Since I was a young boy studying global political economy armed with little but an Economist subscription and a smile, I've noticed that, at some point, every country and their neighbor tries to do something to create their own Silicon Valley. Whether it's Great Britain, China, France, Brazil, or even North Korea, it seems as though every country in the world is trying to hit upon the right policy formula to create their own hub of high-tech innovation and entrepreneurship.
tax avoidance value-added created by Silicon Valley, this is no surprise. At the same time, all of this is the IPE equivalent of Gretchen Weiner's efforts to coin urban slang in Mean Girls:
I don't mean this in a "HA HA HA, you stupid non-Americans!!" way. I'm pretty sure that the conditions that created the actual Silicon Valley had more to do with serendipity, fortuna, and happy accidents than any conscious set of policies (though see here for my deeper thoughts on this subject).
Which brings me to Russia's efforts to grow its own version of Silicon Valley. It launched Skolkovo Innovation Hub, a pet project of Russian President Dmitri Medvedev, and then paid MIT a boatload of money ($300 million) to set up a school and design a curriculum to attract Russia's best and brightest. High-profile western firms like Cisco have gotten involved. In all, the Russian government has thrown an estimated $4.2 billion at this project.
So how's it going? Well, Courtney Weaver and Charles Clover have a Skolkovo update over at the Financial Times. Here's how it starts:
Just over a month ago, Tony Blair and Colin Powell were sitting in Moscow’s towering World Trade Centre, helping Kremlin officials brainstorm how they could attract more investment to Russia. A few storeys above them, employees of Skolkovo, the government’s flagship high-tech project, received a few visitors of their own.
At 9.30am on April 18, more than a dozen agents of Russia’s domestic security agency stormed Skolkovo’s office, confiscating mobile phones and removing reams of paper.
Skolkovo was meant to be Russia’s answer to Silicon Valley – a Kremlin-sponsored technopark with research centres for the world’s leading science and technology companies. But over the past few months it has found itself caught in the crossfire of Russian politics, causing those involved to question the project’s future....
People close to Skolkovo, including [Kremlin "gray cardinal" Vladislav] Surkov, have suggested that the volume of charges and their highly public airing are signs that the investigations are not part of an anti-corruption drive but are politically motivated. The crackdown comes amid a power struggle within the government between more liberal ministers led by Dmitry Medvedev, the prime minister and former president, and hardliners who are pushing back against the pet programmes of Mr Medvedev’s presidency, the most visible one being Skolkovo.
So, a few things:
1) Here's a thought: if you are trying to woo high-tech foreign direct investment and your go-to guys are Tony Blair and Colin Powell, then you can pretty much forget trying to clone Silicon Valley. Only Russian politicians could envision the following script playing out:
SILICON VALLEY MOGUL: Set up a major investment in Russia? Yeah, they've got the human capital, but the downside risk is massive. It's government by diktat, and Putin blows hot and cold with foreign investment. There are too many ways we can lose our lunch.
EXECUTIVE ASSISTANT: Pardon me, but I have Colin Powell on the line. He says he'd like to talk to you about investing in Russia.
SILICON VALLEY MOGUL: Did you say Colin Powell???!!! Hold my calls for the next hour. It's not every day you get to hear the business musings of a man who has limited business experience and hasn't been in office for close to nine years!!!
2) Correct me if I'm wrong, but any time Putin and Medvedev have a policy disagreement or turf war, Putin wins. Why, if you're negotiating some kind of Russian venture, would you ever feel secure with any arrangement with Medvedev?
3) Wait, scratch #2 -- even if you cut a deal with Putin's men, would you ever feel secure about it? As I said at the outset, it's hard enough trying to incubate an innovation hub in the best of circumstances. Trying to do so with a government that doesn't understand the words "credible commitment" makes it damn near impossible.
Am I missing anything?
An out-of-control shadow banking system that's been barely reformed. A housing sector that's been booming but seems primed for a bust. And despite a recent election that seemed to make it clear who was in charge, gridlock and short-term thinking appear to be hobbling the country's political elite.
I'm talking, of course, about ... China. Well, not me so much as Fitch Ratings, which has turned just a bit bearish on Chinese debt. Why did Fitch downgrade their debt?
China's growth since the re-launch of market-based economic reform in 1992 has been globally as well as domestically transformative. However, the investment-led growth model faces tightening constraints as the share of investment in GDP approaches the level of domestic savings. The process of rebalancing the economy towards consumption could lead to the economy's performance becoming more volatile.
Some underlying structural weaknesses weigh on China's ratings. Average income at USD 5,988 in 2012 and the overall level of development remain well below 'A' medians despite China's phenomenal growth. Standards of governance lag 'A' range norms according to the World Bank's assessment framework....
Risks over China's financial stability have grown. Credit has grown significantly faster than GDP since 2009. China experienced the second-fastest expansion of credit in real terms, behind only Qatar, between end-2009 and end-June 2012. The stock of bank credit to the private sector was worth 135.7% of GDP at end-2012, the third-highest of any Fitch-rated emerging market.
Fitch believes total credit in the economy including various forms of "shadow banking" activity may have reached 198% of GDP at end-2012, up from 125% at end-2008. Only 55% of new social financing took the form of bank lending in the 12 months to February 2013, down from 76% in 2009. The proliferation of other forms of credit beyond bank lending is a source of growing risk from a financial stability perspective....
The ratings assume there is no significant deterioration of geopolitical risk, for example a conflict between China and Japan or an outbreak of war on the Korean peninsula.
China has faced concerns over debt levels since 2009 when state-owned banks unleashed a surge of loans to power the economy through the global financial crisis. The credit wave succeeded in keeping Chinese growth on track, but it led to bubbly housing prices and also saddled local governments with mountains of loans that they are still struggling to repay.
Beijing has spent the past three years trying to manage these problems. It has waged a long campaign to rein in the real estate sector, raising mortgage downpayments and barring people from buying second homes in the hottest markets. Partly as a result, China recorded its lowest annual growth rate for a decade last year.
Reuters tells a similar tale on China's shadow banking system.
China's banks are feeding unwanted assets into the country's "shadow banking system" on an unprecedented scale, reinforcing suspicions that bank balance sheets reflect only a fraction of the actual credit risk lurking in the financial system....
But the key question is no longer how much risk banks are carrying. Rather, it's how many risky loans have been shifted to the lightly regulated shadow banking institutions - mainly trust companies, brokerages and insurance companies.
The risk to the overall financial system is not clear, because of insufficient data about the quality of credit in the shadow banking sector.
To be fair to Chinese authorities, they're quite aware of what they're going through. Indeed, the entire China 2030 exercise, as well as last month's China Development Forum, is predicated on the notion that China's growth model needs to change. But as Martin Wolf notes in his column, as China enters "middle income trap" territory, there are significant problems with such reforms:
First, if expected growth falls from over 10 to, say, 6 per cent, the needed rate of investment in productive capital will collapse: under a constant incremental capital output ratio the fall would be from 50 per cent to, say, 30 per cent of GDP. If swift, such a decline would cause a depression, all on its own.
Second, a big jump in credit has gone together with reliance on real estate and other investments with falling marginal returns. Partly for this reason, the decline in growth is likely to mean a rise in bad debts, not least on the investments made on the assumption that past growth would continue. The fragility of the financial system could increase very sharply, not least in the rapidly expanding “shadow banking” sector.
Third, since there is little reason to expect a decline in the household savings rate, sustaining the envisaged rise in consumption, relative to investment, demands a matching shift in incomes towards households and away from corporations, including state enterprises. This can happen: the growing labour shortage and a move towards higher interest rates might deliver it smoothly. But, even so, there is also a clear risk that the resulting decline in profits would accelerate a collapse in investment.
I'd add only two things at this point. First, as far as I'm concerned, one of the great mysteries in comparative political economy is why it's so bloody difficult for countries like Germany, Japan, and China to change their growth models. High-saving export-oriented economies don't change their ways all that much. To be fair, neither do low-saving, high import countries like the United States. This could be a "varieties of capitalism" story, but that seems ... inadequate as an explanation.
Second, it's worth remembering that the conventional wisdom about China's government was that annual growth below eight percent a year would spell trouble for the government. The implicit contract over the past three decades was that the Chinese Communist Party would supply the growth in return for political quiescence. The end of high growth would imply that this social contract is in trouble.
Except that China's growth has been below that rate for the last two years and running. During that time, Beijing has weathered one major political scandal, a raft of minor political scandals, and a leadership transition without a hint of regime collapse. So while China's economy does seem to merit greater attention, I'm not sure that China's political economy will trigger the kinds of instability that have been predicted for so long.
What do you think?
Your humble blogger has been banging on about how China's weaknesses are significant and its strengths have been badly overestimated. So you would think I'd be happy to read this Edward Wong front-pager for the New York Times:
After the economies of Western nations imploded in late 2008, Chinese leaders began boasting of their nation’s supremacy. Talk spread, not only in China but also across the West, of the advantages of the so-called China model — a vaguely defined combination of authoritarian politics and state-driven capitalism — that was to be the guiding light for this century.
But now, with the recent political upheavals, and a growing number of influential voices demanding a resurrection of freer economic policies, it appears that the sense of triumphalism was, at best, premature, and perhaps seriously misguided. Chinese leaders are grappling with a range of uncertainties, from the once-a-decade leadership transition this year that has been marred by a seismic political scandal, to a slowdown of growth in an economy in which deeply entrenched state-owned enterprises and their political patrons have hobbled market forces and private entrepreneurship.
“Many economic problems that we face are actually political problems in disguise, such as the nature of the economy, the nature of the ownership system in the country and groups of vested interests,” said Zhang Ming, a political scientist at Renmin University in Beijing. “The problems are so serious that they have to be solved now and can no longer be put off.”
Wong didn't even delve into the state of China's big banks, which Bloomberg's Jonathan Weil examines and concludes that they're facing a world of hurt, or China's civil-military conundrum, which I blogged about earlier in the week.
So China is doomed, right? The bubble is gonna pop big time, right?
Well... maybe. Whenever I get too bearish on Beijing, two things drag me back from the brink: 1) China's sheer size means it can muddle through and still increase its relative power; and 2) it's possible for China to experience a severe downturn and still recover quite nicely. As I pointed out a few years ago:
[I look] at China and see the parallels with America's rise to global economic greatness during the late 19th and early 20th centuries. From an outsider's vantage point, America looked like a machine that could take immigrants and raw materials and spit out manufactured goods at will. By 1890, the U.S. economy was the largest and most productive in the world. As any student of American history knows, however, these were hardly tranquil times for the United States. Immigration begat ethnic tensions in urban areas. The shift from an agrarian to an industrial economy led to fierce and occasionally violent battles between laborers, farmers, and owners of capital. With an immature financial sector, recession and depressions racked the American economy for decades.
It is not contradictory for China to amass a larger share of wealth and power while still suffering from severe domestic vulnerabilities.
China-watchers tend to be divided between the Bubblers and the Extrapolators. I'm still more sympathetic to the Bubblers, but if the "China is doomed" meme goes mainstream, I might have to defect.
When we last left off with Bo Xilai, he and his family were in a spot of trouble for myriad crimes and misdemeanors in Chongqing, including the possible poisoning of a British national. According to this New York Times story by Jonathan Ansfield and Ian Johnson, however, that's just the beginning of Bo's crimes:
When Hu Jintao, China’s top leader, picked up the telephone last August to talk to a senior anticorruption official visiting Chongqing, special devices detected that he was being wiretapped — by local officials in that southwestern metropolis.
The discovery of that and other wiretapping led to an official investigation that helped topple Chongqing’s charismatic leader, Bo Xilai, in a political cataclysm that has yet to reach a conclusion.
Until now, the downfall of Mr. Bo has been cast largely as a tale of a populist who pursued his own agenda too aggressively for some top leaders in Beijing and was brought down by accusations that his wife had arranged the murder of Neil Heywood, a British consultant, after a business dispute. But the hidden wiretapping, previously alluded to only in internal Communist Party accounts of the scandal, appears to have provided another compelling reason for party leaders to turn on Mr. Bo.
This is both interesting and unsurprising. The leadership in Beijing has every incentive to tar and feather Bo to ensure that his residual popularity in Chongqing does not lead to a revival in his power. It's now gotten to the point where Bo's son had to issue a statement to the Harvard Crimson in an attempt to shed the image of being a spoiled princeling driving around in a red Ferrari. I don't doubt the wiretapping story, but let's face it, Beijing's ruling cliques are going to have an incentive to... let's say embellish Bo's perfidy.
And we here at Foreign Policy want to help!!
At this point, the accusations being hurled at Bo Xilai, his wife, and his son are flying so fast and furious that the hashtag #BoXilaicrimes is now rising on Twitter. Look at the list yourself -- here are my faves so far:
RT @_dpress Tore Jeremy Lin's meniscus
Let's face it, far more Americans associate the name "Bo" more with Barack Obama's dog than with Bo Xilai, the now-disgraced former Communist Party chief of Chongqing (my generation of Americans will, of course, forever associate Bo with this). That might be about to change, however, because Bo is at the center of the most serious post-Tiananmen political scandal in China.
To recap: Bo was pushing hard for an appointment to the nine-person Standing Committee of the Chinese Communist Party's (CCP) Politburo -- the most powerful decision-making body in China. He might very well have received it too, based on the combination of his "princeling" ties, his populist, Maoist-style campaigns and the flock of high party officials visiting Chongqing to see how he was doing it.
Two months ago, however, Bo's police chief Wang Lijun showed up at the U.S. consulate in Chengdu seeking asylum. He left the consulate, but the reverberations haven't stopped. First Bo disappeared from public view, then his "Jackie Kennedyesque" wife Gu Kailai was charged with the murder of British citizen Neil Haywood, and then Bo was formally put under investigation and stripped of all his party posts.
So, what the hell happened? Slowly, details are starting to trickle out about Bo's methods in Chongqing and exactly what led to his downfall. In order, I'd suggest reading the following:
3) On how U.S. officials handled Wang's request for asylum, check out the New York Times' Steven Lee Myers and Mark Landler's excellent reconstruction of events in Chengdu.
5) Finally, read John Garnault's excellent FP Long Read on whether a Bo-style scandal is about to break out in the People's Liberation Army.
OK, now you know everything I know. So what do I know about Bo? Not much, except for four things:
A) For the past decade there was a lot of talk about how China had managed to routinize the authoritarian selection process. The transfer of power from Jiang Zemin to Hu Jintao seemed seamless. Well, say what you will about what's happening now, but it ain't seamless.
B) I tend to agree with Minxin Pei (and disagree with Cheng Li) that Bo's arrest is not an example of the system working, but rather the system coming veeeerrrrry close to a catastrophic failure. The fact China's official apparatus has clammed up after Bo's arrest is a clear sign that there's still a lot of infighting going on. The notion that this will therefore lead to a real reform/anti-corruption trend strikes me as based on hope more than reality (though see this previous post of mine as a hedge).
C) Despite the official no-comments, the fact that Chinese officials are now leaking like a seive to Western reporters is interesting, and suggests the ways in which a purge in this decade will not resemble pre-Tiananmen purges. It's not that there will be more rumors and conspiracy theories now than thirty years ago -- it's that all this stuff will not be on the Internet -- which will force the CCP to respond more than it would like.
D) Based on how things played out, the U.S. State Department deserves a tip of the cap for how it handled Wang's sojourn to Chengdu. The fact that there were no press leaks until yesterday is good -- anything the U.S. government says publicly about this episode needlessly embarrasses and angers the Chinese government. That said, given the current attitudes in Beijing about the United States, even the Times story is going to raise some hackles. Indeed, given the current strife inside China, it would be easy to envision Beijing making life difficult for the United States elsewhere as a way of using nationalism to paper over elite divisions.
Am I missing anthing? Oh, I'm missing plenty, and I strongly urge China-watchers to proffer their comments!
I think the world of the Financial Times' Jamil Anderlini. His China reportage is always fresh and interesting. But I confess that I approach his latest story with more than a touch of trepidation:
Mr Wen’s persistent mentions of the violent chaos unleashed by Mao Zedong were a clear rebuke to populist “princeling” politician Bo Xilai, who was purged a few hours later as party chief of Chongqing, one of China’s largest cities....
But for those reading between the pauses in the premier’s painfully deliberate oratory, the speech signalled more than the downfall of the maverick Mr Bo, who may still be charged with unspecified crimes.
According to people close to top-level internal party discussions, Mr Wen was tentatively laying the foundation for a move that would blow apart the established order in China and kick-start the political reform he has agitated for in recent years.
That move would be the rehabilitation and re-evaluation of the 1989 Tiananmen Square student protests and the massacre that followed on June 4, when party elders ordered the People’s Liberation Army to open fire on unarmed demonstrators.
To this day the party officially regards the democracy protests as a “counter-revolutionary riot” and the entire episode has been painstakingly scrubbed from the collective consciousness of the nation.
In calling for a re-evaluation of the cultural revolution, Mr Wen was in fact signalling his intention to do the same for Tiananmen in order to finally begin the healing.
Mr Wen has already suggested this on three separate occasions in top-level secret party meetings in recent years, according to people familiar with the matter, but each time has been blocked by his colleagues.
One of the most vehement opponents of this proposal was Bo Xilai....
As Mr Wen prepares to step down at the end of this year as part of a once-in-a-decade political transition, he may be gambling that the time has come to right historical wrongs as a way of launching political reform.
The potential reputational damage to powerful interest groups, particularly within the military, could still easily block such a spectacularly bold manoeuvre.
But in purging Mr Bo the Chinese leadership has cleared away a major impediment and sent a signal to others that spring could be in the air again in Beijing.
Now, a few notes of skepticism. First, we've heard this song-and-dance routine about Wen before. He's talked about political reform a lot, and every time he does it gets covered in the foreign press and squelched in the domestic Chinese press.
Second, while the CCP elite might be in agreement on not wanting to return to the chaos of the Cultural Revolution , it's quite a stretch to go from that consensus to an agreement to revisit 1989. I have every confidence that a large swatch of the CCP elite looks at Tiananmen as identical to the Cultural Revolution in terms of instability and chaos.
So this seems like yet another CCP episode of Lucy yanking away the democratic football from hopeful liberals... and yet.
Anderlini makes two persuasive points and omits an even more persuasive argument. He correctly observes that Wen is approaching lame duck status and that his primary political impediment has been removed. So maybe he is less constrained than in the past.
The omitted argument is a bit tangential, but bear with me. It relates to this Keith Bradsher story in the New York Times about China's relaxation of foreign capital strictures:
The Chinese government has begun making it much easier for foreign investors to put money into China's stock market and other financial investments, in a slight relaxing of more than a decade of tight capital controls.
The move, not publicly announced but disclosed by some private money managers, indicates that Chinese officials are eager to counter a rising flight of capital from the country, a worsening slump in real estate prices, a weak stock market and at least a temporary trade deficit caused by a steep bill for oil imports.
Those concerns have evidently started to offset fears of the potentially inflationary effects of big inflows of foreign cash (emphasis added).
Both the inward rush of capital and the capital flight by affluent Chinese are interesting. They could force the central government to start making credible commitments with respect to property rights. Only such commitments will ensure that the locally wealthy Chinese will not immediately have their capital move to the exit whenever possible. Oddly, Wen deciding to open up Tiananmen might be a way of signaling to investors that Beijing intends to be a bit kinder and gentler than it's been over the past decade.
The international diversification of China's wealthy elite has another effect. Via Erik Voeten, I see that John Freeman and Dennis Quinn have a new paper in the American Political Science Review that concludes, "financially integrated autocracies, especially those with high levels of inequality, are more likely to democratize than unequal financially closed autocracies." Why?
[M]odern portfolio theory recommends that asset holders engage in international diversification, even in a context in which governments have forsworn confiscatory tax policies or other policies unfavorable to holders of mobile assets. Exit through portfolio diversification is the rational investment strategy, not (only) a response to deleterious government policies. Therefore, autocratic elites who engage in portfolio diversification will hold diminished stakes in their home countries, creating an opening for democratization.
Freeman and Quinn might as well be talking about China right now. Soo.... maybe the "princelings" are less worried about democratization than they used to be.
To be honest, I still think the football is going to be yanked. But it's worth considering.
What do you think?
UPDATE: Mark Mackinnon has an excellent essay in the Toronto Globe & Mail explaining why reporters in China have so little to go on when they need to report on high-level politics or put down coup rumors.
Travel and the associated jet lag from the travel have left me a bit befuddled and confused about the foreign policy discourse of the last week. I keep having to re-watch or re-read things just to make sure I'm understanding them correctly. I mean, did Rick Perry actually give the answer he gave on the Pakistani nukes question? Did John Mearsheimer seriously claim that a self-hating Jew can provide an accurate analysis about the state of modern Judaism?
My biggest confusion, however, is over the announced Putin-Medvedev switcheroo over the weekend. Indeed, my confusion operates at many levels. First, I was flummoxed that, well, any Russia-watcher was surprised by this move. Second, I was at a loss as to explain why any Washington-watcher would be fretting about the effect of this move on the "reset" of Russian-American relations. As Walter Russell Mead correctly observed today, "There is a good case for a businesslike US-Russian relationship no matter who runs Russia."
What has really confused me, however, is the possibility that this planned transition might hit a few bumps in the road.... like the actual departure of a powerful cabinet official:
Dmitry Medvedev, Russian president, sacked the country's finance minister on Monday, in the clearest sign yet that a deal between Mr Medvedev and prime minister Vladimir Putin to swap jobs next year is provoking a furious backlash in Moscow political circles.
Alexei Kudrin, the finance minister, had said at the weekend he would refuse to serve under Mr Medvedev if he became prime minister next year. In dismissing the mutinous minister, Mr Medvedev sought to demonstrate that he still has authority, analysts said - despite the humiliation of voluntarily standing down as president in favour of Mr Putin.
Mr Kudrin, a fiscal conservative, is respected by investors and widely credited with seeing Russia through the 2008-09 financial crisis. His dismissal came after Russian financial markets closed but the rouble earlier lost more than 1 per cent against the dollar, partly due to apprehension about the conflict with Mr Medvedev....
At a meeting of a government commission in the town of Dmitrovgrad on Monday, the two men faced off when Mr Medvedev told Mr Kudrin that his statement on Saturday "appears improper ... and can in no way be justified. Nobody has revoked discipline and subordination."
"If, Alexei Leonidovich, you disagree with the course of the president, there is only one course of action and you know it: to resign."
Mr Kudrin responded with a jibe: "I will take a decision only after having consulted the prime minister."
"You can get advice from whoever you want, with the prime minister if you want," snapped back Mr Medvedev. "But as long as I am president, these decisions I will take myself."
A few hours later Mr Medvdev's spokesperson announced Mr Kudrin's departure for reasons "that were laid out clearly in the commission meeting".
The humiliating public swipe from Mr Kudrin is a measure of how far Mr Medvedev's authority has eroded since he announced at the annual congress of the ruling United Russia party on Saturday that he would stand down next year to make way for a return of Mr Putin for a third term as president, assuming the role of prime minister under Mr Putin.
Could this kind of elite discord lead to even greater political discord in Russia? Reading Joshua Tucker's collection of expert commentary, as well as Julia Ioffe's FP observations, my initial answer would be no. Kudrin quit because he wanted to be the next prime minister and was therefore the odd man out of the Putin-Medvedev exchange. That would not seem to be a great foundation for a mass backlash against this move.
On the other hand.... in the case of Russia, mass backlash might be less important than elite backlash, and Kudrin is hardly the only member of the elite to be on the outside of the Putin-Medvedev axis. The self-interested reasons for the backlash matter less than the very public signal that the leadership transition is not playing out so smoothly after all.
In the short term, the most likely outcome is that this contretemps will blow over, and the worst-case scenario for Putin is that he decides to ditch Medvedev for someone a Kudrin clone/deputy. In the longer term, however, I do wonder if this move will push the Russian regime towards greater instability.
So, as I said, I'm pretty confused right now. What do you think?
In my last post I mentioned how China was encountering resistance to its rising power. Now, via Kindred Winecoff, I see a whole mess of reportage about China's mounting internal difficulties. In no particular order:
1) Nouriel Roubini has focused his Dr. Doom-O-Vision on the Middle Kingdom, and doesn't like what he sees:
China’s economy is overheating now, but, over time, its current overinvestment will prove deflationary both domestically and globally. Once increasing fixed investment becomes impossible – most likely after 2013 – China is poised for a sharp slowdown. Instead of focusing on securing a soft landing today, Chinese policymakers should be worrying about the brick wall that economic growth may hit in the second half of the quinquennium....
[N]o country can be productive enough to reinvest 50% of GDP in new capital stock without eventually facing immense overcapacity and a staggering non-performing loan problem. China is rife with overinvestment in physical capital, infrastructure, and property. To a visitor, this is evident in sleek but empty airports and bullet trains (which will reduce the need for the 45 planned airports), highways to nowhere, thousands of colossal new central and provincial government buildings, ghost towns, and brand-new aluminum smelters kept closed to prevent global prices from plunging.
Commercial and high-end residential investment has been excessive, automobile capacity has outstripped even the recent surge in sales, and overcapacity in steel, cement, and other manufacturing sectors is increasing further. In the short run, the investment boom will fuel inflation, owing to the highly resource-intensive character of growth. But overcapacity will lead inevitably to serious deflationary pressures, starting with the manufacturing and real-estate sectors.
Eventually, most likely after 2013, China will suffer a hard landing. All historical episodes of excessive investment – including East Asia in the 1990’s – have ended with a financial crisis and/or a long period of slow growth. To avoid this fate, China needs to save less, reduce fixed investment, cut net exports as a share of GDP, and boost the share of consumption.
The trouble is that the reasons the Chinese save so much and consume so little are structural. It will take two decades of reforms to change the incentive to overinvest.
Now, Roubini is enough of a persistent doomsayer that it would be easy to discount this argument -- if it wasn't for the fact that this jibes with the opinion of other China economy-watchers. This coming-bust prophesizing comes on top of arguments made by Barry Eichengreen, Donghyun Park and Kwanho Shin that as China hits middle-income status, it will hit a "middle income trap" of slower growth. (One interesting question is whether, as China encounters rampant inflation, its eventual decision to let the RMB appreciate will help ease some of these pressures).
2) Meanwhile, China's political leadership appears to be engaged in a full-fledged freakout over the Arab revolutions and any whisper of a similar phenomenon happening in China. Rising food prices are leading to price controls and an anxious government monitoring if/when more expensive staple goods lead to political unrest. That said, Chinese authorities seem to be on top of the whole crushing dissent thing:
According to Chinese Human Rights Defenders, an NGO, by April 4th some 30 people had been detained and faced criminal charges relating to the so-called “jasmine revolution”—an inchoate internet campaign to emulate in China recent upheavals in the Middle East and north Africa. Human Rights Watch, another NGO, reports that a further 100-200 people have suffered repressive measures, from police summonses to house arrest. This has been accompanied by tighter censorship of the internet, the ousting of some liberal newspaper editors, and new curbs on foreign reporters in China, some of whom have been roughed up....
Even more worrying, however, is the increasing resort to informal detentions, punishments and disappearances. These are outside the law, offering the victim no protection at all. The government now dismisses the idea that one function of the law is to defend people against the arbitrary exercise of state power. On March 3rd a Chinese foreign-ministry spokeswoman told foreign journalists: “Don’t use the law as a shield.” Some people, she said, want to make trouble in China and “for people with these kinds of motives, I think no law can protect them.”
3) As for China's assessment of its external security situation, the State Council released its 2010 White Paper on defense last month. As this East Asia Forum summary suggests, there's a slight change in tone from the 2008 white paper:
The introductory assessment of the ‘security situation’ section notes that the ‘international balance of power is changing,’ that ‘international strategic competition centring on international order, comprehensive national strength and geopolitics has intensified,’ and that ‘international military competition remains fierce.’ Despite this sense of turbulence, and as was the case in 2008, the 2010 paper assesses that ‘the Asia Pacific security situation is generally stable.’ But the additional observation in the 2008 paper, namely, ‘that China’s security situation has improved steadily’ does not appear in 2010. One possible reason is that the 2010 paper reports that ‘suspicion about China, interference and countering moves against China from the outside are on the increase.’
In light of all these developments, yesterday's Economist editorial should come as no surprise:
The view from Beijing, thus, is different to the view from abroad. Whereas the outside world regards China’s rulers as all-powerful, the rulers themselves detect threats at every turn. The roots of this repression lie not in the leaders’ overweening confidence but in their nervousness. Their response to threats is to threaten others.
Now, as someone who's pointed out these problems on occasion on this blog, you might think I'm pleased as punch about these developments. Nope. First, from an economic standpoint, a recessionary China eliminates a vital engine of global economic growth. Second, as I wrote back in January:
Exaggerating Chinese power has consequences. Inside the Beltway, attitudes about American hegemony have shifted from complacency to panic. Fearful politicians representing scared voters have an incentive to scapegoat or lash out against a rising power -- to the detriment of all. Hysteria about Chinese power also provokes confusion and anger in China as Beijing is being asked to accept a burden it is not yet prepared to shoulder. China, after all, ranks 89th in the 2010 U.N. Human Development Index, just behind Turkmenistan and the Dominican Republic (the United States is fourth). Treating Beijing as more powerful than it is feeds Chinese bravado and insecurity at the same time. That is almost as dangerous a political cocktail as fear and panic.
Developing.... in very disturbing ways.
In a lot of ways, Saudi Arabia has had a lousy six weeks. Revolutions, protests and general unrest have spread across the region from far-away Tunisia to way-too-close-for-comfort Bahrain and Yemen. You're starting to see mainstream meda reports suggesting that the Kingdom's influence is waning compared to Iran. The region is clearly spooked enough to spend an extra $36 billion to forestall a massive turnout for the planned "Day of Rage" on March 11. If that doesn't work, the king might have to fall back on The Onion's suggested strategy.
With all of this going on, however, I find this report by the Financial Times' David Blair, Jack Farchy and Javier Blas to be veeeeerrrrryyy interesting:
Saudi Arabia is in “active talks” with European oil companies to meet the production shortfall left by Libya, the clearest indication to date that the leader of the Opec oil cartel is about to boost supplies to stop further rises in the oil price, which surged to near $120 a barrel on Thursday.
Riyadh is asking “what quantity and what quality of oil they [the European refiners] want,” a senior Saudi oil official said on condition of anonymity....
Paolo Scaroni, Eni chief executive, on Wednesday made the most pessimistic public assessment to date of the impact of the Libyan crisis on the country’s oil output, saying the country was producing only 400,000 b/d, compared with 1.6m b/d before the violence erupted.
“The real phenomenon is there are 1.2m barrels less on the market,” Mr Scaroni told reporters in Rome, adding that the loss of Libyan production was “not a huge thing, but it is something and there is also a sense of general uncertainty in the region which can be the trigger for speculation”.
The shortfall means the world market is enduring its biggest oil crisis since hurricane Katrina in 2005 knocked out most US oil production in Gulf of Mexico.
Traders believe that Saudi Arabia has the capacity to increase production and also the oil of the right quality to meet the shortfall. The kingdom produces so-called Arab Extra Light and Arab Super Light, which through blending could be made to resemble the high-quality, light, sweet oil produced by Libya.
The Saudi move comes as oil prices reached levels that many economists believe will dramatically slow the global economy and potentially trigger a double-dip recession. Oil prices hit an all-time high of nearly $150 a barrel in mid-2008.
Here's my question: why are the Saudis being so cooperative at this point? There might be sound strategic reasons -- preventing a double-dip recession, assuaging longstanding allies, etc. It could be that the Saudi leadershipis feeling secure enough to plan for long-term price stability.
Still, based on the recent reportage, I'm a little surprised that the Saudis aren't exploiting the current uncertainty to ensure the security of the current regime going forward. If I was a Saudi prince right now, I'd be
blowing my fortune during a 72-hour blowout in Vegas involving Salma Hayek, Christina Hendricks, and all the shrimp I could eat making it very clear to my buyers just how important stability is in my neck of the woods.
As an energy consumer, I'm grateful for the current Saudi behavior. As someone who studies the global political economy, I'm surprised and puzzled by this same behavior.
Am I missing anything?
I see that The Powers That Be at FP are highlighting my
unconventional wisdom about China's rise on their splash page.
Given the Hu-Obama summit and subsequent flurry of China commentary this week, it's worth highlighting the most absurd data point I cited in that article -- Forbes' magazine's decision to name Chinese President Hu Jintao the world's most powerful individual. Their explanation:
Paramount political leader of more people than anyone else on the planet; exercises near dictatorial control over 1.3 billion people, one-fifth of world's population. Unlike Western counterparts, Hu can divert rivers, build cities, jail dissidents and censor Internet without meddling from pesky bureaucrats, courts.
With these two sentences, the editors at Forbes managed to demonstrate an even shallower analysis of domestic politics than their Dinesh D'Souza cover story on Obama, which I didn't think was possible.
Let's review just a smattering of coverage about Hu Jintao's current ability to exercise iron-willed control over the Chinese bureaucracy, shall we? First, Gordon Chang in The New Republic:
Hu is sometimes called the world's most powerful person -- Forbes magazine gave him that accolade in November -- but he is a weak leader back home. Just how weak was revealed in two startling incidents within the past three weeks. On Tuesday, after the state-run Chengdu Aircraft Design and Research Institute performed the first flight test of the J-20 stealth fighter -- an unmistakable slap in the face of Defense Secretary Robert Gates, who was visiting Beijing at the time -- Hu professed not to know that the test had occurred....
If the Chinese leader was telling the truth, the test flight reveals a remarkable defiance of civilian authority by the flag officers of the People's Liberation Army, an obvious attempt to undermine the military cooperation Hu said he wanted to foster. Or if, as is more likely, Hu did in fact know about the timing of the test, he nonetheless said something that made himself appear inept. One has to wonder about a political system that creates incentives for its top leader to publicly imply that he is both ignorant and weak.
Either way, the unmistakable impression is that Hu seems to have much less influence than is often assumed. This could be due to the fact that China is in the middle of a transition to the next generation of political leaders -- led by Xi Jinping -- who are gaining in power as Hu loses his in the long run up to the actual handover.
Next, the Economist:
China's new raw-knuckle diplomacy is partly the consequence of a rowdy debate raging inside China about how the country should exercise its new-found power. The liberal, internationalist wing of the establishment, always small, has been drowned out by a nativist movement, fanned by the internet, which mistrusts an American-led international order.
Then there's Drew Thompson in -- hey, it's FP!!
China's national security decision-making process is opaque, and so this worrisome disconnect -- who knew what when -- is difficult to ascertain with certainty. It is highly improbable that Hu was unaware of the development of this major military advancement. His role as chairman of the Central Military Commission ensures that he is well briefed about major programs, and he doubtlessly approves their large budgets. What is not known is how much oversight and control the central government leadership in Beijing had over the PLA's decision-making process that lead to highly visible tests at the Chengdu air base just as Gates was visiting China.
And, finally, David Sanger and Michael Wines in the New York Times:
China is far wealthier and more influential, but Mr. Hu also may be the weakest leader of the Communist era. He is less able to project authority than his predecessors were -- and perhaps less able to keep relations between the world's two largest economies from becoming more adversarial.
Mr. Hu's strange encounter with Defense Secretary Robert M. Gates here last week -- in which he was apparently unaware that his own air force had just test-flown China's first stealth fighter -- was only the latest case suggesting that he has been boxed in or circumvented by rival power centers....
President Obama's top advisers have concluded that Mr. Hu is often at the mercy of a diffuse ruling party in which generals, ministers and big corporate interests have more clout, and less deference, than they did in the days of Mao or Deng Xiaoping, who commanded basically unquestioned authority....
"There is a remarkable amount of chaos in the system, more than you ever saw dealing with the Chinese 20 years ago," Brent Scowcroft, the former national security adviser and Mr. Gates's mentor, said Saturday. "The military doesn't participate in the system the way it once did. They are more autonomous -- and so are a lot of others."
Now, to be fair, it's possible that China is learning how to play the authoritarian equivalent of the two-level game. Even if that's true, however, China is playing that game very badly -- and they're playing it in policy arenas that are guaranteed to trigger a balancing coalition rather than accommodation.
OK, contest for readers -- name the award that I want to give to writers who vastly exaggerate China's rise!
Today's Tom Friedman column on China's future is a pretty good one, in that it demonstrates how and why Friedman excels at a craft that flummoxes the best essayists. First, he asks a great question:
[O]ne of the most intriguing political science questions in the world today is: Can China continue to prosper, while censoring the Internet, controlling its news media and insisting on a monopoly of political power by the Chinese Communist Party?
Then, he makes a coherent argument in less than 800 words that the most populous nation in the world will have no choice but to liberalize and democratize. Friedman's thesis:
The “Beijing Consensus,” of economic liberty without political liberty, may have been a great strategy for takeoff, but it won’t get you to the next level....
My reason for believing China will have to open up sooner than its leadership thinks has to do with its basic challenge: It has to get rich before it gets old....
The only stable way to handle that is to raise incomes by moving more Chinese from low-wage manufacturing jobs to more knowledge- and services-based jobs, as Hong Kong did. But, and here’s the rub, today’s knowledge industries are all being built on social networks that enable open collaboration, the free sharing of ideas and the formation of productive relationships — both within companies and around the globe. The logic is that all of us are smarter than one of us, and the unique feature of today’s flat world is that you can actually tap the brains and skills of all of us, or at least more people in more places. Companies and countries that enable that will thrive more than those that don’t.
This argument is clear enough for the average New York Times reader to get it. It's also clear enough for
us foreign policy bloggers in pajamas online analysts to point out where and how he's wrong. In particular, Friedman makes two large errors:
1) It's not clear that China has to get to "the next level" of economic development in order to become the most powerful country in the world. China's GDP could be larger than America's while still possessing only 1/3 the per capita income of the United States. If the rest of China were to enjoy the infrastructure and living standards or, say, Shenzhen, China would be doing quite well for itself. And as Chinese consumers demand more goods and services, the domestic jobs that power the rise of middle-class professionals -- teachers, lawyers, consultants , environmental engineers, travel agents, etc. -- will start to emerge in large numbers.
Just to be clear here -- Friedman is right to say that greater liberty is likely to lead to more innovative growth. My point is that a population of a billion plus people allows the government to focus on intensive growth for an awfully long time and still prosper an amazing amount.
2) In a world of network technologies and externalities, the best and most innovative technology does not always win -- the technology used by the most customers develops the lock-in. China doesn't have to have a technological edge, it just has to ensure that the largest market in the world embraces China-friendly technologies. Hey, come to think of it, you know what institution could ensure that occurrence? The Chinese Communist Party.
[Still, you hope Friedman is right and you're wrong.... right? --ed. Well, in theory yes, but...... after reading this SPIRI paper on China's new foreign policy actors, I'm not so sure. The common thread in that paper is that the more pluralist actors were also the most nationalist. It's entirely possible that a freer China is also a more reckless China.]
Back in the day, it was thought that bustling Dubai would act as a guide for how the Gulf economies should liberalize in order to increase their economic growth. Dubai would not bring democratization, but cultural tolerance, transparency and cosmpolilitanism are pretty nice to have, and Dubai seemed to have more of these traits than the rest of the Gulf.
In the wake of the current downturn, Dubai is struggling along with the rest of the region. Unfortunately, Robert Worth reports in the NYT that the emirate's response has not been in a liberal direction:
Instead of moving toward greater transparency, the emirates seem to be moving in the other direction. A new draft media law would make it a crime to damage the country’s reputation or economy, punishable by fines of up to 1 million dirhams (about $272,000). Some say it is already having a chilling effect on reporting about the crisis.
Last month, local newspapers reported that Dubai was canceling 1,500 work visas every day, citing unnamed government officials. Asked about the number, Humaid bin Dimas, a spokesman for Dubai’s Labor Ministry, said he would not confirm or deny it and refused to comment further. Some say the true figure is much higher.
I seriously doubt that this tactic is going to improve Dubai's economic health.
The rest of the essay suggests that the emirate is in such desperate straits that it will be forced to go to Abu Dhabi -- the more conservative and oil-rich emirate -- for a bailout.
Chinese premier Wen Jiabao gave an interesting interview to Financial Times editor Lionel Barber over the weekend.
First, you have to love the first words out of Wen's mouth: "I want to make clear here that I will be most sincere in all my answers, but I may not tell you everything."
Second, Wen endorsed the writings of Adam Smith -- well, one particular set of writings:
The society that we desire is one of equity and justice, is one in which people can achieve all round development in a free and equal environment. That is also why I like Adam Smith's Theory of Moral Sentiments very much.
In 1776, Adam Smith wrote the Wealth of the Nations. And in the same historical period, he wrote the Theory of Moral Sentiments. Adam Smith made excellent arguments in his Theory of Moral Sentiments. He said in the book to the effect that if fruits of a society’s economic development can not be shared by all, it is morally unsound and risky, as it is bound to jeopardize social stability .If the wealth of a society is concentrated in the hands of a small number of people, then this is against the popular will, and the society is bound to be unstable....
I think for quite some time this book has not attracted due attention or attention that it deserves. I think it is as important as The Wealth of Nations. He made a reference to the invisible hand only on two occasions in these books. One, he refers to the market; the other, he talks about the morality.
For those of you who were wondering, here's the relevant passage from Theory of Moral Sentiments:
The rich only select from the heap what is most precious and agreeable. They consume little more than the poor, and in spite of their natural selfishness and rapacity, though they mean only their own conveniency, though the sole end which they propose from the labours of all the thousands whom they employ, be the gratification of their own vain and insatiable desires, they divide with the poor the produce of all their improvements. They are led by an invisible hand to make nearly the same distribution of the necessaries of life, which would have been made, had the earth been divided into equal portions among all its inhabitants, and thus without intending it, without knowing it, advance the interest of the society, and afford means to the multiplication of the species. When Providence divided the earth among a few lordly masters, it neither forgot nor abandoned those who seemed to have been left out in the partition. These last too enjoy their share of all that it produces.
Investors pulled their money out of Russia in the wake of the Georgia conflict at the fastest rate since the 1998 rouble crisis, new figures showed yesterday. Russian debt and equity markets have also suffered sharp falls since the conflict began on August 8, with yields on domestic rouble bonds increasing by up to 150 basis points in the last month.... Alexei Kudrin, finance minister, said the capital flight had largely subsided and would be more than made up for by projected inflows. Russia’s foreign currency reserves, at $581bn, are the world's third largest. “There is nothing that has happened that could cause us to change any of our plans,” he said. But the ebbing of foreign investor confidence will make it harder for Russian companies to raise debt and equity finance since foreign sources account for a disproportionate share of long-term capital for Russian corporate borrowers. “The market is vulnerable to foreign capital flight,” said Kingsmill Bond at Troika Dialogue, the investment bank. “The major Achilles heel of the Russian market is that there is very little domestic long-term capital.” Partly as a result of the Georgian conflict, yields on domestic rouble bonds have increased in the last month by between 75 and 150bp, Mr Bond said.The key word in that last sentence is "partly." Over at Foreignpolicy.com, Clifford Kupchan explains the other factors:
As far as portfolio investors and the Russian stock market are concerned, the main tipping point was the four days following July 24, when TNK-BP’s Robert Dudley left the country, and shortly after that, Putin went after the steel company Mechal and took about $6 billion off its capitalization. Those behaviors really rattled investors and caused a steep dip in the Russian stock market. The war’s effect has been less dramatic.
More broadly, I think Russia as an island of stability and a safe haven from the credit crunch—that perception of Russia is on life support. Essentially over. There’s been four reasons: TNK-BP, Mechal, the Russian government’s willingness to use administrative means to break up cartels and implement de facto price controls (which means there’s more strategic risk in consumer sectors as well as strategic sectors), and fourth is the war. When you add those four together, the investment climate has taken a real, real hit over the last month.
This ain't 1998: Russia's not going to collapse anytime soon. But it's hard to see this as a viable developmental model either.
Not only do we live in a new “age of authoritarianism,” but we live in a world where autocratic governments increasingly finance democratic governments.... One thing is clear: the world’s biggest financial powers are no longer the world’s large democracies. A gathering of the countries that matter for global economic coordination will no longer be a gathering of the leaders of the world’s big democracies. Coordination among the large democracies was never easy — and likely will only get harder as additional countries have to be brought in.Then there's the New York Times' Jad Mouawad on national oil companies -- most of which are based in non-democratic countries:
Oil production has begun falling at all of the major Western oil companies, and they are finding it harder than ever to find new prospects even though they are awash in profits and eager to expand. Part of the reason is political. From the Caspian Sea to South America, Western oil companies are being squeezed out of resource-rich provinces. They are being forced to renegotiate contracts on less-favorable terms and are fighting losing battles with assertive state-owned oil companies. And much of their production is in mature regions that are declining, like the North Sea. The reality, experts say, is that the oil giants that once dominated the global market have lost much of their influence — and with it, their ability to increase supplies.... As late as the 1970s, Western corporations controlled well over half of the world’s oil production. These companies — Exxon Mobil, BP, Royal Dutch Shell, Chevron, ConocoPhillips, Total of France and Eni of Italy — now produce just 13 percent. Today’s 10 largest holders of petroleum reserves are state-owned companies, like Russia’s Gazprom and Iran’s national oil company.... Western companies are far better than most national oil companies at finding and extracting petroleum, experts say. They have developed advanced exploration technologies and can muster significant financing to develop new fields. Many of the world’s exporting states, however, have spurned their expertise. Oil company executives see a straightforward explanation: a trend known as resource nationalism. They contend that they have been shut out of promising regions by a rising assertiveness in the Middle East, in Russia, in South America and elsewhere by governments determined to keep full control of their oil. Even in places where they are allowed to operate, the Western oil companies face growing problems. Countries like Russia, Algeria, Nigeria and Angola have recently sought to renegotiate their contracts with foreign investors to capture a bigger share of the profits. “The problem with the supply side of the equation is a problem of accessing the resources in the ground so they can be explored and developed,” Rex W. Tillerson, the chairman of Exxon, said in a recent interview. “That’s a political question where governments have made choices.”And oil is not the only area of resource nationalism and nationalization. There's cement. And, potentially, food:
While Saudi Arabia sets up its first sovereign wealth fund, ordinary Saudis are more preoccupied with the rising price of food. This is prompting the Saudi government to consider a new direction for foreign investment: buying farms in the poorer parts of the world.... Saudis are thinking of buying rice farms in Thailand, the world’s biggest rice exporter. Rice prices are climbing especially fast, as several rice-producing countries have restricted exports, fearing domestic shortages. Thailand has even flirted with the idea of an OPEC-style rice cartel. Investors from elsewhere in the Gulf, including Qatar and Abu Dhabi, are scouring the world for undeveloped farmland to buy, especially in Pakistan and Sudan. Libyans and other Arabs have been checking out Ukraine. Kuwaitis have been looking in Myanmar, Cambodia and Laos.A few thoughts on all of this:
Daniel W. Drezner is professor of international politics at the Fletcher School of Law and Diplomacy at Tufts University.