Why is China's stimulus working so much better than ours?
by Zachary Karabell | The New Republic
At the conclusion of two days of meetings in Washington last week, representatives from China and the United States reaffirmed their mutual commitment to continuing a “Strategic and Economic Dialogue.” Yet, constructive rhetoric masked many of the worries each country has about the other one's long-term financial health. China is worried about its investments in U.S. bonds; America is worried that the Chinese economic model is unsustainable; and neither much like the position of mutual dependence. What's more, it's becoming apparent that the two governments are not equally adept at managing their economies, and that the one doing worse is not the one with a disastrous legacy of state-mandated production, but instead the one that until recently was an icon of economic dynamism.
This winter, both countries unveiled remarkably large stimulus plans. The bill passed by Congress in February had a price tag of $787 billion, which was supplemented by hundreds of billions more in guarantees and loans extended primarily by the Federal Reserve. The Chinese government announced its own stimulus earlier, to the tune of approximately $600 billion, which has since moved considerably higher with billions in government-backed bank loans. (Click here for a slideshow about the Chinese stimulus package.)
The major signposts for the U.S. economy–namely GDP growth and employment–have stopped plummeting, but that is the best that can be said. China, meanwhile, has seen its economic activity recover faster than almost anyone anticipated, and on July 15, the government reported its most robust sequential economic growth ever. In short, China's stimulus has exceeded expectations to date, while the U.S. response has been underwhelming.
How did this happen?
At the beginning of the year, China's economy was widely expected to contract, and severely. Many economists were predicting a drop in China's GDP well below its double-digit growth rates of much of the 2000s to 5-6 percent or worse (which seems high compared to the negative numbers in the United States and Europe, but for China actually meant a near-disaster scenario). The first months of this year were dire, with annualized growth barely topping 2 percent. Now, with the stimulus in full bloom, it's clear that China's growth is accelerating back towards 10 percent, returning it to the path of torrid expansion.
To be fair, the Chinese government, controlled as it is by an autocratic, hierarchical party formally known as communist, does not have to negotiate the challenges of the labyrinthine American system. The Beijing government decided to spend money, and within a few months, money was being put to work–primarily on infrastructure projects in the interior of the country, but also on stimulative measures such as handing out pre-paid cards to encourage consumer spending.
The central government also mandated–from the People's Bank of China down to the thousands of local commercial bank branches–a more open approach to lending, which led to a substantial expansion of credit throughout the country. The result was that at a time when exports were shrinking due to contracting global demand, money was flowing to projects meant to employ many of the people who had lost jobs in export-driven factories. The stimulus also accelerated the long-term goal of the Beijing government to focus more on internal demand and interior development and less on export-driven activity. Loan growth this spring in China was up more than 30 percent over last year, and that is compared to a 2008 when the Chinese economy was growing in excess of ten percent for most of the year.
Now, what's happening in the United States? Of the hundreds of billions allocated by the U.S. Congress in February, comparatively little has been distributed. Yes, there has been considerable tax relief, but rather than stimulating economic activity, American consumers have tended toward saving the gains they have reaped from tax breaks–hence the sharp spike in the national savings rate. While spending isn't quite as anemic as some headlines suggest, it is certainly more muted than it was. As for the billions that were supposed to go to “shovel ready” projects on the ground and create millions of new jobs, less than a $100 billion (by the official estimates) have actually been spent. Instead applying for and then authorizing the funds has been a bureaucratic nightmare. While defenders of the package rightly assert that it cannot be judged to have failed given that most of the spending will come in the later part of the year, the fact that this defense needs to be made is itself a startling critique of how it has been implemented. The argument for passing the stimulus bill was that the United States was in dire straits and in immediate need of a boost. The current bill is like telling a patient that he needs antibiotics now … and then writing him a prescription that can only be filled months later.
China's path, of course, is hardly without skeptics. The common argument against how China is managing its economy is that it is overly dependent on either state-spending or exports and not sufficiently grounded in domestic consumption. Said one recent Merrill Lynch report: “Let's start with the obvious: Asia needs to transform its growth model, relying less on exports and more on domestic demand.” As China is the dominant component of the Asian system, it is perceived as the primary culprit of an imbalanced system. Yet critics have been saying this for years, and all the while China has happily been violating every stricture of orthodox macroeconomics and has been doing just fine, thank you. The fact is that if there was an equation for successful, stable, long-term economic growth, everyone would use it. China has been engaged in an infinitely complicated process and making a lot up as it goes along, less concerned about whether the formula matches what Western economists deem balanced and more focused on what works and what doesn't.
To wit, China has spent and spent on infrastructure, much of it excessive in the short term. It has built airports in cities that have no planes, roads for cars that haven't yet been purchased, and rail links for trains that don't yet exist. Yet, with hundreds of millions of people in agrarian poverty, China has been following the Field of Dreams philosophy: If you build it, they will come. And so urbanization has been continuing at an accelerated rate, moving the country closer to a modern demand-driven economy.
And it's not as if the Chinese system is so simple. Beijing can be intimidating, but it is also limited in its ability to coerce local regional governors. It can of course arrest corrupt officials and does on occasion in order to remind the myriad party officials throughout the country that at the end of the day, the central government rules. But day-to-day, the reality is more decentralized and messier than many realize, making the success of the party's macroeconomic policies all the more remarkable.
Washington, on the other hand, is almost hopeless in its current inefficiency–whiih helps to explain the mismatch between the goals of the stimulus and the results to date. What's scary is that for much of the 20th century, the United States got along fine with its semi-dysfunctional political system. With the world's most dominant economy combined with its most powerful military, the U.S. had ample margin for error. Now, America is the world's largest debtor nation, while China is looking more dynamic than ever. The tale of the two stimuli provides further evidence of which way the winds have been blowing, and the United States should be concerned that they are blowing east.
Zachary Karabell is the author of the forthcoming Superfusion: How China and American Became One Economy and Why the World's Prosperity Depends on It. He blogs at www.rivertwice.com.