It is my hope that China's comparative advantage as a low-wage producer does disappear - the sooner the better.
Fan Gang.??Is Low-Wage China Disappearing?1
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Since I am sure you are all sick, as I am, of reading about the euro crisis, I am not going to harp on that painful subject, except to remind you of a favourite theme of mine. The founding fathers of modern free-market ideology claimed that we could eliminate the threat of arbitrary, capricious tyranny by taking power away from governments and handing it over to markets. Our present pathetic condition, terrorised by bullying financial markets and the rating agencies that serve them, shows how wrong were those theorists.
Recently reported, however, was a stirring declaration by the president of the European Commission, Jos? Manuel Barroso: the European project was born in the aftermath of war, ruin and destitution; surely it can cope with an army of bond traders.2 Bully for him.
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Now to my main topic. Fan Gang (born 1953) is one of China's leading academic and public policy economists. He is a professor at Beijing University, chairman of the China Reform Foundation3 (a non-profit, non-governmental think-tank), an advisor to the Chinese central and provincial governments, and has served on the Monetary Policy Committee of the Chinese central bank.
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Given the rising importance of China, we should surely know more about what influential Chinese experts are thinking. Fan Gang, you will be glad to hear, is neither obscure nor depressing. His writings are lucid, practical and encouraging.?
Cheap labor and inequality
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Western economic policies in recent decades have been dominated by efforts to keep labour costs down, largely because of worries over competition from low-wage developing countries like China. We have weakened our trade unions, mechanised our services a well as what remains of our manufacturing, and subcontracted much of our work to low-wage countries. Thus we have suffered increasing unemployment and inequality. So it is pleasing to hear a top Chinese economist deplore the low (though rising) levels of wages in his own country. Cheap labour has contributed to profound income disparities...these might cause social crises...China must avoid such a scenario.4
According to Fan Gang, the most underpaid labour in China is in agriculture, which still employs about 30% of the workforce (compare: less than 2% in the USA, 6% in South Korea). This explains the continual migration from country to town. The economy needs to create 150 million new non-farm jobs, he argues, leading ultimately to an equilibrium with 10% in agriculture.?
He observes that, in rural areas, education is underfunded and there is little or no social security. However, to cope with these problems, the government is spending more on rural development, increasing minimum wages by 20% to 30%, and extending the scope of social security. Despite the great importance of tea for the Chinese, they don't seem very fond of tea parties.
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Yet, he says, the best social welfare programme is economic growth.5 That must surely be true in developing countries like China, where average income per capita is around $7,500 a year.6 In richer countries, the position is different. We Europeans and Americans are consuming too much of the planet's resources; we cannot continue to pursue further rapid growth, unless that can be achieved without overall growth in consumption of physical resources. We need greater emphasis on redistribution of existing revenues.
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Like many other countries, China shows wide disparities not only in levels of income, but also in rates of growth of income. The rich get richer quicker. Skilled workers have enjoyed strong growth in earnings, migrant workers (those who have migrated from country to town) much slower growth, while for rural workers, progress? has been slower still. The target set by the new [2011 - 2015] five-year plan, says Fan Gang, is thus also a policy manifesto to battle these social disparities.7
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Credit and Bubbles
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According to Fan Gang, Chinese policymakers are vigilant and prepared to bear down on incipient bubbles.8 China's still centralized and largely planned economic system, he says, facilitates this strategy. After all, although modern market economics provides a sound framework for policymaking - as Chinese bureaucrats are eagerly learning - the idea of a planned economy emerged in the nineteenth century as a counter-orthodoxy to address market failures. Some people would prefer China to move to a totally free market without regulation and management, but the recent crises have reminded everyone that free-market fundamentalism has its drawbacks, too.
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With a view to deflating bubbles in their early stages, the central government uses various methods to restrict the growth of credit:9
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(a) The required reserve ratio: for every 100 yuan deposited with a bank, the bank is required to place (at present) 21 yuan in reserve with the central bank. These reserves are sterilised; they cannot be used to finance credit to customers. This 21% reserve ratio is extremely high by international standards; it has been increased several times in recent months, reflecting the Chinese government's concern about overheating and inflation. However, the ratio is less than it was; it was trimmed from 21.5% to 21% on 30th November 2011, in the context of a concerted effort by the world's leading central banks to avoid a global credit squeeze.
In the eurozone, the obligatory reserve ratio is now only 1% (reduced from 2% in December 2011); in the UK there is a tiny minimum requirement, for the larger banks, of 0.11%; in the USA the requirement applies only to very large 'transaction accounts'; it is 3% for deposits in excess of $11.5 million, and 8% for deposits over $71 million (Federal Reserve 'Regulation D').
(b) The? requirement of commercial banks to buy 'central bank bills'. In theory this is voluntary, but banks are expected to buy. Cash invested in these bills, like cash in reserve at the central bank, is unavailable for providing credit.
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(c) Ceilings and quotas. From time to time, the central bank imposes 'credit ceilings' or 'credit quotas' on commercial banks, again with a view to restraining their lending. This tactic was long used by the Bank of England, but was abolished in the wide-ranging programme of 'reforms' advocated by the Bank of England's 1971 paper Competition and Credit Control. It has never been reinstated, despite the often carelessly excessive lending of UK banks at various times between the 1970s and the recent past.
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So Fan Gang politely rebukes those who have acted less prudently: what Chinese policymakers have been doing in practice happened to be a lot better that what their counterparts in some other countries were doing - a lot of deregulation but too little on cooling things down when the economy was booming.10
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The Chinese are great savers
China's national savings rate has been very high in recent years, amounting to 52% of GDP in 2008...a savings rate of 50% of GDP is too high under any cicumstances says Fan Gang. But he believes that a fairly high savings rate is necessary in a developing country which needs to build up its capital assets. China's per capita stock of capital assets is still 8 to 10 times lower than in advanced countries like the United States and Japan.11
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By contrast, in the United States we have seen the opposite situation in recent years: the savings rate has been extremely low, and many Americans complain that their country's infrastructure is deteriorating.
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High savings rates mean that Chinese households and businesses are saving large proportions of their income. Consumption is still startlingly low, not just because personal incomes are low by Western standards, but because the Chinese, even if their incomes are small, are putting money aside.
According to Fan Gang, household consumption equivalent to 35% of GDP is too low, 35% being the remarkably small figure for 2008 (compare: around 70% in the USA). What China really needs is a greater effort to promote domestic consumption and lower the savings rate.
Sooner or later, no doubt, the Chinese will start behaving more like grasshoppers and less like ants. This will stimulate growth in the rest of the world, by inflating demand for imports from other countries. But it will also reduce China's trade surplus and thus the amounts that China can lend to Americans and Europeans who run budget deficits. So, as the Chinese spend more, those budget deficits will have to shrink!
A 'eurozone' problem in China
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Just as the eurozone has national governments without currencies of their own, so China has provincial governments without their own currencies, since all China, except Hong Kong and Macau, uses the same currency, the yuan (also called the renminbi). As Fan Gang explains, in both cases, when a debt is defaulted upon or loans become non-performing, the negative consequences are felt by the entire financial and monetary 'zone' - the entire eurozone or all of China.12
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In fact, overborrowing by local governments became a problem in the early 1990s. So China's Budget Law, adopted in 1994, forbade local governments from borrowing autonomously, either by issuing bonds to the public or by getting credits from banks. In theory this means that local authorities cannot finance their deficits by increasing their debt levels, because they can borrow only from...central authorities.
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However, local governments got around this law by allowing investment companies, controlled by themselves, to borrow. This is a Chinese version of the 'off-balance-sheet borrowing' tactic that has got the Greek government, and many banks, into trouble. The central government had to tackle this new problem by? privatisation of state-owned enterprises and improved financial regulation, including bank supervision and risk control. By 2007-2008, the ratio of total public debt to GDP was down to 22%, including local borrowings.
As from 2009, borrowings have risen because of the need to stimulate the Chinese economy, to counteract the effects of the crisis in the Western world. Total Chinese public debts now amount to around 50% of GDP, according to a statement by deputy finance minister Li Yong in August 2011.13 This is a very moderate level by comparison with current levels of more than 80% in Britain, France and Germany. But the famously pessimistic economist Nouriel Roubini thinks that China has substantial hidden debts, so that the real ratio might be around 80%.
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Fan Gang is not unduly worried: I believe that this problem is manageable...China's monetary authorities have been putting the brake on the growth of local debts since late in 2009...the leverage of any public entity must be monitored, supervised and restricted.
In a further comment that seems highly relevant to Europe today, Fan Gang remarks that with economic growth continuing, the potential risk posed by this debt will diminish.
A warning for America
In a very recent article, Fan Gang comments on the excessive deficits of the United States. For many countries, such as Argentina or Vietnam, a budget deficit of more than 3% of GDP, or a 5% current account deficit, has been enough to plunge them into a financial crisis. The US, by contrast, maintained about the same figures...for a decade while enjoying a period of economic expansion.14 This has been possible, Fan Gang explains, because of the special position of America, whose dollar is the world's reserve currency.
However, the result was overconfidence and a flawed vision of limitless potential growth, as if America could keep spending without saving, to no-one's detriment...You can see the logical consequences of this illusion in today's over-leveraged, debt-plagued US economy, the major cause of both the 2008 global financial crisis and the current concern over US government debt...America's long experiment with ballooning debt and an ever-expanding financial sector has left the country with other problems too...[it has] resulted in deteriorating industrial competitiveness, growing trade deficits and unemployment.
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Today, warns Fan Gang, even America, the world's banker, cannot put off the reckoning any longer. Since the American government depends heavily on China to finance its still growing borrowings, it should surely listen carefully to the views of one of China's most prominent and influential economists.
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?Spero?columnist?Angus?Sibley is an actuary and writer on economic and political issues who writes from Paris. See?Equilibrium-Economicum.net?
Quotations from Fan Gang are taken, unless otherwise noted, from the series Enter the Dragon of essays by him, accessible at www.project-syndicate.org
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1? Fan Gang, Is Low-Wage China disappearing? (30 August 2010)
2? See Julian Coman, Eurozone Crisis in The Observer (London), 20 November 2011
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3 The Foundation's functions depend fully on contributions from a variety of sources. To ensure its financial and intellectual independence, the Foundation solicits donations from all types of donors, including individuals, corporations, governments and other foundations: see the Foundation's site, www.crfoundation.org
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4? Loc. cit. (note 1)
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5? Fan Gang,? China's War on Inequality (29 October 2010)
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6 Recent estimates: $7,536 (WorldBank), $7,504 (IMF), $7,600(CIA); see Wikipedia at http://en.wikipedia.org/wiki/List_of_countries_by_GDP_(PPP)_per_capita
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7? Loc. cit. (note 5)
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8? Fan Gang, The Illusion of Chinese Bubbles (25 February 2010)
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9? Fan Gang, China's Monetary Sterilization (29 November 2010)
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10? Fan Gang, The Chinese Economy's Secret Recipe (29 June 2010)
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11? Fan Gang, Balancing China's High Savings (29 July 2010)
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12? Fan Gang, Athens, China (31 May 2010)
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13? See www.china.org.cn/business/2011-08/15/content_23215992.htm
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14 Fan Gang, Cashing Out in Foreign Policy, November 2011; see www.foreignpolicy.com
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The views and opinions expressed herein are those of the author only, not of Spero News.
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