Benjamin A Shobert talks to Giles Chance, author of China and the
Credit Crisis: the Emergence of a New World Order. Chance is a
professor at the Guanghua School of Management at Peking University. He is a
leading expert on Chinese business and on China's new role in the world. He is
an experienced keynote speaker on subjects ranging from business and finance to
emerging markets and economics.
Giles' experience in China over the past 20 years has given him a unique
perspective on the aspirations of the Chinese people and the difficulties that
China faces, as China emerges fully into the world economy as a major economic
and political player.
Benjamin Shobert: You argue that American's perceptions of what
led to the financial crisis are not entirely accurate. Can you elaborate on
what you see as the fundamental policy decisions
and miscalculations that led to the 2008 crisis?
Giles Chance: I think that the very low interest rates from the
mid-1990s to mid-2000s led to excessively risky behavior. These lower than
normal interest rates were initially the result of a very beneficial set of
economic circumstances that followed from globalization.
Globalization was of huge benefit to developed countries; it enabled consumers
in America and Europe to buy products at much lower prices than they could have
done previously. Globalization led to downward pressure on prices of goods, all
sorts of clothes and many other such things that we take for granted now.
Production had moved from developed countries to emerging economies. China's
entry to the world in the mid-90s accelerated globalization; it had a huge
impact on the developed world. This all benefited people in rich countries. The
Great Moderation - high growth and low inflation - was not recognized at the
time for what is really was - I argue that it should have been.
The wrong policies were adopted by the developed world. In fact, [Ben] Bernanke
who was an adviser to [Alan] Greenspan before he was appointed to the Board of
the Federal Reserve, conceived wrongly of the Great Moderation as a potentially
deflationary event, and because of this the wrong policies were adopted which
injected more unwanted liquidity into the developed world.
Savers had no choice but to invest in assets like housing and stocks instead of
bank deposits (which is still the case of course); this was the background to
the crash of 2008.
BAS: Some might say that this is obvious in hindsight but was not
possible to see in the thick of things. How would you respond to that and
specifically, what should leaders have understood they did not?
GC: The Western world's leaders did not understand that we were
moving into a new world - a globalized world. We were moving into a truly
global world in terms of economic production. That, and its consequences, is
what central bankers did not pick up.
I don't think central bankers and the federal government in general could
understand the world they were living in: this was suddenly a world of
apparently endless growth but no inflation and people could not understand why
that was.
Following the dot-com boom and bust, Bernanke came up with the theory that in
2001 zero rates of inflation indicated inadequate demand; there were excess
savings in the emerging world and the possibility of severe deflationary
pressures in the developed world. I think this led the Federal Reserve from
'01-'04 to keep interest rates too low - that is the key issue.
It was possible to understand at the time that with the entry of China into the
world trading system this was what was likely to happen; when China announced
it would join the WTO [World Trade Organization] in November 1999, I was
interviewed by the BBC.
I remember saying to the interviewer that China's impact as a new member of the
WTO was bound to be enormous because 1/5 of the world's population was now
entering the world economic system. To a casual observer this was obvious, but
not so to people in positions of authority.
Why was it not identified as a potential problem? Influential people had
preconceptions and ideologies that blinded them to the realities around them.
If you think about it, it should have been obvious that China's entry would
have an enormous impact.
Bernanke's research at Princeton was on deflation and the Great Depression and
that clearly dominated his thinking. But we still don't really have any
evidence yet that this was the right way to think. Interest rates were kept
much too low and still are much too low. The 2008 crash was a human failure of
economic diagnosis and policy. Globalization, potentially a force of great
economic and social good, became a hugely destructive force because it was
misunderstood and mishandled by policymakers.
BAS: China as a poor and populous country should have meant
something to American and European leaders. Why did we miss how their entry
into the world would distort international capital markets and are we making
similar mistakes now about the trajectory/influence of their countries?
I think the Chinese do now have a lot of influence - the Chinese and Asians are
big savers and have big financial reserves as a result - they are not into
Western over-spending and do not like high levels of debt. This saving makes
the Chinese look as a nation much richer than they are.
We need to realize now that regardless of financial condition, our futures all
depend on one another. This is what the last several years have taught us.
America is not the dominant superpower anymore. In the post-crash world no one
is more or less important - Asia, America and Europe are all important, and
so,to some extent, are South America, Latin America, Australasia, Africa and
all the other countries.
Obviously, China is very important because the traditional leaders America and
Europe are both in a relatively weak position. Asia is a very important
position - not just China but India too. China may have an attitude whereby
they want to exploit the rest of the world for their own benefit. They do not
see themselves yet as a responsible leader of the world economy in a way we
would like them to. The issue is how can we bring China to stand alongside
Europe and America?
An example would be the Chinese attitude towards the European Crisis. [Managing
director of the International Monetary Fund] Christine Lagarde is trying to
conjure up a situation where the Chinese help the eurozone financially. The
Chinese are interested in investing in a European bank on the cheap, but not in
carte-blanche investment.
What we have to do is create the right international vehicle where we can
discuss these kinds of global issues on a fair basis. It is a difficult
question to answer. The Chinese certainly see themselves as a poor country, and
on a per capita basis are much poorer than the West. Maybe it is not reasonable
for them to be treated on the same basis, but that is where they are and we and
they have to find a way to deal with it.
BAS: There is clearly a growing voice of criticism in libertarian
circles in particular over the role and lack of oversight of the Fed. Do your
criticisms of the Fed in any way align with theirs?
GC: Of course in America the Fed has two roles. One is to
maintain stable prices and the other is to promote growth. Those two roles can
be very contradictory. My own view would be that it would be better if the Fed
focused only on the price level and left economic growth to the market and
government fiscal policy.
What the Fed has been doing for a number of years has been to put the growth
imperative way in front of the price imperative. My contribution would be to
ask the Fed and the monetary powers to focus on and be responsible for the
price level. Trying to manage these two important things at the same time is
impossible.
BAS: What, if anything, is the role of China's currency policy in
relation to the US predicament?
GC: No doubt they used their export industry to get out of
trouble in the late 1990s. Until very recently, the Chinese economy was very
dependent on exports. Relying on an undervalued Chinese currency was
economically and politically very important.
In the last year or two the Chinese have changed this position and now realize
this is not sustainable. I think the fact that China has or had an undervalued
currency has become an article of faith to certain constituencies on Capitol
Hill. It will be difficult to get away from this.
China-bashing has been demonstrated to be a vote winner since president [Bill]
Clinton ran for office; but I think the currency issue is going to go away soon
because the Chinese renminbi [RMB - yuan] is approaching fair value. Both sides
now realize that it is not going to be a helpful issue longer-term.
It is politically helpful for presidential candidates in advance of the
American election, but after the election it will go away because the economics
no longer support it.
BAS: How will international multilateral institutions (WTO, Group
of 20, etc) need to change to take into account China?
GC: In a very simple sense you can see it with the IMF now where
a French chief executive officer was forced to resign and replaced not with
someone from the emerging world (there was a great candidate from Mexico) but
Christian Lagarde - a perfectly good woman but not an economist, and inevitably
biased towards Europe, and France in particular.
That is what is wrong with the multilateral institutions. This is very
frustrating to Brazil, China, India and so on - they cannot get their voice
heard - the old guard refuses to let go. The old guard needs to recognize they
are in a new world.
The way the Europeans have approached the crisis over the last month is
symptomatic of the problem - they want the Chinese to bail them out without any
conditions or real benefit to China. They think the Chinese are going to just
write checks. There is not enough quid pro quo - the old world still thinks
they own the place. The fact is they do not. When that changes the
international institutions will start to work properly.
BAS: What is the future of the US currency given China's
concerns?
GC: I don't believe in the medium-term that the US dollar can go
on being the dominant global reserve currency. You can't have a reserve
currency supported by a country with unsustainable debt levels. A one-country
global reserve currency is not a particularly good format to have anyway.
We need some sort of alternative global option. At the moment the Chinese are
pursuing the idea of the RMB becoming a global reserve currency. They might
even be considering the idea of the RMB as a supra-national currency. The IMF
does not seem to be in a position to support that, and it would not be a good
idea.
You might argue that recently the US dollar has been as strong as ever, and the
fact is the US remains for now the single-largest economy and they print
dollars. That is a good enough argument for the time being to put money into
dollars, but given the underlying US debt situation which has yet to be
resolved one has to ask themselves if this is a sensible thing to happen
longer-term.
The underlying debt profile of the US does not really support the idea that the
US dollar can remain the global store of value. This will be a difficult thing
for Americans to live with, something I can understand and empathize with.
America remains a very strong and vibrant economy, but the debt position is
very difficult to deal with.
Major cuts in spending and adjustments to the tax policy are going to be
necessary and the US political system is struggling with making these changes.
We are clearly going through a big shift as America's position in the world
changes. If America pursues the correct policies now they might in future not
be as dominant as they were ten or twenty years ago, but they will still be a
very powerful country. The American debt problem is manageable if it is
approached in the right fashion. But that's still a big question.
BAS: What will/could prevent China from ruling the world?
GC: The main factors are one, the political system and second,
China's educational system. China is aware that the shortcomings in the ancient
teacher-based system it uses which do not encourage innovation or original
thought is a huge constraint to economic growth - until they change that this
will hold back the country.
But then again how can you change this unless you have a new political system
in China where people can say what they think. We just heard recently about
more constraints on blogging and people's expression of what is going on in
China. The Chinese are becoming less and less free given what the government is
doing. These two things are related - increasingly people are becoming aware of
this.
The country must find a way forward to think and act in a free way. How they do
that I do not know, but I am confident they will find a solution to this
problem. The Chinese themselves are not sure whether these recent further
limitations on free expression are because of the change in government or if
this is a real reversal.
We just do not know. Is the Communist Party permanently wedded to political
repression or is it capable of liberalization? I don't think they know either.
It is very much a work in progress. Over the next two to three years, the
Chinese themselves are aware they have to start answering these questions. They
realize the problem. It is something they have to solve themselves. If they
can, then they may become a true world leader.
Benjamin A Shobert is the managing director of Rubicon Strategy Group, a consulting firm specialized in strategy analysis for companies looking to enter emerging economies. He is the author of the upcoming book Blame China and can be followed at www.CrossTheRubiconBlog.com.
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