growth in China: the (semi-) bearish case

hurricane aftermath

Another day without internet access or TV. We still have water, but it’s contaminated. And the pressure is dropping. At least there’s electricity—which makes us considerably better off than most of our friends and neighbors.

I managed to find a Panera with working internet yesterday. It was so packed with other information-seekers that I barely found a table. The connection was slower than dial-up (if I really can recall what that was like).

It’s hard to get around here by car, since so many trees and power lines have fallen and blocked the roads. Our town says electricity won’t be restored to everyone before Friday. So we probably won’t be able to get back to our “normal” worries about the decline of the US, the dominance of China and the potential implosion of the EU until after the Labor Day holiday.

the bearish China case

Speaking of China, the same issue of Foreign Affairs (Sept.-Oct. 2011) that contains the bullish article I wrote about yesterday, also has a second. It’s “The Middling Kingdom: the Hype and the Reality of China’s Rise,” by Salvatore Babones, a Senior Lecturer at the University of Sydney, Australia. It argues the opposite. It says the world wildly overestimates China’s future power.

Here are Mr. Babones’ reasons:

  1. Like the US, the Chinese economy has benefited in the recent past from increased female participation in the labor force. But, but for both China and the US, this temporary boost to GDP from a large influx of new workers has passed its peak. For this reason alone, future GDP growth will be slower (for both countries).
  2. Increased longevity of parents plus the one-child policy will mean Chinese adults will be spending less time working and more and more time caring for the elder generation.
  3. Urbanization, a key aspect of China over the past two decades, has given a big boost to productivity as workers turn from subsistence farming to industrial work. But urbanization has gone about as far as it can go in China (why isn’t made clear). Like increased female participation, this second turbocharging factor won’t be firing up the Chinese GDP growth rate any more.
  4. Back to the Silver Generation for a moment. In addition to citizens working less, according to Mr. Babones, an increasing number of workers will be compelled to shift from high productivity, high value-added manufacturing work to low productivity service jobs taking care of the elderly. So China will no longer enjoy such a high-octane “mix” of new jobs as it does now.
  5. China’s growth to date has been highly destructive to the environment. It doesn’t have much environment left to destroy. Therefore, future growth cannot be as polluting as it has been in the past. Part of the future price of growth will be pollution control devices. Therefore, growth will be more expensive.
  6. China has reached the point where it is a highly efficient manufacturer. The next step for it would be to spawn a generation of creative pioneer entrepreneurs, like those behind Apple or Google, who will imagine and build highly innovative products. This is unlikely, however, given the tight control the Communist Party keeps over all aspects of the Chinese economy. Non-conformity isn’t a virtue in China.
  7. China’s population will begin to fall after 2020. Adding a shrinking workforce to shrinking productivity may be a recipe for 3%-4% real GDP growth, if that; it isn’t one for a 10% rate of advance.
  8. (not so much a reason, if you get down to it, as an observation) All of the academic predictions of future Chinese strength are based on computer models that take the facts of China’s recent past and extrapolate it far into the future. This is probably the best that econometric modeling can do, but that’s more a commentary about the limitations of computer models than assurance that the conclusions are correct. (In the late 1980s, for example, the predecessors of today’s computers were spewing out the same sorts of predictions about Japan. Look how that worked out.)
  9. The surge in the Chinese economy over the past twenty years has restored the country to the relative place in the world that it held in1870. Last time it got to this point, it regressed; why should this time be different?

Mr. Babones’ conclusion: “ If the international system comes to see China, and China comes to see itself, as an important but not all-powerful participant in the global system, irrational fears will diminish on all sides…”.

Implications:

While it may turn out to be a correct, I’m not persuaded by #9. Maybe repeated invasions had something to do with China’s poor experience last time around?

#8 is Garbage In, Garbage Out said another way.

As to #1-#7, there’s no guarantee that China will stumble over any or all. Nevertheless, this is a useful checklist of early warning indicators to be monitored for signs that the China “story” is coming unraveled.

As/when Chinese economic growth begins a deceleration, I don’t think the country will come to a screeching halt. Nor do I think that signs of slowdown will be evident for at least the next several years. In fact, I think that if anything the developing world is still underestimating near-term prospects for both the Chinese consumer and the Chinese manufacturer.

But if we think of China as a growth stock—better than expected profits for longer than the consensus expects—the Babones article raises legitimate questions about the duration of growth. If/as his view gains acceptance, it will mark an end to one of the two types of “blue sky” open-endedness that characterizes a true growth phenomenon.

What would this mean? –that simply betting on Chinese growth won’t be enough. World markets will either focus on some other secular growth story or, more likely, will begin to focus more narrowly on Chinese industries or regions where growth still abounds.

What to do? For now, I’m going to cheerfully continue to bet the Chinese economy will keep on surprising to the upside. But I’ve got to begin to plan for the day when Chinese expansion eventually surprises computer modelers on the downside. Thanks to Mr. Babones, however, I’ve got plenty of time to ponder what I’ll do.

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