearly 200 million migrant workers who retain rural residencies, the number is probably more like 30%, but that is still an overly-high number). This underutilization and underemployment of workers demonstrates China still has much room to grow, and many more productivity gains to realize– its rise is not yet finished.

Overrated Economy… But Massive Purchasing Power

Pomfret rightfully criticises Keidel at the Carnegie Foundation for a July 2008 extremely pro-China growth article. Keidel assumes China will maintain over 7% yearly growth rates through 2030. These estimates may prove to be overly optimistic. However, China’s economy is still deregulating and expanding. It may not grow as fast as Keidel assumes, but barring massive inflation and energy shortages, the sheer amount of human capital and potential for development will allow it to expand at a healthy clip.

Pomfret wanders a bit into strange territory when he argues China cannot become a superpower simply because GDP per capita is so low. But why does low per capita GDP preclude development of a strong country? If GDP is high enough, China can finance a modern military, and its state-owned businesses can purchase overseas energy and mineral resources.

With even modest GDP growth, the domestic market can serve a middle class of perhaps 400 million (or 100 million, depending on the estimate), which is larger than almost all Western countries’ populations! If China is a giant in terms of worldwide trade, it can have greater influence in trade contracts with countries like Brazil and the Central Asian nations, marginalizing the United States.

Note: In later articles I hope to explore China’s middle class, its productivity in detail, and how China’s aging might effect domestic policies. I would love to go into greater detail on these items here, but then this post might become thesis-length. 

Environmental Problems… A Legitimate Challenge; But It Can Be Overcome

Pomfret is correct that China faces environmental problems. Elizabeth Economy and other scholars have detailed this in numerous books and articles. And environmental pressures can cause societies to implode, as Jared Diamond famously argued in Collapse.

However, China may be able to make fighting its pollution an opportunity for societal and technological development. China could allow NGOs and private groups greater chances to challenge local development and expose corrupt practices. Or, China could continue to suppress cross-provincial border NGOs, and could fail to develop technological innovation. The future of China and its environment could be dire, as Pomfret believes, or it could be positive should Chinese invent innovative environmental solutions (See Prospects for China’s NGOs for more info on Chinese NGOs).

Bankrupt Ideology… But The Country Is Just Now Developing Its “Mission” (See Maslow’s Hierarchy)

Pomfret’s argument about China’s ideological intellectual bankruptcy is interesting. He makes a good point about how China’s one-party system can stifle innovative thoughts. But China is still developing its mission, and there may come a time when China’s ideology can be successfully exported. (Please see the last section of my article on Maslow’s Hierarchy).

In contrast to the United States’ private think tank minds, and European NGO leaders, China has yet to produce many world-respected political theorists to propogate its philosophy. Its famous discursive-thinking thinkers and personalities; Wu Jinglian (economist), Bao Tong (politician), and Gao Xingjian (author) are either retired, marginalized, or living in exile.

(Note: This is not to say China lacks independent thinkers; CASS (The Chinese Academy of Social Sciences) has been known for producing innovative thought. And University scholars such as Shi Yinhong have done innovative work in regards to foreign policy. But in one example of stifling creativity, the State closed the innovative Journal “Strategy and Management” when they felt its authors strayed too far from the party line; Other thinkers contribute valuable intra-China thoughts on nationalism and how China should relate to the rest of the world, but Chinese views on how the world should be ordered internationally are less often elucidated, and have less of a world-wide impact. China has also long taken a non-voting and non-leadership position on the UN Security Council.)

Conclusion

Pomfret is right, China faces challenges. But these challenges are not dire enough to hobble its rise to global superpower status. Only the environmental challenge appears to be a potentially growth-derailing problem, and it could yet be overcome.

In response to Pomfret’s proposal, I suggest a few different problems China is facing that may delay its rise. To succeed as a superpower, China most needs to ensure energy supplies, tame inflation, deal with dissent/protests/petitioning by instituting a rule of law, and provide social services. (If the last two items are combined, then I would list Pomfret’s “environmental” challenge).

I hope to explore these problems in a future article and would like to hear your opinions on what four problems you believe are most important for China to overcome.

(My further response, based on your feedback, is here).

30 July, 2008 Posted by | China Economy, China Future | , , , , , , , | 11 Comments

Out of China

Canon, Nissan, and Germany’s Steiff Toys are either forgoing China expansions or leaving China to produce in other countries. Other companies are leaving China to find cheaper, less regulated places to manufacture. RMB appreciation, costs of training, the new labor contract law, end of some preferential tax breaks for foreigners, inflation, visa regulations, and energy rationing have made China a little less attractive for foreign businesses and manufacturing. But where will these companies go, and why? Even some of the so-called drawbacks to doing business might be good for the long term. Below, the issue is examined.

Why Leave China?

Booz-Allen and AMCHAM released a March 2008 study that argued “More than half, or 54 percent, of companies surveyed [out of 66] believe that China is losing its competitiveness to other low-cost countries.” And “wages in China now [as of June are] rising close to 25 percent a year in dollar terms in many industries” (IHT). Specific “problems” include:

1.) China’s new labor contract law, which went into effect this year, might increase costs by 8% on average per firm, and will make it more difficult to lay off workers. One provision states; “from January 1, workers who have been with a company for 10 years – or signed two fixed-term contracts – will be entitled to one month’s severance pay for every year worked.” One could argue that this law is well-needed to align Chinese workers’ interests and pay with international norms. But still, it does put upward pressures on costs of doing business.

2.) RMB appreciation. The currency has risen by 7.1% this year against the dollar, which is amazing since the RMB only appreciated 3% from July 2005 through March 2006. (But there are opposing views, namely that the evaluation is overstated due to a weak dollar- since the RMB has actually declined 16% from 2006-2008 versus the Euro.)

3.) Preferential Tax Rates Ended for Foreign Firms; Export Tax Rebates Ended. Now, foreign firms pay a higher rate, generally 25% of taxes. (Information on the new law is from Deloitte, and HERE.) Also, export tax rebates were phased out. A trade manager quoted in AFP claimed, “The yuan appreciation has a huge impact on our business. It costs us much more in the production and delivery costs. What’s worse, the export tax rebates of 13 percent were cancelled so our total costs are up 20 percent,”

4.) Inflation.  “Seven out of 10 respondents cited the rising renminbi as a major reason for China’s decline, while wage inflation was cited by 52 percent of those polled.  Wages for white-collar managers and blue-collar workers have jumped 9.1 percent and 7.6 percent, respectively [on the year],” according to the AMCHAM study.

5.) Visa Regulations. The Wall Street Journal described how, due to the newly onerous visa regulations, one businessman had to leave China for Thailand, even though his company “researches commercially viable ways to sustain water and land resources in China.” In China’s defense, this businessman’s situation was made troublesome because his company had not been legally registered to operate. (Previously, many companies have not been registered). Visa regulations and enforcement of already on-the-book rules may do a little to slow inward-bound China growth. Ultimately, however, enforcement of logical laws will benefit China, so the stifling effect of strict Visa regulations may pass post-Olympics. (Michael at The Opposite End of China explains his visa problems HERE.) 

6.) Costs of Training/Turnover. The experience of Steiff Toys provides an interesting anecdote about the challenges of training and turnover in an emerging market. After being trained, employees might seek to market their talents at a better paying company. In Steiff’s experience, “[t]he company had frequently visited its Chinese partner to try to build up a good relationship. However, once, during a six-month gap between visits, almost the entire work force at one factory had changed.”

“It was no surprise the quality varied so much. New people came, the quality dropped, then they improved their skills and left,” he said, adding that the Chinese-made trampoline parts did not reach high enough endurance standards.”

7.) Energy Rationing. In January, and then again this summer, factories had to shut down power to ensure the grid was not overloaded.

Where to Go? 

Vietnam is the country most mentioned as a relocation place, but it faces surging inflation. In May 2008, food prices were 42% higher than they had been one year ago. China, in comparison, saw food prices increase by only 21% since 2007. Still, inflation worries in both countries only cuts their economic outlook from growth at 1-2% less than initially projected. This allows both countries to grow at 7% (Vietnam), or +9% (China) on the year.

What Vietnam lacks, that China increasingly has, are sufficient infrastructure developments. AmCham Vietnam discusses the problem of infrastructure. Vietnam’s plans for development are available at the World Bank.

Also, Vietnam’s population of 86 million pales in comparison to China’s 1.3 billion. International Lawyer Dan Harris, in informal interviews with several of his clients, believes that Vietnam’s manufacturing processes and human capital still need a great deal more of investment before they can compete with China- which may never happen.

Cambodia. Hailed as the next Vietnam, some garment manufacturers are relocating here. And “South Korea and Malaysia have been pouring in investment. In 2006, foreign direct investment totaled $2.6 billion, up from just $340 million in 2004, according to the International Monetary Fund” (IHT).

Cambodia “is where Vietnam was some 8 to 10 years ago.” [Yeo] likes a lot about Cambodia: its location in a fast-growing region, a young and inexpensive work force, rising productivity, a pro-business government, stable politics and strong GDP growth, which peaked at 13.5 percent in 2005 but was expected to mellow to 7 percent or 8 percent in coming years” (IHT). Still, Cambodia is tiny, with a population of 14 Million. And the vast majority of Cambodians are laregly uneducated and unskilled. Hyping Cambodia as a future economic powerhouse is probably overstated.

Malaysia’s International Trade ministry hopes to position itself to poach manufacturing plants that leave China. Malaysia claims it is interested in investments in “high technology,” less labour-intensive industries. Malaysia’s economy and workforce, however, is much smaller than China’s (at $357 billion PPP [Purchasing Power Parity] in 2007 and a 6.3% yearly growth compared to $6.9 trillion and 11.4% growth in China). More importantly, Malaysia has less to grow than China.  Only 13% of its workforce is in agriculture, compared to 43% of the workforce in China.) While it may attract certain manufacturing industries, a large-scale relocation is unlikely since costs in Malaysia will rise as the pool of workers decrease and compete for better-paying jobs.

India. People like to laud India over China due to its democratization, but India suffers environmental degradation just like China. And India suffers internal dissent, from Naxalites, from Jammu-Kashmir, from Islamist extremists, and from its rival Pakistan. Attempts to deal with water purification, smog, and other challenges will slow India’s growth in the short run, just like such attempts can short-term stall Western countries’ industrial expansions.

India’s Democratic society is also less likely to sanction the painful changes than China’s semi-autocratic government permitted to increase development. China ended or reduced many state pensions, reduced health benefits, and evicted thousands from their homes. As Robert Shapiro, a former undersecretary of Commerce, describes in his book Futurecast:2020, it does not appear India has the political will to carry through needed reforms.

India still faces a large variety of difficulties it must overcome before it can rightly challenge China as a competitive place for companies to relocate their industries. The day of relocations may come, but it is not yet here.

Why China is Still Attractive

China Law Blog believes the Labor Contract law did little to directly dissuade big foreign companies from investing in China. And that makes sense. China is a huge market, well worth the time and effort of investment, both for substantitve purposes (returns on capital), and for prestige (WE have a China office; do you?).

However, CLB also noted that “China has seen a number of factory closings of late, but most of these are very domestic factories that produced low end goods. I also have no doubt that many Taiwanese and Hong Kong and Korean factories producing the same sorts of goods have closed as well [because]… Beijing has instituted a number of policies explicitly aimed at marginalizing such factories so as to push China up the value chain. ”

Asia Sentinel backs up Dan Harris’ comments, calling attention to the closing of marginal manufacturing industries, but also stating that the higher value, better-run factories are staying open.

The Chinese Miracle, of its economic growth, still has a long way to expand. As the Motley Fool’s argues, the China Story is not going to end because wages are rising in coastal provinces. Instead, a new chapter will open as manufacturing and development “Go West” and drive to the interior. China has hundreds of million-person-populated second tier cities like Xi’an, Lanzhou, and Wuhan that can benefit from and contribute to internal development, services, and manufacturing.

China is experiencing teething pains, but it still has vast human resources. Its largest problems appear to be sustaining energy supply, its need to move more toward rule of law, and a need to contain inflation. And China, for the most part, is moving toward those goals (although containment of inflation is an open question). So will businesses depart from China? Some manufacturing might. Other manufacturing will just move farther inland, to take advantage of cheaper provincial labor as the coastal regions move up the value chain.

Extra

* September 8, 2008, the Washington Post presented a story about manufacturing moving from China to the US.

22 July, 2008 Posted by | China Economy | , , , , , , , , , , , | Leave a comment