SUNDAY, APRIL 11, 2010
“
C
1
KLMNO
KB
K
B3
I’m hoping I’ll have the right words when I need ’em. But right now I don’t have ’em in me.”
— Greg Scarbro, a miner and minister, after an explosion Monday at a West Virginia coal mine killed at least 25
Myths about China’s economic power
5
by Arthur Kroeber
hina’s stunning economic rise is one of the biggest stories of this generation. In just three decades since beginning to embrace market economics, China has left its desperate
poverty behind to become the world’s top exporting nation. The transformation has occurred so quickly that myths and misperceptions abound about the challenges and opportunities that China poses to America and the rest of the world.
China will quickly overtake the United States as the world’s most powerful economy.
According to a November poll by the Pew Research Center, 44 percent of Americans believe that
China is already the world’s top economic power, while 27 percent put the United States in that position. That perception is completely at odds with the facts. This year, China’s economy is expected to produce about $5 trillion in goods and services. That would put it ahead of Japan as the world’s second-biggest national economy, but it would still be barely one-third the size of the $14 trillionU.S. economy and well behind the European Union, if taken as a whole. One reason China’s economy is so big is simply that it has 1.3 billion people. But China’s per capita gross domestic product is only one-seventh the U.S. level. And in household living standards, China lags even further. Each year, an average Chinese household consumes one-fourteenth the value of goods and services purchased by an average American
household.
And despite its chronic losses in manufacturing jobs, the United States is still the world leader in that arena because its manufacturers excel at high-value products such as airplanes and high-tech equipment, while China still mainly produces low-cost clothing and consumer electronics. In terms of the value of goods, the United States produces more than 20 percent of global manufacturing, or about double China’s share.
China’s vast holdings of U.S. Treasury bonds mean it can hold Washington hostage in economic negotiations.
2
China has the biggest holdings of U.S. Treasury bonds of any country — around $1 trillion.
Many people think this means China is “America’s banker” and that, like a bank, it can withdraw its line of credit by selling off its Treasuries whenever Washington does something Chinese leaders don’t like. But China’s Treasury holdings are
REUTERS
China is reportedly preparing to revalue its currency, the yuan, which is now fixed to the dollar. Critics contend the peg gives China an unfair trade advantage.
not like regular loans that a bank extends to a company. They are more like deposits: safe, liquid and carrying a very low interest rate. Like a depositor, China has little ability to tell its bank how to run its business. It can only vote with its feet, by taking its deposits elsewhere — but its deposits are so huge, there is no other “bank” in the world that can take them. The European and Japanese bond markets are not big enough to absorb that much Chinese cash, nor can China buy enough oil fields, ore mines or real estate to soak up its money. And it can’t simply invest all its dollars at home, because doing so could lead to rampant inflation. So like it or not, Washington and Beijing are stuck with each other — and neither has the power to hold the other hostage.
Letting its currency grow in value is the most important thing China can do to reduce its trade surplus.
3
Some American companies, unions and politicians complain that by keeping a
fixed exchange rate between the yuan and the dollar, China is unfairly making its goods cheaper on the world market, thus driving its trade surplus at the expense of its trading partners. Certainly, the exchange rate is important, but it’s a mistake to think that letting the yuan rise in value would magically make China’s trade surplus disappear. In the late 1980s,
Japan allowed the yen to double in value, but its trade surplus didn’t budge. Conversely, in 2009 China kept the value of the yuan fixed against the dollar, and its trade surplus fell by a third.
Secretary Treasury Timothy
Geithner was in Beijing on Thursday and discussed the currency issue with Chinese economic officials. Most observers — including China’s top economic policymakers — agree that the yuan should rise in value. But for that move to offer any benefits, it must be accompanied by other policy shifts. By far the most important thing China can do to reduce its trade surplus is to stimulate domestic demand (including demand for imports), something it has started to do through a massive infrastructure spending program. There’s some evidence that Chinese households are also beginning to spend more freely as wages rise and people feel optimistic about the future.
China’s hunger for resources is sucking the world dry and making major contributions to global warming.
4
It’s true that China is now the biggest producer of carbon dioxide and other greenhouse
gases that contribute to global warming. And it’s true that China uses more energy to produce a dollar of its GDP than most other countries, including the United States. But on a per-person basis, China’s use of
If a bank gets too risky, let’s make it pay
H
banks from B1
will want to minimize the fee they must pay, so each will have an incentive to choose less risky activities and to take on less debt, leading to a safer and sounder financial system. And unlike the bills in Congress propose, the mon- ey collected should not go into a resolu- tion fund to help wind down failed in- stitutions; instead, it should compen- sate those who suffer the collateral damage from systemic financial crises — the solvent financial institutions and businesses in the real economy that suf- fer when credit markets panic. To understand why this initiative is needed, we need to remember what really led to the crisis. Systemic risk emerges when financial institutions don’t have enough capital to cover their debts and their bets. As a result, when those bets go sour, the institutions fail or the credit markets freeze — and with- out credit, commerce plummets and economies fall into recession. That is precisely what happened with some of our largest institutions: Fannie Mae and Freddie Mac, Lehman Brothers, AIG, Merrill Lynch, Washington Mutu- al, Wachovia, and Citigroup, among oth- ers.
At the heart of the problem were the incentives such institutions had to take on massive risks. These were not dim- witted or reckless bankers. They simply had access to cheap financing from cap- ital markets because of implicit govern- ment backing (under the “too big to fail” mentality) or explicit support, as in the case of depository institutions or outfits such as Fannie and Freddie. So they exploited regulatory loopholes to take on trillions of dollars in one-way bets on financial instruments involving residential and commercial real estate and other consumer credit. These were largely safe investments, except if an se- vere economic downturn materialized. The bankers knew that all the benefits of these activities would accrue to their shareholders, while all the costs — in case everything came crashing down — would be borne by society. Consider Federal Reserve Chairman Ben Bernanke’s oft-cited analogy for why bailouts, however distasteful, are sometimes necessary. Bernanke has de- scribed a hypothetical neighbor who smokes in bed and, through his care-
haps installing new fire alarms. This is the purpose of a systemic-risk fee on big financial institutions.
TAMARA SHOPSIN AND JASON FULFORD
lessness, starts a fire and begins to burn down his house. You could teach him a lesson, Bernanke says, by refusing to call the fire department and letting the house burn to the ground. However, you would risk the fire spreading to other homes. So first you have to put out the fire. Only later should you deal with re- form and retribution. But let’s change the story slightly. If the neighbor’s house is burning strong-
ly, putting the fire out might risk the lives of the firefighters. You can still call the fire department, but instead of sav- ing the neighbor’s house, the fire- fighters stand in protection of your house and those of your other neigh- bors. If the fire spreads, they are ready to put it out. This approach could save lives, and it has the added benefit of chastening your guilty neighbor into re- fraining from smoking in bed, or per-
ow would it work in practice? For the first part of the fee, the gov- ernment would need to decide which bank liabilities — whether for- eign deposits, interbank loans, private debt, long-term debt, etc. — have im- plicit or explicit guarantees. Then, as with FDIC insurance for domestic de- posits, the government should charge the banks a premium for these guaran- tees. And when a financial institution goes bankrupt, it should go through a credible and pre-established resolution process — a sort of “living will” arrange- ment — in which the firm is not bailed out, but its liabilities that are not guar- anteed by the government are convert- ed into equity shares. In that way, credi- tors, not taxpayers, bear the costs of failure. The second part of the fee is more critical. Banks and their lobbyists will say it is impossible to measure a partic- ular firm’s share of the systemic costs of a financial crisis. Don’t believe them. It’s not rocket science. There is plenty of evidence and re- search on the magnitude of these costs covering many crises over a number of years. These costs are huge, because they include not just the price tag of government bailouts but the overall losses the economy suffers because of a banking crisis. Based on historical evi- dence of crises worldwide, it is reason- able to estimate a financial crisis com- ing once every 50 years and costing about 5 percent in forgone gross domes- tic product. Today, this would imply an- nual levy of $14 billion on the U.S. finan- cial sector — hardly chump change. To determine how an individual firm contributes to systemic financial risk, we must be able to estimate the size of its liabilities, its leverage, how its losses mirror those of the overall financial sec- tor in a crisis and how interconnected the institution is with the rest of the fi- nancial system. Except for this last fac- tor, all can be calculated from publicly available data. Indeed, with our col- leagues at the Stern School of Business, we did just that in a recent paper titled “Measuring Systemic Risk,” which ana- lyzed the risk for major financial firms in June 2007, before the crisis erupted.
resources is still modest compared with that of rich countries. For instance, despite its rapid increase in car use, China consumes about 8 million barrels of oil a day. The United States consumes about 20 million barrels a day. Put another way, China, with nearly a quarter of the world’s population, accounts for less than one-tenth of the world’s oil consumption. The United States, with only 5 percent of world population, accounts for nearly a quarter of global oil consumption. Whose appetite is really the bigger problem? Moreover, unlike the United States,
China has recognized that it cannot let its fossil-fuel appetite grow forever and is working hard to improve efficiency. Chinese fuel-economy standards for new cars are higher than America’s, for instance, and on average, coal-fired power plants are more efficient in China than in the United States.
China’s economy has grown mainly through the cruel exploitation of cheap labor.
5
Every time a developing economy starts growing fast, richer countries accuse it of
“cheating” by keeping its wages and exchange rate artificially low. But this isn’t cheating; it’s a natural stage of development that comes to an end in every country, as it will in China. China has grown in much the same way as other economies we now view as mature and responsible success stories —including Japan, South Korea and Taiwan. Those nations invested heavily in infrastructure and education, and quickly moved their workers from low-productivity jobs in rural areas to more productive jobs in cities. When rural labor was abundant, wages were low, but they rose rapidly after those surplus workers joined the urban labor force. China is hitting that spot now: The number of young people of workforce entry age (15 to 24) is projected to fall by one-third over the next 12 years. With young workers more scarce, wages have nowhere to go but up. This is already happening: Last month, Guangdong province (China’s main export hub) raised its minimum wage by 20 percent. China still has plenty of workers moving from the countryside to the cities, but the age of ultra-cheap Chinese labor will soon be gone.
arthur.kroeber@dragonomics.net
Arthur Kroeber is the managing director of GaveKal-Dragonomics, an economic research firm in Beijing.
The six firms with the greatest systemic risk, estimated per dollar of each firm’s capital, should sound familiar: Bear Stearns, Freddie Mac, Fannie Mae, Leh- man Brothers, Merrill Lynch and Coun- trywide Financial. Reducing or at least controlling sys- temic risk should be the top priority for regulators and lawmakers. Among the thousands of banks in the United States, almost all the assets are held by the 50 largest bank holding companies, which together account for approximately $14 trillion. Remarkably, two-thirds of that is controlled by just six financial institu- tions: in order, Bank of America, J.P. Morgan Chase, Citigroup, Wells Fargo, Goldman Sachs and Morgan Stanley. Add to this the government-sponsored entities such as Fannie and Freddie, plus the large insurance companies, and you pretty much have the entire U.S. financial system. Ironically, this crisis has only wors-
ened, rather than reduced, systemic risk by leading to the creation of more insti- tutions large enough to post a threat to the overall system: Bank of America merging with Countrywide and Merrill Lynch; J.P. Morgan with Bear Stearns and Washington Mutual; and Wells Far- go with Wachovia. And MetLife, the largest U.S. life insurer, has entered into an agreement to buy AIG’s international life insurer, increasing MetLife’s assets by almost 15 percent. It will not be so easy to put this genie back in the bottle, but we believe that our proposed fee would propel firms to become smaller, alter their risk-taking behavior and reduce their leverage. There is some hope. Several govern- ments are already moving in this direc- tion — as the United Kingdom prepares for next month’s elections, both major parties agree on the need for a bank tax, while Germany and France have signed on as well. Unfortunately, these proposals, along with those in Congress, still focus on the firms themselves, rather than the costs their risk-taking behavior imposes on the rest of society. Unless the banks face the prospect of paying up front for the damage they could inflict, they will con- tinue to pollute the financial system with unnecessary risk — and increase the chances of another crisis.
Mrichardson@stern.nyu.eduNroubini@stern.nyu.edu
Page 1 |
Page 2 |
Page 3 |
Page 4 |
Page 5 |
Page 6 |
Page 7 |
Page 8 |
Page 9 |
Page 10 |
Page 11 |
Page 12 |
Page 13 |
Page 14 |
Page 15 |
Page 16 |
Page 17 |
Page 18 |
Page 19 |
Page 20 |
Page 21 |
Page 22 |
Page 23 |
Page 24 |
Page 25 |
Page 26 |
Page 27 |
Page 28 |
Page 29 |
Page 30 |
Page 31 |
Page 32 |
Page 33 |
Page 34 |
Page 35 |
Page 36 |
Page 37 |
Page 38 |
Page 39 |
Page 40 |
Page 41 |
Page 42 |
Page 43 |
Page 44 |
Page 45 |
Page 46 |
Page 47 |
Page 48 |
Page 49 |
Page 50 |
Page 51 |
Page 52 |
Page 53 |
Page 54 |
Page 55 |
Page 56 |
Page 57 |
Page 58 |
Page 59 |
Page 60 |
Page 61 |
Page 62 |
Page 63 |
Page 64 |
Page 65 |
Page 66 |
Page 67 |
Page 68 |
Page 69 |
Page 70 |
Page 71 |
Page 72 |
Page 73 |
Page 74 |
Page 75 |
Page 76 |
Page 77 |
Page 78 |
Page 79 |
Page 80 |
Page 81 |
Page 82 |
Page 83 |
Page 84 |
Page 85 |
Page 86 |
Page 87 |
Page 88 |
Page 89 |
Page 90 |
Page 91 |
Page 92 |
Page 93 |
Page 94 |
Page 95 |
Page 96 |
Page 97 |
Page 98 |
Page 99 |
Page 100 |
Page 101 |
Page 102 |
Page 103 |
Page 104 |
Page 105 |
Page 106 |
Page 107 |
Page 108 |
Page 109 |
Page 110 |
Page 111 |
Page 112 |
Page 113 |
Page 114 |
Page 115 |
Page 116 |
Page 117 |
Page 118 |
Page 119 |
Page 120 |
Page 121 |
Page 122 |
Page 123 |
Page 124 |
Page 125 |
Page 126 |
Page 127 |
Page 128 |
Page 129 |
Page 130 |
Page 131 |
Page 132 |
Page 133 |
Page 134 |
Page 135 |
Page 136 |
Page 137 |
Page 138 |
Page 139 |
Page 140 |
Page 141 |
Page 142 |
Page 143 |
Page 144 |
Page 145 |
Page 146 |
Page 147 |
Page 148 |
Page 149 |
Page 150 |
Page 151 |
Page 152 |
Page 153 |
Page 154 |
Page 155 |
Page 156 |
Page 157 |
Page 158 |
Page 159 |
Page 160 |
Page 161 |
Page 162 |
Page 163 |
Page 164 |
Page 165 |
Page 166 |
Page 167 |
Page 168 |
Page 169 |
Page 170 |
Page 171 |
Page 172 |
Page 173 |
Page 174 |
Page 175 |
Page 176 |
Page 177 |
Page 178 |
Page 179 |
Page 180 |
Page 181 |
Page 182 |
Page 183 |
Page 184