The death of the Asian development model
April 25, 2009
by Michael Pettis
. . . As I see it, one side of the debate [in China] – which seems to include people around the PBoC and the National Bureau of Statistics, along with many of the more prominent of the think-tank policy critics – is arguing that as difficult as it is, the crisis is a good occasion to force China to change its development model and financial system in a direction that will provide China with a healthier basis for stable, long-term growth. They are eager to see policies aimed at switching resources from production to consumption, even at the expense of a short-term increase in unemployment, and they tend to see the recent surge in credit and investment not as solutions to the crisis but rather as policies that will make things worse for China in the medium term.
On the other hand a different group of policymakers and power brokers – who include, I think, the Ministry of Commerce, the important exporter constituencies, and above all the powerful provincial and municipal leaders – are much more concerned with enacting measures that immediately address the expected rise of unemployment in the short term. These measures include pouring money into investment – mainly into infrastructure and the SOEs – and of course the huge increase in bank lending. They often point out that these policies saved China after the 1997-98 crisis, and so can save China again.
. . .
As I see it the Asian development model involves polices that aim directly or indirectly at boosting savings and channeling huge amounts of subsidized resources (usually subsidized by savers, and so constraining consumption) into investment and manufacturing capacity.Some people call this mercantilism, and in many ways it does correspond to certain classic mercantilist policies, but I am wary of defining it this way because “mercantilism” is such a loaded word.
At any rate because the combination of consumer constraint and producer subsidy meant that growth in production was likely seriously to outstrip growth in consumption, the Asian development model necessarily involved generating large and consistent trade surpluses – either Asian countries exported the difference between consumption and production or they would have been forced to run up ever increasing inventory. Of course for small countries, running trade surpluses didn’t matter too much – and it made sense to have a strong external outlook because domestic markets weren’t big enough to create the necessary efficiencies and economies of scale to justify the huge investment, and their individual trade surpluses were easily buried within overall global trade.
In other words for small countries the need to export is not likely to be a constraint since they can always generate trade surpluses without creating significant global trade distortions. But when large countries, or a large grouping of countries, have policies aimed at generating trade surpluses they run into a very strict constraint – that some country or group of countries must be capable and willing to run large corresponding trade deficits. Without this willingness to run trade deficits, the Asian development model must inevitably run into brutal 19th-Century-style cycles of rapid production growth leading to overinvestment crises.
This is the main vulnerability of the Asian development model – its dependence on an importer of last resort. We don’t often think of this as a weakness because for so long the US was seen as the automatic importer of last resort, so much so that we didn’t even consider it a constraint. But we may have gotten lazy in our thinking. Many people who should know better simply write off US consuming habits as something endemic to American culture, and we just assume it as a universal constant, but in fact US consumption levels, like those of every other country, respond to changes in conditions, and these are about to change.
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If the US is no longer the importer of last resort, and if no one else can replace the US in that role in the medium term (I stress medium term because in the long term the demographic changes in Europe and Japan – and China for that matter – may well result in rising trade deficits in those countries), then any development model that necessarily results in production growth exceeding consumption growth – high savings development models, in other words – will run into the trade deficit constraint. They must run surpluses to grow, but if no one else runs sufficiently large deficits, they simply cannot run those surpluses.
This is what I mean about the “death” of the Asian development model.The not-so-hidden but also not-always-explicit assumption behind Chinese growth – with China, as I wrote earlier, representing the Asian development model on steroids – is that large and growing US trade deficits were vital to its success. But if the US is now entering a period of contracting deficits, the model is dead.
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Since it is unlikely that the US will be in a position in the near future to return to the halcyon days of large trade deficits, and since no other economy can replace the US in the role, turgid consumption growth in China will translate directly into turgid GDP growth for many years. Rising non-performing loans are not a small threat to China’s long-term growth. If the Asian development model is dead, China will need domestic consumption growth more than ever, and this . . . cannot be the best time for China to try to revive the production-enhancing model in a way that may limit future domestic consumption growth.
mpettis.com
Michael Pettis is a professor at Peking University’s Guanghua School of Management, where he specializes in Chinese financial markets, and a Senior Associate at the Carnegie Endowment for International Peace. |
