In today’s post I conlcude the region-by-region assessment of the impact of the Global Minotaur’s demise post-2008. Previsously, we delved into the triangular relationship between Japan, East Asia and the USA, recalled Germany’s peculiar engagement with the rest of Europe (see here) and, lastly, re-visited the eurozone crisis.
The Dragon soars, then plunges into angst
On 4th December 2010, Wikileaks posted an official cable relating a conversation (circa 28th March 2009) between US Secretary of State Hillary Clinton and Australian Prime Minister Kevin Rudd. In it we read: The Secretary also noted the challenges posed by China’s economic rise, asking, “How do you deal toughly with your banker?”
The reader may, understandably, protest a startling omission in this book: While promising to speak to the future of the world economy, there has been almost no mention of China. Undoubtedly, the swashbuckling re-emergence of what was, historically, one of the world’s leading powers is the big story of our times. Its bearing upon the future will be as significant as that of the United States during the 20th century. Of this I have no doubt. Nevertheless, neither the nature of China’s rise nor its future impact can be understood without a good grasp of the world as shaped by the Global Minotaur. For, come to think of it, the Soaring Dragon not only grew up in an environment shaped by the Global Minotaur but must also mature in an unstable world occasioned by the latter’s demise.
Deng Xiao Ping’s new course for China was modelled on Japan and the South East Asian tigers. The organising principle behind the Chinese plan for growth was that of a dual economy in which special economic zones would punctuate China with small Singapores or Hong Kongs, islands of intense capitalist activity in a sea of unlimited labour power. Meanwhile, the centre would direct investment (very much along the lines of the Japanese model) but would also negotiate technology transfers and foreign direct investment directly with Western and Japanese multinational corporations. As for China’s global positioning, it would resemble that of South East Asia, in seeking sources of demand for its export-led growth from the United States and Europe.
It can be safely suggested that China owes its élan to the Global Minotaur. American, European and Japanese multinationals played a crucial role in setting up shop in China and using its low costs in order to export to the rest of the world, especially to the United States. At the same time, cheap Chinese imports into the United States has helped Wal-Mart style American companies to squeeze prices to unbelievably low levels, helping in the drive to minimise US inflation, a key requirement (as we saw in Chapter 4) for the continuing capital flows into the United States that kept the Minotaur happy and joyous.
As China was learning the ropes, becoming one of the Minotaur‘s favourite feeders, its leaders became keen observers of US policies that had the potential to affect China’s growth path. In particular, they learned important lessons from the 1985 Plaza Accord which, as we saw, condemned Japan to an untenable position, and from the 1998 South East Asia crisis that was caused by America’s successful bid to rid the tigers of financial regulation and expose their financial markets to the vagaries of Wall Street, the City and the European banks.
A widely accepted current hypothesis is that, because of these experiences, the Chinese are resisting America’s asphyxiating pressures to re-value the Chinese currency (the Remnibi, or RMB). Seemingly, following the Crash of 2008, the United States are pushing hard for an RMB re-valuation for the same reasons they pushed the Japanese in the 1980s to sign the Plaza Accord. The conventional view here is that the US government, in its haste to do something about the low level of demand in its domestic market, is trying to do what all governments do in a recessionary climate: To drum up demand from abroad, usually by devaluing their currency (or, equivalently, by enticing foreigners to re-value theirs). Once more, I do not thing that the standard explanation is the whole story.
While American firms whose base is predominantly in the United States are pushing for an appreciation of the RMB, for the reasons stated above, it is not at all clear that the heralded currency wars between China and the United States are of the traditional type just put forward. There are two reasons for remaining sceptical on this issue: First, it is not at all clear that US policy makers have accepted that the Global Minotaur is finished; that the strategy of expanding, or at least not shrinking, the US twin deficits must be abandoned. Secondly, some of the largest, best endowed and most dynamic American corporations would be hit hard if the RMB were to re-value. For they are already producing a great deal of their output within China, before exporting it to the rest of the world. An RMB appreciation would cut into their profit margins. Every iPad, each HP computer, even American cars (many of which use Chinese manufactured parts) will have to increase in price. Indeed, while the American government is lobbying with Beijing to re-value the RMB, countless Western multinationals are threatening China to withdraw (and re-settle in India or even Africa) if the RMB is allowed to rise significantly against the US dollar.
Besides the US-Chinese nexus, China’s startling growth made an indelible mark on the rest of the developing nations. Some were devastated by the competition but others were liberated from a relationship of dependence on the West and its multinational corporations. Mexico was among the first group of countries to have suffered from China’s rise. Because it had chosen to invest much energy into becoming a low-wage manufacturer on the periphery of the United States (and a member of the US-Canada-Mexico free trade zone known as NAFTA), China’s emergence was a nightmare for Mexican manufacturers. However, it was a godsend for countries ranging from Australia (which in effect put its vast mineral resources at the disposal of Chinese firms) to Argentina and from Brazil to Angola (which in 2007 received more funding, as direct investment mainly into its oil industry, than the IMF had leant to the whole world).
Latin America is possibly the one continent that was changed forever by China’s emergence into the Global Minotaur‘s major feeder. Argentina and Brazil turned their fields into production units supplying 1.3 billion Chinese consumers with foodstuff, and also dug up their soil in search of minerals that would feed China’s hungry factories. Cheap Chinese labour and China’s market access to the West (courtesy of World Trade Organisation membership) is allowing Chinese manufacturers to undercut their Mexican and other Latin American competitors in the manufacture of low value-added sectors such as shoes, toys and textiles. This two-pronged effect causes Latin America to de-industrialise and return to the status of a primary goods producer.
These developments have a global reach. For if Brazil and Argentina turn their eyes toward Asia, as they already have started doing, they may abandon their long term struggle to break into the food markets of the United States and Europe, from which they have been barred by severe protectionist measures in favour of American, German and French farmers. Already, Latin America’s shifting trade patterns are affecting the orientation of a region which was, until very recently, thought of as the United States’ backyard.
Latin America’s governments choose not to resist their countries’ transformation into China’s primary goods producers. They may not like de-industrialisation much but it is a far cry from the prospect of another crisis like that of 1998-2002 and another visit from an IMF seeking to exact more pounds of flesh from their people.
Returning to Secretary Clinton’s remark at this section’s beginning, it is clear what she meant by referring to China as America’s banker. As we see in the graph below, the United States has, since 2000, shifted its reliance for financing its budget deficit from Europe and Japan to China. But what exactly was Mrs Clinton referring to when she hinted at “dealing toughly” with China? Did she mean, yet again, pressurising Beijing to revalue its currency? And was the reason the stated purpose of limiting the US trade deficit with China?
Possibly. However, an even more pressing reason is to preserve the profits of US multinationals which, since the 1980s, had set up production facilities in countries like Mexico and Brazil, and which are now under threat from severe Chinese competition.[1]
America’s bankers
The graph below looks at four distinct years and decomposes the ownership of US assets (public and private) by non-US government or government controlled financial institutions. It is clear that after 2003 America’s old protégés, Europe and Japan, are fading as its financial supporters. The Chinese state is, meanwhile, pushing its contribution through the roof. In this sense, the Minotaur‘s recent travails have posed a serious threat to the US assets that China already owns.
Increase in US assets (in $ billion) owned by foreign state institutions
America’s conundrum in the face of stupendous Chinese growth is that the Crash of 2008 stopped the Minotaur from quickmarching the Chinese to its tune. Up until then, the Chinese depended upon the Minotaur for their trade surpluses and were, thus, forced to reinvest them in the United States, either by buying US government debt or in the private sector. With the Minotaur no longer capable of absorbing increasing quantities of Chinese goods, at a rate similar to the pre-2008 period (especially now that China has shifted production to high-tech, big item products like superfast railways), China does not automatically need to send all of its capital to New York.
This leaves China with only one reason for investing hugely in US assets: the fact that it has already invested hugely in… US assets and does not want to see its people’s accumulated hard labour lose much of its worth were the United States to be hit by a public debt crisis. At the same time, and despite its public proclamations, the United States’ government does not have the backing of a large segment of American corporations to pursue a Plaza-type agreement that would see the RMB slide against the dollar. Unable to expand its deficits, like it did when the Minotaur was exploding with youthful energy, and lacking the clout to do to China what it had done to Japan in 1985, the United States is finding it hard to decide how to deal with China.
China too, unable to secure sufficient demand for its industries in the absence of a roaring Minotaur, is in a bind and has ended up responding in surprising ways. For instance, Brazil’s Central Bank revealed that, while in 2009 China’s foreign direct investment in the Latin American country was only $300 million, in 2010 it rose to $17 billion. Why? What was China up to?
As everyone knows, for a while now, Brazil, Argentina etc. were being enriched by the Dragon’s purchases of iron ore, soya beans, oil, meat etc. But, when the Global Minotaur perished in 2008, and these economies continued to grow on the back of their primary exports to China, their currencies shot up in relation to the dollar. Consider three immediate effects of these developments:
First, Latin American high growth rates attracted a new carry trade, this time from the United States whose growth rate and interest rates hovered around zero, thus motivating a capital flight away from America.
Secondly, new Chinese industrial imports rushed into Brazil and Argentina as their local prices were falling, in view of the local currencies strengthening vis-à-vis the dollar (and, by pegged association, the RMB).
Thirdly, to perpetuate this cycle, China increased its investments in Latin America. Now, this third development is of some significance. Up until recently, China would invest in Africa and elsewhere in projects the ultimate purpose of which was to secure raw materials for its domestic industries. With these new investments into countries like Brazil, China seems to be pursuing a new strategy: That of creating something like its own Global Plan! Of directing part of its outbound capital flows to countries other than the United States in an effort to stimulate, there, in those foreign places, demand for Chinese goods.
The broader significance of China’s relation to the rest of the emerging nations comes in the form of clues on how China will seek to address the gaping hole left in the overall demand for its exports by the Minotaur‘s 2008 misfortune. What is clear is that China, the United States and the rest of the emerging nations will, from now on, engage in a triangular game of chicken. With no dominant party in sight, and no clear objectives for any of them, the prospects of a new, efficient (formal or informal) Global Surplus Recycling Mechanism seem slim and distant. Which means that the Minotaur‘s legacy is a rather bleak one for the world economy.
Between the West’s Bankruptocracy and the East’s fragile strength
Judging by the mood in the centres of power, that which we used to call the Third World is having a good crisis. The ’emerging economies’ are growing at the expense of Europe and the United States, the two loci of long-established capitalism which, regrettably, have spawned a new socio-economic ‘system’: Bankruptocracy.
The Global Minotaur‘s 2008 moment has raised the prospect of a worldwide realignment. And yet, the Minotaur is still in the room, threatening to wreak havoc. Wounded it may be, perhaps mortally, but its imprint is still all over our world. When it was hurt, and Wall Street’s near-collapse sapped its energy, America’s abandoned protégés failed to rise to the occasion.
Europe entered a crisis of its own device which is endangering sixty years of European integration. South East Asia found itself more dependent than before on a powerful neighbour, even if this time it is not Japan but China. Japan itself, which had its own recession well before the Minotaur‘s infirmity, seems to have made its peace with stagnation.
Of all the major non-US economic powerhouses, only China is dynamic enough to pretend to the Minotaur‘s sceptre. But China knows it cannot yet perform that illustrious role, unable to create demand even for its own output. Its most recent efforts to create its own Global Plan, in particular in relation to Latin America, stirred up tensions with its potential protégés (e.g. Brazil), reminding us that America’s own Global Plan only came to pass with minimal resistance because, at the time of its design and implementation, the rest of the world laid in ruins.
Some think that China only needs to bide its time, certain that in its fullness it will prevail. The Chinese leadership is less sure. They understand intimately the scarcity of total demand in the post-Minotaur world. They know that Germany, Japan and China are all fully reliant for their very survival on maintaining aggressive, expanding surpluses. But this also requires someone to absorb those surpluses as deficits.
That someone used to be the Global Minotaur. Now, it is gone and nothing seems likely to replace it. To buy time, the Chinese government is stimulating its growing economy and keeps it shielded from currency revaluations, in the hope that vibrant growth can continue. But they see the omens. And they are not good. On the one hand, China’s consumption-to-GDP ratio is falling; a sure sign that the domestic market cannot generate enough demand for China’s gigantic factories. On the other hand, their fiscal injections are causing real estate bubbles. If these are unchecked, they may burst and thus cause a catastrophic domestic unwinding. But how do you deflate a bubble without choking off growth? That was the multi-trillion dollar question that Alan Greenspan failed to answer. It is not clear that the Chinese authorities can.
[1] In a Australian Broadcasting Company (ABC) radio interview, Mexican economist Rogelio de la O stated in 2009: “Even strong companies that are subsidiaries of international firms are very, very discouraged at the way their volumes have fallen and their margins have been totally squeezed. The China effect is kind of overwhelming.”
