Global: Asia at the Crossroads
Stephen Roach (New York)
Asia’s wrenching financial crisis of 1997-98 marked a critical turning point for the region that we are only
now beginning to understand. The ascendancy of China is the most obvious and important hallmark of
the post-crisis era. But the awakening of India is not without potentially profound implications as well.
The road has been considerably rougher for the so-called newly industrialized economies of Asia -- Korea,
Singapore, Taiwan, and Hong Kong. Meanwhile, Japan has languished in its post-bubble malaise. The
balance of economic power is in the process of shifting in Asia. Old Asia is floundering and a New Asia
is emerging. That poses profound challenges for the region and for the broader global economy.
Relative growth disparities between New and Old Asia leave little doubt as to the shifting sources of
regional economic growth. Since 1990, China’s economy has tripled in size in real terms, while India’s
has doubled. Over the same period, 1990 to 2003, the Japanese economy has increased by only 15%.
The math of economic development obviously makes it much easier for poor countries to grow far more
rapidly than rich ones. Yet China and India still have a long way to go in catching up with Japan. While
convergence in overall GDP terms could occur at some point in the next 20-30 years, on a per capita basis
-- the most relevant comparison in terms of living standards -- it will take considerably longer. In 2002,
real output per capita in Japan was still about 40 times greater than in China and nearly 100 times that of
India. Based on an extrapolation of recent trends -- an heroic assumption, to be sure -- Chinese
convergence with Japan in per capita terms is unlikely for another 40-50 years; in the case of India, it
could take considerably longer.
For all practical purposes, the path to economic convergence is more important than the endgame. And
there is good reason to believe that a new and powerful force is coming into play that could affect the
dynamics of convergence -- the IT-enabled global labor arbitrage (see my October 6 essay in Investment
Perspectives, “The Global Labor Arbitrage”). It has already given rise to new outsourcing options that
have accelerated the ascendancy of both China and India -- the twin engines of New Asia. For China, the
arbitrage has been a key enabler of the emergence of a low-cost, high-quality manufacturing outsourcing
platform on a scale and with a scope that the world has never seen. For India, the outsourcing platform is
in services -- not just low-value-added processing and call center activities but increasingly
high-value-added activities such as software programming, design, engineering, and a broad array of
professional (i.e., legal, actuarial, and medical) and business service functions (i.e., accounting, research,
analytical support, and presentation laboratories).
Outsourcing itself is not the breakthrough. Offshore production options through normal trade channels
have been around for decades. What’s new is the breadth and depth of such platforms. What’s also new
is the Internet -- the means by which these platforms can now be connected to globalized distribution
systems. Moreover, there’s also a new urgency to such outsourcing, driven by the heightened imperatives
of cost-control. Lacking in pricing leverage and awash in excess capacity, companies in the high-cost
developed world have made the global labor arbitrage a key tactic of competitive survival. In
manufacturing, this manifests itself in the form of a massive wave of foreign direct investment into
China; FDI into China hit $53 billion in 2002, making it the largest recipient of such flows in the
world. In services, the Internet has been the ultimate enabler of technology diffusion and
knowledge-based output -- central to new global platforms that open the door to vast legions of low-wage
white-collar workers. Courtesy of the global labor arbitrage, the growing role of China and India arises
out of shared necessity -- theirs as well as ours.
Nor is there really any effective limit to what the Chinas and Indias of the world can offer up as
cost-effective substitutes to the high-wage developed world. Both nations, which collectively account for
nearly 40% of the world’s population, have the functional equivalent of infinite supplies of excess labor.
China has an urban workforce that amounts to about 400 million, and in India the nonagricultural
workforce is estimated at 167 million. Both of these vast nations, of course, still have a large portion of
economic activity tied up in traditional agriculture -- 15% of total value added in the case of China and
25% for India. At the same time, they also suffer from a huge deficiency in agricultural productivity; US
farm workers, for example, are more than 125 times more productive than their Indian counterparts and
150 times more productive than those in China, according to the World Bank. In many respects, that
only enhances the pipeline of candidates for the global labor arbitrage. As agricultural productivity rises
and farm workers are displaced, the expansion of low-cost labor pools available for outsourcing platforms
has no end in sight.
Wage comparisons are the obvious icing on the cake for the global labor arbitrage: Over the 1995-99
period, World Bank data put Chinese manufacturing labor costs on a per worker basis at about 2.5% of
those in Japan and the United States; for India, the ratio works out closer to 4%. Moreover, China’s
labor costs are only a small fraction of those in the newly industrialized Asian economies -- 3.5% of those
in Singapore and 7% of those in Korea and Hong Kong. Not surprisingly, these wage differentials match
up with comparable economy-wide productivity disparities. But that’s precisely the point: Outsourcing
platforms are high-performance pockets in low-wage, low-productivity economies such as China and
India. Foreign-funded subsidiaries in China now employ some 3.5 million workers, up more than 3.5
times over the past decade; the number is double that if subsidiaries funded in Hong Kong, Taiwan, and
Macao are included. Similar trends are evident in services outsourcing. India currently employs about
650,000 professionals in IT services, a figure that is expected to more than triple over the next five years,
according to one study (see The IT Industry in India: Strategic Review 2002, published by India’s
National Association of Software & Service Companies with McKinsey & Co.). Courtesy of the global
labor arbitrage, increasingly well-educated work forces in both countries have become agents of dramatic
change in Asia and the broader global economy.
Barring a breakdown in trade liberalization and globalization, all this paints a rapidly changing picture of
Asia. Japan, long the pan-regional engine of growth and wealth creation, has seemingly lost its way.
The confluence of asset bubbles, policy blunders, a dysfunctional banking system, and a corrosive
deflation leaves Japan in the unenviable position of now having to consume its hard-earned saving.
Osamu Tanaka of our economics team in Japan believes this process is now surprisingly advanced;
according to his estimates, the personal saving rate in Japan fell to about 2% in early 2003 -- down
dramatically from the 9.5% rate of 1998 and the roughly 12% average of the early 1990s. Government
deficits currently running close to 9% of Japanese GDP only compound the problem. Japan has, in effect,
squandered its position of pan-Asian economic leadership. Radical reforms are the only option, in my
view -- not just to clean up the mess of the past 14 years but also to provide the Japanese economy with a
market-based mechanism for uncovering new sources of economic growth. So far, the Japan reform story
has been more rhetoric than substance. For Prime Minister Koizumi, who now has the political winds at
his back, there can be no greater opportunity to rejuvenate the once-proud mainstay of Old Asia.
The same is true, albeit to a lesser extent, for the newly-industrialized economies of Asia. On several
occasions, I have met with senior leaders and policy authorities from these countries, only to be told of
how they have now lost their way. The Asian financial crisis of 1997-98 was the wake-up call that turned
perceptions inside out of the so-called East Asian growth miracle. The special economic and
financial-market allure of “Asian values” suddenly rang hollow. Over the ensuing five years, these
crisis-torn economies have made great efforts to rebuild -- replenishing foreign currency reserves,
revamping battered financial institutions and systems, and attempting to restructure domestic nonfinancial
businesses. But the results have met with mixed success at best.
Moreover, the benefits of Asia’s post-crisis healing have been marginalized by the stunning emergence of
China. China has become a magnet of foreign capital -- diverting flows that had been going to other
economies in the region. As noted above, China is now the largest recipient of foreign direct investment
in the world. Meanwhile, combined FDI for Korea, Thailand, and Singapore plunged to about $4.5
billion in 2002, only a fraction of previous peaks, which exceeded $20 billion in 1998-99. At the same
time, private saving in the newly-industrialized economies (NIEs) of Asia fell to about 22% of GDP in
2002, according to the IMF -- down appreciably from a 27.5% average reading over the 1989-96 period.
Like Japan, Asia’s NIEs have had to draw down internally-generated saving reservoirs. Unfortunately,
this has occurred at a time when China is “crowding out” the rest of the region -- making it all the harder
for Asian NIEs to fund development programs.
All of this is not to say that the emergence of China and India is without risk. In the case of China,
ongoing reforms of state-owned enterprises, in conjunction with capital markets reforms and the cleanup
of a vast overhang of nonperforming bank loans, pose a formidable set of challenges. As is always the
case in China, those risks manifest themselves in the potential for higher unemployment and the threat
such joblessness would pose to social stability. In the case of India, the risks are very different -- mainly
reflective of an inward-looking nation that has lacked the willingness to engage in outward-looking
restructuring and development strategies like those embraced by China. For example, FDI inflows to
India totaled a mere $2 billion in 2002, a sliver of the $53 billion directed at China. The good news is
that India’s new focus on a services-based development strategy is a far less FDI-intensive endeavor than
traditional manufacturing-oriented development models of countries such as China.
In the end, Asia is about growth and surplus labor -- and a willingness to adapt to new technologies.
Traditionally, Asia has been more about supply (production and exports) than about demand (private
consumption). China and India are now leading the way in an important consolidation of Asia’s role as
the world’s supplier -- originally just in terms of goods but now increasingly in terms of once
“non-tradable” services. This is marginalizing the high-cost efforts of Old Asia -- not just Japan but also
the newly-industrialized Asian economies of Korea, Singapore, Taiwan, and Hong Kong. Courtesy of the
global labor arbitrage, China and India are also marginalizing high-cost supply models in the United
States and Europe. It’s a challenge the likes of which the modern-day global economy has never before
seen. The choices are stark: Either we fight it through politically-motivated protectionism, or we turn it
into our advantage as a catalyst for change. The greater the success of the New Asia, the more urgent it
becomes for the rest of us to accept the challenge and refocus our efforts on uncovering new sources of
economic growth. |
