DannyQuah

Making large things visible to the human eye

Tag Archives: economic growth

This growth model is just not sustainable in the long run

Memo to: Thomas Alva Edison, Menlo Park
Cc: China, Asia 2013; East Asia, Asia 2013; Singapore, Asia 1995
From: Totally Far-sighted Experts Who Will Turn Out To Be Correct
Date: 29 March 1879

Dear Mr Edison:

Your laboratory is unbalanced and unsustainable. You rely overly on old men in white laboratory coats, doing painstaking experiments on physical materials.  This model of innovation is not sustainable in the long run.Abraham_Archibald_Anderson_-_Thomas_Alva_Edison_-_Google_Art_Project

Your “light bulb”, “phonograph”, and “motion picture camera” projects: Cotton and linen thread. Wooden splints. Tinfoil. Seriously?

You face an imminent middle-level physical-usage trap.

All your projects are materials-based. You think of innovation based on discipline and on working in teams. You think of invention happening in an industrial research laboratory. You think hard work is what makes innovation.  You could not be more wrong.

The future instead is weightless and digital, not physical. Innovation requires freedom from control, from oversight, and from humdrum discipline. Your research trajectory is headed entirely in the wrong direction. The future lies not in New Jersey but on the other coast, Silicon Valley. There, nimble 20-year-olds working alone or in small groups, wearing only white T shirts and cut-off blue jeans, cut software code on gleaming but skinny notebook computers, doing things like “algorithms” and “search” and “big data”. You think you get innovation and invention by driving your large-scale teams hard to produce results. Instead, you should be providing your employees with free pizza and soda, and organising frisbee afternoons—all the while providing lots of unicycles and juggling toys in the workspace. Innovation needs to be free-wheeling, loose, and unstructured. And, please, call that workplace not a laboratory but a “campus”.

Google-blog-send-Street-View

(Editorial note – good gosh, these have all turned out to be correct!  Edison really should have listened and stopped trying to make better light bulbs with that old-fashioned unsustainable model of innovation.)

We urge you to stop tinkering with your innovation methods before your physical materials-based experiments lead to a total collapse of your unbalanced and outmoded research laboratory.

Your innovation model is just not sustainable in the long run.

A globalised renminbi can transform both China and London

[Reprinted with permission from the Financial Times 18 Oct 2013 (EnglishChinese)]

The Chinese will see how the lifting of controls is linked to economic success.

This week George Osborne announced steps to make London a global trading hub for China’s currency. If the internationalisation of the renminbi proceeds and the chancellor of the exchequer’s plan succeeds, London will – so it is hoped – again flourish as a leading financial centre. The nature of that flourishing could well differ from what we saw before 2008, but the prosperity will feel the same. Can it happen? Yes. Will it happen? That depends on a number of considerations. Will it be a good thing? Almost surely.

via http://upload.wikimedia.org/wikipedia/commons/2/25/City_of_London_at_night.jpg

City of London at night (via Wikimedia.org Commons)

Too often, when observers say renminbi internationalisation will never happen, what they mean is they cannot imagine the renminbi – with less than 3 per cent share of world official currency reserves – undermining the exorbitant privilege enjoyed by the US dollar as the world’s reserve currency.

But neither internationalisation of China’s currency nor London’s benefiting from it require that to happen. These are both relatively modest undertakings. They hinge on just one thing: the currency simply has to become a force in global currency markets.

True, this will require renminbi use in the financial markets to exceed single-digit shares. By how much? Well, to paraphrase singer Miley Cyrus, no one’s got that memo yet. But already the renminbi’s share is rising on pretty much all measures of world currency use. That is what matters.
To understand whether this will continue, we need to think about the risks and opportunities that arise from world markets accepting the renminbi more widely.

Even without full official convertibility, the currency is already significant. Full convertibility could occur overnight by fiat if the Chinese authorities thought the moment propitious.

Confidence and trust in China’s management of the renminbi are higher than in US management of the dollar or European Central Bank management of the euro. The supposed absence in China of market transparency, government flexibility and the rule of law have little bearing on acceptance of its currency. Only perceptions of risk and return matter – and government dysfunction in the US is doing everything possible to convince the world that dollar risk is significant.

China has a population about four times that of the US and an economy only half its size. It trades as much with the rest of the world as the US does. And the potential for continued economic growth remains strong. There are problems but also solutions. China invests more than many observers think reasonable but its western regions remain poorer than significant parts of Africa, and its capital stock and infrastructure per worker remain low. It no longer has a particularly young workforce – but its 340m elderly people quietly doing tai chi in the park will make for a more stable society than a similar number of young men with poor job prospects. Yes, there is a “middle-income trap” in the developing world, but all the countries that have found sensible ways to escape it had characteristics exactly like China has today.

Since 1980, the nation has steadily pulled the world’s economic centre from west of London to east of the Mediterranean. Through all this, the city’s position as a place worthy of confidence and trust, as an intellectual and cultural centre and a hub for learning and higher education, has remained constant. But, given the shift in global economic performance, it is an anomaly that the renminbi is not yet a significant force in world currency markets: the pressure for it to become one is strong.

Beijing knows it. It has warmed to the idea of making London a renminbi global trading hub. It has also established the Shanghai free-trade zone, where international finance is carried out under liberal global rules, which has the notable support of Premier Li Keqiang.

The Shanghai free-trade zone promises to do for China and global finance what the Shenzhen special economic zone did for China and the global manufacturing supply chain. The rest of the country will see how closely entwined are modern economic success and the lifting of controls on information flows, as well as currency flows – in Shanghai, in London. That will be significant, not just for London’s prosperity but also for pointing to how China itself will change.

[This was first published 18 October 2013 in the Financial Times (English, Chinese)].

Is China’s Economy Crashing?

Bearishness on China has gone viral. Two years ago talk was of China’s economy saving the world. Today observers have swung to the opposite extreme, one expressed elegantly by Paul Krugman as “the Chinese model is about to hit its Great Wall, and the only question now is just how bad the crash will be.”

The reasons for pessimism are legion. China’s economy has already seen its annual growth rate fall from 12% in 2010 to 7% in 2013. When the crash comes, it will not be a gradual downturn. It will be sudden. And it will stick around.

In this view China’s undoing rests on multiple missteps. China’s local governments and state-controlled banks have over-extended credit. The resulting debt-fuelled bubble in asset and real estate prices will surely burst, revealing large hidden non-performing loans.

China boosted its economic growth through “unlimited supplies of labour”. (This phrasing was Arthur Lewis’s evocative description of a developing country’s large reserves of low-wage labour.) But no country’s labour reserves are truly unlimited. So when an economy hits its “Lewis turning point”, when labour reserves fall sufficiently that wages start to rise, low wage-reliant economic growth will sputter.

Early on, China reduced risk of imminent mass famine and deep poverty by its one-child policy. This slowed population growth and permitted an economic surplus that could be saved and invested. But that policy has also resulted in a rapidly ageing population, so that economic growth is now threatened both from having so many old and unproductive, and from shedding the demographic dividend (where an economy enjoys a growth boost through having many young, energetic workers).

But not just in its one-child policy does China err for the long run through actions thought beneficial in the short term. China’s investment rate of 50% of GDP boosts economic growth short-term, but piles up excess capacity longer-term. China’s export prowess drives economic growth short-term but exposes China to greater risk from international downturns, longer-term.

Finally, these last three decades China’s command-and-control approach to allocating resources might have successfully guided economic growth. But, in the eyes of critics, that system has also ended up generating steep inequality in opportunity and outcome, so that now the threat of social instability is kept in check only through ever-higher economic growth churning out jobs for China’s people.

The case for a crash in China’s economy does not argue that what is now in progress is a gradual slowdown (in the sense of, say, poor but fast-growing economies slowing as they move towards parity with the rich economies). Instead, the phrasing says exactly what it intends, a crash is imminent. China will be caught and held, bumping up against the ceiling of a Middle Income Trap that it cannot escape.

How compelling is the evidence?

But is the evidential basis for a crash in China’s economy definitive? Banking and financial problems are intricate. Just as many observers found difficult to read, ahead of the 2008 Global Financial Crisis, related problems even in advanced economies, even more difficult it is to assess China’s true financial position. Nonetheless, the weight of evidence appears to support the pessimistic view, that an imminent crash is increasingly likely.

The case for China’s crash, however, is based not on finance alone, but on real-side considerations. On these latter fronts, evidence is mixed. China still has 100mn people living on less than US$1 a day, mostly in the relatively under-developed west. If China’s east coast manufacturing belt now sees rising wages and escalating costs, and pollution and congestion, China’s west in contrast remains massively under-developed. Averaging east and west, China’s per capita income today remains lower than that of nine countries in Africa. Since Beijing, Shanghai, and other parts of the east coast manufacturing belt have better than world middle-class incomes, it is simple arithmetic to deduce that wages in the west remain profoundly low, covering a workforce about as large as that in all of the US or the European Union.

To integrate China’s western workforce into the national or indeed the global economy does not require physically transplanting those workers into China’s east coast factories and urban cities. It suffices that the output that workforce produces can be easily sold elsewhere in China. For that, China’s transportation infrastructure needs to be improved and extended. China needs more government investment, not less. That investment needs to be in infrastructure public goods, an undertaking that private enterprise hardly ever does well.

In the US, the continental economy is joined together by an interstate highway system. This came about through hard-fought Federal and Presidential action, in a sequence of Federal-Aid Highway Acts from 1938 until as late as 1956. In that time many US lawmakers objected to these plans for their unproductively enlarging the role of the federal government. Only by the 1970s did the US, through extended deliberate government policy, come to have the adequate transportation network that it now enjoys. “The interstate system, and the Federal-State partnership that built it, changed the face of America.” China needs the same.

Today, China’s infrastructure remains dismally below that in high-income economies. Its road network is 60% the length of that in the US. Its public airports number 10% that in the US. Despite China’s greater reliance on and the US’s disinterest in rail as a means of transportation, China’s train network today has just 40% the length of the US’s. For all the worries about over-stretched, misdirected finance putting up apartment buildings that then remain empty, China’s residential property per capita today has floor area less than two-fifths that in the US. Inappropriate investment will always be harmful regardless where it occurs, whether in China or anywhere else in the world. But overall does China over-invest? Does China’s investment rate of 50% of GDP indicate, by itself, inappropriate investment resulting in excess capacity? No.

In its export-oriented growth trajectory, China follows many emerging economies that correctly reckoned their internal markets insufficient in size, and thus sought economies of scale by providing for the global marketplace. It might seem peculiar to call inadequate a domestic population in China that numbers over a billion. But marketsize is measured in purchasing power, not number of consumers. Empirical evidence shows it is in rich urban cities where China’s consumption grows most strongly: in Tier 1 cities, increases in consumption outpace even historical growth in national GDP. Therefore, making China a more integrated economy by reducing the inequality in development across east and west will automatically raise domestic demand overall and reduce China’s reliance on the vagaries of international markets.

Thus, it could be self-defeating to seek to force China to reduce its export orientation. This would turn China towards less dynamic sources of economic growth and make China poorer. That, in turn, would reduce domestic spending, making China then depend even more on exports subsequently.

But won’t China grow old before it gets rich? If the demographic dividend effect is indeed operative, then China’s economic growth will slow because of its ageing population. Moreover, Chinese society will need to set aside resources to provide for these unproductive old. But if the Chinese population becomes dominated by old people who will not work, then the economy will also need to generate fewer jobs. It is a strange thing to worry about old people being unproductive because they won’t work and, simultaneously, to fear that social instability will gush forth because an insufficient number of jobs is being created. There are certainly parts of the world that will have more young in the future than they do today, but which will be the more successful economy in 2030? One where 340 million old Chinese peacefully practise taiji in the park; or another where 100 million angry young Arab men take to the streets, unable to find gainful employment?

It would be useful, to assess the likelihood of China’s imminent crash, to have rigorous studies that evaluate all these considerations jointly, and in sufficient numerical detail so that the necessary tradeoffs can be explicitly weighed, one against the other. Absent such an investigation, however, looking at the empirical evidence as I have just done fails to convince that China’s economy must crash soon.

However, studies are available that measure increased statistical likelihood of a sudden permanent slowdown once developing economies reach a certain level of per capita GDP, regardless of the fine details in the structure of those economies. This “Middle Income Trap” might catch China.

World Bank, 2012: China and the Middle Income Trap

World Bank, 2012. China 2030: Building a Modern, Harmonious, and Creative High-Income Society

Among the most influential of such studies is that by The World Bank and the Development Research Center of China’s State Council, where a simple chart makes the key point: Who has been trapped at a Middle Income level, and who hasn’t?

In this chart each dot is an economy. Economies that have succeeded appear in the upper part of the picture; those that have failed, in the lower. In the chart the 45-degree line through the origin shows economies that by 2008 were only in the same position relative to the US as they had been in 1960. Thus, although those economies grew, they did so only at the same pace as the lead economy; they failed to improve from their initial position. Economies appearing below the 45-degree line did worse — they fell further behind even when starting out relatively poor. The World Bank report argues that if one divides up relative incomes, not unreasonably, into groups of low, middle, and high, then by 2008 only 13 economies had broken out of the Middle Income Trap. The remaining 88 were trapped.

Identifying the key common characteristics of the 13 successes will indicate whether China can evade the Middle Income Trap. In my view that lucky 13 fell into three categories:

  1. Five East Asian, Confucian tradition economies: Hong Kong China, Japan, Korea, Singapore, and Taiwan China;
  2. Four PIGS economies: Portugal, Ireland, Greece, and Spain;
  3. Four varied economies: Equatorial Guinea, Israel, Mauritius, Puerto Rico.

For policy-makers seeking to learn from the Middle Income Trap’s escapees, Group 2, the collection of PIGS economies, is almost surely not where one would go. Those economies had grown through unsustainable credit or debt expansion; they are hardly examples of economic success. Group 3 is varied: US economics and politics figure prominently for Israel and Puerto Rico, but not for the other two, both just small African states.

This leaves only Group 1. These five economies all share characteristics in common with China today. They are all East Asian with a strong Confucian tradition. They are all high-saving economies. They have all grown through export-oriented development, emphasizing manufacturing. None has comparative advantage in natural resources. They all see significant government intervention in their development process. None is what the West would consider a politically successful liberal democracy. They all, early on, leveraged China’s large, disciplined workforce through foreign direct investment, employment, and engagement with specific geographical parts of China. And, these last are, by definition, what China does.

(Hong Kong, Singapore, South Korea, and Taiwan are all of course much smaller than China. But the world has many more small economies than it does large.  Simply as a statistical proposition, for pretty much any criteria, one will typically find more small-ish economies than large ones.  Massive economies, moreover, have the advantage of economies of scale:  For economic growth China is likely, at the margin, to be even more successful than this already successful group of 5.)

Conclusion

The hypothesis that China’s economy will imminently come to a crash is a powerful, persuasively argued proposition. But empirical evidence fails to support that unanimity of vision. China’s economy might indeed crash. Then again, it might not. China’s economy has already surprised its many detractors for three decades. Will this time be different?

The East grows only because the West consumes. Bitch please.

An abiding belief held by many about the global economy is that the East is one gigantic Foxconn-shaped, steroid-boosted manufacturing facility, pumping out iPhones, shoes, clothing, refrigerators, air-conditioners, and defective toys that its own people could never afford. In this narrative, the only reason that measured Eastern GDP shows any kind of life is because the Western consumer steps into the breach to buy up these manufactures.

The confirming natural experiment would then be what was sure  to occur post-2008, when Western imports collapsed. Here is what actually happened:

Top 10 contributions to world growth: 2007-2012.  GDP evaluated at market exchange rates

Top 10 contributions to world growth: 2007-2012. GDP evaluated at market exchange rates (Source: IMF World Economic Outlook, April 2012)

China became the single largest contributor to world economic growth, adding to the global economy 3 times what the US did. Since this chart shows GDP at market exchange rates, those who have long argued China’s RMB is undervalued must be standing up now to say that China’s real contribution is likely even larger.  Sure, China undertook a massive fiscal expansion beginning November 2008.  But, hey, everyone fiscal-expanded.

In number two position among the contributors to global growth is Japan. Yes, “Lost Decades” Japan helped stabilize the global economy more than did the US. Among the other top 10 contributors are the other BRIC economies, and Indonesia.

How is East Asian or emerging economy growth merely derivative when they had nothing among Western economies from which to derive?

Here’s the other interesting fact:

German exports to the rest of the world

German exports to the rest of the world (Source: IMF Direction of Trade Statistics, 2011)

This chart addresses the question: How has Germany remained a successful export-oriented growing economy when its domestic demand is weak, the Eurozone is buying hardly anything these days, and German exports to the US have collapsed in the wake of the 2008 Global Financial Crisis? The chart shows that today Germany exports 30% more to Developing Asia than it does to the US. And this is not just a China effect: German exports to China account for just two-thirds of exports to Developing Asia overall. Also notice how as late as 2005, German exports to the US were still double those to Developing Asia.

The East grows only because the West consumes. Bitch please.

I'm on top of the world!  Bitch please.

I’m on top of the world! Bitch please.


Also in:

Global Tensions from a Rising East

Will the East slow before it counts? Is the East only big enough to be culpable but not mature enough to be responsible?


[TEDxLSE - Danny Quah - Global Tensions from a Rising East, 17 March 2012]

Today I want to talk to you about the rise of the East, the shifting global economy. Most of us, at different levels, are aware of such changes going on around us. We might have heard about how all iPhones, while lovingly designed in California, are actually manufactured in Shenzhen China. We might have heard about how the Eurozone looked East for rescue on its sovereign-debt problems. We might have read newspaper editorials reflect on how the decade since 9/11 has been one where the three most important words for the US have emerged to be, no, not “major terrorist attack” but “Made in China”.

The questions I want to explore with you are two: Will the East slow down before the East can matter for the world? In the current economic crises that have haunted the world since the mid-2000s, that some have blamed on Asian Thrift and the resulting global imbalances, is the East only large enough to be culpable but not mature enough to be responsible?

The fact is undisputed that the developed economies continue to hold the world’s primary spheres of political influence: Thus, the reasoning goes, if the rise of the emerging economies — the Great Shift East — challenges anything in the global order, that challenge can be only apparent and its perception only transient. The emerging economies’ fast growth is nothing more than their picking low-hanging fruit, i.e., doing the easy things that allow economic development. Emerging economies will slow long before they count. After all, with the export-oriented development strategies that so many emerging economies have undertaken, if the developed countries were to stop consuming and importing, surely growth in the emerging economies would grind to a halt.

In this presentation, I will address two broad sets of issues. First, what are the already-extant contours of the Great Shift East, and what is the likelihood of their reversal? I will conclude that those changes are more pronounced and more entrenched — and thus less reversible — than might at first appear and certainly so when compared to other recent historical episodes. This holds enormous promise for improving the lot of humanity: the Great Shift East will continue to lift out of deep absolute poverty hundreds of millions of the world’s very poorest people.

These changes, however, take nothing away from how it is the developed countries that will remain the centre of global political influence. As a result the Great Shift East will produce massive global economic and political misalignment: the world’s economic and political centres of gravity will separate and drift further apart. And that, in turn, will raise staggering challenges: these latter comprise the other focus of my presentation. How will the global political system adjust to these ongoing economic changes on the scale that have already occurred and will almost surely continue?

How we miss the Great Shift East

Many well-known facts are, in actuality, false. One such is how the Great Wall of China is humanity’s only construction visible from outer space.  Another is how Marie Antoinette said, “Let them eat cake.”

The Great Shift East, 1980-2050

The Great Shift East, 1980-2050

Conversely, many facts actually true are obscure and misunderstood. For some of these facts, that fate is perhaps well-deserved, as a number of scientific truths cannot even be stated in everyday language. Certain other facts that nearly everyone considers obvious or well-known have boundaries that are indistinct and, as a result, unhelpfully permit both hyperbole and scepticism. One of the goals of research should be to map out those boundaries, so that both intellectual understanding and policy debate can be based on evidence rather than speculation.

The Rise of The East is one of those well-known but misunderstood facts. Sufficiently many books, newspaper articles, and TV programs have carried this meme to where hardly anyone can now plead ignorance of it. But enough ambiguity remains, so observers are free to project onto the idea both their best hopes and their worst fears. Not helpful in this regard is where characterizations of this Great Shift East — caricature, stylized, divorced from hard empirical evidence, insufficiently accurate — impersonate as fact. These simultaneously fan alarm, invite ridicule, and risk credibility.

A concrete and straightforward illustration of the Great Shift East is, therefore, both helpful and needed. “The Global Economy’s Shifting Centre of Gravity” provided just that in the clearest and most direct way I could write down. I am pleased that others — on a panel of scholars and practitioners both — think I have done a good job with the idea.
GPPN Best Article Prize

Considerable previous research had, of course, already been published on the empirics of economic growth. However, that more traditional research focused on countries’ per capita incomes—because that’s what theoretical models of growth sought to explain—and eschewed location, co-movement, and national identity, in favor of anonymized subscripts in a statistical cross section. By maintaining a discipline of empirical research only when driven by theory, arguably, economics took its eye off what really mattered in the shifting global economy, leaving that big picture instead to political scientists, international relations scholars, and investment bankers.

In some of my earlier work on the cross section of country growth, I was even told to take out economies like China or Singapore, because they were obviously outliers and unrepresentative. But being outliers and unrepresentative, it struck me, was exactly why they were interesting. While “The Global Economy’s Shifting Centre of Gravity” had a simple goal, it also got to bring back in all these other considerations of why the global economy needs to be understood as an entirety, not just as a bunch of economies taken in isolation. Otherwise, it was like trying to understand cloud formation by studying water molecules.

We now know that in a rush, the world went from being centred on the Transatlantic Axis, with BRICs merely a catchphrase, to where the BRICs conceit became a primary organizing principle for high-level international policy making, multi-trillion dollar portfolio investment, and geopolitical analysis. But, caught in that same rush, the 2008 Global Financial Crisis, significant although it already was on its own, provided tabula rasa for revisionist interpretation: The 2008 Financial Crisis morphed to be merely Transatlantic, rather than Global. The 2008 Financial Crisis reflected the Decline of The West, simultaneous with the Rise of The East. The 2008 Financial Crisis was caused by global imbalances resulting from Asian Thrift, i.e., East Asians’ newly endowed with the financial clout but not the political maturity to be responsible in their management of international trade.

As historical reality unfolded, so too grew fear, uncertainty, doubt, and pushback.  The German Marshall Foundation’s 2011 Transatlantic Trends survey found the majority of Americans reckoning Asia more important than Europe to their national interests, with the proportion rising as high as 70% among Americans aged 18-34. But the same survey also found that 63% of Americans viewed China as an economic threat, i.e., double the number who considered China an economic opportunity.

Dinner with Foreigners

Asians themselves remain sharply divided on the Great Shift East. On the one hand, thinkers like Kishore Mahbubani have long argued that the world’s policy-making has unhelpfully lagged a reality where the East is rapidly growing in importance. On the other hand, Eastern decision-makers have continued to look West for all levels of engagement. Powerful Eastern sovereign wealth funds remain enamoured of investment in locations around the Transatlantic Axis even as Western governments look back at them with suspicion. I know smart, articulate Singaporeans who turned down Ivy League universities to go instead to Beida, but a majority of Asians still more highly value education in the West, whether for the liberal arts training or the business and social connections. At a much lower level of financial commitment, the Wall Street Journal just this month described a dating agency that charged Chinese women US$600 to meet Western men who got to sign up for free (the ad actually said “Foreigner”, but few people I spoke to thought that included Indonesian or Filipino men). What Great Shift East when all the exports are just one way?

The political scientist and international relations scholar Joseph Nye speaks of nations having “soft power”, in contrast to the hard power of obvious economic or military strength. “Soft power” is the ability to convince others to want the same thing you want, without buying them off or threatening to shoot them. While economic power has indeed moved, the important tokens of soft power, and thus of geopolitical balance, remain firmly moored and continue to attract. Soon the economic center of the world will be 10 timezones east of where its political center remains. This misalignment is historically never propitious, whether geopolitical in the sense of Paul Kennedy’s Rise and Fall of Great Powers, or within countries where it often manifests in conflict between ethnic or religious groups.

The Great Shift East, therefore, is even more than usual a work in progress. Measuring it — making a large fact visible to the human eye — is just a first item of business.

Take back from those even poorer

What -ism is it when you castigate your top 1%


From: Vanity Fair, May 2011

and try to aid your middle class …

How the US lost out on iPhone work
From: New York Times, 22 January 2012

… by taking back from those even poorer elsewhere in the world.

From: Asia Development Bank: Asia’s Poor. Financial Crisis? Every day.

A small proposal to rebalance the global economy: Just let China grow

Many take as fact that the current pattern of global imbalances — large and persistent trade deficits and surpluses across different parts of the world, eventually unsustainable — is due to China and the rest of East Asia consuming too little and saving too much. Since the global economy is a closed trading system, trade deficits and surpluses across all national economies must sum exactly to zero always. Therefore, that one part of the world saves too much and thereby runs trade surpluses means other parts of the world — notably the US — must be running trade deficits.

However, just because deficits and surpluses are tightly inter-connected does not mean that trade surpluses in China, say, have been responsible for US trade deficits: absent further information, causality could well have flowed in the opposite direction. Moreover, China’s high savings might be dynamically welfare-optimizing for its citizens — for instance, private enterprise in China might find self-accumulation the only way to generate investment funds — and, at the same time, only minimally if at all welfare-reducing for already-rich US citizens. Finally, it might be that global imbalances should best be viewed not as a bilateral (US-China) problem but instead a multi-lateral one.

Be all that as it may, many US policy-makers focusing on US trade deficits and China’s trade surpluses urge policy actions against China to rebalance the global economy. Those policy actions include punitive tariffs against Chinese imports and tagging China a currency-manipulator — and thus moving it yet further from official free-market status. Some observers remark that without such external pressure, China will find it domestically too difficult to shift away from its reliance on export promotion, infrastructure investment, and restrained consumption towards a more balanced growth path (e.g., Michael Pettis, Nouriel Roubini, Martin Wolf).

The problem: To raise China’s domestic aggregate demand, especially consumption. The difficulty: China’s consumption cannot increase quickly enough to compensate for the shortfall in aggregate demand should both investment and exports decline. The danger: a hard landing for China and the global economy.

I want to suggest that such a re-direction need not be that difficult. My proposal: Let China grow rich as quickly as possible. Why might this do the trick?

Regional incomes in China

First, consumption within China is already rising faster than both income and investment, provided that we look at those parts of China where incomes per head exceed US$8,800 (Figures 1 and 2). Of course, China’s current per capita income overall now is only US$2200, less than 6% that of the US. What this suggests, however, is as China’s income grows, its overall savings rate will naturally fall. The right policy is to encourage growth, not adopt punitive actions that might retard that growth.

China's regional consumption

Figure 2a China’s regional consumption

(I took Figures 1-3 from a term paper that Daisy Wang wrote for my course Ec204 The Global Economy at the LSE-PKU Summer School, August 2011. The underlying data are from China’s National Bureau of Statistics.)

Second, as John Ross reminds us, investment too is aggregate demand. But, third, continuing to increase China’s investment in, among other things, infrastructure and transportation can help further as it allows those western, poorer regions in China (again Figure 2) better to integrate both nationally and globally, and thus become richer through raising demand and productivity.

China’s regional investment

Figure 2b China’s regional investment

While many observers make much of China’s high investment to income ratio, it is useful to note that that ratio is high not just because its numerator is being driven up, but also because the denominator remains so low. The right state variable for dynamic analysis in a neoclassical growth model is capital per head, not capital per unit of income. And here (Figure 3):

China's  per capita investment

Figure 3 China’s per capita investment

we see how China still has a long way to go on the upside.

Finally, Figure 4:

“The Chinese led the way in the rush to the Boxing Day sales, flocking to department stores to grab designer goods”, The Times of London, 27 December 2011

Figure 4: “The Chinese led the way in the rush to the Boxing Day sales, flocking to department stores to grab designer goods”, The Times of London, 27 December 2011

However much anyone might doubt those China statistics I used above, auxiliary evidence shows that rich Chinese consumers have no difficulty increasing consumption.

The evidence I’ve described doesn’t of course say that global imbalances can be easily erased through just more economic growth in China. However, the algebraic signs of the required relations seem to me to point at least in the right direction. Careful work to quantify these effects might end up showing that their magnitudes aren’t large enough. But, as far as I know, that calibration has not been done, which makes me wonder why some observers can be so certain that China’s current growth trajectory can only exacerbate global imbalances.

When China becomes rich, that will also dramatically lower inequality in the world — globally, the difference in incomes per head across nations overwhelms that across individuals within a single country. No one I know arguing for a more egalitarian society also says that that push for equality should stop at their nation’s borders and be kept from applying seamlessly across humanity’s 7 billion.


Also:

  1. “A small proposal to rebalance the global economy:  Just let China grow” EconoMonitor, 30 December 2011
  2.  “China’s growth could address imbalance”, China.org.cn, 02 January 2012
  3.  “Just let China grow”, The Edge Malaysia, 09 January 2012, p. 64
  4. 恢复全球经济平衡的一个小建议:让中国尽快变得富有, Blog.Sina, 13 January 2012
  5. Reprinted “A small proposal to rebalance the global economy:  Just let China grow”, Global Policy Journal, 11 October 2012

The LSE Big Questions Lecture 2011: Organized Common Sense

In June 2011, I was lucky enough to deliver the inaugural LSE Big Questions Lecture. I chose to lecture on whether the East was taking over the world. I felt these changes in the world matter to everyone, and they are developments with important economic ideas surrounding them. The LSE Big Questions Lecture is targeted at 14 year-old school children in a number of London’s schools — hundreds showed up on the day. The lecture itself was televised for subsequent broadcast. The runup to this lecture involved months working with a production team at LSE: these were months of planning and rehearsing, writing and rewriting, arguing and disagreeing — on analytical content and ideas, on what 14 year-olds might find useful and understandable and memorable, on the best ways to communicate different ideas in economics and facts about the world.

Why did we do this?

As an academic economist, I study growth and distribution. I write about the shifting global economy and the rise of the East. I try to make large things visible to the human eye. I want to be considered a valuable REF contributor to my department and to the LSE.

But I also believe that these are times where economic literacy matters hugely, not least in societies that continue to hold to the ideals of liberal democracies. And there are intriguing large-scale parallels between important events now and those some time ago in history.

In 1825 Michael Faraday — perhaps the world’s greatest ever experimental scientist — initiated (but did not himself give) the first of the Royal Institution of Great Britain’s Christmas Lectures. Faraday went on to deliver 19 series altogether of these annual Lectures, his last in 1860, presenting and explaining to the British public ongoing discoveries in chemistry and electricity and magnetism.

1855 Michael Faraday - Royal Institution Christmas Lecture

The Royal Institution Christmas Lectures have continued to the present, interrupted only by World War 2. They are delivered to a general audience, notably including young people, with the aim to inform and entertain. From their beginning, these lectures proved highly popular despite the limited nature to early 19th century organised education. Since 1966 the Royal Institution Christmas Lectures have been televised. For many British households, the Christmas Lectures constitute a highlight of annual holiday family viewing. The energy and the ingenuity that go into the lectures are impressive, not least when, say, someone like Marcus du Sautoy, in his 2006 lectures, explains abstract number theory to a teenage audience.

These Royal Institution Christmas lectures provide the strongest counter-example I know to the conceit that research ideas are too difficult to explain to and too abstruse to excite the general public. Most of us just don’t work hard enough at it. So getting to deliver something the LSE Big Questions Lecture would be a challenge. But there was more.

In 1825, London had just become the world’s leading city by overtaking Beijing — vividly demonstrating the steady ongoing shift then of the world’s economic centre east to west. That year, the first modern economic crisis in history occurred — modern in the sense of not having been caused by a war. The stock market crash of 1825 took out in England alone six London banks and sixty country banks, with the badly-overextended Bank of England having to be rescued by an injection of gold from France. For students of central banking, this event became enshrined afterwards in Walter Bagehot’s Lombard Street principles for the lender-of-last-resort role in central banking.

In 1825, Faraday’s scientific discoveries were not centre-stage for the Industrial Revolution swirling about him at the time. That first Industrial Revolution — perhaps the most important event in the history of humanity — was driven by iron-making, mechanisation, and steam power, more than by electrification and chemical processing. But chemistry and electricity and magnetism — where Faraday’s contributions were manifold and central — pointed to the then-future. These would go on to provide the more enduring engine of growth for modern economic progress, not least down to what today still powers all digital technologies, significant among them cellphones and the Internet.

The Royal Institution Christmas Lectures matter in British science for providing the public knowledge into the most important exciting intellectual developments of the time. They gave the British public insight into what was new. Historians who study why a 14th-century Chinese Industrial Revolution did not occur, despite China’s more advanced science centuries prior to that in 1780 Britain, point to how science in England had always immediately connected to commercial application and public interest. This is exactly the same kind of connection that the Royal Institution Christmas Lectures make. By contrast, in China, science and technology were tightly controlled by a scholarly elite, who saw no reason to disseminate their discoveries. During the 18th-century Industrial Revolution, James Watt and Matthew Boulton had announced the English public “steam-mad”, whereas in Sung Dynasty China, time itself was considered the sole property of the Emperor.

Inaugural LSE Big Questions Lecture

The Inaugural LSE Big Questions Lecture begins

I am under no mad illusion that what I do as an academic is even remotely comparable to the achievements by these giants of scientific and technical progress from 1825. But I don’t think I’m half-bad as a lecturer. I don’t shuffle my lecture notes and lose my place in them [I don't use lecture notes]. I don’t mumble into my beard so that the audience has no idea what I just said [I'm ethnic Chinese and we don't grow beards easily]. I don’t put up Powerpoint slides crammed full with text and then just read them out word-for-word [almost all my slides are just colourful pictures].

I believe, as first told to me by my PhD advisor, economics is just “organized common sense”. I’m passionate about explaining ideas in economic policy to any audience that might remotely be able to influence our national and global conversations on improving the state of the world.

So, when asked, I gave the LSE Big Questions Lecture a go.

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