1 Dragon Weathering the Storm: Blue Sky Ahead? Tsang Shu-ki Department of Economics Hong Kong Baptist University Conference on “Global Economy and China” CPU, HKSARG and DRC, Mainland China 28 September 2009

2 Abstract The global economic crisis has been handled by most authorities with unprecedented monetary and fiscal loosening, with the fundamental imbalances largely left aside. A relief rebound is not surprising, but new complications arise. In the coming years, the consequences for the global economy might take any or a mixture of the following shapes: V/U/W/L/H/X. China has been weathering the storm relatively well in terms of macroeconomics. However, social cracks arising from long-term factors seem to be surfacing as the relief policies have mainly benefited the asset markets. Whatever the direction for the global economy, China’s future structural challenges are three-fold: i.e. the 3Rs: Rebalancing; Regionalization and Resource management. Although unique, China might learn more from the history of Germany, rather than from Britain, Japan or the US. In short, China should rebalance with a greater emphasis on regional economic cooperation and aim at overcoming the developmental constraints of its limited resources. And no one promises a blue sky.

3 Main points I.The global crisis and the aftermath II.China’s macroeconomic robustness and social weakness III.China’s future challenges: The 3Rs IV.China’s first challenge: Rebalancing V.China’s second challenge: Internalization, Regionalization and globalization VI.China’s third challenge: Overcoming the Resource constraints VII.An integrative historical summary

4 I. The global crisis and the aftermath: Unprecedented quantitative easing Source: September 2009www.oecd.org/OECDEconomicOulook

5 I. The global crisis and the aftermath: Huge fiscal stimulus Source: IMF World Economic Outlook, April 2009

6 I. The global crisis and the aftermath Given these unprecedented global policy responses to the financial tsunami, a “relief economic rebound” is not surprising in the near term. What else could one expect? For the sake of crisis management, perhaps “justifiably”, the fundamental imbalances which generated the global crisis have largely been left for further actions and reforms. Unfortunately, new complications have been fermented by the flood of liquidity, especially via the asset markets, and the creation of new debts over the world. “Exit” is a very tricky question for quantitative easing, and timing is crucial, as the following chart of Bank of Japan’s policy rate in the “second lost decade” illustrates. Hence a “double dip” or “right-inclined W” could not be ruled out. Indeed, the global economy might take any or a mixture of the following shapes: V/U/W/L/H/X.

7 I. The global crisis and the aftermath

8 II. China’s macroeconomic robustness and social weakness As to China, exports have been hard hit (falling 22.2% in the first eight months of 2009). However, the authorities have resorted to monetary and fiscal loosening not seen in many years, investment and, to a lesser extent, consumption have been showing above-trend increases. New loans amounted to RMB8,150 billion in the first eight months of 2009 (compared with RMB4,180 billion for the whole of 2008). Government expenditure also increased by 22.7% year on year in January-August. As a result, the dip in overall growth turns out to be relatively mild. GDP rose by 6.1% and 7.9% in Q1 and Q2 respectively.

9 II. China’s macroeconomic robustness and social weakness Source: September 2009www.oecd.org/OECDEconomicOulook China

10 II. China’s macroeconomic robustness and social weakness The trouble is that China, given its evolving socioeconomic system, needs to grow at a certain percentage to contain social dissent. A real GDP growth rate of 8% is “believed” by many to be the social threshold. That can probably be done. However, and unfortunately, signs of social cracks are emerging, regionally and vertically, despite the “comforting” macroeconomic statistics. This is unlikely to be what the top leadership has wanted. The preliminary evidence is that the financial tsunami has aggravated at least urban-rural income inequality despite government policies to help the rural areas. The benefits of loose monetary and fiscal policies, mostly via the assets markets and infrastructure projects, have not exactly gone to the normal consumers, the crucial agents of rebalancing the Chinese economy.

11 II. China’s macroeconomic robustness and social weakness

12 III. China’s future challenges: The 3Rs Irrespective of what would happen to the global economy (i.e. V/U/W/L/H/X), China probably will not face severe downward pressure in terms of macroeconomic statistics. However, three major structural challenges loom in the future: 1.Rebalancing its structure of economic development: from external demand to domestic demand; from investment to consumption. 2.Increasing participation in internalization: Regionalisation versus globalization 3.Managing its relative lack of Resources in becoming a genuine global economic power.

13 IV. China’s first challenge: Rebalancing Everyone agrees about the need for China to shift from export-led and investment-driven growth to a trajectory in which domestic demand and consumption play a more important role. But how? This has been the top agenda for the leadership since 2003, anyway, with an emphasis on social harmony. If a country wants to stimulate domestic demand, it involves a long process of switching incomes and implementing institutional changes. The global economic crisis has not made this process easier for China. The evidence (using both real and nominal statistics) is that urban-rural income inequality has not improved and the financial tsunami has apparently aggravated it in spite of various government policies.

14 IV. China’s first challenge: Rebalancing

15 IV. China’s first challenge: Rebalancing

16 IV. China’s first challenge: Rebalancing

17 IV. China’s first challenge: Rebalancing On the other hand, China is not in imminent danger, like Japan, of “building bridges to nowhere”. It still needs a lot of railways, highways and bridges. This is really a dilemma: investment versus consumption; yet confronting the need to develop fast. Given China’s large rural population and elementary social security system, it would take a long time to effect the changes. Economically, a gradual but steadfast approach seems to be the best choice. Socially, a quicker equalization process is called for. It seems like a bridge over troubled water for China. On the other hand, political reforms that aim at the “empowerment” of the grass-root levels of the populace is important, especially at the levels of counties and townships. As Nobel Laureate Amartyr Sen so aptly argues, empowerment is one of the best ways to solve the problems of poverty, ignorance, and to speed up sustainable development.

18 V. China’s second challenge: Internalization, Regionalization and globalization The media like to talk about China as the rising global power. Nevertheless, with a population of 1.3 billion, and the majority living in rural areas (54% in 2008), it is difficult to imagine China, already the world’s third largest economy in terms of absolute GDP (but far behind regarding per capita income) challenging the US any time soon. The global financial crisis has shaken the US economy, but its leadership in international trade and monetary systems is unlikely to be seriously undermined in the near term. The Chinese economy should doubtlessly be further internationalized: but internationalization is not equivalent to globalization.

19 V. China’s second challenge: Internalization, Regionalization and globalization Internationalization can take many forms: bilateral or multilateral regionalization or globalization under an over-arching worldwide institution. The experience in the past few years has demonstrated that a simple-minded policy to “participate” in US-led globalization may not be optimal for a developing economy like China. “Globalization” (taking into account worldwide data) has shown historical long waves of dramatic swings, as the two following charts by several scholars reveal.

20 V. China’s second challenge: Regionalization versus globalization

21 V. China’s second challenge: Regionalization versus globalization

22 V. China’s second challenge: Regionalization versus globalization A “strange” phenomenon is that in this era of “globalization”, sub-global (bilateral or multilateral) trade and investment agreements have increased sharply in the past two decades. According to the information provided by WTO, the supreme global trade institution, regional trade agreements (RTAs) are the tidal current. By the end of 2008, a total of 421 had been notified to GATT/WTO. Of these, 230 are currently in force. Most of them were created after This leads to an interesting, and perhaps paradoxical, question posted by none other than WTO itself ： “ Regionalism: friends or rivals?” ( )

23 V. China’s second challenge: Regionalization versus globalization Should a nation concentrate on bilateral, multilateral, regional or global economic cooperation, if its political and economic resources are limited? The answer will obviously not be clear cut. Like Germany and the EU, it could be a waste of time to directly challenge the sitting world hegemony. So sub-global regionalization may be a useful building block or fall-back position in a less dramatic process of revival and development. It is not an easy task, as East Asia is unlike EU. But,…. a start has to be made, and already made: ASEAN10 + 3; BRIC meetings, and China’s proliferating bilateral trade and financial agreements….. Of course, it does not mean that China should reduce participation in the global economy or give up efforts to push for global financial and trade reforms. It does imply a shift in emphasis.

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25 VI. China’s third challenge: Overcoming the Resource constraints China has the largest population in the world, but its per capita resource endowments are woefully lacking: e.g. –per capita mineral resource is only 58% of the world’s average, ranked as the 53rd in the global league; –per capita arable land is 30% and water resource is ¼ (and highly unevenly distributed)…etc. –Even for coal, it is only about 55%, not to mention oil and natural gas. It sounds like a horror story for a “rising dragon”! The result is an upward trend of external dependency on resource provisions. The sharp spike in the Commodity Research Bureau (CRB) index in early 2008 might have been aggravated by speculation. However, expectations on China’s huge, albeit future, demands have reportedly been built into the commodity markets.

26 VI. China’s third challenge: Overcoming the Resource constraints CRB index

27 VII. An integrative historical summary How should China handle the “fight for resources” after the global storm? Outsourcing and increasing utilisation efficiency (of existing resources in the “circular economy”) are the obvious steps. Looking back to history, different countries in their global ascendancy resorted to various development and political strategies. At the risk of over-simplification, I think that China should handle its three “R” challenges (rebalancing, regionalization and resource management) in an integrated manner, preparing for the worst and avoiding short-term drastic actions. Let us take a historical look at the geopolitical contexts of the “rise to global significance” of different countries.

28 Fight for resources in a multi-polar world --- China surrounded

29 Fight for resources — Britain’s island strategy (colonialism)

30 Fight for resources — Japan’s island strategy (world war)

31 Fight for resources — Germany’s breakout (world wars) and compromise (EU)

32 Fight for resources — US evolving from isolationism to hegemonic expansionism

33 China’s strategy in the fight for resources --- Learning from Germany or others?

34 VII. An integrative historical summary Every country’s development is unique and there is no ready model that one could copy. Nevertheless, if China is to learn something from history, I would suggest that the painful experience of Germany might be of more value, given the geopolitical and economic environment that the dragon is caught in. Can China do it the British, Japanese or American way? I rather doubt it. Even if that were to be a choice by any future leadership, the consequences would be rather counterproductive.

35 VII. An integrative historical summary All in all, in the new era of the 21st century after the global financial tsunami and economic crisis, with all the possible twists and turns, China needs to nurture a new path of development. Structurally, China has to solve its 3R challenges in an integrative manner. In short, China should rebalance with a greater emphasis on regional economic cooperation and aim at overcoming the developmental constraints of its limited resources.

36 References Estevadeordal, Antoni, Frantz, Brian and Taylor, Alan M. (2003) “The Rise and Fall of World Trade, ”, Quarterly Journal of Economics, Vol. CXVIII, No.2, May, pp 。 Taylor, Alan M. (2002), “Globalization, Trade and Development: Some Lessons from History”, NBER Working Paper 9326, November. Tsang Shu-ki, (2008), “The Economic Basis of Regionalization”, The Pan-Pearl River Delta: An emerging regional economy in a globalizing China, in Y.M. Yeung and Shen Jianfa (eds.), The Chinese University Press: 曾澍基 (Tsang Shu-ki) (2008) “ 從長遠看世界與中國經濟 ” (“The Global and the Chinese Economy from the Long View”) (in Chinese); posted on the author’s website: Tsang Shu-ki, “Wither the global polity/economy?” (15/9/2009), article posted on the author’s website: