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China’s systemic problems compared to America’s

The New York Times: China’s Cities Are Buried in Debt, but They Keep Shoveling It On.

The author points out the problems but describes them as if they were some kind of misunderstanding by Chinese leaders and policymakers that can be easily changed or avoided by coming to a better understanding.

But at the root of all these problems is not a subjective lack of understanding of economics and policies but an objective core element of a planned economy.

That the root cause of China’s problems is a planned economy is counterintuitive to many because they point out the contrary: China has liberated its economy to incentivize free market participation, even to an extent that surpasses the U.S.

That is true in many ways, but it does not mean the Chinese planned economy root has ever changed. Not only has it not changed, but it has been further strengthened under the theory of ‘The New Planned Economy’, a part of the New World Order to which China has subscribed.

The Chinese government mentality is that they are both the owner and the general manager of a national economy, and they have both the authority and means to either make growth or stop undesired activities. They make their Five-Year Plans, which are not merely some slogans but form the basis of actual KPIs and benchmarks top-down all the way from the central government to provinces, cities, counties, and local municipalities. As a result, the local officials’ number one job is to ensure they meet the orders from the above. There is no way to negotiate. There’s only some room to cheat.

It is an inelastic power chain. It is powerful and can create high-speed growth when it gears in the right direction. But it is also impossible to stop when it is geared toward the wrong direction.

One might say, why don’t they just reverse the direction when needed? But that’s the point. The rigid power chain is driven by its own mechanism and does not obey other objective authorities, be it science or economics. No mandate, knowledge, skill, or incentive exists for proper economics. Only the mandate, knowledge, skill, and incentive exist to fit the planned economy. It does not matter what you call that.

It is a systemic problem.

The corruption of the local governments

Another important part of the state of the Chinese economy and political system is the corruption of local governments.  

There has been something very significant and ongoing with local Chinese governments:

In the year 2022, most of the land sold by local governments was actually purchased by the local government’s own financing vehicles (local government-managed funds). In some regions, it is over 80%.  

This means many things. 

First, the Chinese GDP is fake. 

People usually doubt the Chinese GDP numbers, suspecting that numbers are fake. But that’s not the key here. At least it no longer is. With the local government committing fraud against the central government, the GDP would be fake, even if the numbers are real. This is because the fake transactions involving local governments’ self-dealing may put positive numbers in the GDP but contribute nothing to the useful and productive economy.

This also differs from the well-known issue of China investing too much in nonproductive infrastructure projects, resulting in a nonsustainable development model. That is a principled issue according to economics, much of which is debatable (whether certain infrastructure is really productive or not). But what is going on now is not an issue of principles of economics. 

It is outright fraud.  

What is even more desperate is that local governments really don’t have a choice because the Chinese political system simply does not allow them to survive without committing fraud

Fraud as a disease is not a simple behavioral problem in the Chinese system but an inherent structural problem. Historically, this has always been a big problem in China. But CCP has created something that is on an entirely different scale.

The local officials

Being a local government official in China is hard now. But that wasn’t the case before. During the last 30 years, being a local government official in China has been the most profitable government job in the world. Profitable not only in terms of money but also in terms of power and privileges. If you look at the Chinese economy within that limited timeframe, the local government’s corruption was not a drag on China’s economy but a major driver. The efficient, creative, and diligent local government was a significant reason for China’s fast growth in the last 30 years.  

Why? Because nothing better incentivizes a local government official to work with business people on development deals than personal gains, which are many in various forms.

And the fact that the land was entirely state-owned provided an extraordinarily large reservoir for developing self-enrichment opportunities for the local government. Remember, the land was a zero-base (zero capital cost) property owned by the government due to a total nationalization of land after the communist revolution of 1949. No other major country has this unique characteristic.

It was all good when China was in an investment-driven development stage. When the marginal product of capital investment (the additional GDP generated by the unit increase in capital) was extremely high, a cost of corruption at 30% wasn’t even felt. But when the marginal product of capital investment becomes significantly lower, the corruption gets exposed, if not by the media, definitely by the economic and political reality.  

Meanwhile, the easy money opportunities in selling land have significantly dwindled. But even if the land resource has not been exhausted, there is only so much capability of the economy to absorb an artificially ballooned real estate industry. This is the biggest procyclical factor in the Chinese economy that has transitioned from a positive cycle to a stagnation cycle and possibly a negative one in the future.

That’s when corruption has a day of reckoning. That day is arriving. The central government will blame local officials for not doing their job but will not acknowledge that they were the same hard-working and competent – but greedy and corrupt – individuals as before when everyone celebrated the high growth. 

The demand-side problem

Prof. Michael Pettis has been a consistent source of excellent economic analyses of China. He’s been saying China needs to reform its demand side instead of pumping more money into unproductive investments to boost the supply side further. Many have similar views, but no one explains it as well as Prof. Michael Pettis.

I agree with him, but I don’t see any hope China will be able to correct its demand-side problem the way he suggests.

From a nationalistic viewpoint, China will always focus on the supply side, even if all economists tell the government to do the opposite (but of course, few Chinese economists will do that). 

This is because the Chinese government will always focus on ‘strong nation’, not ‘prosperous people’. The public narrative, however, will always make it appear that the two are identical when, in reality, they may be related but not the same and can even be contradictory in certain conditions.

As a result, China will be the first modern nation of a powerful state but not so well-off people. And the government will even promulgate socio-political theories to rationalize that, in full glory.

The above is an insurmountable political, ideological, and psychological barrier.

But there is another factor that is seldom mentioned:

The cultural barrier.

Chinese employers, in general, lack respect for employees. They are much more inclined to view employees as tools than even the greedy American capitalists. And this is not merely a moral problem. It’s an economic problem in the long term because how well employers treat employees/workers directly relates to demand-side economics. It affects the overall income level of most households. In addition, it also affects the overall social safety net both objectively and subjectively and thus affects how regular households budget and spend their income.

Geopolitical weakness

China’s industrial base is certainly an advantage (see below). But it may not be sufficient to overcome its other witnesses.

The weakest points of China’s position today are:

(1) its high dependence on the export economy;
(2) energy dependence on imports.  

In a major conflict directly involving the U.S., the Chinese economy could face catastrophic collapse if the maritime routes are blockaded and its Navy lacks the capability to resolve it. Presently, the Chinese military has no direct long-distance carrier-to-carrier and ship-to-ship battle capability to resolve a blockade exercised by the U.S. Navy, should there be one. 

However, China can counter the U.S. Navy by firing missiles at the American carriers, ships, and submarines. It would be a full-blown war, very likely a world war, with its outcome hard to predict.

But China is not collapsing.

Despite all the above problems, I don’t see any indication that China is collapsing, politically or economically. Its growth will slow down, but it will be a relatively stable and strong nation for a long time to come.

First, this concerns The China Model – a Strong Nation without Well-Off People.

As said above, from a nationalistic viewpoint, the focus of the Chinese government will always be ‘strong nation’, not ‘prosperous people’. The public narratives will always make it appear that the two are the same, even when they are clearly not.

As a result, China is likely to be the first modern nation of a powerful state but not so well-off people. As long as people’s lives are relatively comfortable, which is not a very high standard to meet, thanks to the ‘eat bitter’ mindset deeply rooted in the culture, people will support the idea of a ‘strong nation’ at the expense of personal freedom and prosperity. The government can even create socio-political propaganda to rationalize the condition.

Second, China’s centralized system can quite effectively transform financial problems, such as the debt problem, into another form to avoid a Western-style financial crisis. This does not mean that China can magically make such problems disappear. But it does have the ability to transform the problem into a different form,m which can be calculated to distribute differently in a society that is willing to ‘eat bitter’ and bear the consequences. The transformed problem may eventually manifest as slower growth and less happy people, but not a collapse.

Even Western economies today have been forced to take the above transformative approach, only with excruciating political pains. China can do it more effectively with much less political pain. Whether doing this would eventually transform all the present problems into a final aggregated gigantic one that is impossible to be taken by a society without total collapse is a different story. At least, that is at a different time scale. In this regard, my guess is as good as anyone else’s.

Third, when it comes to China, people associate political problems with economic problems too closely. They are related but not exactly causal. In an authoritarian society, the relationship between economic and political problems is much less intimate than in a democratic society.

Fourth, all these problems are not going to change the following fact, which has been materialized during the 40 years of globalization:

China now has the strongest industrial base to support major and prolonged wartimes, should the world ever get into one. When that happens, no one will be talking about GDP.

However, I’m not arguing that China will win if there is a war between the U.S. and China. China’s industrial base is certainly an advantage. But it may not be sufficient to overcome its other witnesses.

Social conditions

Prof. Michael Pettis has done great work in analyzing China’s economy. One of the problems that Prof. Pettis identifies as hindering China’s economic growth is its relatively low consumption, which is a result of China’s consumption-constraining policies in the past few decades of growth.

To readers who may not be familiar with China’s domestic condition, I’d like to emphasize that Chinese consumption-constraining policies are not simply a matter of an overt policy but an overall social condition. 

One example: the healthcare industry counts for about 7% of China’s GDP. In comparison, it’s nearly 20% in the U.S. 

On a per capita basis, the medical spending of a Chinese is only about 1/20th that of an American. 

Do Americans enjoy healthcare 20 times better than Chinese? I doubt it. Better, for sure, but not 20 times.

Economists tend to look at GDP on their face value, always assuming that the people’s well-being is proportional to GDP. While that is true in general, specific numbers tell a complex story. 

Healthcare is just one example. 

GDP is important, but it isn’t everything. A large part of the GDP can be detached from people’s well-being or even contrary. 

The oversized financial industry is a clear example of the latter. 

Just think about the following two numbers:

– The total size of the present global financial services industry is about $20 trillion.

– The total size of the present global supply chain management industry is about $20 billion. The former is 1000 times that of the latter.

This is a picture of the entire human economy: the size of the industry that manages the financial products in the world is 1000 times that of the industry that manages the goods.

It is quite clear that something is wrong about this. For more on this, please read: Financial services and supply-chain management.

China compared to the U.S.

China versus the U.S. is not simply one of planned economy versus capitalism. In many aspects, the Chinese economy has been more permissionless and more capitalistic than the U.S. economy during the past few decades. 

The China model is a strange mixture of two opposite forces: a liberal bottom-up free economy and a nationalistic, top-down planned economy, with local governments interfacing in between as highly active economic participants.

The more recent reversals made it unclear, but I suspect that the strange mixture in the policies will continue to exist in the future, but with its effectiveness running out (or having run out already).

The U.S. and China each have their own structural problems. They’re different. As a matter of the lesser evil, I prefer the U.S. problem to China’s. 

I do not know about the ‘long-term’ but only speak about the present reality.

There are two different aspects: the general social and macroeconomic conditions and personal freedom.

The general social and macroeconomic conditions:

Despite the general deteriorating conditions, I still have a lot of confidence in the rule of law and the open market economy in the U.S., for the time being,g at least.

I do not believe China’s ‘New Planned Economy’ model is going to work because, like the original Marxism and communism, all planned economy models ignore the two different aspects of humanity:

(1) Creativity isn’t planned but inspired, and creativity is the only reason why human economic activities are not a zero-sum game;

(2) Corruption is innate in the fallen human race, and cracking it down using mere political power is never as effective as using a combination of proper incentives and transparency to constrain and guide it (even constructively).

The astonishing economic growth in China during the last few decades proves the above first point. But the high corruption level and internal social contradictions in China today, which persist despite decade-long severe anticorruption measures (including death penalties), prove the above second point.

On the other hand, it is too simplistic to characterize China’s political economy model as a ‘planned economy’. In many aspects, China today is more capitalistic than the U.S.

The Chinese model allows cutthroat, brutal capitalism from the bottom up while applying national policies in key industries from the top down. Where these two meet is a matter of seasonal policy adjustment, which can be made with astonishing swiftness and flexibility.

And by chance (perhaps a hidden causality), China happened to have a long-lasting bureaucratic system existing at local government levels that played an effective and necessary interface between these two opposing forces.

The result: high-level corruption in local governments but high efficiency at the early stage of opening up. The growth rate was so high that there was much room for corruption to be compatible with development (see above in this article).

The trouble: the balance now has reached its limit and has reversed. Corruption has overgrown the productive economy by a large margin, and there’s no room to play by the central government. If the central government cracks down, it kills the local economy. But if it lets corruption loose, it grows a fake economy.

But before you feel fortunate about the U.S., remember, to a large degree, the U.S. is getting itself into a dilemma that may seem to be very different but fundamentally the same: the relationship between money printing and the economy.

In this regard, all I can say is that at present, I’d prefer the U.S. problem to China’s problem. But I don’t know about the long term.

Be warned: a corrupt democratic government will be worse than a corrupt authoritarian government as far as economic conditions are concerned.

The reason is very simple. An authoritarian government like China always treats the national economy as its own business and, therefore, does care despite its tendency to have incompetent policies with good intentions. In contrast, a corrupt democratic government can come to a point where the officials simply don’t care because they don’t own the national economy. Rather, they only care about their election and will do all they can to fool the voters by pleasing them. History shows that the masses can be easily fooled due to their nearsightedness and self-centeredness.

Personal freedom:

But I care more about ‘personal economy’ than macroeconomic conditions. The most important metric for ‘personal economy’ is simply this measure:

How difficult is it to make a living without losing one’s personal integrity (or, in biblical language, without having to bear the mark of the beast – see Marks of the end time)?

Although it is undoubtedly getting more and more difficult in the U.S., it is far more difficult in China.

And the matter of personal freedom goes far beyond economic conditions. At present, at least, one still enjoys much better personal freedom in the U.S. For example, when I express my thoughts and beliefs, especially my faith in God and the Word, I may get ridiculed and sneered at in the U.S. by many (which is their freedom), but I’m not afraid of being put in prison, at least not for now. This alone is a large enough reason for my preference, for what is the value of man without the freedom to know and love his Creator?

At the same time, with increasing incidences of employees getting fired for what they believe, not for what they do, or even simply based on what they might do in hypothetical situations projected in some people’s minds, the U.S. is certainly not getting better. It is not hard to imagine America becoming an oppressive society in the future. But even in that case, one might still prefer losing a job to going to prison for what he believes.