Q&A With Derek Scissors on China's Economy

Marc Richards: What hope does China have of becoming the global economic superpower, replacing the dominant role played by the United States? Is such a scenario inevitable, impossible, or neither? And will it depend on internal decisions the regime in Beijing takes or does not take?

A: You have half of it -- China's ascendance is neither inevitable nor impossible, and it will depend on policy choices. There is an obvious need for efficiency in China's use of natural resources, where water may become more important than energy. China will also increasingly need an efficient labor market. Demographic changes are going to first reduce labor force growth, then eventually cause an outright contraction. The other half of the story is U.S. domestic policy, but I'll stay on the western side of the Pacific.

Kazushi Minami: Although Beijing still controls the exchange rate of the renminbi, it has been slowly revaluing its currency since 2005. It seems that in the long run Beijing is shifting its currency policy to a free exchange rate. (The pace of its reform is slow because of the fear that a rapid economic reform could cause a collapse of the economy, as in the Soviet Union or Thailand.) Does this mean there is a possibility that Beijing will stop purchasing U.S. bonds in the near future?

Linda Morse: Where would China invest its money if not in U.S. Treasury bills and other U.S. investments?

A: The only place for China to invest the sums it is currently accumulating is the U.S. bond market. No other country and no other asset market can absorb $400 billion annually -- not gold, not oil, not European stocks, nothing. Unless China's current account surplus unexpectedly and dramatically falls later this year or next, it will continue to be a massive buyer of U.S. bonds.  

I see very little exchange rate liberalization. The renminbi has been more, not less, tightly pegged to the dollar over the past year. That tightening began in June 2008 and thus predates the Lehman Brothers collapse.

Andrew De Stefano: Has the economic downturn caused Beijing to rethink its market liberalization policies? If yes, is China merely slowing down the introduction of new reforms, or is it also scaling back previously enacted free-market policies?

A: The downturn has accelerated, at least for the moment, a policy shift that began in 2003. The move is to an intensification of investment-led growth, where investment is done primarily by state-controlled firms and accelerated and decelerated at the government's behest. China moved further away from a market-oriented system and toward greater state direction well prior to the global economic crisis.

Greg Bonadies: Are the rate and pace of legal reform in China -- particularly with regard to commerce, trade, and investment -- enabling or inhibiting China's growth and development ambitions?

A: I am not an expert on legal changes. The anti-monopoly law is at best a failure to move forward, since it enshrines the immunity of the state sector to any meaningful economic regulation (the law only applies where the State Council says it does). The labor law may be similar depending on implementation. Intellectual-property rights were seeing slow progress pre-crisis. My tentative evaluation is that the pace of legal reform is a mild drag on development.

Alex: Can China's economy make the transition from manufacturing products on the lower end of the value chain to providing high-value goods and services?

A: Yes, absolutely. Ultimately, it will be almost unavoidable as the labor force shrinks. How fast China moves up the ladder depends on education and training, of course, but also on how hard the National Development and Reform Commission wants to push while there is still need for low-margin production for large-scale employment.

Jessica Alberts: How solid is the "Chinese model" of growth, in which market reforms are carefully controlled by an autocratic state and economic growth is delivered to a population in place of democratic freedoms? Is it sustainable in the long run in China? And what is its potential as an exportable model to other countries, such as Iran or Russia?

A: It is clearly solid for an extended period and, as such, can be a model for others -- though management would be very different in a resource-rich, labor-poor country such as Russia.  

There's a catch, though. Chinese development has been driven by initial reform in 1978, renewal of reform in 1991, and World Trade Organization accession in 2001. At some point, either the state must be willing to let go of so much of the economy that political imperatives are threatened by the rule of law and the free flow of information or reform stagnates and eventually takes the economy with it. The Communist Party thought it had escaped this dilemma with accelerated state-led growth between 2003 and 2007, but that acceleration was largely a function of expansionist U.S. monetary policy.

Christine: How similar, if at all, is China's economic situation in the current financial crisis compared to that of Soviet Union during the Great Depression in the 1930s?

A: I know little about the Soviet Union during the depression of the 1930s. One difference is clear: China is much more tightly connected to the world now than the Soviet Union was then. In an important sense, China is more like the United States was in the 1930s, because it runs very large current account surpluses and therefore has a lot to lose when world demand plummets.