Robert Reich Says China’s Size Doesn’t Matter
In case you hadn’t noticed, there has been a deluge of articles written over the past couple of days on China’s passing Japan to become the world’s second largest economy. Many different points of view on that subject, but most of them fall into one of two general categories: 1) China as the unstoppable economic juggernaut (let’s call these folks cheerleaders); and 2) China as bubble, waiting to pop (call this the Coming Collapse of China thesis).
I’m by nature a contrarian, since it tends to piss people off, and so I was drawn to Robert Reich’s blog post, which took a third position.1 Reich essentially uttered a big “So what?” and explained that it’s not always about aggregate growth or the size of an economy, but how that translates down to individuals, standards of living and consumption.
Don’t be misled by these numbers. The important thing isn’t China’s ranking, nor the total value of China’s production, nor even the extraordinary speed by which China has reached #2.
What’s most important is the share China’s production received and consumed by the Chinese themselves. The problem is it continues to drop.
China has dozens of billionaires but the vast majority of the Chinese are still extremely poor. The typical Chinese lives off the equivalent of about $3,600 a year. That puts him behind workers in 126 other countries. (The typical Japanese earns the equivalent of about $39,000; the typical American, $46,400.)
I do believe Reich is talking about the income gap, that ubiquitous beast that seems to grace virtually every blog post I write these days. His point is a bit more nuanced than the usual moral stance that “income gaps are bad,” although I would guess he supports that statement as well. Reich is making a more straightforward economic argument that if labor’s share of GDP continues to decline, and with it an insufficient rise in consumption growth, that #2 label will be no solace to China.
Regular readers of Michael Pettis’ blog will find Reich’s argument quite familiar:
If the wages and purchasing power of Chinese households continues to rise more slowly than China’s capacity to produce goods and services — more slowly than China’s corporate profits and the government’s share of national income — we’re all in trouble.
Think of China as a giant production machine that’s growing 10 percent a year (this year, somewhat less). The machine sucks in more and more raw materials and components from rest of world – it’s now the world’s #1 buyer of iron ore and copper, and close to the #1 importer of crude oil – and spews out a growing mountain of stuff, along with huge environmental problems.
But because the Chinese consume a smaller and smaller proportion of this stuff, it has to be exported to consumers elsewhere (Europe, North America, Japan) to keep the Chinese working.
This of course leads us straight back to the problem of global imbalances. Rather gloomy stuff, and Reich does not see an easy way out. While he acknowledges that recent demands by labor have succeeded in some wage gains, this is far too little given the economic imbalances.
I would also add that given the dramatic geographic differences in China, any macro-level policy reforms would have to be very deft indeed. Consider a policy, for example, that succeeded in driving up wages across the board. If you live in a city like Beijing, Shanghai or Shenzhen and are enjoying scary price inflation on housing and food, this should scare the crap out of you.
Reich does not propose specific solutions, but to be fair, he is not a China expert. For a detailed discussion of how Beijing can make some headway with the income gap and household consumption, I would consult Pettis.
As usual, it’s much easier to either point to China’s economy and cheer “We’re #2!” or poke holes in China’s success story, predicting that “They’re due for a hard landing.” Reich does neither, suggesting that although growth may continue at high rates, that doesn’t mean that we can ignore the underlying structural problems.
________________________________
- Reich is a government/public policy professor at the University of California at Berkeley, and was Secretary of Labor in the Clinton Administration.[↩]
________________________________
Of course it isn’t easy, because it involves Chinese and US consumption patterns converging (Chinese to the upside and US to the downside). That’s the price we pay for economic efficiency.
Well, yes, gravity works eventually. Equilibrium will be achieved at some point. The question is whether there is a less painful way to get there via government policy. I think some would be tempted to say that the markets will sort all this out, but that only works if there are no current distortions. Everyone would have to agree, however, that China’s markets are not floating freely; its economy, and its currency, are managed. Therefore we need to look for governments to correct these problems.
Hi Stan: Great article you bring out the highlights of Reich’s middle of the noodle analysis- which works fine for observer only status, but starves you to death if you try eating by it. It’s a simplistic Macro-economic view to suggest that the worlds financial powers at G8 level cannot affect change- on the other hand, as those who have studied the interdependent nature of the “feet on the floor” of Macro to Micro relating on a linear equilateral basis, know that Reich’s statement of itself effects that scenario. Great blog Stan thanks for sharing.
Wow, I didn’t understand what you just wrote.
“I would also add that given the dramatic geographic differences in China, any macro-level policy reforms would have to be very deft indeed. Consider a policy, for example, that succeeded in driving up wages across the board. If you live in a city like Beijing, Shanghai or Shenzhen and are enjoying scary price inflation on housing and food, this should scare the crap out of you.”
Why should that scare them?
Keep in mind that the easiest across the board wage increase policy, is to raise the value of the currency. The nominal amount of wages may not move, but their comparative purchasing power will.
Such a policy could also slow housing prices if they’re driven by investment flows (probable these days), as well as lowering the cost of things like crude imports, which feed into costs of lower priced goods.
Artificially low currency = additional inflation pressure.
China thinks it can gain via a low currency but it doesn’t work that way. All of your obvious gains are offset by hidden losses.
Fixing the currency would help, yes. A wage increase with the current system, however, would result in additional inflation, and it’s already very difficult to make ends meet in the big Eastern coastal cities.