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The bulls and bears are both wrong about China

Excerpted rom the Introduction, Section 1.2 of Animal Spirits with Chinese Characteristics: Investment Booms and Busts in the World's Emerging Economic Giant by Mark A. DeWeaver


Despite the increasing global importance of Chinese investment cycles, little has been written on them outside of China. Foreign observers tend to focus on the sources and sustainability of China's high GDP growth, while largely ignoring the reasons for its variability. They are primarily interested in "big picture" questions: What accounts for China's remarkable transformation into an economic superpower? Will China soon "rule the world"? Is the country on the verge of a "coming collapse"?

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While ups and downs in investment growth also attract considerable attention, they are rarely seen as part of a cycle. Instead, analysts typically fit them into long-term bullish or bearish narratives. These often have as much to do with the analysts' own preconceptions as with Chinese realities.

The bulls tend to think of China as a highly organized society run according to rational principles. This idea has a long history. It can be traced back to early modern authors such as the Jesuit polymath Athanasius Kircher, whose 1677 book China Illustrata described the country as a realization of Plato's republic. In the modern version of this tradition, China is said to "do capitalism" better than Western countries. It is supposed to have a unique "model" that tempers the "anarchy" of the market with the rationality of the state.

Investment booms should not really be possible under such a system. Overbuilding is therefore seen as a sign of the leadership's long planning horizon rather than of inefficiency or irrationality. High vacancy rates for residential and office property, for example, are not evidence of a property bubble, as they would be elsewhere. China's long-term trend toward urbanization is instead taken to imply that excess supply in the real estate sector can always be justified on the basis of the "fundamentals."

At the same time, the bulls also typically believe Beijing's claim that China is in the midst of a transition to a more sustainable "mode of growth." Even if boom–bust investment cycles may have existed in the past, they are unlikely to occur in the future. Once Beijing has "rebalanced" the economy, consumption will be the primary source of aggregate demand. Fluctuations in investment will no longer be an issue.

For the bears, on the other hand, the Communist Party's right to rule is based on its ability to deliver economic prosperity. If GDP growth slips below some critical level, typically believed to be 8 per cent, the long-suffering masses will revolt and the country will descend into chaos. In this view, China is a bit like the bus in the movie Speed . It will blow up as soon as it slows down. The cyclicality of investment, like the location of the next bus stop, is moot.

Neither of these extreme views is supported by the facts. The bullish view is based on an exaggerated idea of the power of the central government and its ability to impose economic rationality. In fact, investment booms in China result in excess capacity and wasted resources just as they do in other countries. During the command economy era, these problems were even more severe than they are today, despite the state's much larger role in the economy. The alleged stabilizing role of the state is nowhere to be seen in the data.

There is also no evidence for a change in the mode of growth. Claims that a rebalancing toward household consumption is taking place ignore the fact that its share of GDP continues to shrink. It would clearly be premature to claim that investment cycles have ceased to be relevant.

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The idea that the Communist Party cannot survive economic growth rates below 8 per cent is also inconsistent with the facts. Even the severe contractions of the 1960s did not weaken the Party's hold on power. More recently, full-year real GDP growth rates for 1981, 1989, and 1990 fell to 5.2 per cent, 4.1 per cent, and 3.8 per cent, respectively. By one estimate, year-on-year quarterly real growth remained below 6 per cent in every quarter from the third quarter of 1989 to the first quarter of 1991, falling as low as –0.3 per cent in the fourth quarter of 1989 in the aftermath of the Tiananmen "incident."

Official annual growth rates for 1998 and 1999 of 7.8 per cent and 7.6 per cent, respectively, were not only below the 8 per cent level, but are also widely believed to have been exaggerated by local government misreporting. The economist Thomas Rawski has estimated that real growth could not have exceeded 2 per cent in either of these two years and may even have been negative in at least one of them. If 8 per cent were China's minimum speed limit, the social unrest bomb should have detonated ten years ago.

Chinese commentators do not think of investment cycles as nonexistent or irrelevant. They expect neither an imminent transformation in the mode of growth nor a catastrophic collapse. Their main concerns are with the risk of "overheating" and the prospects for countercyclical government intervention. Compared to their peers in the United States, China's mainstream media pundits have relatively little to say about the "China model." They have much more to say about excess investment, inflation, and "macroeconomic adjustment.

Indeed, one Chinese author has shown that the idea of a distinct "China model" originated in the Western media. The idea of a "model," he points out, is a Western social science concept. Even for the Chinese themselves it is not possible to describe their country's supposedly unique way of doing things without using English-derived neologisms! The "Beijing consensus" is also a foreign invention. In Beijing itself many views are advocated–some calling for reinvigorating the reform process, others for "building socialism." The only point about which there is a clear consensus among the leadership is that the Party must remain in power.

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