I remember the meeting of the Asian Development Bank’s board of directors way back in the spring of 1992 very well…
Representing the United States during a review of a Chinese finance sector loan, I asked what I thought was a straightforward question, “Isn’t it time for China to begin privatizing state-owned banks and companies?”
After a pregnant pause, the attack from the other board members began.
“Why is America always so impatient?”
“These things have to be done slowly and carefully.”
“The Chinese will develop a privatization plan that suits their needs and culture.”
Dealing With the Consequences
Well, here we are, more than 20 years later, and China remains a semi-market state at best. There’s still too little market and too much state.
Half the Chinese work for the Chinese government or for state-owned or controlled companies. One quarter of state-owned companies are unprofitable, but state-owned companies grab 90% of bank lending. The top five state-owned banks control 80% of total bank lending.
The country has had so many lost chances:
- China had the choice to set itself on a path to sustainable growth, but instead chose a strategy of overdependence on investment and exports.
- China had the choice of balancing growth with protecting the environment, but instead chose growth at all costs.
- China had the choice of using trade surpluses to provide a safety net, so that rural Chinese could avoid saving 30% of their household incomes, but instead chose to let its reserves grow to $4 trillion.
- China had the choice to put in place basic institutions – such as an independent judiciary, a transparent process to transfer power, a free press, and bankruptcy laws to support growth – but instead avoided any reforms that might weaken the authority of its party leaders.
- China had the choice to – like Singapore – take a hard line on political corruption, but instead looked the other way as business and politics became one and the same.
- China had the choice to open its markets and become a champion of free trade, but instead chose a policy of state mercantilism – welcoming foreign capital and know-how – but protecting access to markets.
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I could go on and on, but the point is that all these choices have important consequences. The Chinese like to portray themselves as patient, strategic thinkers, looking centuries ahead while others look at years.
But the facts dispute this view.
To be blunt, China is now unfortunately set on a path to deep disappointment, great uncertainty, and perhaps upheaval. It’s an inconvenient truth.
You have likely seen hundreds of newspaper headlines about the scary euro debt crisis and predictions of a coming American debt and dollar crisis.
And article after article about how the China juggernaut will eclipse America and rule the world – or at least dominate Asia.
Meanwhile, I have long been a China skeptic.
While giving the Chinese people enormous credit for their shared success, I question further progress without significant economic and political reform.
And while I’ve been deeply involved in Asian financial markets for 30 years, the first key to my understanding of China’s dim future is that I am not a China expert.
My introduction to Asia was through Japan in the 1980s, where I was first a student at Sophia and Keio University, and then worked as an investment banker.
This was a time when everyone – and I mean everyone – thought that Japan would dominate the world economy forever.
In his book, The Next Century, David Halberstam included the following passage from a speech he gave in early 1989 to the 50 governors of the United States:
“If there were any purely economic model for the future, it was the Japanese.”
Later that year, Japan’s stock market hit its peak and then both stock and property markets fell apart. The Japanese stock market is trading today at only one-third of its peak and its GDP is back where it was in 1996.
I saw the flaws in Japan’s investment and export economic model, its property bubble, and its “old boy” banking system. This prompted me to move out of the market before its bubble economy fell apart at the seams.
The great majority of investors and the financial media elite missed the signs of the Japan bubble because it was unthinkable.
But it happened.
Nobody can predict the future of China with any certainty, but my advice is to keep an open mind and be skeptical.