EXAMINING ASIA By HUGO RESTALL FROM THE ARCHIVES: August 1, 2003 Why China Is a Paper Tiger Americans seem to be fixating these days on the idea of China stealing away American jobs. That's interesting because fear of China among its developing-country neighbors, who had much more plausible reasons to worry about the impact of this rising competitor in the same economic niches, has peaked and started to fade. Instead, Asians seem to have realized that not only is the China threat overrated, but the country is an engine of growth that benefits them. It's perhaps understandable that Americans are very aware of their country's trade deficit at a time when the economy, while growing, isn't producing many new jobs. And China is the natural scapegoat, since bilateral trade was $103 billion out of kilter last year in favor of Chinese exporters, the biggest deficit America has with any single country. In the world of public perception, it doesn't matter that the goods the U.S. is buying from China are largely low-tech commodities that it was already buying from other countries at higher prices. Or that the goods the U.S. is selling to China are on the whole more sophisticated products, and the American companies which make them need to capture a significant share of this new and growing market in order to maintain an edge over global competitors. In fact, U.S. and Chinese economic interests are quite closely aligned, because the two economies are so complementary. You might even say that China is an economic colony of the U.S., with its currency so tightly pegged to the dollar and American companies using it as a base for their low-cost manufacturing. That might seem like a strange idea given how nationalistic the Beijing regime is. But consider the government's actual behavior, and it's not hard to imagine that if Paul Bremer were running China instead of Hu Jintao, he'd be accused of exploiting the country's economy to benefit the U.S. and other Western countries. First of all, the most productive sector of the economy is largely run by foreigners, for the benefit of foreigners. China may boast of being the largest recipient of foreign direct investment in the world, but it got that way in part by offering preferential tax treatment and other incentives to multinational companies. Those ventures in turn export not only their products, but also their profits, often hidden by manipulating the prices used for transactions within the companies. The Chinese government, meanwhile, has been burning through its people's savings like an Internet company, to provide employment to hundreds of millions of workers. While a few state-owned companies are well run, they are the exception to the rule. Officially, the state sector is profitable, racking up $31.8 billion in net profits last year. But much, if not all of that is an illusion, the result of government investment and bank loans being booked as profit. This happens because the true cost of capital to a state-owned company in China is effectively zero. Officially, the state-owned banks charge interest, but it's understood that they will continue to lend increasing amounts of money to the companies for the foreseeable future. Since Chinese continue to save at a high rate and put their money into savings accounts, this is sustainable for now, but not forever. The financial open vein is particularly debilitating because private entrepreneurs have trouble staying in business. In almost every industry there is overcapacity because the state companies pile into product categories where there are profits to be made until there are no more profits. Then they continue producing, even at a loss. As a result, private companies which are concerned with making a return on their investment are driven out. Some are nimble enough to keep finding new niches, but by and large the only reliable way to recoup one's cost of capital is to be in an industry with high barriers to entry, natural or regulatory. This is reminiscent of South Korea right before the Asian Crisis. The chaebols had the same "if we build it, the demand will come" mentality about continuously expanding capacity. By 1996, the top 50 business groups in South Korea, whose sales accounted for over 97% of GDP, were making a net loss. At least South Korea had already achieved developed country status, with companies that had proven records of entrepreneurial success and global brands, not to mention reserves of human capital to draw on. China has to face the challenge at a much earlier stage, albeit with one big advantage: Officially the government hasn't amassed much of a debt burden. Here's one illustration of how poorly China's companies have performed: In 1993, nine of the country's best firms were allowed to list their stocks overseas, initially in Hong Kong. Five of them are today trading below their IPO price, with the average return for the last decade just 30%, or less than 3% per year. The companies listed on China's domestic stock markets are even more pathetic. So China is using the hard-earned savings of its people, which could have been devoted to building globally competitive companies, and is instead throwing them down 100,000 state-owned ratholes so that Chinese workers can produce artificially cheap products for American consumers to enjoy. The government is even taking away the dollars earned by selling these products and loaning them back to the U.S. at low rates so that those American consumers can keep on buying. There's still time for China to get wise. But the point here is that Americans should be sanguine about China's development model. Thanks to Beijing's own policies, China is giving them cheap capital, cheap manufactured goods sold below their true cost and a market for sophisticated, high value-added goods. At the end of the day, China will be left with uncompetitive companies, depleted savings and a balance-sheet recession. It will have to sell off the distressed assets of its failed banking system, at which point Western companies can buy up even more of the economy at fire-sale prices. As a recent article by Yasheng Huang and Tarun Khanna in Foreign Policy suggested, the true competitive threat to Western multinationals comes from India. Entrepreneurial companies are growing up in truly competitive conditions and are starting to challenge on the world stage in sectors where the U.S. has enjoyed a very profitable edge, such as software. One more thought about China: Since the two economies are complementary, it's ultimately not in the U.S. interest for Beijing to continue with its self-defeating policies. A sudden collapse would hurt the U.S. because the market for U.S. Treasurys might be disrupted, social unrest could damage American-owned factories and the market for U.S. goods could dry up. In short, Americans should be somewhat concerned about China, but not for the reason they think. The good deal they're getting now can't last forever. Mr. Restall is editorial page editor of The Asian Wall Street Journal. Updated August 1, 2003
This archive was generated by hypermail 2b30 : Sun Aug 24 2003 - 00:00:02 EDT