China: Superpower or Superbust?

November 1, 2013 Topic: Global Governance Regions: China

China: Superpower or Superbust?

Mini Teaser: Beijing faces new challenges after impressive decades. 

by Author(s): Ian Bremmer

Give China’s planners their due: they have enacted substantive, far-reaching economic reforms more consistently and for longer than policy makers in any other emerging-market country. In a country long plagued by peasant rebellions, they created movement in a once-static society by enabling hundreds of millions of workers to shuttle between the countryside and fast-growing cities. They invested heavily in the roads, bridges and ports that move products and in the communications networks that move information. In 2001, they defied skeptics by committing the country to the World Trade Organization—and have generally abided by the institution’s rules and rulings. They moved quickly following the onset of the financial crisis in 2008 to stimulate growth and job creation through more spending on the country’s infrastructure. As important, they are resisting further such moves during the current slowdown in order to begin the next phase of reform, one which requires a step away from reliance on state-driven investment and spending.

Changes are also under way in the governance of China’s much-criticized banking sector. Enormous levels of speculative lending have to be better regulated, though as with the European Central Bank the funds are there to recapitalize failing institutions wherever necessary as changes in financial-market governance are made. That is not a long-term solution, but Beijing will likely be able to balance between addressing these concerns and sustaining growth—preventing the near-term hard landing that some analysts expect.

The worrying news for outsiders hoping to profit from China’s growth is that its state-capitalist growth model remains strong. Plenty of foreign companies, including American firms, will continue to profit mightily from their commercial relationships with state-owned companies. But state capitalism hurts foreign firms in two ways. It undermines the foreign multinationals that must compete with Chinese state-owned rivals that are armed with substantial financial and political backing from their government, and it creates all kinds of obstacles and risks for foreign firms investing and operating inside China. Years ago, anxious to gain access to foreign investment, technology and managerial expertise, China opened its markets to welcome all three. Yet, as exposure to these resources began to empower Chinese companies to see foreign firms more often as commercial rivals than potential partners, they began using their connections with Chinese political officials at both the state and local levels to tilt the playing field in their favor. Some Chinese local and corporate decision makers have always opposed the introduction of foreign competition onto their turf.

The latest example of direct state involvement in China’s domestic economy takes the form of China’s creation in 2011 of “strategic emerging industries,” sectors designated as of special interest to the Chinese government, which wants to develop a system of “indigenous innovation” to help Chinese companies climb the value chain. Foreign investment in these sectors is welcome, and some will continue to earn healthy profits for some time to come, but the foreign companies that enter often are forced to share advanced technology with Chinese partners or have it stolen by Chinese competitors, and this problem is likely to intensify over time.

In addition, across a variety of consumer sectors, Western firms now face an increasingly unpredictable operating environment. Beyond familiar stories about information heavyweights Apple, Google and Yahoo and their struggles with the Chinese government, other episodes are less well known. In December 2012, China’s state-run broadcast network produced an investigative report charging that U.S. fast-food retailer Kentucky Fried Chicken was pumping antibiotics into the chicken it sold in China. A month later, KFC sales in China fell by more than 40 percent. Volkswagen, McDonald’s and the French firm Carrefour have received similar treatment in China’s official media. Recent corruption investigations have also focused on the pharmaceutical industry, while antitrust probes have targeted other food companies. Both will probably expand to more sectors in the months to come. Some of these moves are probably intended to deflect public anger at corruption within the ruling party and to blunt foreign criticism of Chinese companies, but as is often the case in China, foreign firms will face increasing regulatory pressure.

BUT IT is the uncertainty over China’s future rather than the country’s current strength that should worry us most. In fact, though it has so far avoided the volatility we’ve seen this year in Turkey and Brazil and the violence of the Middle East, China is the major emerging-market country least likely to develop along a predictable path.

First, there is the question of China’s aging population, a product in part of the country’s one-child policy. In 1980, China’s median age was twenty-two. That number is expected to surge to thirty-eight by 2020 and forty-seven by 2040. There are already nearly two hundred million Chinese citizens over the age of sixty, and by 2025, that number will top three hundred million.

As the total number of workers begins to fall, the economy cannot expand without a significant increase in the productivity of each worker. Without the kind of innovation that creates the technological change that expands production capacity, China’s economy will slow much more quickly than its leaders are hoping—and at a moment when China’s social safety net, still under construction, will meet its ultimate test. Can the reform process help China meet these challenges? That remains to be seen.

Complicating the effort to keep the peace as China rises is the gap inside the country between rich and poor. In 2012, China’s Gini coefficient—a measure of income inequality from 0 to 1, with higher numbers meaning increasing inequality—reached 0.47. Some analysts consider any number higher than 0.4 as a warning sign of potential unrest. Consider, too, that this is the figure published by China’s government and may not be accurate. What do China’s own business elite think of their country’s future? In July 2012, a study published by the Hurun Report, which documents the behavior and attitudes of China’s wealthiest citizens, reported that more than 60 percent of those surveyed had either filed paperwork to leave the country or had already emigrated. More than 85 percent said they send their children to schools in other countries.

The greatest domestic test will come from the endemic weakness at the heart of China’s current strength: state capitalism. Social unrest may challenge the leadership, but state capitalism, the basis of China’s ability to grow its economy and create jobs, will play an enormous role in determining how severe that unrest is likely to be. Though many of China’s largest state-owned enterprises are professionally and competently managed, the state-capitalist system is subject to all the same inefficiencies and corruption risks of any system directed by government, particularly an authoritarian one. Its primary purpose is to create and maintain jobs, achieve investment objectives designed to bolster state stability and generate wealth for the well-connected few, not to unleash creativity that responds to public demand for new and better products and services. That’s why state capitalism is not equipped to create the lasting and broadly shared prosperity on which construction of an innovative digital-age economy will depend.

Further, once you build it, it’s a hard thing to take apart, because those who profit from the system have enough influence within the ruling elite to resist efforts to reform it. Innovation-based, self-regenerating economic success depends on “creative destruction,” a process by which the workers, resources and ideas that once sustained one company or sector are freed to recombine in new forms that then produce new goods and services that meet the evolving wants and needs of consumers. Those who administer China’s state-capitalist system fear creative destruction because they cannot control the ways in which it creates winners and losers or the pace at which it moves. When old industries die, workers lose jobs and wages, and the risk of unrest grows. Even in a free-market system, politicians are blamed for lost jobs and wages, but when the government owns the company that owns the factory, its responsibility for job creation and protection is more direct and more obvious.

State capitalism cannot be maintained indefinitely because China is already losing some of the advantages on which its state-directed, export-driven economy has been based. When then premier Wen Jiabao declared several years ago that China’s development model was “unstable, unbalanced, uncoordinated, and unsustainable,” it was in part because he understood that growth in China had already produced demand for higher wages among Chinese factory workers, a process that will inevitably erode the cost advantages that drew so many foreign firms to outsource manufacturing to China years ago. Today, a growing number of Chinese companies are working to keep their competitive edge by outsourcing their own operations to cheaper labor markets in Southeast Asia.

Other Asian states have been here before. Export-driven growth once lifted postwar Japan out of poverty. Taiwan and South Korea followed Japan along this path. Japan in the 1970s, Taiwan in the 1980s and South Korea in the 1990s made the transition now facing China from high-growth, export-driven economies toward a more moderately paced model driven and stabilized by middle-class purchasing power. Yet, all three were either democracies or had begun to undertake substantive political liberalization during these transitions. Can China’s authoritarian system absorb the shocks this transition is sure to produce? That too remains to be seen.

Image: Pullquote: Cooperating to thwart U.S. plans is easy. Working to change the international status quo is much more difficult.Essay Types: Essay