Análisis Stratfor Global Intelligence, 05.10.2015
What will China's role be in the international order five, 10 or 15 years from now? This is undoubtedly one of the defining questions in global affairs today, because whichever way we attempt an answer — whether we expect Chinese power to grow or to diminish, and how — will say a great deal about our expectations not only for China as a state and society but also for the future of international political, economic and institutional systems. A world in which Chinese power continues to expand and in which Chinese-led international institutions proliferate and take root would be very different from one in which China recedes from the geopolitical limelight or acquiesces to the norms of the existing order. For the foreseeable future, the People's Republic, for all its constraints, will remain one of the few states credibly challenging the political, economic and military supremacy of the United States, as well as the legitimacy of the U.S.-designed and -led international order. To question China's trajectory is therefore tantamount to asking whether and in what form the current order will persist.
The fundamental challenge is how best to measure the myriad compulsions and constraints that will dictate China's evolution over the next decade or so. To do this requires more than merely listing those forces. It demands developing a framework for understanding how they interact and for gauging their relative significance to the core question — where China is headed. Over the coming months, this series will develop such a framework and apply it to a wide variety of issues in China's political economy, with a goal of both testing and adding nuance to Stratfor's core expectations for the future of China.
This series is based on the assumption that forecasting China's trajectory on the world stage necessitates an understanding of its internal challenges and imperatives. In turn, understanding how these domestic forces will evolve and interact — and shape the Chinese government's behavior — demands grasping how changes in the international order influence the country domestically. Rather than looking solely at China's domestic issues or only at its international relations, the series will focus on the interplay between the two. How do shifts in the external order — whether changes in Japanese monetary policy, the U.S. detente with Iran, or stagnation and fragmentation in the European Union — put new pressures on or limit the policy options available to China's leaders? How, in turn, do Beijing's imperatives and actions at home — such as moves to support industries such as steel and railway construction, efforts to expand urbanization and stimulate domestic consumption, and President Xi Jinping's drive to consolidate political power and push through controversial social and economic reforms — shape its behavior toward its neighbors and its role in global markets?
These are the sorts of questions we will address going forward, treating the inward-out and outward-in pressures on the Chinese state in roughly equal measure. And as the nature of the interplay between changes in China's internal and external orders becomes clearer, we will begin to piece together the relevant factors into a mosaic of China's — and the international system's — future development.
China and the Global Financial Crisis
For the most part, this series will focus on current and unfolding events, how they will likely play out and what their second, third and fourth-order effects may be. But we will begin by looking back — to the 2008-2009 global financial crisis and to the ways in which it transformed China's domestic situation and influenced the policy priorities of and challenges facing its government. The crisis and its aftermath form an apt starting point for our investigations. For one, they well illustrate the interplay between changes in the international order and shifts in China's domestic needs and constraints. But more important, it is impossible to grasp the compulsions and constraints currently driving China without first understanding how the economic crisis shaped both China's political and economic challenges and the international backdrop against which those challenges will play out.
By far the most significant consequence of the global financial crisis for China was its impact on the export-oriented economic growth model that sustained China's extraordinary rise in the decades after Mao Zedong's death. Between 1979 and 2007, exports as a share of the country's gross domestic product rose from less than 6 percent to nearly 36 percent — more than three times the ratio in the United States, twice that in Japan, and on a par with that in Germany. In dollar terms, the growth in Chinese exports was similarly impressive, with export values rising from virtually nothing in 1980 to $288 billion by 2001 and to more than $1.2 trillion six years later. Of course, the flipside of this tremendous growth was that, by 2007, some 300 million or more Chinese workers, many of them migrants from the impoverished interior, worked in and around the country's vast coastal export empire.
For years prior to the financial crisis, Chinese leaders readily acknowledged the limits and risks inherent to the country's export-oriented economic growth model. They understood that rising rates of urbanization, education levels and cost of living in coastal cities would eventually — despite formal and informal government efforts to keep costs low — undermine the competitiveness of coastal China's low-cost manufacturing base. They grasped the political risks of a growth model that fed on and intensified economic disparities between coastal and interior regions. And they grasped that, for the sake of maintaining social and political cohesion, the country would have to move toward a model more dependent on domestic consumption (and thus less exposed to drops in external demand for goods) and on high value-added services and manufacturing industries. (This would better equip China to remain globally competitive in the face of rising costs at home.) To these ends, Beijing launched several regional development plans between 1999 and 2004 aimed at industrializing the hinterland so that, as costs rose and consumer markets developed in coastal cities, these regions might emerge as successor low-end manufacturing and raw materials supply bases.
The success of these programs was underwhelming. Throughout the early-to-mid 2000s, strong external demand for cheap Chinese goods, particularly in the United States and Europe, combined with the coastal provinces' ever-rising demand for cheap labor from the interior to prevent truly substantive changes in the country's overall policy direction. For China's leaders, though the long-term goals of stimulating domestic consumption, developing a high value-added services sector, and pushing manufacturing up the value chain were critical, they were ultimately just that: long-term goals. In the short-term, the need to maintain high rates of employment, along with the reasonable fear that the pursuit of economic reforms to enable a consumption-driven economy would undermine employment, guaranteed that any move to reduce the country's reliance on low-cost exports would be partial at best.
The global financial crisis obliterated this logic almost overnight. Though Chinese exports continued to grow in raw dollar terms after 2007, their share of the country's economy has plummeted from 36 percent to just more than 22 percent in the course of six years. Meanwhile, a shift in the international economic order thrust China into a radical new economic, social and political reality at home. It became clear in 2009-2010 that the crisis, far from a momentary convulsion in one of the world's pillar economies, was in fact the start of what promised to be a much longer period of low-to-stagnant growth across much of the developed world. China's leaders subsequently found themselves forced to convert the temporary stop-gap measure of the 2008-2009 stimulus package into something more ambitious and risky.
In effect, the global economic crisis pushed China to accelerate the process of moving from an economic model grounded in the systematic repression of private household consumption (by maintaining artificially low wages and input costs) to one grounded in the expansion of domestic consumption. It eliminated the possibility — available to virtually all of China's predecessors on the path toward advanced industrial status — of industrializing over the course of decades and in a healthy, conducive global economic environment. The crisis imposed time constraints on the transformation that would have to be undertaken, the scale and speed of which was already enormous. Most of China's population, moreover, lived in extreme poverty. Under such conditions, the government was unwilling to embrace the destabilizing effects that full-scale adoption of liberalizing measures might have. So, Beijing chose not to reform but to double down on government-led investment into housing and infrastructure projects.
Between 2007-2013, fixed-asset investment, always a central component of China's economy, rose steadily from 39 to 46 percent of gross domestic product. Since 2012 alone, Chinese banks and informal financial institutions have extended more than $9 trillion in new credit, some 50 percent of which is thought to have been funneled into construction-related activity, much of it in the interior. And while much of the investment has gone into productive projects — such as high-speed rail, pipeline and power infrastructure, road construction and ports that will ultimately help bind inland and coastal regions into a single, efficient and profitable national economy — much of it has not. Housing supply imbalances and falling average home prices across much of China between 2014 and mid-2015, along with weak-to-negative profit margins throughout the heavy industrial sector, attest to the investment boom's basic insensitivity to price signals. While housing and construction industries will not likely collapse outright in the months ahead, thanks to government support and rising urbanization, they are unlikely to re-emerge as stable, reliable drivers of national economic growth anytime soon.
In the meantime, private consumption activity as a portion of gross domestic product is falling, not rising. And herein lies China's core problem today: the Chinese government has exhausted all tools (short of the sort of broadly liberalizing reforms that are its best bet for building a consumption-driven economy, however politically untenable they may be) for managing the shift away from the low-cost export-oriented growth model that for three decades underpinned not only employment stability, but also social cohesion and the Communist Party's political legitimacy. Rapidly declining returns on government-led investment and the realization that no matter how quickly housing demand rises it cannot keep pace with the kind of supply growth seen between 2010-2013 suggest that the investment-led model is quickly losing efficacy. Weak demand globally and rising costs at home decrease the potential for a second low-cost export boom. And barring much deeper financial, social and political reforms, China's government will struggle to provide ordinary Chinese with the opportunity and confidence needed to build a true consumption economy.
Had China been able to make the shift from a low-cost export economy to a consumption-driven economy more gradually and in an environment of strong global growth, its economic situation, and likely its social and political situations too, would probably be different today. What China is currently, the unique pressures and risks it faces, was in many ways forged between 2008-2009, as much as by events or for reasons internal to China. As we will see, the legacy of 2008-2009 and the policy decisions it forced upon China's leaders pervade virtually every aspect of the country's political economy today, including its international interests and behavior.