China's Great Economic Weakness – Forbes

Americans fears of China are at once entirely understandable and altogether misplaced. The understandable part is straightforward enough. China wants very much to displace American hegemony in Asia if not globally. It has a large, well-educated and well-disciplined population with which to do it.  It has a powerful economy and an increasingly sophisticated and aggressive military. An age-old question seems appropriate enough: what is not to fear? Other aspects of American fears do, however, miss the mark. In media outlets and elsewhere people frequently make claims that China’s authoritarian government and top-down economic direction gives it more focus and purpose than the seemingly chaotic market system of the United States. But these aspects of China, as the evidence increasingly makes clear, are not strengths at all. They are in fact huge, perhaps mortal weaknesses.  

China’s economic system, especially as recently hardened under Premier Xi Jinping, has three salient characteristics: The first is how Beijing controls  every major aspect of economic development and direction through large-scale interventions frequently through massive state-owned enterprises (SOEs). The second is a seeming openness to foreign investments but only so long as they serve the developmental goals identified by Beijing’s planners. The third element is how the first two characteristics enable Beijing to marshal China’s financial resources to serve the centrally directed goals.

On the surface, it is easy to see how this highly concentrated and purposeful approach can impress visiting journalists, government officials, and businesspeople.  The planners decide for instance that China will have high-speed rail.  These visitors are awed by phalanxes of powerful locomotives set on an impressive array of rails going in all directions from an urban center.  Everything looks so much more efficient, clean, and organized than in the west.  Port facilities look larger than life.  Whole cities rise seemingly overnight in what were once fields, replete with rows of apartment blocs and urban transport systems.  These journalists and businesspeople come home and look at the seeming inability of democratic processes to decide even on an economic direction much less conger the means to pursue it.  They look disapprovingly on the high metabolism of the market-based economy in which ideas and firms rise and fall and fail without any overall direction or guidance.

But for all the awe China’s approach creates, it is at base less efficient than it seems and often extremely wasteful.  The problem is that not even China’s planners can see the future.  They choose directions that seem highly appropriate on the morning when they are announced – artificial intelligence, for instance, or electric vehicles.  They choose the firms, usually state owned, to pursue those directions.  In one decision, the planners settle not only on the economy’s major goals but also the technologies, practices, and organizations that will achieve them.  That is a lot of crystal ball gazing.  After all, what seems on the mark today often becomes passe in relatively short order, while the applied technologies become outdated that much faster.  But even as such facts become clear, China, once its plan is set, makes few midcourse corrections, if any and those it does make are seldom complete and often implemented too late in the process.

And such common mistakes are the root of evident waste.  The Evergrande fiasco is a case in point.  The company ran up huge debts not because its management was flamboyant, which it was, and not because lenders were less than prudent, which they were.  Evergrande was able to run up huge debts because Beijing emphasized housing for years.  In concert with Evergrande and other developers, Beijing and local governments raised cities out of nothing and clearly did so with little reference into what Chinese people wanted or where they wanted to live.  Now it seems that 20% of China’s housing stock is unoccupied.  Even if China now razes these excess structures, the debts will remain.  Evergrande’s debt overhang is a part of this more general picture.  Nor is housing the only area where central planning has missed the mark and created great waste.  There are for instance rail links to nowhere and roads that serve few.  It speaks to how frequently this approach has failed to capture the future that overall debt in China – both public and private – now exceeds 220% of the nation’s gross domestic product (GDP), much of it connected to planned projects that are unable to discharge their financial obligations.

Of course market economies have no special ability to see the future either.  Their efforts create plenty of mistakes and waste.  But markets have two distinct advantages over China’s centralized approach.  First, they seldom marshal national economic and financial resources as thoroughly a China’s approach does.  Mistakes accordingly occur on a smaller, less wasteful scale than in China.  The few times America has suffered the scale of waste seen in China has almost always resulted from a concerted government push, as for instance when Washington pressured banks to lend mortgage money to lesser credits, fostering the dubious financial practices and overbuilding that culminated in the 2008-09 financial crisis.  The second advantage of market systems is that they embrace a diversity of participants each of which makes efforts to capture the future in different ways.  Most miss the mark and fail.  But those that hit the mark succeed wonderfully, enriching their investors as well as the whole economy.  This diverse approach, though much less organized than China’s centralized system, is much more likely than is China’s concentrated approach to hit on the elusive future need.

China’s openness to foreign investors would seem to be a way for its system to coopt the advantages of more diverse market economies.  Especially coupled with Beijing’s insistence that foreign investors share their technologies and business secrets with a Chinese partner, the approach does open China to others’ innovations.  But such coercive technology transfers also ensure that China at best will be taking today’s and more likely yesterday’s technology, both of which, given the speed at which technology changes, will soon be superseded by something new.  This reliance on copying or what is effectively theft is the “innovative” approach of a less developed economy. 

None of this is to discount what China has accomplished in the past few decades.  Nor is there any attempt here to ignore China’s apparent strengths and advantages, especially its jewel, China’s large, intelligent, well-educated, and disciplined population.  It also has natural and geographic resources and an impressive national spirit.  But recognizing all this should not blind people – Chinese and foreign alike – to the weaknesses implicit in China’s centralized, top-down directed system or the dangers to China implicit in Premier Xi’s seeming determination to harden it.

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