Global: China's Awakening
Stephen Roach (New York)
Morgan Stanley
May 05, 2003
The New China was always destined to be tested. And tested it
has been -- first by the Asian financial crisis of 1997-98 and then
by the synchronous global recession of 2001. But now China faces
what perhaps could be its toughest trial yet. Unlike the external
shocks of the past six years, this one is internal -- the outbreak of
severe acute respiratory syndrome. SARS not only challenges the
stability of China from within but also raises key questions about
the nation’s global role. Notwithstanding these risks, my early take
on China’s response is quite positive. Barring a major setback in
this virulent disease, I see a post-SARS China that has come of
age in the depths of crisis. This has enormous strategic significance
for Asia and the broader global economy.
The first-order effects of SARS on China are obviously quite
serious. That’s true of the economic impacts as well as the damage
that has been done to China’s image. The curtailment of economic
activity has already prompted us to cut our 2003 estimate of
Chinese real GDP growth from 7.0% to 6.5%. Given the extent of
the disruptions to commerce, the risks to our revised forecast
remain decidedly on the downside. To date, the impacts seem
largely confined to China’s services sector. The silver lining is that
China is not a services-intensive economy. Services account for
“just” 34% of its GDP -- hardly a trivial slice but about half the
portion of most rich, developed countries. International tourist
receipts, which are the equivalent of nearly 2% of Chinese GDP,
have all but dried up for the time being. Moreover, domestic
tourism, which amounts to another 3.7% of the economy, has been
sharply curtailed. The cessation of domestic travel during the
national May holiday is an especially harsh blow; our estimates
suggest that this effect, alone, could slice anywhere from 0.2% to
0.4% off annual GDP growth. In addition, the quarantine remedies
of accepted public health procedures have had a dramatic impact
in constricting most service activities in Beijing -- China’s second
largest city (with a population of 11.2 million). Beijing is China’s
most service-intensive metropolitan area, with services accounting
for an estimated 61% of the city’s economic activity -- nearly
double the national norm. With Beijing’s share of overall Chinese
GDP about 3.0%, the impacts of services-related economic
disruptions in the nation’s capital can hardly be minimized.
Manufacturing is a different story. So far, anecdotal reports --
including surveys of Morgan Stanley’s teams of equity analysts
around the world -- tell us that interruptions to Chinese factory
sector activity have been limited. That’s good news for this
manufacturing-intensive economy, where industry accounts for fully
44% of its GDP (and construction another 7%). It’s also good
news for the supply chain that sources production and demand
elsewhere in the world. Certainly, if SARS is not contained, there
are risks of widespread worker absenteeism and factory
shutdowns that would deal a more serious blow to China and the
rest of the world. Such a possibility can hardly be ruled out. But the
draconian public health measures now being taken in China suggest
that it’s probably more appropriate to build an economic forecast
based on SARS containment. Right now, that seems like a very
heroic assumption. But looking out over the next several months, I
do think that’s the best way to model the problem. Under that
presumption, the probable output losses of the second and third
quarters of 2003 should be seen as temporary, most likely
followed by a sharp snapback in late 2003 and early 2004.
There’s one other consideration that seems quite disconcerting on
the surface: SARS is the first serious test of China’s new
leadership. In that respect, the outbreak of SARS has come at a
most delicate time. Historically, leadership transitions are always
one of the country’s most vulnerable periods. Over the course of
modern Chinese history, dating back to the late Ming dynasties of
the 16th and 17th centuries, leadership change has often been risky
and destabilizing. The current transition is not without its own
complications. In early March 2003, former President Jiang Zemin
officially turned over the reins of power to Hu Jintao, and the
premiership passed from Zhu Rongji to Wen Jiabao. However,
there was an unexpected twist -- Jiang’s decision to maintain his
role as chairman of the Central Military Commission. This has
resulted in something of a hybrid leadership structure -- a blend of
the old and the new. It was not the clean break that this Fourth
Generation of Communist Party leaders was supposed to
represent. As such, it raised questions about how power sharing
would work as China grappled with tough decisions on domestic
reforms and matters of international policy.
It is easy to get bogged down in these first-order effects and miss
the forest for the trees. Yet I think it would be a huge mistake to
turn negative on China because of SARS. At times like this, it’s
critical to look beyond the shock and focus on the fundamental
forces that will shape the post-shock climate. In that vein, it’s
equally important to assess how those fundamentals might be
affected by China’s response to SARS. From that standpoint, I am
encouraged. The probabilities are still weighted more in favor of a
temporary economic hit from SARS. Moreover, I believe Messrs.
Hu and Wen are now rising to the occasion -- demonstrating a new
and independent leadership prowess. This combination could have
enormous strategic significance in shaping China’s potential in the
years ahead. It tempts me to be even more optimistic on
post-SARS China than I was before the outbreak of the disease.
My logic rests on three key considerations:
First, the new Chinese leadership has issued a stunning mea culpa
with respect to its handling of the SARS problem. The initial Beijing
cover-up has been exposed and dealt with by a most unusual
dismissal of two high-level officials -- the national minister of health
and the mayor of Beijing. This suggests that China will now require
a new accountability of its key leaders. The replacements,
Vice-Premier Wu Yi and former banker Wang Qishan, are
tough-minded and outspoken, and seem utterly determined to deal
with SARS as candidly and forcefully as possible. To me, this
response speaks of a striking adaptability of the Chinese system --
in stark contrast to perceptions of a rigid Communist structure that
continue to pervade Western thinking. Since the days of Deng
Xiaoping, China’s extraordinary transformation has been driven by
the equally striking evolution of its system. In my opinion, the
SARS response takes the concept of China’s systemic evolution to
yet another level.
Second, transparency is now the credo guiding the government’s
response to SARS. There is a strong desire to come clean in
admitting the severity of the problem and the difficulty of its
solution. This could well be an important milestone for China in
coming to grips with one of its biggest problems -- the credibility of
its growth miracle. For years, the main complaint I hear on China is
that you can’t trust the numbers. Whether it’s GDP growth, the
extent of nonperforming bank loans, or the income statements and
balance sheets of Chinese companies, the information flow has
been widely criticized as opaque, at best. I have long felt that this
characterization was overblown. At the same time, I have also
argued that China needs to be more aggressive in dispelling these
perceptions. By embracing transparency on SARS, the leadership
may be setting an important precedent that could well be applicable
in dealing with other aspects of Chinese activity. In that vein, it will
be key to scrutinize the second-quarter GDP report; a weak
number -- which I fully expect -- will be another important step on
China’s road to transparency and credibility.
Third, there are increasingly encouraging signs that China is now
stepping up as a global leader. Long focused on the inward-looking
challenges of domestic reforms, China has been a reluctant actor
on the global stage. That now appears to be changing. The new
leadership fully recognizes the risk that SARS could turn into
globalization’s first epidemic. No nation has more at stake in
globalization than China. As such, a rethinking of China’s global
role may well be central to the initiatives that are being taken on
SARS. There’s another important development that points to the
same conclusion -- the Chinese government’s proactive stance in
dealing with North Korea. Resolution of the North Korea
predicament still remains uncertain at this juncture. But there can be
no mistaking the pivotal role that the Chinese have played in
attempting to break the gridlock. By taking the initiative in late
March to host and influence tripartite talks between the United
States, North Korea, and China, Beijing is demonstrating a new
pan-Asian and global responsibility. Moreover, those talks were
held at precisely the time when the full extent of the SARS
outbreak became evident -- when China had enough on its plate to
look the other way. The fact that it chose not to do so tells me that
China seems more willing to accept the outward-looking
responsibilities that global leadership requires -- a sharp break
from its inward-looking past.
SARS may well go down in history as a watershed event for the
New China. To the extent that China learns from this potentially
devastating experience, the nation emerges all the stronger. From
my point of view, the early read is encouraging. Again, I am not
attempting to minimize the near-term costs and hardships
associated with SARS. But I do believe there’s far more to this
story than the first-order effects. In the end, I think it is critical to
focus on the strategic implications of China’s response to SARS.
To the extent that this response reflects a new adaptability,
transparency, and “globality,” the long-run case for China may well
be strengthened as a result. SARS is an admittedly painful wake-up
call. But China has awakened.
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