When China Rules the World (33 page)

By far the greatest impact of China’s rise has been felt in East Asia. The main gainers have been the developed Asian tigers of North-East Asia - South Korea and Taiwan, together with Japan. They have been the beneficiaries of cheap manufactured goods produced in China while at the same time enjoying growing demand from China for their knowledge and capital-intensive products.
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Their own companies have relocated many of their operations to China to take advantage of much cheaper labour, as in the case of the Taiwanese computer industry.
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The losers have been the same as those in the West, namely those workers displaced by operations outsourced to China. Unlike the United States, which has a huge trade deficit with China, all of these countries enjoy large surpluses with China. The nearest example in the region to a grey area is South-East Asia, whose economies are not so dissimilar to that of China, though Singapore and Malaysia, in particular, are rather more developed. Over the last decade, the ASEAN countries have seen a large slice of the foreign direct investment they previously received going to China. They have also lost out to China in the mass assembly of electronic and computer equipment - Singapore and Malaysia being notable examples - and have, as a consequence, been forced to move up the value chain in to order to escape Chinese competition.
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The country that has suffered the greatest is Indonesia, whose economy most closely resembles that of China. Indonesia has lost out to China in terms of direct investment by foreign multinationals, which have opted for China rather than Indonesia as their preferred production base. On balance, however, China’s growth has greatly benefited the ASEAN countries too, with China now comfortably ensconced as their largest trading partner, one of their biggest markets (if not the biggest), and in many cases their main provider of inward investment.
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A measure of China’s growing impact on the world is the leverage that it enjoys in its relationship with the United States (notwithstanding the fact that the United States still enjoys a much larger GDP than China and an immensely higher GDP per head) as a result of the economic imbalances which lie at the heart of their relationship. China is comfortably the largest exporter to the US, with Americans displaying an enormous appetite for Made in China consumer products. As the United States exports relatively little to China, the latter has enjoyed a large and rising trade surplus which has grown very rapidly since 1999.
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China has invested this surplus in various forms of US debt, including Treasury bonds, agency bonds and corporate bonds - in effect, a Chinese loan to the US - thereby enabling American interest rates to be kept artificially low to the benefit of American consumers and especially, until the credit crunch, holders of mortgages. Although the US was deeply in debt, China’s continuing large-scale purchase of Treasury bonds (which I will use as shorthand for various forms of US assets held by China) allowed Americans to continue with their spending spree, and then partially helped to cushion the impact of the credit crunch. In September 2008 China’s foreign currency reserves totalled $1.81 trillion - a sum greater than the annual economic output of all but nine countries.
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The rapid growth of its foreign exchange reserves has made China a colossus in the financial world. The importance of this has become even more apparent with the Western financial meltdown. While Western financial institutions, many Western companies and even some countries have found themselves starved of liquidity, China, in contrast, is blessed with an abundance of it. Strategically this puts China in a potentially powerful position to enhance its international financial and economic influence during the global recession, for example by buying foreign companies, especially oil and mineral firms.

How China deploys its reserves remains a matter of great concern, especially to the United States, since most are invested in US dollar-denominated debt. If China transferred significant amounts into other currencies - it is believed that it holds rather more than 60 per cent of its reserves in dollars (with less than 30 per cent in euros), though this is a tightly guarded secret
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- it would have the immediate effect of depressing the value of the dollar and forcing US interest rates to rise: the larger the sum transferred, the bigger the fall in the dollar and the larger the rise in interest rates. But the government is also faced with something of a dilemma. It would certainly make good economic sense for China to transfer a large slice of its reserves out of US Treasury bonds: the dollar’s value fell steadily in 2006-8, then recovered somewhat, but there remains the strong possibility that its price might fall even further, perhaps precipitously so. China’s vast dollar investments in US Treasury bonds furthermore earn miserable rates of return, which makes precious little sense for what is still a poor country.
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However, if it tries to transfer significant sums of its reserves into other currencies, thereby provoking a further fall in the value of the dollar, then the value of its own dollar reserves will also decline. China is in a catch-22 situation. The two great, but utterly unlike, economic powers of our time find themselves - at least for the time being - in a position of bizarre mutual dependence.
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This was graphically illustrated in the darkest days of the financial meltdown in September 2008, when it is believed that the Chinese were pressing the US government to rescue Fannie Mae, Freddie Mac and subsequently AIG out of concern for its holdings in them, and the Americans were understandably afraid that China might otherwise sell off some of its dollar reserves, with dire consequences for the value of the dollar and its role as a reserve currency.
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Before these tumultuous events, China had already been exploring other ways of using its vast reserves. In early 2007 the government announced the formation of the China Investment Corporation, a new state agency to oversee investment of $200 billion of China’s foreign currency reserves - similar to Temasek Holdings, the Singapore government’s successful investment agency, which manages a $108 billion global portfolio of investments.
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To test the water, the new agency placed $3 billion of its holdings with Blackstone, the US-based private equity group, thereby signalling Beijing’s intention to switch some of its investments from US Treasury bonds into more risky equity holdings.
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In fact it has since emerged that the State Administration of Foreign Exchange, which oversees China’s reserves, has itself been investing rather more widely than was previously believed.
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These moves herald China’s rise as a major global financial player.
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In the second half of 2007, as the credit crunch began to bite, China Development Bank took a significant stake in the UK-based Barclays Bank
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and Citic Securities formed a strategic alliance with the US investment bank Bear Stearns before the latter went bust.
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Three Chinese banks were also in talks about acquiring a stake in Standard Chartered, the UK-based emerging markets lender.
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But most of this came to nought as the Chinese increasingly realized the likely severity of the credit crunch and the potential threat it represented to any stakes in Western financial institutions that it might purchase. When the financial meltdown came in September 2008, the Chinese found themselves relatively little exposed. Nonetheless, the enormous funds enjoyed by Chinese banks, based on the fact that the average household saves more than a quarter of its income and has nowhere else to invest it, mean that Chinese banks will become an increasingly formidable global force.

The relationship between the United States and China needs to be set in a broader global and historical context. The belated acceptance of China as a member of the WTO in 2001 marked the biggest extension of the world trading system since the beginning of the contemporary phase of globalization in the late 1970s. As the largest recipient of foreign direct investment and soon to be the biggest trading nation, China’s admission immediately transformed the nature and dynamics of the trading system. By acquiring a low-cost manufacturing base and extremely cheap imports, the developed world has been a major beneficiary of China’s accession. But China itself has also been a big gainer, achieving wider access to overseas markets for its exports and receiving huge flows of inward investment, thereby helping it to sustain its double-digit growth rate.
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Thus, so far, China’s integration into the global economy has been perceived in terms of a win-win situation. Is that likely to continue?

China’s impact on the global trading system is so huge, and also in the longer term so uncertain, that this is a difficult question to answer. There are already tensions over China’s relationship with the WTO: on the one hand, there are accusations from the developed countries that China is failing to implement WTO rules as it ought to, while on the other hand, both the US and the European Union are using anti-dumping clauses (designed to prevent countries selling at unfair prices) as a pretext for deploying protectionist measures against Chinese goods.
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There has been constant controversy around Chinese exports to the US . During 2007 these were concentrated on the safety of Chinese products, notably food and toys, as well as China’s failure to observe intellectual property rights.
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So far these skirmishes have been at the relative margins of their trading relationships but they could be a harbinger of growing tensions in the future. Although the present era of globalization was designed by and is the creature of the West, above all the United States, the greatest beneficiary has been East Asia, especially China.
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If the West should decide at some point that China has been the chief beneficiary -
and to the West’s growing detriment
- then the latter is likely to become increasingly protectionist and the present global system will be undermined. The process of globalization has already ground to a halt with the failure of the latest World Trade Organization Doha Round and is extremely unlikely to be revived.
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But it remains to be seen whether this will be the prelude to a wider breakdown.

Hitherto, the main losers in the Western world have been those unskilled and semi-skilled workers who have been displaced by Chinese competition. But their grievances have been dwarfed by the winners - the multinationals which have used China as a cheap manufacturing base and the many consumers who have benefited from China prices. What will decisively change this political arithmetic is when China, as it rapidly moves up the value chain, starts to enter spheres of production which threaten the jobs of skilled manual workers and growing numbers of white-collar workers and professionals. The process of upgrading is already taking place in a limited way, as the example of textiles in Prato and Como in Italy illustrates, with design following manufacturing to China.
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How quickly China upgrades its technological capacity thus lies at the heart of the likely Western response: the quicker that process proceeds, the more likely it is that the political arithmetic will change and that protectionist barriers might be erected; the slower it happens then the more likely it is that trade tensions can be managed and in some degree defused. The first scenario seems at least as likely as the second.

The economic rise of China has already led to a multiple redistribution of global economic power: from South-East Asia to China, from Japan to China, and from Europe and the United States to China. Given that China is only a little over halfway through its take-off phase, with over 50 per cent of the population still living in the countryside, it is clear that we are only in the early stages of this process.
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It is inconceivable that one-fifth of the world’s population, embracing all the various scale effects that we have considered, can join the global economy with - by historical standards - enormous speed without ramifications which are bound to engender tension and conflict. So far China’s incorporation has been relatively conflict-free. But the present aura of win-win that has surrounded this process seems unlikely to continue. The political arithmetic will shift in the West as the number of losers rises, with the entirely plausible consequence that the West - the traditional proselytizer for free trade - will lead the charge towards protection and the end of the era of globalization that began in the late 1970s.
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These considerations have now been recast in a new context: the most serious recession since the Great Depression of 1929-33. Global trade is rapidly contracting, capital flows likewise, and unemployment is rising steeply across the world. The present era of globalization has come to a shuddering halt - and gone into reverse. How far this process will go remains entirely unclear. Almost everywhere governments are seeking to provide forms of assistance and subsidy for their threatened industries. There are growing demands for protection, evident in the ‘buy American’ pressure within the US Congress. China, as the world’s second biggest exporter (just behind Germany), will inevitably be a key target of such demands. In these circumstances, a trade war, accompanied by a withdrawal into rival trading blocs, is a distinct possibility.
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The world is in new territory. The global parameters of China’s economic rise have, at least for the time being, changed profoundly.

7

A Civilization-State

Hong Kong used to be a byword for cheap labour and cheap goods. It lost that reputation when its employers started to shift their operations north of the border into the similarly Cantonese-speaking Guangdong province. Hong Kong had moved too far up the value chain: the expectations of its workers had become too great to tolerate miserable working conditions, indecently long hours and poverty wages. The old textile factories decamped north along with everything else that required the kind of unskilled labour which Hong Kong once possessed in abundance and which China, as it finally opened its borders, now enjoyed in seemingly limitless numbers. The checkpoints and fences that were thrown up around the new towns in Guangdong were eloquent testimony to the countless rural labourers who were willing to leave their villages, whether they were nearby or in a distant interior province, for the bright lights of the city and what seemed to them, though no longer those over the border in Hong Kong, like untold riches.