Is China Doomed?
Has the mainstream media ever been right about China’s future?
For as long as China has piqued my interest, there have been articles prognosticating over China’s coming decline.
You’ve seen the claims that China will slip and fall into a Japanese style bog, perhaps even plunge into chaos and darkness by way of a new revolution.
So why hasn’t it happened yet?
Doomsday in China
Past results are no guarantee of future performance – so all of the things that are supposedly about to push China into the abyss may in fact do just that.
After all, the environment may damage the health of hundreds of millions of Chinese people, the wealth gap may continue to grow, corruption may continue its cancerous growth throughout the country, old people might crush the younger generation under the weight of their future demands, and all of the rotting loans made to state owned enterprises might finally collapse the Chinese banking system from within.
And that might lead to revolution, or at least a painful contraction in China’s economy.
But here’s the thing: Most articles that are negative about China’s future are confused about what pushed it from one of the most wretchedly poor nations to the number one manufacturing country in the world by sales volume next year.
They give lip service to China’s growing economic freedoms and capitalism with Chinese characteristics, but don’t realize that by the measures that matter most for continued growth, China already ranks well.
So what are those measures that make the most difference in growth? Savings and taxes.
Savings are the engine of growth for any economy, Keynesian theories be damned. Without foregoing significant levels of current consumption, it is impossible to develop capital. The resources, labor, and capital necessary to fuel further capital formation and hence greater future output can only be freed for future consumption by consuming less today.
And taxes destroy capital, period. Just listen to this guy:
The power to tax is the power to destroy (John Marshall, Chief Justice of the United States Supreme Court from 1801-1835)
Remember that inflation by privately owned central banks is every bit a tax as the money you send to the taxman every year.
America’s shrinking capital base
A prime example is the US, where the real capital base has been shrinking for almost a decade. This is especially apparent when you use accurate measures of inflation and GDP growth (see below), or try to figure out what growth would have been if Americans had not taken on ever higher levels of housing or credit card debt.
If you combine these real inflation with the false growth from ever escalating debt levels, growth would have been heavily negative for the past eight years. In other words, America’s capital base has been shrinking even faster than the above chart would indicate, official statistics be damned.
What has caused all of this carnage, though? Ever higher total tax rates (as a percentage of GDP – and remember to include monetary inflation as part of the tax) and lower savings rates have significantly damaged the US capital base and economy in recent years. That damage is only now starting coming to light with the blowups in the credit markets.
China’s growing capital base
China has relatively low tax rates as a measure of total GDP – only 15.8% in 2008 versus 26.8% for the US.
But more importantly, China saves:
Despite assumptions that excess savings in China is a bad thing, the portion that stays within its borders is the primary driver of growth in China.
Sure, part of the reason for such excess savings is fear about a future where one grandchild may have to support four grandparents, and a reaction to a time when China was desperately poor.
But whatever the cause of China’s sky high savings rates, they don’t seem to be coming down anytime soon. And that will spur more capital accumulation and growth, pushing China past the US or any other country in value added manufacturing in the years to come, likely much faster than anyone could predict.
What if China somehow wises up and stops trading their real goods for slips of paper promises with ever declining value?
That would just mean Chinese consumption and real savings would go up.
But Chinese People Don’t Consume…
There is a common conception that low rates of consumption are somehow holding China back.
This is based on the false idea that it is consumption that drives production, and not the other way around.
Americans are supposedly helping China by sopping up their excess production (savings), and will supposedly hurt China as their ability to consume disappears.
Well… simply put this would only be true if Americans had been trading real goods of equal value for their excess consumption.
But they were trading slips of paper with ever declining value for real goods from China.
When China cuts off Americans from the goods they can’t afford, real consumption of goods and real savings in China will go up.
After all, paper losses at the companies most exposed to exports to America will not reduce the amount of real resources, labor, or capital in China’s economy. Such losses will just force these factors to flow to companies that can meet the real consumption needs (current and future) of China or trading partners who trade real goods.
That’s not to say that malinvestment has not occurred thanks to false demand from America (or more accurately, false supply from the very non-free market central banks of China and the US – there are very few individual Chinese investors stupid enough to throw a bunch of money into US treasuries). But this malinvestment only creates the illusion of wealth – an illusion that is now being pierced and would be shattered if China suddenly tried to exchange all of their US IOU’s for real goods.
The moment China gives up this illusion of wealth in the form of paper IOU’s, China will be better off, even if it means a painful restructuring of Chinese industry.
When China does this, they will have even more real savings to plunge back into the Chinese economy. And that means that China’s days of growth are far from over.