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On the rise of China

On the rise of China

An immense amount has been written and said about the prospects of China. It seems less than useful to once again rehash the issues of whether China will grow fast or very fast, and review the internal transitions that it will have to make. Our considered view offers two conclusions to this debate:

China is enjoying "decompression" growth after generation of totalitarian rule, and it is a credit to the elite that they are able to keep the country on course. However, these institutions are not up to the challenge of managing an industrial country of a billion people, and it is not possible for them to scale up to meet this challenge. A transition to something alien to China's culture will be needed if this is to be achieved, and without such a change, growth will be suppressed.

At least on element that may contribute to slower growth is social unrest, which is growing as inequalities increase. It is worth noting that around a fifth of the world's poor people live in China in 2005. The rewards of change have gone to relatively few hands, and the burdens of change are born an many shoulders. There were around 50,000 civil disturbances scattered across China in 2004 - and nearer to 65,000 in 2005 - all of them easily managed and contained, but most stemming from the breaking of old social norms without their replacement by new balances. The nation is still run for the Party, not the people, and individuals who are not members of the elite - the commercial classes, for example - have no say whatsoever in how their country is to be run. This is less an issue of justice than of how good policy is to be made: Beijing central minds cannot concoct good solutions to technical issues about which they know nothing.

Finally, demographics are against China in the medium term, a consequence of Mao's one child policy. There is a twenty year window in which China has to propel at least a part of its population to a state from which they can cause younger nations to work for them.

China has many other problems to resolve, of course, many of them with major implications for the outside world. Its foreseeable energy needs are great, and its current demand has doubled world oil prices. If it modernises on coal, the pollution from this will have global consequences. Already, the additional emissions from China on a particularly cold day are easily detectable in Europe a week later, as the air sweeps East in the jet stream. Current expectations of energy demand suggest that China wil have to build a new power station every week to keep up with demand for electricity.

This paper builds from this foundation and takes a somewhat different slant on the importance of China. Whilst internal events - the evolution of institutions, the pursuit of social consensus - will govern China's fundamental growth rate, it is also increasingly coupled to the outside world. That is to say, what it does and how it does it will influence the external world, and how the various agents in the external world see and react to it will greatly influence its own evolution.

China and the wealthy world

China and the wealthy world

Those who recall the impact of Japan on the Western economies during the 1960-80 period will also remember the mercantilist response of many industries and countries to this. Vehicle manufacture, textiles, ship building and consumer goods were all affects. People were put out of work, and who areas of some countries de-industrialised. The British seaboard was particularly affected, as nineteenth century shipyards and foundries, smelters and ports were bankrupted.

Seen from today's perspective, however, we now know that Japan gave the Western economies an immense present. It enabled Western consumers to have more and better goods than they would otherwise have been able to buy. Japan maintained an exchange rate which meant that it exported cheap, well-made goods to the Western economies for three decades at far below the prices which they could have commanded. In essence, the Japanese people were used by the elite to buy a place in the world at the expense of a generation's hard work.

Additionally, the Japanese onslaught proved immensely healthy for the fossilised industries which it impacted. One should contrast one of today's consumer goods with the wobbly, flimsy offerings of the 1960s, or a car. What has changed is not the technology, cost or materials - although all of those have undergone radical alteration - but rather the attitude to the customer. Nobody can doubt the consumer-centric ethos which dominates any industry that intends to survive.

China has been described as a fast-forward replay of 1960s Japan: larger, quicker, leapfrogging over rather than recapitulating obsolete technologies and work practices. At present, it is certainly following the Japanese pattern of exchange rate management, effectively using its work force to buy influence and the ability to finance external activities. Its 'leapfrogging' appears to some to be closer to theft, with internal markets dominated by faked brands and technical capabilities on which its firms do not pay royalties. For example, one Unilever brand has a huge market share - around 70% - but only 5% of that is actually made by or under license to the company: the rest is fake.

Such things are an irritant when confined to a developing economy, but a running sore when employed by a major exporter. The figure shows Transparency International's index of probity, where 10 is scored by a country with totally honest business and state practice; and 1 implies total corruption. This is plotted against income per capita. China is where it would be expected to be for its level of income, lost in the pack. However, this is not acceptable in a major trading partner.

The internal imperatives of China are, plainly, to disturb as few factors as possible in a society which is already harried by change. The elite are in a hurry to get over the demographic pass before the gray winter snows of age begin to fall. There is a strong sense that China needs to recover the weight and dignity that it lost during the Nineteenth century. Many of the concerns of the outside world are, therefore, not readily perceived from within. There are efforts to manage corruption, to be sure, but achieving the levels of transparency that are commonly expected in the wealthy world would imply a level of over-government that would blunt entrepreneurship, slow growth and make China feel like a client to those who owned intellectual property and other capabilities a that it needed.

Readers may recall the map which was circulated during the Reagan presidency as "Ron's World". California and Washington dominated the scene, and Europe was a little squiggle in the upper right, squashed by the nevertheless-small Soviet Union. Asia featured as a dot, labelled Japan-'Nam. Now consider what Beijing's World might look like on the same scale. The US is admired and resented for the admiration that it creates. Japan is disliked, but seen as senile and a convenient punch bag on which to work off nationalistic adrenaline. Europe is - well - a squiggle, and everything else is broadly a dot, unless classified as a useful dot, containing oil, cheap hands or the likes of copper or bauxite.

There is, therefore, a mutual insensitivity between the major agencies which could easily lead to difficulties. We began this essay by saying that China had a series of internal issues to resolve. We now add a foreign policy concern, which is that internal success could, if managed badly, lead to problems in external relations. However, whilst the internal issues are affected almost exclusively by Chinese people and institutions, the external issues are not. It takes two to tango.

China and the developing countries

China and the developing countries

The vertical axis of the figure which is shown below offers a measure of the complexity of an industrial activity. The figure is derived from the number of things that need to 'fan in' in order to deliver a finished good. If one want to make a metal spear, one needs iron ore, a furnace and anvil, fuel and wood for the shaft of it. If one wants to build a wide-bodied passenger aircraft, one needs a very much longer list, under headings as various as metals and legal support, project management software and human resource development. Complex infrastructures can support complex activities, but simple ones cannot.

This means that the low income band on the left of the chart compete with each other, but not with those higher up the income per capita scale. The wealth nations have increasing ceded the simpler things - including the production of intermediates, wholly specified and tightly defined, to the poorer economies. There is, therefore, an intensification of competition in each of these bands as the economies of scale express themselves.

China is exporting goods and intermediates - in particular - to the industrial world, and selling finished articles such as clothing and tools to the world as a whole. It is, therefore, frequently eating the lunch of the poor nations. Sri Lanka once had a thriving export-oriented textile industry based in its Southern tax-free zone. Chinese exports have brought it to near-collapse. In Latin America, many semi-craft industries have been rendered insolvent in much the same way.

Why has China been able to achieve this? There are, perhaps, two primary reasons: first, because China has extremely high savings rates, and so projects have had ready access to capital. Second, because China has adopted much of the US approach to business, which is that of the immediate pursuit of scale economies. Both nations think through their industry and construct for the scale economy plateau, and both are able to do because of their immense internal marketplace. (This confidence in scale is one of the striking differences between EU-based and US industries. Europe prefers to wet a toe, see how things develop, expand 'organically' and lose its initiative to those who come in with an engineering-economic eye.)

There is a gradual process by which an economy becomes wealthy, skills become scarce and highly paid, and in which productivity lessens as issues such as safety and welfare increase costs. Korean wages in the vehicle industry now approach those of the UK, and productivity levels in some cases actually lag newer EU plant. Korea has a car industry because Japan outsourced more and more of its manufacturing to it as its own costs rose. Korea is now looking for clients to undertake its manual work: perhaps the Indonesia, perhaps India.

This will happen to China as much as to any other country. The current monolithic investments will be obsolete in ten or so years, and it will be economic to replace some and to build other replacements in the lower wage areas. Transport economics, resource costs - particularly associated with energy - and external relations will define whether this happens primarily within rural China or in the poor nations of Asia. This process may be a fraught one, not least as China will be likely to enter these economies with less experience than current multinational companies, with attitudes perhaps less schooled towards partnership than are now typical of Western governance and with considerable impacts on existing relationships which the MNCs of the industrial world may have struck. China is attempting a process in which the West had a relatively free hand, but where critics now abound and where competitors are already established. China's attitude to this situation can be one of fitting in and making do, or of aggressively changing the rules. These stances are not without their implications.

Conclusions

Conclusions

China may or may not make a success of its internal adjustments, and growth may be slower than reported today, or significantly slower. Either way, the political and economic entity which will exist in 2030 will be a formidable one. We do not see any way short of a natural catastrophe by which China will be in play as anything but a single, still very centralised political entity and as a large economic power. However, although this is a deeply important axis for anyone contemplating China as a market or manufactuary, military power or centre of ideas, there remains one which is still more important. That is the outcome of the two-way tango between the outside world and China.

One can see two generic kinds of dialogue developing. First, a successful China blasts its way towards economic and geopolitical power, and set off a train of explosions by doing so. Second, China is slower, more tentative and more cast as a partner than a competitor in economic matters. Some of this distinction is down to purely economic matters - a slow performing West, a rampant China - whilst much is attributable to the tone with which things are done. Both sides have a role to play in this.

An emollient China is characterised by three virtues. First and foremost, its economic interactions with the industrial economies is that of an efficient partner, taking in a (significant) part of the supply chain for them, and perhaps managing sub-outsourcing to the poor economies as time progresses. It does not attempt to brand its own vehicles, consumer goods and so forth for Western markets, but rather uses established marques as 'containers' for what it delivers to their owners. Nonetheless, significant value added sticks to China in the process. Intellectual property is respected, the more egregious corruption is curtailed, and contracts are respected.

Second, China manages its relations with the rest of the world with alight hand. Environmental issues and their strong link to energy are addressed. The issue of Taiwan is not shelved, but less emphasised; Japan is not stigmatised and China is helpful in regularising the administrations of awkward neighbouring states. It enters international forums with the clear intention of fulfilling whatever obligations it accepts; and sets out equally clear guidelines about what it will not accept. Its relations with poorer countries are economically tough-minded, but in line with the international guide lines which it has accepted. There is sweat in factories run by Chinese companies in Indonesia, but no sweat shops; and the overall contribution to the region is seen as giving as much as it takes.

Third, China mitigates nationalism as much as it has communism, presenting itself as a pragmatic country that is merely trying to establish a legitimate place for itself. There is no triumphalism, at least in public, and due deference is given to the self-importance of the existing powers.

These components for successful external relations can easily be soured. To turn each on its head: first, China presents itself, or allows itself to be presented as a fierce and predatory competitor, exploiting its people to the glory of a political elite and the enrichment of a corrupt few. Its companies enter Western markets much as did the Japanese in the 1955-65 period: with near or under cost pricing, supported by an artificially low exchange rate, using other people's ideas without license and seeing corrupt practice as just another business tool.

Second, China asserts its status as aggressively as possible, and propagates a shrill form of triumphant nationalism. Few attempts are made to regulate the environment or resource needs, and imports of energy and exports of air and seaborn pollution both soar. High energy and resource prices impact on all other economies except the exporters themselves, leading to further economic imbalances and to a general slowing down. At the same time, it is extremely difficult to invest usefully in China, as the inner workings of the economy are far from transparent and sharp failures are mixed with inexplicable subsidy from the state. China makes harsh demands on its neighbours, and uses international forums to raise its voice. It does not honour agreements struck at these. Its relations with poor countries are poisonous, as its exports undermine their attempts at development, whilst ist companies are harshly exploitative.

Third, already touched upon, these irritants are trumpeted as intentional, as the direct consequence of who and what China wants to be, and that others had best adjust their minds to a new reality.

Readers may feel that neither of these extremes are at all likely in the form stated; and we have tabled them in order to give structure to this dimension. The mixed reality of 2030 will have contained elements drawn from history which included all of these flavours. Nevertheless, the tendency to develop a vicious or virtuous cycle with other powers is self-evident, and which of these flavours predominate with depend on these interchanges.

How will this axis interact with the internal questions which we posed earlier? A wildly successful China - in the sense of having resolved all existing internal problems as regards internal growth, and socio-political management of the country - could, in fact, slip either way. It could be triumphalist or it could be emollient. A less successful China, perhaps riven by institutional inefficiencies and social unrest, will be more isolationist than not, more inclined to blame outsiders than welcome them, certainly more sensitive to imagined slights. China is a foreign policy adolescent, with all of the moodiness and instability of outlook that this implies. Poor results at home will exacerbate this, whilst a background that is just as it might wish will at least open the door to a positive stance, make a career path for thoughtful diplomats and create an appetite for debate about the outside world amongst the educated Chinese. Linkage with the Chinese diaspora in Asia is similarly more feasible when 'foreign' and 'devil' are not linked.

Comment on "the rise of China"

Comment on "the rise of China"

Thanks for the paper, which I found helpful. However, I do not think that you have drawn your net wide enough. To my historian's eye, Asia today has much in common with Europe a hundred years ago. There is nationalism and what you called 'foreign policy adolescence', there are weak institutions between nations and a mixture of weak internal structures and overly-strong but obsolete ones. India, for example, has a strongly consensus seeking policy apparatus - which is good, so far as it goes - but an inability to reach a clean decision on almost anything for which there is not decades of precedence. At the same time, it has engrained habits of thought about its neighbours - and, in particular, about Pakistan - which are simply out of date and starkly unhelpful. Religious thought and nationalism on both sides of that border has lead to policies which, at best, divert huge amounts of resource from more critical needs, and which has created a threat to stability which is, to the eye of any dispassionate observer, both without grounds and aimed to no useful end. There is, therefore, scope for irrationality in the region, and as powers increasingly abut on each other's interest - through economic rivalry, for example - so this scope could extend itself.

I recall one of your (Oliver Sparrow's) marathon talks at Chatham House, perhaps in 1998, where you discussed the differing role of warfare as between primary producers and economies which are fuelled by the service economy. The former could have aspirations to capture wealth fields or mines, whilst the latter could only lose through conflict. You said that we should not assume that what is now true of the service economies is also true of the states whose economies are based on primary production, light manufacture and other assets which can be captured or coerced.

I recall that you remarks were made in the context of the Middle East, where scarce resource in the form of water, and primary production in the shape of hydrocarbons could most certainly be captured by an aggressor. Asia will not go to war to capture rice fields - one would assume - but it is straightforward to see how a hegemonist could aim to project power over a region useful for light manufacture and other activities in which a degree of coercion is feasible. This would not be a rational stance, of course, for one could achieve the same thing through economic power and self-interest. However, 'foreign policy adolescents' are not noted for their rationality: Japan went to war with the US for reasons which now appear ludicrous, and any reading of Japan's internal politics in the period 1920-42 shows a sequence of silly mistakes founded on aspirations to imperial grandeur, on shrill nationalism and underlying economic malfunction. Continental China's assertion of rights over Taiwan-China has a not-dissimilar tone to it.

I believe that there is a case to be made for political-military instability in Asia. Such a world would be a natural extension to the case in which the rich nations closed off their links with what they saw as an irresponsible, economically unstable or otherwise threatening China. You have sketched in the shape of this trend. Nationalism and poor performance make an enemy of Japan; poor governance is seen to cause anything from currency instability to epidemics; China (or other Asian nations) are guilty of the extensive theft and re-selling to OECD markets of intellectual property. It is straightforward to add to the list: for example, the aggressive targeting of foreign markets for non-economic reasons, and the coercion by China of other manufacturing regions to go 'through' it as an intermediary.

Most people who have written about an Asian "down side" of this sort are taken to a closed region, trading chiefly with itself, at odds with the wealthy world: the bamboo curtain model. I do not see this as credible. Internal markets are not big enough, and energy and other needs are too large, for the formation of a sensible economic block. The style of the world economy does not fall easily into natural blocks like this.

My suggestion is, therefore, that a down-side case could be made for a region in which civil and military instability are both present. Asia is not segregated as a block, or an array of blocks. However, aspects of what outsiders could do with it would certainly be turned off, at least for practical purposes. Outsourcing would either be impossible, or handled on a much more bilateral, state-guaranteed manner. For example, technology that could be transferred would be even more circumscribed that today, and supply chains would need audit and certification in respect of many things - political and ethical considerations, hygiene and safety, intellectual property - which are now largely ignored. No country of firm would bet its future on the continued stability of any such arrangement. Globalisation - in the sense of doing things anywhere, constrained only by cost, quality and timeliness - would be a thing of the past, an oddity of history to which people have vague aspirations to return.

Review: China Shakes The World

Review: China Shakes The World

by James Kynge. (Weidenfeld and Nicolson 2006)

If you are interested in China, and how its rise will effect the rest of the world - including its impact on Sustainability and implications for Responsible Business - I strongly recommend an excellent new book: "China Shakes The World - The Rise Of A Hungry Nation" by James Kynge.

Kynge first went to China in 1982 as an undergraduate student, speaks fluent Mandarin and was for many years, the Financial Times (FT) bureau chief in Beijing. It is a meticulously researched book and, as a good journalist, Kynge knows how to tell a good story. It begins on the Ruhr, on the site of an almost dismantled German steel plant, which has been sold to China. A Chinese team has removed the plant in half the time the Germans had calculated; and its loss has left the traditional manufacturing community disorientated and demoralised. Kynge then follows the plant to its new home in central China. The purchaser had started his business as a village workshop in the mid 1970s after the death of Mao, in the first wave of economic liberalisation unleashed by Deng Xiaoping. With the former German steel plant's production included, Shagang, the Chinese company, will become one of the 20 largest steel producers in the world. Over the rest of the 227 pages, Kynge criss-crosses China. He travels to Italy where the Italian footwear sector, having enjoyed a boom aided by cheap (often illegal) Chinese migrant labours, is now facing destruction as its Intellectual Property (IP) and designs are copied back in China and jobs disappear; as well as to the American mid-West where his report from a conference of bemused middle Americans in Illinois, a state gutted by Chinese competition, is masterly. Kynge's conclusions are stark, "It is a challenge unprecedented in the annals of global capitalism," he states.

"The simple, unpalatable truth is that, in many areas of manufacturing, European companies cannot compete in the longer run." With the Chinese buying a European company every six days, we need to understand these new realities.

Kynge's FT background shines through in a myriad of telling statistics:

Kynge explores vexed issues such as IP theft, piracy, and corruption. I particularly liked his exploration of the trade-offs between economic growth and social/political control that the Chinese Communist Party continue to make at different stages of the economic cycle: "when reform is too fast, there is chaos. When reform is too slow, there is stagnation."

Anyone interested in the implications of China's rise for Sustainability and the Responsible Business movement should pay particular attention to Kynge's chapter 6. 400 of the 668 largest Chinese cities are short of water and water rationing is increasing. China uses between 7 and 20 times as much water to produce a unit of GDP as the developed world does. At the current rate of deterioration, two-thirds of China's high-altitude ice fields - 15% of the planet's ice - will have melted by 2050.

The World Bank calculates that 16 of the 20 most polluted cities in the world, are in China. Global air pollution - especially mercury - is generated in China. Furthermore, China's insatiable demand for raw materials is causing huge environmental damage in other parts of the world. Rainforests in Indonesia, Myanamar, central Africa, Siberia - "the lungs of the planet" are disappearing at unprecedented rates to satisfy China. WWF calculates that 44% of timber logged for sale to China, has been felled illegally. "But in terms of potential damage to the global environment, China's demand for soybeans may be having an impact a least as deleterious as its requirement for timber." The shortage of water in northern China combined with rising affluence has meant that in less than a decade, China has moved from being a marginal presence on international soybean markets to become by far the largest importer. One result is that in Brazil, swathes of Amazon Rainforest (home to 30% of the world's animal and plant species) are being destroyed. In 2004 alone, an area the size of Belgium was lost - six football fields every minute. Kynge warns: "in the years that it takes to reach that hazy goal of environmental responsibility, the international tensions released by China's appetite for foreign resources and the abuse of its own environment may escalate sharply."

Kynge also explains why current environmental controls in China are so weakly enforced: the local offices of China's Environmental Agency, are funded by local authorities - who own companies which may be deeply hostile to Agency rulings. The Courts are in a similar position.

More than 400m people have been raised from poverty, and their drive to better themselves and their children has unleashed "one of the greatest ever surges in general prosperity." As Chris Patten, in his review of Kynge's book concludes: "who is threatened as China stands up? In one sense, this is a daft question. Do we really believe that for more than a fifth of humanity to raise its living standards is a threat to the rest of us? Would we prefer China dirt-poor and starving? Where China undercuts and outperforms us in the market place, the answer is not protectionism - though I fancy we shall see many more future surrenders to protectionist pressures - but better education and training, more labour flexibility and lower government charges on industry. The threat, where it exists, is more subtle. It is not to American hyper-power hegemony, but rather to the global environment (as well as China's own of course)." The dilemma for the Sustainability movement is that innovative environmental technologies are one of the new sources of competitive advantage. The Chinese have so far shown themselves unable or unwilling to protect IP. So how can the latest environmental technologies be made available without asking Western businesses to surrender their crown jewels?

David Grayson

David Grayson writes, speaks and advises on Responsible Business and Global Trends. He is the Doughty Professor at Cranfield University

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