[Marxism] Digest of Economist Article: "China and the World Economy"

["John A Imani" <rdkrnstdt@xxxxxxx>]

Digest of Economist Article on "China and the World Economy" 7/3005 pp61-63

 

"Everyone knows that most tvs and t-shirts are made in China.  But so.are 
developed countries' inflation rates, interest rates, wages, profits, oil 
prices and even house prices-or at least they are strongly influenced by what 
happens in China.

 

".China's forecast current -account surplus of around $100 billion this year 
only a fraction of America's likely deficit of $800 billion.most of the 
increase in America's trade deficit has come from outside China.  The main 
cause of America's trade deficit is a lack of domestic saving, not unfair 
Chinese competition.

 

"China.is.unusually open to the rest of the world, in terms of trade and 
foreign direct investment.  The sum of its total exports and imports.amounts to 
around 75% of China's GDP; in Japan, India and Brazil the figure is 25-30%.  
(The US is @ 25%.)

 

".the entry into the world economy of China, India and the former Soviet Union 
has, in effect, doubled the global labour force.This has increased the world's 
potential growth rate, helped to hold down inflation and triggered changes in 
the relative prices of labour, capital, goods and assets.

 

"The new entrants to the global economy brought with them little capital of 
economic value.  So with twice as many workers and little change in the size of 
the global capital stock, the ratio of global capital to labour has fallen by 
almost half in a matter of years: probably the biggest such shift in 
history.this ratio determines the relative returns to labour and capital, it 
goes a long way to explain recent trends in wages and profits.

 

"In America, Europe and Japan, the pace of growth in real wages has been 
unusually weak in recent years.  Indeed, measured by the growth in income from 
employment, this is America's weakest recovery for decades.compensation.has 
risen by only 11%.since November 2001, the trough of the recession, compared 
with an average of 17% over the equivalent period of the five previous 
recoveries.

 

"The entry of China's.cheap workers.has reduced the bargaining power of workers 
in developed economies.the threat that firms could produce off-shore helps to 
keep a lid on wages.  In most developed countries, wages as a proportion of 
total national income are currently close to their lowest level for decades.

 

"The flip side is that profits are grabbing a bigger slice of the cake.  Last 
year, America's after-tax profits rose to their highest as a proportion of GDP 
for 75 years; the shares of profits in the euro area and Japan are also close 
to their highest for at least 25 years.  This is exactly what economic theory 
would predict.  China's emergence.has made labour relatively abundant and 
capital relatively scarce, and so the relative return to capital has risen.

 

"China's main impact on the world economy is to change relative prices and 
incomes.  Not only are the prices of the goods that China exports falling; the 
prices of the goods that it imports are rising, notably oil and other raw 
materials.

 

"China has accounted for one-third of the increase in global oil demand.

 

"There is currently only one car for every 70 people in China, as against one 
car for every two Americans.  This implies a huge increase in oil demand.

 

".the upward pressure that Chinese imports.have put on the prices of oil and 
other commodities has been more than offset by the downward pressure of Chinese 
manufactured exports.  As a result, another important aspect of the China 
effect is low inflation.

 

"Central bankers like to take all the credit for the defeat of inflation, but 
China has given them a big helping hand.China's ability to produce more cheaply 
has pushed down the prices of many goods worldwide, as well as restraining wage 
pressures in developed economies.

 

"A study.reckons that China has knocked a full percentage point off American 
inflation rate in recent years.

 

"The recent revaluation of the yuan will probably be absorbed by Chinese 
manufacturers trimming their profit margins and so will not be passed on into 
export prices.

 

".China's reduction of inflationary pressures has allowed central bankers to 
hold interest rates lower that they otherwise would be.America's real 
short-term interest rates are only 0.7%, almost two percentage-points below 
their average at the equivalent stage in previous recoveries since 
1960.economists worry that.may have affected monetary policy in ways that 
central bankers do not fully understand.

 

".the Bank for International Settlements (BIS) asks whether it is really 
desirable to maintain positive inflation rates when China is boosting the 
world's productive potential.and thus reducing the prices of so many goods.  In 
other words are central bankers targeting too high a rate of inflation now that 
China has joined the global world economy?

 

"During the late 19th century.falling average prices were quite common.  This 
'good deflation'.accompanied by robust growth, is very different to the bad 
deflation experienced in the 1930's depression.  Today, we could have again 
have had 'good deflation'-but central bankers have instead held interest rates 
low in order to meet inflation targets.  The BIS frets that this has encouraged 
excessive credit growth.

 

"This echoes a fierce debate in the 1920's.  At that time, a similar jump in 
the world's productive potential.was reducing manufacturing costs.  Some 
economists suggested that.price-stability might be the wrong policy goal.they 
argued, average prices should be allowed to fall to pass the productivity gains 
on to workers and consumers as higher real incomes.  But, just like today, 
monetary policy prevented prices from falling. 

 

"The entry of China's army of cheap labour.has increased the world-wide return 
on capital.  That should.imply an increase in the equilibrium level of real 
interest rates.  But.central banks are holding real rates at historically low 
levels.  The result is a mis-allocation of capital, most obviously displayed at 
the present in the shape of excessive mortgage borrowing and housing 
investment.Central banks, not China, are to blame for the excesses, but China's 
emergence is the root cause of the problem.

 

"Not only has China's disinflationary impact caused low short-term interest 
rates, but China is also partly responsible for the low level of long-term bond 
yields.  To keep its exchange rate pegged to the dollar, China was the biggest 
buyer of American Treasury bonds over the past year.  In the first six months 
of 2005, its foreign-exchange reserves increased.to $711 billion.three-quarters 
are in dollars.  This has kept capital costs artificially low.

 

"For decades, global monetary policy has been set in Washington.  When the Fed 
raised interest rates, global monetary conditions would tighten.  Today, 
however.low long-term bond yields have offset the rise in American short-term 
interest rates.The yield on ten-year bonds is currently lower than before the 
Fed started to lift interest rates in June 2004.  America's sovereignty over 
its monetary policy has therefore been eroded with a given rise in short-term 
rates producing much less monetary tightening than in the past.global monetary 
policy is increasingly being set in Beijing as well as in Washington.

 

"By helping to hold down interest rates.China may have indirectly created a 
global liquidity bubble.This excess has not pushed up conventional inflation 
(thanks to cheap Chinese clothes and computers) but instead it has initiated a 
series of asset-price bubbles around the world.the global housing boom is 
indirectly 'made in China'.the People's Bank of China has also supported 
America's mortgage market by buying vast amounts of mortgage-backed securities.

 

Having played a hand in inflating America's housing bubble, could China prick 
it by pushing up mortgage rates, which are closely tied to long-term bond 
yields?

 

"If abandoning its dollar peg causes China to reduce its purchases of T-bonds 
then yields will rise.

 

".the switch from a dollar peg to a currency basket may cause China to 
diversify its reserves.It is unlikely to dump its dollars, but it could well 
reduce its new purchases of Treasury bonds.this could be the trigger for 
another general slide in the greenback against the euro, the yen and other 
currencies, prompting investors to demand higher yields.  The fate of American 
house prices could thus be determined by unelected bureaucrats in Beijing 
rather than the unelected central bankers of the West.

 

".China has almost 200 m unemployed workers in rural areas, and it could take 
at least two decades for them to be absorbed by industry.  As this process 
takes place, it will continue to subdue wage growth and global inflation.  
Profit margins could also remain historically high for a period."

 

 
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