by David Hale
(David Hale is Chairman of David Hale Global Econ-omics and a long-time analyst of China’s economic reform process.GENEVA – Is China an island of stability in the midst of the gathering global financial storm, or will it, too, soon be sucked into the vortex?)
Chinese officials have said that the crisis that began in the United States will not slow down long-planned reforms in China’s financial markets. They insist that China will go ahead with plans to introduce margin trading, short selling, and futures contracts on share prices. But China slowed capital-account liberalization after the Asian financial crisis ten years ago, so it is possible that America’s troubles could make China more cautious.
China has played an important role in financing the US budget deficit in recent years, thanks to its effort to manage the renminbi’s exchange rate against the dollar. China does not want its large current-account surplus to cause the currency to overshoot on the upside, and it may now want to slow the renminbi’s appreciation because of concern about the global economic slowdown.
If so, China would have to expand its foreign exchange reserves by another $300-400 billion, which would allow it to finance the large expansion in the US fiscal deficit. Recent slight declines in the value of the renminbi suggest that China’s exchange rate policy may be changing following its 20% appreciation of the currency since July 2005.
Germany’s finance minister, Peer Steinbrück, has said that the crisis will reduce US financial hegemony and create a more multipolar world. The September 26 edition of The China Daily carried an article asking, “Is the Sun Setting on US Economic Supremacy?”
The article reviewed examples of how foreign investors have lost money in the US market and concluded, “The outbreak of the latest crisis shows that the neo-conservative revolution launched in the 1980’s has already come to an end.” The article attributed the crisis to policies that “called on market forces to be given full play with the scrapping of government controls, especially on the financial market.”
Chinese officials have not yet echoed Steinbrück’s comments, but the US experience will naturally make them more suspicious of Western investment bankers and US-style regulation. China has so far lost money on two of its major investments in Western financial firms (Morgan Stanley and Blackstone). It could have helped to contain the current crisis if it had accepted invitations to invest in Lehman Brothers, but, given its previous losses on Wall Street, it declined.
As a result of concern about the global economy, the People’s Bank reduced interest rates two weeks ago and joined the coordinated global interest rate cut on October 8 – the first time that China ever participated in a global monetary policy move. The government also announced plans earlier this month to increase infrastructure spending by $586 billion during 2009 and 2010.
The projected spending increases are equal to 15% of GDP, and are the largest that any country has undertaken so far in response to the financial crisis. They demonstrate clearly that China is prepared to compensate for export weakness by stimulating domestic demand. China must now take further action to bolster consumer spending, which slumped to only 36% of GDP in 2007, from over 50% during the 1980’s, owing to the economy’s heavy dependence on exports and capital spending since the late 1990’s.
The Chinese government’s goal will be to keep annual growth above 8% in order to generate sufficient employment to maintain social stability. It is currently also more sensitive to employment risks than usual, because several thousand small factories in the textile and toy sectors have closed this year as a result of the impact of rising labor costs and the appreciating renminbi on profit margins. China wants to shift from low value-added, labor-intensive industries such as textiles to higher value-added sectors such as electronics and capital goods. But it does not want to generate high levels of unemployment as this transition occurs.
China has the resources to cope with the current financial crisis. Foreign exchange reserves are an immense $1.9 trillion. Booming tax receipts have provided the government with a fiscal surplus. The critical issue has been policymakers’ willingness to act promptly, before there is clear evidence of an economic downturn. The government’s stimulus package demonstrates that it is aware of the risks in the global economy and is prepared to act decisively.
The current crisis marks an important step in China’s evolution as a great economic power. China has been pursuing a policy of extreme Keynesianism at a time when Europe and the US are also undertaking massive interventions in their financial systems to prevent the current crisis from leading to a global financial collapse.
Thus, there is a growing convergence between Chinese and G-7 economic policy, born of the need to compensate for massive failures in US financial regulation and monetary policy. The US has been lobbying China for some time for economic policy changes aimed at stimulating domestic demand and open markets. The irony is that, to compensate for a crisis that America’s own policies have created in global financial markets, the US is now getting what it has long sought from China.
This article was received from Project Syndicate, an international not-for-profit association of newspapers dedicated to hosting a global debate on the key issues shaping our world.
