Rethinking U.S.-Chinese Relations
Does the United States have a China complex that might force it to take harsh steps against the Asian giant?
July 7, 2010
The Great Financial Crisis is China's wake-up call. It puts a new and very important set of external pressures on the Chinese economy — pressures that are very much at odds with the underpinnings of the model that has worked so well over the past 30 years.
It provides great incentive for China to shift to a new model — one driven much more by the internal demand of its 1.3 billion consumers than by the external demand of shell-shocked Western consumers.
There is, unfortunately, more to China's external demand shock than subdued consumption growth in the United States and Europe. Also at work are the mounting risks of trade frictions and protectionism — especially those made in Washington.
For China, the moral high ground is no consolation to the reality of the growing drumbeat of bipartisan China bashing in the halls of the U.S. Congress. Chinese leaders cannot afford to be complacent in ignoring these risks.
China's export-led successes — it recently surpassed Germany as the largest exporter in the world — means that it has long had to contend with pushback from the West. But the politics of this external pushback are entirely different in today's post-crisis era than they have been in the past.
Over the 2005-07 period, the U.S. Congress introduced 45 separate pieces of anti-China trade legislation. None of them passed. The reason: The United States' unemployment rate averaged just 4.7% over that three-year period. Today, with the U.S. jobless rate easily twice that, the politics of China bashing need to be cast in a very different light.
This is hardly the supportive external climate that China needs to sustain its export-led growth model. Nor can China expect things to go back quickly to the way they once were. The developed world — first America, now Europe — is not only facing a lasting external demand shock, but it is also staring at the politically combustible condition of chronically higher unemployment.
For China, as well as for other export-dependent economies, these twin pressures could well have the potential to re-write the rules of engagement with the rest of the world.
There is no quick fix for the post-crisis world. Unfortunately, that means that U.S.-China trade tensions are likely to persist for years to come. Over time, structural rebalancing is necessary for both economies. For the United States, that means less consumption and more savings — with the bulk of that saving being recycled into investments in infrastructure, export capacity, alternative energy technologies and human capital.
For China, rebalancing needs to take the opposite form — namely, less exports, investment and saving, and more internal private consumption. In the end, rebalancing is not an option for an unbalanced post-crisis world. That's especially the case for the United States and China — the two nations that ultimately hold the trump cards in any such realignment.
Yet the endgame of global rebalancing is not a panacea for the more immediate issues threatening the United States and China. An “asymmetrical rebalancing” is an especially worrisome and destabilizing possibility in the years ahead. Here’s how such a scenario might play out:
The United States, with its budget deficit out of control and without a spontaneous regeneration of private saving, stands a good chance of being a real laggard in facing its rebalancing imperatives. That underscores the prospects of a chronically large U.S. current account deficit — along with ongoing pressure on the rest of the world to fund it.
Meanwhile, there is good reason to believe that a pragmatic China could shift surprisingly quickly to a pro-consumption growth model — using the occasion of the upcoming 12th Five-Year Plan (2011-16) to introduce new incentives aimed at boosting rural income, promoting job-intensive services industries and reducing excess household saving.
If China takes such actions, a pro-consumption tilt to its economy would quickly emerge — having the important effects of reducing its surplus saving, current-account surplus and accumulation of foreign exchange reserves. That, of course, would mean that China would have less of a need — as well as less surplus capital — to recycle back into dollar-denominated assets.
Needless to say, that raises the distinct possibility of serious external financing constraints for the United States.
The West has yet to appreciate the full ramifications of China's rebalancing agenda. Ironically, a consumer-led China could play a much more constructive role in global rebalancing than a saving-short United States. As usual, the Washington consensus is so focused on the currency "remedy" — the never-ending call for a large yuan revaluation against the U.S. dollar — that it fails to consider other potential rebalancing options.
Unfortunately, this is the same misdirected mindset that gave Japan poor advice on yen appreciation in the late 1980s and came up with the dollar-depreciation "answer" to the United States' current account deficit in recent years.
The Washington consensus smugly believes that China wouldn't dare take actions that might jeopardize the value of its vast holdings of dollar-denominated assets. However, this is yet another example of a classic western misinterpretation of Chinese values. Rightly or wrongly, China feels that it has been mistreated by the West for nearly 200 years.
Yet, China today is a proud nation, with a strong sense of nationalism. Irrespective of the consequences retaliation might have for its currency portfolio, I suspect today's China would find it unfathomable to ignore an aggressive trade action by the United States.
As a saving-short and increasingly debt-dependent nation, the United States is not exactly operating from a position of strength these days. It has formidable problems that need to be addressed at home. Yet like China, the United States also has enormous global responsibilities that need to be taken very seriously. Unfortunately, in a tough economic climate, localization tends to take precedence over globalization.
Such are the risks today as the United States and China veer ominously toward mounting trade frictions and protectionism.
Editor's note: This essay was originally published under the title of "The China Complex" in American Review, Issue Two 2010 (May).
Rightly or wrongly, China feels that it has been mistreated by the West for nearly 200 years.
Unfortunately, in a tough economic climate, localization tends to take precedence over globalization.
Ironically, a consumer-led China could play a much more constructive role in global rebalancing than a saving-short United States.
Over the 2005-07 period, the U.S. Congress introduced 45 separate pieces of anti-China trade legislation. None of them passed.
Stephen S. Roach
Former Non-Executive Chairman of Morgan Stanley Asia Stephen S. Roach is a senior fellow at the Jackson Institute for Global Affairs, Yale University, and a member of the Yale School of Management faculty. He was previously the Non-Executive Chairman of Morgan Stanley Asia (a position he held after serving as managing director and chief economist […]