Tom Watkins

This is good news for the automotive community periodically pummeled by the hollowing out of America’s domestic manufacturing. The biggest always fall first and hardest during any recession. After housing and construction, the auto industry followed, leading the nation into massive unemployment during the 2008 economic decline.  

It has been said that when Detroit/Michigan catches an economic cold the US gets pneumonia. Chinese investment in Michigan is helping to stabilize the patient. 

Why have the Chinese selected states such as Michigan as destinations for business, cultural and educational investment?  Quite simply, Michigan is ripe for investment and rolling out the welcome mat on so many levels.  

First, governors, such as Rick Snyder of Michigan, have led numerous delegations to China in recent years. Thoughtful, progressive governors are hoping to build the win-win relationships with China that grow jobs at home.  

Snyder, who has traveled to China twice as Governor, with a third trip planned for this fall, often says, “Michigan is open for business and warmly welcomes you.” 

Michigan, like other states, is seeking foreign direct investment, and wants to export its automobiles, agricultural products, technology know how and other goods and services to developing markets, such as China. 

According to Michael A. Finney, President and CEO of the Michigan Economic Development Corporation (MEDC),”Michigan’s business community now includes more than 50 major Chinese companies that have invested more than $1 billion in our state and growing.” 

At a recent meeting in Detroit, Chinese Consul General Zhao Weiping said, “Michigan has many ingredients: Economic, social, cultural and educational that make it attractive to Chinese investors and I suspect as the relationship matures, the investments and job creation will only continue to grow.” 

It was just a few short years ago that General Motors and Chrysler Corporation were humbled into bankruptcy, surviving only through massive cash infusions courtesy of American taxpayers.  

Yet today the auto industry is in the throes of yet another comeback, the roar now restored to the Motor City.  

“As a result of US automotive investment in China, these past few decades have seen China emerge as a major player in production. Now Chinese investors continue to see the unique opportunities in the Detroit region which now leaner and meaner, remains the brain center of advanced manufacturing, design and technology,” said Sandy Baruah, president and CEO of the Detroit Regional Chamber. “As the epicenter of the global automotive industry, we welcome Chinese and other foreign direct investment to our region.” 

“There is more technology in today’s car than there is in an iPad, tablet, laptop and iPhone combined says David Cole, Chairman of AutoHarvest and Chairman Emeritus for The Center for Automotive Research. 

Many successful Chinese auto suppliers including: Nexteer,Yanfeng USA, Henglong and ZYNP International are established in Michigan and creating jobs for our community.” says Jerry Xu, President of the Detroit Chinese Business Association. 

Michael Dunne, a leading expert on China’s auto industry and author of American Wheels, Chinese Roads: The Story of General Motors GM in China observed, “The Chinese are bringing new money into the State of Michigan. Thirty years ago, China showed signs of potential but had no capital. Today, the situation seems almost reversed. The Chinese are cash-rich and Michigan is seen as a place with great potential thanks to the strong design and engineering talent.” 

Global auto technology and talent is clustered in Michigan, including over 15,000 Mandarin speaking engineers. Opportunity abounds.  John McElory, a global auto expert and president of Blue Sky Productions understands well, “The Chinese are coming to Michigan because when they look around they don’t see shuttered factories, they see nothing but opportunity.” 

The New York Times has taken notice of the resurgence of both the US auto industry and Chinese automakers in establishing a beachhead in Detroit. After decades, if not centuries of looking inward, the Chinese are spreading their wings.  Chinese President and leader of China’s Communist Party, Xi Jinping speaks of “The China Dream, The People’s Dream.”  Part of this dream entails expanding its economic reach and soft power to every corner of the globe. 

Bilateral trade between the US and China could exceed $450 billion this year and will continue to grow.  

What many in the West are discovering is that when we speak of building bridges with China economically, culturally, and educationally, these bridges run both ways. “This reality creates opportunities on both sides of the ocean,” said Lisa Grey, President of the Chinese Association of Greater Detroit. 

The Chinese economic wave will continue to wash upon Michigan’s and America shores. We could do nothing and be swamped—or we can learn to surf and ride the wave. Governor Snyder and the State of Michigan are already riding the wave and creating both jobs and wealth.  

Other states and nations are in competition to capture the upwards of $2 trillion dollars the Chinese are expected to invest around the globe over the next decade. Michigan and America would be wise to continue to create economic magnets to attract global investment from China moving forward. 

Tom Watkins serves on the University of Michigan Confucius Institute Board of Advisors and the Michigan Economic Development Corporation International Advisory Board.  He is also the former Michigan State Superintendent of Schools, and former President and CEO of the Economic Council of Palm Beach County, FL. He is currently an US/China business and educational consultant.

Qian Liwei

The U.S. and China are the world’s largest and second largest economies. The past four decades witnessed a great explosion in the Sino-U.S. economic and trade nexus. According to the General Administration of Customs of China, the bilateral trade volume reached 484.7 billion dollars in 2012, compared with 2.45 billion in 1979. China is currently the second largest trading partner of the U.S., next to Canada; and the U.S. is China’s second largest trading partner, right after the European Union. The U.S. is the largest importer of Chinese goods, and China has become the third largest export market of U.S. merchandise. With regards to foreign direct investment (FDI), it began from zero and has since developed rapidly. The U.S., which has invested over 70 billion dollars in China, is a major source of foreign investment. Though Chinese investment in U.S. started much later, it is experiencing a great leap forward in the first decade of the new millennium. In addition, China is the largest foreign holder of U.S. Treasury Bonds, totaling nearly 1.25 trillion dollars, which accounts for 36 percent of Chinese foreign reserves. The increasingly intertwined economic and trade connections have benefited both nations by providing cheaper goods to American people and filling the huge gap between the revenue and spending of U.S. government, and by supporting the rapid growth of an export-oriented Chinese economy and reducing unemployment, which is a major unstable factor in China. 

The financial tsunami is changing the so-called “balance of financial terror” between the two countries. As representatives of the two sides of an unbalanced global economy, China and U.S. have made efforts to readjust their models of economic development since the crisis: China is moving toward a more consumption-driven economy, while the U.S. is focusing on financial de-leveraging, and the revival of its manufacturing industry. The economic rebalancing has seen some positive results to date, but much more has to be done in the coming days. 

As the economic and trade links are closely bundled and largely dependent, it’s normal that frictions and disputes have become more frequent on an annual basis, and sometimes from the perspective of the third party, the two sides seem to be on the verge of a potential “trade war.” There should also be alarm that just as in the political, security and military fields, the trust deficit in economic and trade fields is growing fast and is spreading across many walks of life in both countries. Against the backdrop of a Chinese economic slowdown and a slack recovery in the U.S., the perception that China and U.S. are doomed to be strategic competitors in the economic and trade fields seems to be quite popular. On the U.S. side, some multinational companies are complaining of the overprotection of the Chinese market and the wide violation of intellectual property rights, and more recently the so-called “cyber theft” of U.S. advanced technologies; on the Chinese side, Chinese companies are not only worrying about their access to the U.S. market, but also feel high pressure from the U.S. government on the revaluation of Chinese currency RMB, and trade remedy measures, and special safeguard measures against Chinese exports. 

But, if one looks at a bigger picture of the future, one may conclude that the window of opportunity is open to China and the U.S. to forge a new type of economic and trade relationship. A recent report sponsored by the China-U.S. Exchange Foundation predicts that China and the U.S. will become each other’s largest trading partners by 2022. This is an ambitious blueprint that should be targeted by both sides in the foreseeable future, because China and U.S. have a great potential to achieve this goal. For example, possessing huge foreign reserves and abundant dollars, China is able to multiply its FDI across America. Left far behind by its investment in the EU, Chinese FDI in the U.S. is only 9.4 billion dollars, as of 2012. While in the current account of trade, China enjoys an annul surplus of about 220 billion dollars from the U.S., and it may absorb an increasing amount of American goods to help achieve the U.S. goal of doubling its exports by 2015. 

To forge a new type of economic and trade relationship isn’t so easy. It requires new thinking, new fields of cooperation and new approaches of cooperation. First, as the two largest economies in the world, both sides should reach a consensus that more extensive, deepened and balanced ties are beneficial not only to China and the U.S., but also to the Asia-Pacific region, and more broadly to the global economy; secondly, both sides should promise that bilateral cooperation should be based on equality and non-discrimination, and that protectionism in trade and investment is against the interest of both nations, that economic frictions and disputes should not be politicized and be solved by bilateral and multilateral mechanisms; thirdly, a comprehensive framework that will greatly promote market access, the protection of intellectual property rights and other issues that both sides are concerned with is highly needed for the bilateral trade, investment and technology cooperation. 

In one month, the fifth round of the China-U.S. Strategic and Economic Dialogue (S&ED) is scheduled in Washington, D.C. Both sides are set to discuss not only the strategic and security issues, but also bilateral economic and trade issues. As a major pillar of the initiated new type of big country relationship, a new type of economic and trade relationship is necessary and vital to the next decade of China-U.S. relationship, and to a greater extent, to the regional economy and global economy.

Qian Liwei is Associate Research Fellow with China Institutes of Contemporary International Relations

According to SAFE, as of February 2012, China had accumulated $4.7 trillion in foreign assets through purchases of United States government securities and other investments, and more than $2.9 trillion in foreign liabilities through foreign direct investment (FDI) and borrowing. This puts China’s net foreign assets at roughly $1.8 trillion. 

But, despite China’s position as one of the world’s largest creditors, its net investment-income balance is deeply negative. In fact, China has run investment-account deficits for six of the last nine years, with preliminary statistics suggesting a deficit of $57.4 billion in 2012. 

Two factors explain this anomaly. The first is the high return on foreign investment in China. In 2008, US corporations gained a 33% return on their investments in China, while other multinationals got a 22% return. By contrast, the return on US government securities, which form the bulk of China’s foreign assets, was next to nothing. 

 Second, China’s foreign assets are denominated almost exclusively in US dollars, while its foreign liabilities are denominated mostly in renminbi. As a result, whenever the US dollar declines, China’s net international-investment position (the difference between its external financial assets and liabilities) deteriorates – and so does its investment-income balance. China’s drive for renminbi internationalization so far has made the balance-sheet structure even more unfavorable. 

According to the economist Geoffrey Crowther, a country’s balance-of-payments position evolves in six stages, with the key variable being net assets – that is, the country’s net international-investment position. In the first three stages, the country is a net borrower with a deficit on the investment-income account. As an “immature debtor-borrower,” its trade balance and current account are also in deficit; as a “mature debtor-borrower,” its trade balance enters surplus; and, as a “debtor-repayer,” its current account moves to surplus. 

In the later stages, the country becomes a net creditor, running an investment-income surplus. As an “immature creditor-lender,” the trade balance and current account are in surplus as well; as a “mature creditor-lender,” the trade balance returns to deficit; finally, as a “creditor-borrower,” the country’s current account swings into deficit. A country in the later stages of development can use investment income from its past accumulation of net foreign assets to compensate for the decline in citizens’ incomes due to aging and other changes. 

China breaks Crowther’s mold. Given that it has been running an investment-income deficit, a trade surplus, and current-account surplus, it seems that it should be classified as a “debtor-repayer.” But China is a net creditor. If China runs an investment-income deficit with net assets of almost $2 trillion, how will it make the transition to an investment-income surplus? 

China’s investment-income deficit will probably persist in the foreseeable future. Its stock of foreign capital will increase steadily as foreign firms invest and reinvest in China. FDI in the country will continue to garner substantial returns, partly owing to local-government hospitality.

Meanwhile, China’s outward FDI will continue to encounter challenges, as various short- and long-term factors – from weak international demand to an aging population – cause its trade surplus to decline, diminishing its ability to export capital. China’s investment in US government securities and other sovereign debt will continue to yield extremely low returns. In fact, this investment will never be repaid in full, so a large write-off is inevitable. 

The value of China’s assets as future claims on real resources has already been diluted by dollar depreciation, and calls in the US for inflating away America’s debt burden portend a further decline. Moreover, while China may have profited from the rise in government-bond prices over the last few years, prices have been inflated artificially by expansionary monetary policy in advanced countries, which implies that the bubble could burst. Whether through inflation or collapsing government-bond prices, China will suffer significant capital losses on its foreign assets, further damaging its investment-income balance. 

Without fundamental changes in its economic-growth pattern, it is difficult to imagine how China can become an immature creditor-lender and a mature creditor-lender. A more likely scenario is that China will continue to have a trade surplus (though much smaller) and an investment-income deficit, mirrored by America’s trade deficit and investment-income surplus. 

If both countries have balanced current accounts, their balance-of-payments positions can be sustainable. 

In such a scenario, the US exports to China what Ricardo Hausmann and Federico Sturzenegger have dubbed “dark matter” (unaccounted assets, such as knowledge, which US corporations export through their investments), while China exports consumer goods and services to the US. But would China be happy with this division of labor? China’s leaders should think hard about this question now – before it is too late to change the situation. 

Yu Yongding was President of the China Society of World Economics and Director of the Institute of World Economics and Politics at the Chinese Academy of Social Sciences. He has also served as a member of the Monetary Policy Committee of the People’s Bank of China, and as a member of the Advisory Committee of National Planning of the Commission of National Development and Reform of the PRC. 

© Project Syndicate 1995–2013

Zhang Monan

Before 2008, the US reported a real GDP growth rate of 3%, a nominal GDP growth rate of 5-6% and an inflation rate of 2-3%. After 2008, its nominal GDP growth rate fell the trend line by 15%  which was even lower than the potential growth rate. The issue before the US economy, in the short term, remains “fiscal rebalancing”. In the past four years, the federal tax revenue of the US accounted for less than 16% of GDP, while its spending was more than 22% of GDP, with the gap filled up by increasing federal borrowing. The result was that federal debt has increased a hovering 16.2 trillion dollars. However, in our view, compared with European or Japanese debt crises, US debt was more a cyclical phenomenon which can be resolved through future growth. 

The US economy is showing signs of long-term and structural improvement, indicating that it has entered an upswing cycle. The two worst hit areas, financial institutions and the household sector, have by and large completed their de-leveraging process through spending cut, capital write-off and debt reorganization. The leverage ratio of US firms has for years stayed at its all-time low but their cash flows and profit earnings at the best level in history. Thanks to a bullish stocks market and a booming real estate market, the household sector has again found the wealth effect at work. All these are likely to pave the way for a steady economic recovery in the US. 

What, then, holds the key to the prospect of US economic growth in the coming decade? According to forecast by the 2010 Economic Report of the President, US real GDP growth rate will come down from 4.3% to 2.5% between 2011 and 2020, as calculated in chain-type price index. The report believes that contribution from a bigger population will make only for 0.2 percentage point and that from a higher productivity for 2.3 percentage points, or 92% of the GDP growth. Therefore, the prospect of US economic growth, to a great extent, hinges on rising productivity in the coming decade. 

In our view, the US has already begun to cultivate a number of new comparative advantages geared to rising productivity and a more sustainable economic growth: 

The first is a new competitive edge in manufacturing. After the financial tsunami, the US adopted a “reindustrialization” strategy and pushed for “reshoring of manufacturing jobs”. The so-called reindustrialization is, in essence, an attempt to upgrade US industries with higher-end manufacturing as the core. 

Guided by such a strategy, the US has moved quickly to map out new industries globally and secure itself a clear advantage over others. The so-called “reshoring” also means industrial upgrading. With President Obama in his second term energetically seeking greater potential for growth (through better R&D, education and infrastructure development) and promoting “energy independence”, “reshoring” and other reindustrialization policies, it is likely that sectors benefiting from improved innovation and cheaper energy, such as machinery, automobiles, airplane, aviation and space equipment, computers and others, will see robust growth in export, which will help US efforts to regain competitiveness.  

The second is a new competitive edge in energy. The US “energy independence” initiative has achieved a major progress. According to IEA 2012 World Energy Outlook, US will overtake Russia in 2015 as the world’s largest natural gas producer and Saudi Arabia in 2017 as the world’s largest crude oil producer. And by 2035, it will achieve full energy self-sufficiency. Lower energy prices will substantially cut manufacturing cost, increase export, accelerate the recovery of the real economy, promote a manufacturing resurgence, set US trade balance to rights and help rebalancing the US economy. 

The third is a new competitive edge in ICE. ICE, namely information, culture and education, is an intelligent industry widely believed to enjoy a big growth potential in the next decade. The combination of intelligent manufacturing and low-carbon energy, based on intelligent industries and new energy industries, is expected to point the way for the “Third Industrial Revolution”. 

The fourth is the relative advange of the US dollar. The European debt crisis will last five more years at least , making the US dollar an attractive currency safe haven. In particular, as US dependence on imported energy decreases, its current account balance sheet will improve steadily, which will make the dollar strong and bring about a reflux of global capital to the US. 

As far as China is concerned, the comprehensive adjustment of US economic structure is both a challenge and an opportunity. The ongoing “reshoring” of US manufacturing will reshape global industries, as well as the lineup of Chinese industries. Yet opportunities for China-US cooperation remain substantial. As its per capita income increases, consumption pattern upgrades and mode of production changes, China will need still more US capital equipment and commercial services. According to some forecasts, in the next decade, China’s hi-tech market will see an annual growth of 20-40%. If the US can relax its export restrictions on China, given its 18.3% share of China’s import market, it will achieve a hi-tech product export of over 60 billion dollars. This not only helps innovation and technological upgrading of Chinese industries but also contributes to the spread and investment of US technology worldwide. 

What is more, the “shale gas revolution” of the US can generate new opportunities for energy cooperation between the two countries. Enterprises from both sides stand to gain from their strategic cooperation in shale gas development technology, manufacturing of key equipment, financing, marketing and others, as China will build a shale gas industries cluster after relevant technological breakthrough is achieved. 

Zhang Monan is the Deputy Director and Associate Research Fellow of World Economy Study at the Economic Forecast Department of the State Information Center.

A more useful framework would view the state and the market as two sides of the same coin, bound together by the property-rights infrastructure (PRI). The state interacts with the market – the realm of private, voluntary exchange of property rights – in three main ways.

First, the state transacts with the private sector through taxation and expenditure. Second, it establishes and maintains the PRI, which includes all of the institutions needed to delineate, exchange, fine-tune, and protect (through enforcement of law and contracts) property rights. Among these institutions are the judiciary and arbitration panels, which function not only to adjudicate property-rights disputes, but also to address administrative abuses and disputes between the private and public sectors. Finally, the state competes with the private sector via state-owned enterprises and utilities.

Given that an effective PRI safeguards market order and stability, the market needs a strong state to manage it. This means that whether a government is “big” or “small” is less important than how well it manages the PRI – that is, whether the state is able to ensure high-quality market order.

Current policy debates have largely neglected this aspect of the state’s role, because Western thinkers take their countries’ PRI for granted, especially their regulatory and judicial systems, which have benefited from hundreds of years of development. But these countries’ experience is entirely different from that of developing economies, which are under intense pressure to build a sound PRI quickly.

For a large economy like China – which has overlapping bureaucracies in different state agencies, and many layers of government extending from the central administration to local units – creating a transparent, fair, and effective PRI is particularly complex. As a state-led economy moves toward a market-based system, policymakers are faced with a difficult choice: pursue policies associated with immediate and rapid GDP growth, or seek the longer-term, less visible benefits of PRI development.

When China began this transition, its central and local governments focused on building physical infrastructure, such as roads and electricity grids, which delivered tangible gains. But it was the state’s less visible investment in the country’s institutional infrastructure that had the biggest impact on China’s GDP growth. Over the last three decades, the government has created a transitory but effective PRI to remove barriers to market entry, define new property rights, and mimic international rules, thereby facilitating external trade and enabling foreign multinationals to operate effectively in China.

China’s government-services supply chain plays an important role in orchestrating and supporting the market economy’s development. But it is not enough. With private and foreign-owned entities now accounting for more than two-thirds of China’s output, and with China becoming a leading actor in global markets, the need to upgrade its PRI is becoming increasingly urgent.

In order to create value consistently within domestic and international markets, China must ensure that competition is fair, transparent, and subject to the rule of law. China’s leaders know that private small and medium-size enterprises with fair market access would be a far more reliable source of innovation and jobs than are large state-owned monopolies.

Given this, China’s continued economic success depends on reducing state ownership of productive capital, facilitating market innovation and growth, and investing in human capital, such as through education, health care, and social welfare. Concretely, this means introducing land reform and privatization, regulating food and drugs, protecting human capital and intellectual property, safeguarding the value of household savings, ensuring market access, and executing fair and transparent taxation.

Such reforms would not weaken the state; they would simply alter the distribution of power in order to create a more stable system. For example, the primary objective of privatization would not be to reduce the size of the state sector, but to eliminate state-owned enterprises’ unfair and hidden privileges, such as subsidized credit and monopolistic market positions. This would help to eliminate corruption, by making bureaucratic functions more transparent and preventing officials from rewarding themselves at the public’s expense.

Strengthening the rule of law and creating a level playing field essentially involve building a stable, effective PRI, composed of institutions that can motivate public officials to deliver services as effectively as possible. Such a PRI would ensure that the state fulfills its responsibility to safeguard justice, enforce the law firmly and transparently, and enable the strongest competitors to reap their just rewards.

The good news is that many of China’s local governments, which are responsible for overseeing the country’s courts, are beginning to compete with each other to deliver better PRI. They recognize that stable, equitable markets are better than physical infrastructure at creating jobs and driving long-term growth. The bad news is that those who benefit from the current system are resisting progress.

In order to navigate the complex market-state relationship and achieve a beneficial outcome, Chinese policymakers must have a clear idea of where the state’s limited capacity and political capital are needed most. And that presupposes a discourse on the state-market relationship that is very different from the one to which Westerners are accustomed.

Andrew Sheng, President of the Fung Global Institute, is a former chairman of the Hong Kong Securities and Futures Commission, and is currently an adjunct professor at Tsinghua University in Beijing. Xiao Geng is Director of Research at the Fung Global Institute.

© Project Syndicate 1995–2013

He Weiwen

A Scientific Analysis of Two-Way Trade and Imbalances 

China-US trade is undoubtedly the fastest growing bilateral trade in recent world history. Ever since China joined the World Trade Organization (WTO) in late 2001, two-way trade accelerated unabated. The study examined detailed trade and investment figures from the past 35 years, released both by the Chinese and the American governments, and led to the conclusion that both China and the US have benefited from the growth of trade. What is of value is the approach of historic analysis. It did not stay at a collection of data, but moved a step further to examine the whole scenario from the comparative advantages of each and the resulted trade flows, especially in the context of the whole Asian value chain. The trade pattern and imbalances is well explained with that approach. 

According to official US data, the US had a $315.05 billion in merchandise trade deficit with China ($218.91 billion by official Chinese data) in 2012, which is the reason for constant blame by the US that China is taking away American jobs, and for an undervalued RMB. However, if we take further research on the basis of this study, we could find a roughly balanced distribution of benefits between the two countries. According to WTO’s new approach of trade balance based on global value chain, the official trade imbalance between China and the US will shrink by roughly 40%, and a large part of the Chinese exports to the US turns into profit for US multinationals. Also according to the Ministry of Commerce of the People’s Republic of China (MOFCOM), the US had merchandise exports to China of $132.89 billion in 2012, and service exports to China of $24.7 billion in 2011. US multinationals had a sales volume of $228.1 billion to China in 2011. The total reached $385.69 billion. Chinese merchandise exports to the US reached $351.80 billion in 2012, with service exports to the US under $20 billion and minimal local sales in the US, the total is similar to the former aggregated US total. Therefore, an objective, comprehensive and fair analysis of all related aspects in China-US trade will help reach a better understanding and solution to future bilateral trade development. 

A Good Prospect for the Next Decade 

The US-China 2022 study gives fairly optimistic estimates on trade between the US and China over the next decade. Depending on different conditions, the four scenarios value US merchandise exports to China at $508-580 billion in 2022, roughly 4.5-5 times the current level, creating 1.81 million jobs in the US. Chinese merchandise exports to the US by then are estimated at $800 billion to $1 trillion, more than double 2012’s figures. Each will grow faster than the target country’s expected total GDP growth. In other words, both countries will gain its weight in the other’s total economy. In service trade, US exports to China will vary widely from $104-342 billion, while Chinese exports to the US will reach $38.2-131.2 billion, all in 2022, depending on different scenarios. 

AmCham, the American Chamber of Commerce in China, has anticipated that by the year 2038, or the eve of the 50^th Anniversary of China-US diplomatic ties, US exports to China will hit $1 trillion. This study had anticipated a much earlier date. It suggests that, by 2022, the figure is very close to the trillion-dollar goal ($612-922.2 billion, merchandise and services combined). 

Future Cooperation is Broad Based 

The study foresees potential areas for cooperation in agriculture, energy, environment, advance manufacturing, aerospace, banking and finance, and science and technology, based on each country’s development goals and priorities, and its comparative advantages. The study found solid complementariness between China and the US in all those areas. It means that, the new type of relationship between big powers, China and the US, which both governments are working for, will be built on a profound economic basis, following the matching of each country’s development priorities, comparative advantages and complementariness, thus resulting in a win-win for both nations. Hence, we have all the reasons to remain optimistic in the future stable growth of China-US business relationship. 

Strategic Mutual Trust and Multilateral Approach Vital for Success 

The study has also noted that both countries have to face up to a series of major challenges if they want to bring the vast opportunities into reality. The authors regard the following two challenges, among others, most crucial:  strategic mutual trust and the multilateral approach to bilateral trade. 

First, strategic mutual distrust does exist and even deepened between the two countries. The prohibition of buying Chinese IT products by four US government agencies, as stipulated in 2013 fiscal year continuing provisions act, is a recent case in point. The much noisy accusations on Chinese cyber espionage and related IP theft by the Obama Administration and related intelligence reports created a very negative environment for bilateral cooperation. The cyber attack accusations in general, and the IP theft accusation in particular, cast dark clouds over the bilateral business relationship. Both China and the US should lose no time to intensify dialogues, both at strategic and working levels, and work together to identify, clarify and take active measures on all those issues. Efforts should be made at government, business and public levels at the same time. 

Second, in regards to the multilateral approach to bilateral trade, the two countries should not work at the bilateral level alone, which will certainly not lead to a win-win situation. Instead, the study has tried to examine the bilateral trade prospect in a global context. The next 10 years will see major changes in the world economy and trade. China and the US should continue to work together at the Doha Round and try every means to hit an early harvest at the WTO Bali Ministerial Conference before the end of the year. The US is energetically pushing forward the Trans-Pacific Partnership (TPP) and the Transatlantic Trade and Investment Partnership (TTIP), both of which China is not a player. China, on its part, is pushing its own free trade agreement (FTA) agenda, focusing on China-Japan Korea Free Trade Agreement and ASEAN’s Regional Comprehensive Economic Partnership (RCEP) in Asia, both of which the US is not a player to as well. The fundamental goal of FTAs at different bilateral and regional levels is not only to facilitate trade among the member economies, but also to set new world trade rules for the 21 century. Both China and the US should study carefully all the latest developments and try to find a way to work together. Only through cooperation will the US-China bilateral trade relationship be anchored for a lasting win-win situation. 

He Weiwen is co-director of the China-US/EU Study Center at the China Association of International Trade.

In 2012, the People’s Bank of China allowed commercial banks to float interest rates on deposits upward by 10% from the benchmark, and on bank loans downward by 20%. So, if the PBOC sets the interest rate on one-year deposits at 3%, commercial banks can offer depositors a rate as high as 3.3%. Many analysts viewed this policy, which introduced a small degree of previously non-existent competition among commercial banks, as a sign that China would soon liberalize interest rates further.

But any further move toward interest-rate liberalization must account for all potential costs and benefits. Chinese policymakers should begin with a careful examination of the effects of current financial repression (the practice of keeping interest rates below the market equilibrium level).

The degree of financial repression in a country can be estimated by calculating the gap between the average nominal GDP growth rate and the average long-term interest rate, with a larger gap indicating more severe repression. In the last 20 years, this gap has been eight percentage points for China, compared to roughly four percentage points on average for emerging economies and nearly zero for most developed economies, where interest rates are fully liberalized.

Developing-country central banks keep interest rates artificially low to ensure sufficient low-cost financing for the public sector, while avoiding large fiscal deficits and high inflation. But, in the long run, such low interest rates may also discourage households from saving, lead to insufficient private-sector investment, and eventually result in economy-wide underinvestment, as occurred in many Latin American countries in the past.

In many ways, China is breaking the mold. Despite severe financial repression, it has experienced extremely high savings and investment, owing mainly to Chinese households’ strong propensity to save and massive government-driven investment, particularly by local governments.

The adverse effects of financial repression in China are reflected primarily in its economic imbalances. Low interest rates on deposits encourage savers, especially households, to invest in fixed assets, rather than keep their money in banks. This leads to overcapacity in some sectors – reflected in China’s growing real-estate bubble, for example – and underinvestment in others.

More important, financial repression is contributing to a widening disparity between state-owned enterprises (SOEs) and small and medium-size enterprises (SMEs), with the former enjoying artificially low interest rates from commercial banks and the latter forced to pay extremely high interest rates in the shadow-banking system (or unable to access external financing at all).

Interest-rate liberalization – together with other financial reforms – would help to improve the efficiency of capital allocation and to optimize the economic structure. It might also be a prerequisite for China to deepen its financial markets, particularly the bond market, laying a solid foundation for floating the renminbi’s exchange rate and opening China’s capital and financial accounts further – a precondition for the renminbi’s eventual adoption as an international reserve currency.

SMEs and households with net savings stand to gain the most from interest-rate liberalization. But financial repression’s “winners” – commercial banks and SOEs – will face new challenges.

Under the current system, the fixed differentials between interest rates on deposits and those on loans translate into monopolistic profits for commercial banks. (The three percentage-point differentials that Chinese banks have enjoyed are roughly on par with those of their developed-country counterparts.) By creating more competition for interest income and reducing net interest-rate differentials, liberalized interest rates could reduce banks’ profitability, while SOEs will likely suffer the most, owing to much higher financing costs.

Another major risk of interest-rate liberalization in China stems from rising public debt, particularly local-government debt, which has grown significantly in the wake of the global financial crisis. A key parameter for determining the long-run sustainability of public debt is the gap between interest rates and the nominal GDP growth rate. In China, total public debt currently amounts to roughly 60-70% of GDP – a manageable burden. But, after interest rates are liberalized, the public sector’s debt/GDP ratio is expected to increase substantially.

Given these challenges, China’s leaders must take a cautious approach to interest-rate liberalization. Gradual implementation would enable the losers to adjust their behavior before it is too late, while sustaining momentum on pivotal reforms, which should be policymakers’ top priority. After all, as Premier Li Keqiang has put it, “reforms will pay the biggest dividend for China.”

Pingfan Hong is Chief of the Global Economic Monitoring Unit of the United Nations Department of Economic and Social Affairs.

© Project Syndicate 1995–2013

US-China 2022 is a new report and series of events projecting the economic growth possible from the bilateral relationship over the next 10 years, and submits policy recommendations to both the United States and Chinese governments to maximize potential benefits.

Published on May 22, 2013

US-China 2022 is a new report and series of events projecting the economic growth possible from the bilateral relationship over the next 10 years, and submits policy recommendations to both the United States and Chinese governments to maximize potential benefits.

Published on May 22, 2013