China's Economic Miracle: How it Works

China’s Economic Miracle: How it Works

China’s Economic Miracle: How it Works

China's Economic Miracle: How it Works

“The Chinese don’t play chess. They play wei qi. Wei qi is a game of strategy played on a larger board with black and white pieces each of equal value. The Chinese government views the economy as though it’s wei qi. Each piece has its own role in the economy, but each is no more important than another”.

Here’s a brilliant explanation, from Colonial First State Investments, of how China–as a united nation–practices capitalism. Reading the report, you can understand why Capitalist countries don’t follow China’s example. 

Think of the CCP as Zhang Weiwei explains it: “A neutral government shaping national consensus”:

“China’s rise confounds economic history, but not necessarily economic theory. At the heart of growth is a focus on capital investment in infrastructure, designed to create more productive lives, funded by a government which may bear losses but is capable of capturing the still positive side-effects (externalities) from rising tax revenues.

In addition, the government is more removed from activity in the consumer sector–where it promotes a competitive industrial landscape designed to lower the cost of living for households.

These foundations seem brittle to western investors used to judging the health of an economy through the returns on capital. But the Chinese are comfortable with low capital returns if the pay-off is

a stronger economy. This is an important observation. 

In the developed world, the economy is generally seen through the prism of capital: the stronger the outcome for capital, traditionally, the stronger the perception of the entire economy. Falling or negative returns on capital are a sure sign of economic weakness reflecting the end of a period of over-investment, which is naturally followed by a period of under-investment. This is the business cycle.

In China, capital is just one piece on the board where the aim is to raise living standards of all households. As a result, capital is used and treated remarkably differently, often to the consternation of external observers and investors.

It is not a matter of aggregating up the investment decisions of individual firms and households to predict macro-economic outcomes, as was done by some economists prior to the sub-prime crisis in the US. The government’s role is paramount. Despite claims of dramatic imbalances (investment spending has made up to 45% of GDP in recent years, compared to below 15% in some developed economies), investment is driving sustainably higher economic growth.

This high investment economy has led to some important outcomes that support the economy’s growth model. At a macro-level, the higher allocation of capital in China has led to falling profit growth and lower returns for capital.

Compared to its BRIC (the Brazilian share market, Russia, India and China) counterparts the Shanghai Composite has been staggeringly bad. Since 2004 Brazil is up 167%, Russia 176%, India 197% but China is up just 46%, despite higher growth rates. Beyond the stock market, 2011 has been punctuated with stories of large capital losses across the economy, including losses by local government financing vehicles established in the Great Stimulus of 2009, property developers and informal lenders based in the coastal cities of Eastern China.But, strong investment has a very positive macro corollary; it improves labour productivity and allows wages to rise. Chinese wage growth, in real terms, far out-strips wage gains in other BRIC markets [or anywhere else on earth–Ed.]

Since 2005, Chinese wages have doubled yet wages in Brazil and Russia are up just 26% and 48% respectively. Most of Russia’s wage growth occurred prior to 2008 as its capital base, largely energy, rose substantially in value. While observers see strong wage growth as a threat to China’s competitiveness as an exporter, it is much more positive, reflecting productivity improvements and improving income equality.

And the failure of individual projects does not discourage investment elsewhere if other projects can still add value to the economy as a whole. The Chinese government can continue to invest through the business cycle. This has been a crucial driver of stable economic growth despite a number of asset price cycles…government tax revenues have risen as a share of nominal GDP: 11% in 1992 to 20% in 2011.

[There’s much more and, though it’s a little technical, it’s clear and well-written and–most importantly, capable of explaining how the Chinese economy works. Read more here, or download the eomplete report…]

As always, your comments are welcome and encouraged. Issues like this need more than just one opinion. And do feel free to add links to useful sources and stories!

One thought on “China’s Economic Miracle: How it Works

  1. theartofeconomicwar

    If you think about weiqi as having longer time horizons than chess…and you think of interest rates in terms of half-life, rather than returns over a fixed period, like any other exponential function…then you get directly from weiqi to repressed interested rates, the cornerstone of the Asian financial system.


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