China has learned well from global risks, crises

In looking back on its extraordinary accomplishments since 1978, China has much to be proud of in celebrating last year’s 40-year milestone on the road to economic development. But as President Xi Jinping implied at the opening of the 19th National Congress of the Communist Party of China in October 2017, this milestone should be viewed as more of an intermediate stop on a long journey rather than a final destination.

In keeping with this sense of transition, for the first time in 36 years, the Party has revised the allimportant “principal contradiction” facing Chinese society — from the backward social production of a poor nation as stated in 1981 to inadequate and unbalanced economic development as restated in October 2017. This underscores a very different focus for China’s basic strategy over the next several decades — moving away from old drivers of manufacturing-led growth and uncovering new sources of innovation- and services-led growth.

The experience over the past 20 years underscores that China should not take global risks lightly. That lesson was all the more meaningful in 2018 — a year that not only marked the 40th anniversary of China’s reform and opening-up, but also the 10th anniversary of the global financial crisis and the 20th anniversary of the Asian financial crisis, two singular events that posed enormous challenges both to China and the world.

While the Chinese economy is a good deal less dependent on the vicissitudes of external demand than was the case before the 2008 crisis, exports still account for nearly 20 percent of the nation’s GDP, or about half the share going into household consumption.

In the early days of China’s economic development, export-led growth was a powerful antidote for a nation that was afflicted by 20 years of internal instability, from the mid-1950s to the mid-’70s. It was hardly a coincidence that as the export share of the economy went from 4.5 percent in 1978 to 37 percent in 2006, Chinese GDP growth surged to 10 percent annually on average for three decades.

While Chinese reforms were an essential ingredient in the successes of this export-led growth strategy, China’s export machine didn’t materialize out of thin air. It required massive investments in productive capacity and infrastructure that pushed the fixed investment share of GDP above the 40 percent threshold by the early 2000s.

Yet as Xi implied in his report to the 19th Party Congress, there is good reason to doubt the staying power of China’s externally focused growth gambit. Xi’s message sharpened the focus on an “unbalanced and inadequate” system, but the implications of the basic message are very much the same: China can only stay the course if it resolves the contradiction of its imbalances.

Xi’s reassessment of China’s principal contradiction is also shaped importantly by the trials and tribulations of the outside world — a world, as Xi put it, that remains “…in the midst of profound and complex changes’’. That gets to the second building block of China’s export-led growth miracle — the strength of external demand that supported the all-powerful Chinese export machine.

The Asian financial crisis of 1997-98 was a warning of what was to come — a severe and protracted slowdown in global trade that has continued with a vengeance in the aftermath of the global financial crisis of 2008-09.

The bursting of the subprime mortgage bubble in the United States, eventually accompanied by the implosion of global credit and equity bubbles, as well as a virulent European sovereign debt crisis, led to a full-blown collapse on the demand side of the world economy, with lasting repercussions for global trade. Following the unprecedented 10.5 percent plunge in global trade in 2009, world trade growth since has averaged only 3 percent — literally half the 6 percent pace over the 1980 to 2008 period. China, the world’s biggest exporter, could hardly dodge that bullet.

Moving on to current circumstances, there is no winning strategy in a trade war. Of course, there are two sides to every dispute, and mounting economic tension between the US and China is an obvious case in point. The ongoing structural transformation of the Chinese economy is not without important consequences for its co-dependent partner, the US. As China shifts from surplus savings to savings absorption — drawing down its 45 percent domestic saving rate to fund the safety net of the Chinese people — it will have less savings to loan to the US and subsidize the safety net of people in the US.

In the end, China’s powerful economic takeoff was very much a levered play on globalization, global trade and, ultimately, the global economy. Yet the lessons of the Asian financial crisis and the global financial crisis all underscore the systemic risks of an externally focused growth strategy.

The ongoing structural transformation of the Chinese economy is not without important consequences for its codependent partner, the US.