China's contribution to Economic Model Theory

The Socialism-Capitalism Debate

and

What does China bring to the Economic Model Table

What is the need to call it Economic Model Theory and why Development Theory is inadequate?

The idea of Development Theory reeks with a faint notion of  Orientalism. It is looked down upon, even dismissively, as something applicable only to Developing countries - the nations which got left behind. The concept therefore implies an unworthiness, an inadequacy springing from its lack of universal applicability. And therefore its scope and relevance gets limited. But the Chinese Miracle due to its extent and intensity goes way beyond anything the developing world has achieved and rises as a broader more universal challenge to some of the most central and sacred economic concepts. In order to stress the broad scope and universal relevance of the experiments and innovations taking place in China, for the entire economic world including the developed countries one needs to move out from the limiting "Development" nomenclature and consider them as more broad and central achievements worthy of consideration at the highest economic platforms For this reason "Economic Model Theory".

Capitalism vs Socialism – One can view this debate throw the Rose-thorn analogy. Those of us who hold strident views, we see only part of the picture and make up our minds based on those views. In the economic model we prefer we see only the rose – the rosier aspects and are blind to the thorns which are inherent and intrinsic within the existing models. It is just the reverse in the opposing models we dislike and even hate. We see only the problematic thorns and are blind to the rose centered within those thorns. The Chinese model does it plan ambitiously to grab both the roses - the roses offered by the two competitive and contradictory economic models - and at the same time avoid all the thorns.

Capitalism – Rent-seeking develops over time. By the very capitalists who  were supposed to terminate rent-seeking. And so we need a “Disruptive” Creative Destruction phase in capitalism. Why doesn’t a constant process of innovative process and product changes happen? Entrenched Elites blocking new emerging elites.  And so it needs a ‘creative destruction’ phase. But quite inefficient due to disruption caused. Lots of collateral damage. Many useful and Working processes go under. Replacement-destruction of entrenched elites has to be done through an act of physical uprooting. Capitalism’s own revolution.  We lately see that one can have the pain of creative destruction without the advantages of new more productive innovative elite class. Financial elites have grown so big that while society has managed to go through disruption they have managed to avoid any disruption to themselves and the new and better financial systems and processes have not emerged. Maybe in this case a bigger revolution will be needed to overthrow the entrenched elites. Social disruption of a bigger order.

China has probably been trying through a process of experimentation to blend capitalism and socialism or one may say to improve capitalism which is the same thing.

We shall see this through a class perspective but through a three class perspective and not a two-class perspective. Though more classes can help us to get a more sophisticated idea. Three classes will simplify matters enough for us to understand point being debated.

But in exactly what way? Mao despite all the pain and misery which was caused did raise the poor masses into a lower middle class – all round education,  health and employment though at a rather basic level and nothing beyond that. No way to channelize human capacities beyond that. With the Deng reforms the social networks were disrupted to incentivize people only according to performance. An elite class developed from the lower middle classes but due to the demise of social welfare schemes many descended back into poverty. Pure capitalism was modified and a social welfare net was developed for – welfare capitalism or a social market as one wants to call it. In addition to this there has also been the recognition of importance of regulation. Not burdened by ideology of either colour, China is probably trying to evolve a more orderly process of elite churn. One on which the entrenched economic elites are not allowed to emerge.  Despite the growth of certain real estate billionaires the Chinese rich are still far smaller in wealth compared to Western elites and relatively speaking maybe smaller even than Indian elites. And so their power to exert control over economic processes is limited. The Regulatory process makes it difficult to

Theoretical question – How does one restrict the growth of powerful economic elites who lead onto regulatory capture, rent-seeking and inefficient self-preservation? How does one avoid the Big Bank, Big Oil, Big Pharma, Big Telecom, Big Media, etc. nightmare of the US model?

1.      Pray and hope that profit-driven elites will not misuse their power for easy unnatural profits and continue to earn it the hard way! That their unproven urge to self-regulate will somehow be more powerful than their urge to earn profits as easily as possible. That they will not be able to offer incentives to the political and bureaucratic class:

i)                    to subvert the competitiveness of the system to prevent challenge from a more vigorous and innovative new elite class. 
ii)                   To corner the natural resources at considerable discount (rent-seeking).

2.      Limiting elite size to a certain point, by

i)                    Keeping them away from the Large Naturally Monopolistic sectors. By limiting these sectors to the control of the State.

ii)                   Progressively increasing Taxation.

iii)                  Regulation

3.      A State “somehow” blocks powerful entrenched elite pressures and continues to incentivize and unleashing the entrepreneurial energies of the middle classes. 

In this regard one must mention the US Big Business elites in monopolistic sectors have not yet gone on to block the growth of Small Business to Middle Business. In fact US and China have the most successful business emergence policies. But there is Sectoral Regulatory Capture. They have certainly cornered specific domains as personal fiefdoms in which newcomers are not welcome. Newcomers are welcome to create domains of their own in IT and Biotech and Genetics but not present a challenge in existing domains. Even in IT and Biotech now the Potential Newcomers are snapped up as soon as they show potential by a newly emerged elite in these sectors which too is looking to block new challenges.

4.      Representative Democracy has not shown any real capacity or even potential for being able to do withstand Elite Pressure. Direct Democracy is messy and inefficient even unworkable except through referendums.  And so we are left with an Authoritarian state. But most authoritarian states too are naturally driven by personal profit motives of the leadership. So why has China evolved differently? Maybe because there is a very small class of tiny nationalistic leaders who are driven by a social impulse to nurture and develop their society and nation despite all the attractions and distractions. A relatively light and benevolent control over the politics and economics of Chinese society. Watching out for negative trends and offering incentives without getting trapped in any ideology.

On the basis of the above complications and limitations with western capitalistic economic model, the Chinese Economic Model relatively free from concentrated economic power stands out. And what stands out equally is the engine behind this accomplishment - the nature of the Chinese state. Authoritarian but benevolent, responsive, caring and nurturing. Maybe not at an individual level as it might not be possible with a billion people. But at a collective level. As a state which stands stands up as a balancing force between Society and the Market. A state which nurtures the market but when the same market grows and concentrates to a point where it starts challenging Society the State jumps in to restore the balance. 

Painful Reform is Under Way?

Chinese Economy - Reform will be Painful and is under Way?

This report is a continuation of the last report written on 15th June. The previous report was fairly optimistic, that the move to change the 30 year old Chinese Model had begun. But the latest signs (several current reports are analysed below) including a drop in manufacturing activity and extremely high short-term interbank interest rates. These early signs seem to indicate that industrial activity is bound to contract and this could bring pain to millions employed in the industrial sector. But perhaps the managers of the Chinese economy have prepared for this moment. The Social Security net and medical insurance has been expanded to almost the entire population. Free school education (9 years) and unemployment insurance are measures which will considerably alleviate this pain and keep the consumption going. It is obvious that the Chinese leadership will be monitoring the economy and taking appropriate steps to manage this transition successfully. On the one hand the world will be watching whether the thoughtful Chinese leadership come out with a more improved way of handling this Austerity phase. On the other hand, the resoluteness of the Chinese leadership will be tested if the pain becomes deeper. Most economies have to make such painful adjustments when they are in a corner and at the mercy of the global financial institutions. The plus point is that the Chinese have deliberately decided on this painful move when the economy is not in a corner and China has ample financial resources to adjust and modify its decisions as and when required and not be forced into doing anything by compulsion. Till only last week many western reports were pointing Xi Jinping out to be an old-school Maoist who will not bite the reform bullet and take the country leftward. The current initial trends if confirmed indicate on the contrary that Xi Jinping could be in the Zhu Rongji mould (SOE privatisation and retrenchment) of taking tough neo-liberal economic decisions. And like Zhu Rongji he seems to be backing up his touch decisions  with social welfare measures to alleviate the people's pains. 

All of the fascinating news coming out of China seems to be revealing that big changes are under implementation. Although these changes have the potential to shake China up, successfully implemented they will leave China much stronger. This will not be easy and could  lead to lot of pain and turmoil in China. But as of now, China despite having the financial capacity to postpone the problem has decided to tackle the Systemic structural problems of over-investment and over-reliance on exports  and shift to a consumption based economic system. Let us now go straight to the four news reports which have come out today (19-20th June), which seem to indicate that at this point the Chinese leadership is committing itself to strong steps to changing the China Model. These reports also provide some details of how the Chinese leadership's decision to slow down investment is having effect. 

The following is from a Bloomberg Report  of 20th June 2013. Please click here -

China’s seven-day repurchase rate, a gauge of interbank funding availability, touched 12 percent today (while the overnight rate had touched nearly 30%!!), the highest in data going back to May 2006, as the central bank refrained from using reverse-repurchase agreements to inject cash into the financial system. The Finance Ministry separately added 40 billion yuan ($6.5 billion) via an auction of six-month deposits. “If market rates remain at such high levels, the only scenario for the Chinese economy is a hard landing,” said Xu Gao, chief economist with Everbright Securities Co. in Beijing. “That possibility is growing now -- it seems the leadership is deliberately taking a wait-and-see stance to see how low China growth can be.”

So what was a surmise when the previous report (of 15th June) was written now seems to be getting confirmed - that the government is deliberately laying off from injecting cash to desperate corporates. A period of low growth and belt tightening seems to be upon the Chinese economy unless the desired take-off of the consumption sector occurs. The China Model is under stress and it is unsure how whether it will be able to come through successfully out of this current round of problems.

The second report in Businessweek of 19th June says (Please click here) -

The seven-day repurchase rate, rose to the highest since at least 2006 today because slowing economic growth, drying up of foreign funds because Fed has intimated a rise in US interest rates; a crackdown on illegal capital inflows and efforts to rein in shadow banking have contributed to increased borrowing costs.

The State Council meeting yesterday “dashed hopes for any immediate rescue efforts by the central bank to ease the credit crunch,” such as reserve-ratio or interest-rate cuts, Tang Jianwei, a Shanghai-based economist at Bank of Communications Co., said by telephone today. “Between stabilizing economic growth and adjusting the growth model, China’s top policy makers have clearly made the decision to focus on the latter.”

“Beijing’s new approach is to focus on reform, rather than stimulus,” said Qu Hongbin, HSBC Holdings Plc’s Hong Kong-based chief China economist. “In the last three months, we have seen enough evidence that the current generation of leadership is really determined to push forward reform.”

What could be the nature of this reform? China must push forward interest-rate liberalization, encourage corporate overseas investment (OFDI), boost bond issuance and support those seeking to buy their first homes, according to the statement. Bank lending for projects in industries with overcapacity must be banned, the State Council said. This has already been confirmed when Suntech the leading edge solar technology firm was allowed to default on a $500 million loan. China's solar technology industry and even their iron, steel, aluminium industries are having huge over-capacity.

The evidence available to us seems to indicate that the Chinese economy seems is on the road to painful reform and restructuring.

The third report is from The Telegraph (19 June 2013). Please click here.
This again goes into the details and guesses that the People's Bank of China (PBOC) is deliberately holding bank the liquidity and teaching the banks a lesson for indulging in Shadow banking and making things risky. It also expects that when large payments are due next month it will release the liquidity.
One needs to keep in mind that the problem of shadow banking has escalated tremendously only in the last five years when China was responding to the Global Financial Crisis and trying to maintain its growth rate. All the fiscal stimulus could manage just a 7-9% growth rate over the last five years. This government had been ignoring the dubious semi-legal methods which were generating this increased liquidity. But this is becoming increasingly difficult as the quality of investments gets sacrificed when higher investment becomes an end in itself.

The fourth report also from The Telegraph (20 June 2013). Please click here.
This points out how the Manufacturing Activity Index "Purchasing Manager's Index" calculated by HSBC shows a drop to 48.3. Below 50 is considered a contraction. Goldman Sachs says that the HSBC index is tilted in favor of exports and the actual PMI calculated by the government should come in better. It says that "downside risks" are increasing - meaning the possibility of growth slowdown increases. But Goldman Sachs still sticks to its Q2 growth rate forecast of 7.8%. This is strange because Goldman Sachs is considered to be one of the most reliable analysts around and when if are sticking to their original forecast, probably things are not as unstable as one is made to believe by some of the strident reporting. However there seems to be a warning for the Chinese government to go a little slow with its tough reform policy to squeeze liquidity. It just might happen that in the short term reform might end up hurting deeper than expected and trigger a deeper slowdown instead of stabilising it. The Dangers of extensive Austerity are already being discussed in Europe and just might become applicable to China in the coming days.

One of the good coverages of the entire crisis phase is Simon Rabinovitch's coverage in Financial Times of June 21, 2013. Please click here.
He notes that the seven-day bond repurchase rate, which is a key gauge of liquidity, had gone up to a remarkable 10.8 percent a year. He concludes that in China where the state controls the banking system and the credit situation and which is micro-managed  "these financial strains are definitely of the government’s own making." He finds that the small liquidity crisis can cascade and become the cause of a collapse of the arger financial system. But what he fails to mention is that governments taking aggressive steps to rein in renegade banks. That does not seem to happen in the West. Banks even when they collapse are pampered with State funds and the taxpayers have to bear the burden. As regards the power dynamics  between the State and Big Business and Big Banks, the China state still wields greater power and has the edge. It can take decisions which pain the banks for improving the banking system in order to protect the larger interests of the people and society. While in the West the pain has to be borne by the people and society in order to protect the banks. This itself is a stark indicator of the clear distinctness of the China Model - capitalist though it is. Or one can call it Financial Regulation with Chinese characteristics.

Arthur Kroreber one of the most important and respected watchers of the Chinese economy has commented in The Atlantic on 22nd June. He estimates that China will get through this crisis period. But a bigger crisis seems to be building up in the long run. Please click here.

And here is the article which convinces me finally that China was an excellent story but currently it is facing a really huge challenge. Stephen Roach of Morgan Stanley is an experienced hand and has been bullish on China for a long time and his bullishness has been justified as China has weathered each storm. But now in  January end 2013, he has argued (please click here to read "China's Last Soft Landing") that China is facing an uncertain situation and without rebalancing and reforms the possibility of a hard landing is quite real. While says that China has managed a Soft Landing in the 2nd half of 2012, the future options are getting limited. He says “Without rebalancing and reforms, the days of the automatic Chinese soft landing may be over. I have been an optimist about China for 15 years. I still am. But the clock is ticking.” He feels that some of the reform which Chinese authorities must address are - developing services industries, funding the social safety net and altering the hukou-based residential-registration system.
After January he has written in March end that China is finally Walking the walk. After talking for more than 6 years since 2006, he says that, China has finally started taking the actions required for transitioning to a New Model. Please Click here to read China on the Move.

In his latest piece of April 27, "Long Live China's Growth Slowdown", he says that a services and consumption based economy has the advantage of being able to provide higher level of employment per unit of GDP and so employment can be retained at lower growth rates. Even a China which grows at say 6.5% after it has begun transitioning to services should be able to provide similar levels of employment and will not slip towards instability. He says that  China's skeptics have a tendency to exaggerate problems especially the recent one of Shadow banking and an impending credit bubble which gets further exaggerated when combined with longstanding concerns of  China descending into a dreaded “middle-income trap” scenario. This is a growth slowdown which fast growing emerging economies have to face after they reach a certain size of GDP. Please click here.

While he says that it is a possibility. He is confident that, "it is unlikely to occur if China can carry out the services-led pro-consumption rebalancing that remains the core strategic initiative of its current (12th) Five-Year Plan. Invariably, the middle-income trap afflicts those emerging economies that cling to early-stage development models for too long."

June 25, 2013, Nobel Prize winner Robert Engle who teaches finance at NYU has commented on the currently credit-squeezed increasingly risky Chinese economy today. Please click here to read the article in the China Economic Review. He feels that this is a deliberate policy of the govt of reducing credit availability and punish highly leveraged firms - which have high debt and low revenue generation to return it. They will avoid lending to risky private players and stick with safe well-performing State Oriented Enterprises. This he says will be bad for the ambitious and greedy entrepreneurs and so will be bad for the economy.
He says that over-greedy entrepreneurs create risks in the economy by taking so much leverage with the capital that’s available, that they and the banking system exposed when it goes away. He feels that there is a negative feature of State backed guarantees to the state financial system. Banks, SOEs, municipal governments which are effectively guaranteed by the government, the tend to take on more risks as they feel they are safe. As a result the true risks inside the system are not known and could be higher. But one must maintain a perspective and keep in mind that many well-known economists have bet against China over the last 2 decades based on their ideas of classical western economics and ended up burning their fingers.

David Keohane of Financial Times explains that the big State-owned banks will be the least affected. Joint stock banks will be next and the small banks which have high exposure to wealth management products are the most likely to be affected. Please click here. Isabella Kaminski of FT analyzes in detail the role of the PBoC in this crisis phase. Please click here. Kate Mackenzie of FT explains that during normal times an opaque Banking and Media system does a good job of suppressing minor rumors and keeps the financial stable. However, in the case of major crisis, such opaque systems can in fact be more dangerous as investors and customers will believe the worst nightmare rumours which will trigger instability. That is just another theory which will be verified over the coming weeks. Please click here.

One will also find out whether China has acted proactively and implemented reform long before a crisis erupted. But it is clear that they have carefully chosen a reform path which hits the irresponsible bankers who created the crisis with their illegal Wealth Management Products. A path much different from the Western model which protected the banks and punished the people. So we could possibly be witnessing here the robust features of Banking with Chinese characteristics. A banking system where large and powerful banks do not dictate policies to the State but can also be held accountable. If this risky gamble of the PBoC succeeds it could stabilize the Chinese economy for a long period of growth and also add to the attractiveness of the Chinese Model for its proactiveness and for holding the rich and powerful to account.

In the meantime it would also be appropriate to mention that all large Western banks and financial companies like Goldman Sachs, HSBC etc have revised downward there China growth forecasts over Jun 23-25. Most have revised 2013 forecasts down from 7.8 to 7.4% and 2014 forecasts from 8.4 to 8.1%.

A good brief review of Wealth Management Products can also be found here. The Economist has naturally  been investigating these unusual happenings in the Chinese banking system. Links are provided here to a series of useful articles on these topics. The Economist examines the recent spike in Chinese short-term interest rates here and here . The Economist analyzes wealth management products here and it explores why the yuan has been strengthening lately here.

A highly readable explanation of Shadow Banking and its implications, has been published in The Atlantic on June 28, 2013, "Shadow Banking Threatens China's Economy—but What Is It, Exactly?" by Ryan Perkins. Please click here to access.

The Telegraph of UK has come out with a provocatively titled "China may not overtake America this century after all". The confidence is undeniable but then the media always has a tendency to go overboard to make its point. He says that both on Innovation and Demographics , the US outscores China over the long term. Plus the US banking system has been restored and is much more stable than the Chinese banking system currently. He quotes Richard Haas who has said that the US is firmly on topic and that this will be another US century. He ends by saying that nothing is foreordained and has to be worked for. Is he implying  that China is in decline or can it return. Read here.
Read here.

George Mangus of The Globalist has also written in May 2013 that the Chinese growth story can no longer be extrapolated based on its past performance. China has entered a risky new phas. Read here.

(Updated) China Model under Transition? The Big Move is On?

China Model - A Momentous Challenge 

The Chinese Economic system has become a topic of feverish discussion in academic circles as a result of the consistently high and stable rates of growth China has been able to manage over the last 3 decades. China Model as this economic governance system is labelled is said to be based firstly on high infrastructure investment spending fueled by credit; secondly by an export-led manufacturing sector and thirdly although it is completely market driven at the bottom end State enterprises dominate at the higher end of the economy and fourthly by a higher level of government regulation to ensure people's welfare and prevent market distortions. Most of the large monopoly sectors including the infrastructure sector like railways, telecom, power, coal, oil and gas, roads, big airlines, etc are govt controlled. In addition the credit is directed by State owned banks.  Though one must be fair, the State-owned Enterprises and Banks have been corporatised and operate like market entities with the managers incentivised to perform and grow their enterprises. Apart from the very large business sectors all business lies in the private domain.

This Model had built up two distortions over time - a world-record breaking Investment/ GDP ratio and unparalleled  Trade Surplus figures. Since the global financial crisis as a result of the drop in demand by the Western nations, the Trade Surplus has been reined in. But the Investment/ GDP ratio has continued to escalate and now reached a ratio of 52% never reached for any nation earlier. While the overall Asset/ Infrastructure levels in China are still far low as compared to the west, the rates at which it is being increased has been made possible only by a rampant credit boom which has the potential to explode into a bubble. The Chinese economic administration has been aware of this dangerous distortion in the economy and has repeatedly emphasized its determination to change this state of things and move gradually from an infrastructure-based to a more consumption-based economy. But the move is fraught with danger and is likely to reduce the growth rates. So this has been constantly been postponed despite the stated Chinese resolve to make the necessary changes. But do we see signs that this long-delayed decision is being taken and that the China Model is now making a historic once in 30 year change to a more consumption based model?


China's Impressive Show in the post-Recession Period
All of us know that while the world economy went through a massive crisis in 2008, and yet the Chinese economy did impressively well. It dipped to 6.2% in Q1 -2009, and then bounced back to 11.9% by Q1-2010! In 2010, 2011 & Q1-2012 it has stayed above 8%. But since then it has stayed between 7.4 to 7.6%. Quarterly GDP rates can be seen here. This recovery was financed by a massive Fiscal Stimulus package launched by the Central government but in this credit boom the local governments have participated with enthusiasm. China indulged in this credit boom because it could. Its finances which had always been well balanced provided it the ample room to go in for this deficit financing. The LGFVs were at the  were at the  heart of the Stimulus implementation. The local government route with the hunger of local governments to invest in infrastructure were used by China to stimulate its economy during the global financial crisis. Moreover this was accompanied with continued investment push to the infrastructure sector. This tilt towards  investment was further distorting the structure of the Chinese economy. But yes this infra investment push was temporarily rescuing the Chinese economy and maintaining the growth momentum. But all this credit cannot go on endlessly. More importantly the economy cannot be endlessly distorted. The managers of the Chinese economy (the NDRC and the other government economic think tanks) have known about this, but as this is going to be a relatively painful activity they have been reluctant to bite the bullet. But as recounted below, events are happening which force us to sit back and take notice. Finally maybe change is on the way?

Unusual Dry-Up of Liquidity
Short term interest rates in China have been zooming for the last one week. The short-term rates one-week interbank borrowing rates which are tracked as "Shibor" (Shanghai interbank borrowing rates -www.shibor.org) have reached an astronomical 8 % around 10th June 2013. A Chinese debt sale has failed after 2 years (Click here for Bloomberg report). Alongside this, in informal offshore currency markets the yuan has been declining. Which means that foreign funds are weak on China and money is leaving (as in the case of India and all Emerging Markets). The other great source of liquidity - the government & govt banks - too for the first time is keeping a lid on the liquidity flow. All this points to a Liquidity Crunch. China's Central Government debt seems to be in quite secure territory when compared to other Emerging Markets. So why is China reining in its expenditure? The Local Governments have a tendency to be profligate as they have the unchecked freedom to go in for large infrastructure investments. For some time now, the LGFVs have been rolling their interest payments - borrowing from the short-term market to pay their interest dues and then borrowing again when the short term obligations become due. With the current rise of short-term interest rates their outflows are going to increase and they are going to get badly hit. 

Is it Deliberate

Amidst all this action the PBOC has remained firm and is not resorting to opening up the liquidity tap. Which is a huge break from the past. This is the amazing feature which stands out in these times. If the liquidity situation remains tight, the infrastructure investments will get badly squeezed. As a result of which the current investment/GDP rate of China should drop down from its dizzy globally unmatched heights of 50+%.  This drop in investment/GDP rate entails a decline in infrastructure investments and a consequent decline in Growth Rate. Reuters had reported a few days back that China was Ok with 7% growth rate (Q1-2013 growth rate was 7.7%; Q3-2012 was 7.4%).  The firmness China has shown in holding back on liquidity indicates that the Committee which rules China has now decided to begin the long promised and sincerely repeated goal of Rebalancing the Economy and Changing the Growth Model. This claim has been made for the last 5-6 years and was also repeated  by both the incoming and outgoing Prime Ministers at last years 12th National People's Congress. However, now China seems to have decided that there was no alternative to taking the bull by its horns. It knew that it could not continue by just pumping more and more cash into infrastructure investments which  were accumulating and a bubble was building up. Moreover, investments can become inefficient when they are not Demand Driven but are Supply Driven. For example if bridges were built based on anticipations of the future, one might end up building a Bridge to Nowhere - a wasted investment which nobody uses.

Changing the China Model

China seems to have begun the journey to change the China Model - shifting from an investment-led model to a model in which consumption plays an increasingly greater role. While curbing investments at one end this change seems to be encouraged by diverting more cash to the people through greater social security payments in the form of pensions, unemployment insurance, medical insurance, etc. Greater cash with the people should result in growth of retail consumption. And the safe Chinese fiscal deficit position should imply that China would not face much problem in triggering the consumption boom. As with all Chinese moves, one should expect that this change will also be executed gradually while being monitored and corrected for any negative consequences. China will also be watchful that this activity is not overdone and growth does not get choked off seriously. 

So what will be the consequences and likely future scenarios? The Chinese Economy should get more rebalanced. If this transition takes place successfully, consumption by the Chinese people should increase successfully. This should herald a period in which the Chinese people who have worked tirelessly over the last three decades should improve their living standards considerably. One can then make a guess that the Chinese President was aware of this lifestyle improvement and that is why he has decided to present it to the Chinese people in the form of a "Chinese Dream"! 

In the likely scenario, with this gradual rupture with the past, there could be a period when growth rates would drop and depending on the status of the world economy it could fall as low as 7% and maybe even 6.5%.

If and when the Chinese consumption engine gets activated the Chinese people would then start fuelling their own growth. Working, Earning, Building-Consuming - all parts of the cycle taking place in China. 

Pessimistic Possibilities

Concerns about the Chinese economy are now being reflected by larger sections of the financial industry. Wei Yao of Societe General is saying that China could be facing a Minsky moment.  Zhiwei Zhang from Nomura says that H2 -2013 growth could fall below 7%. Charlene Chu of Fitch Ratings says that the Credit (total) to GDP is ~200%! While this ratio was only 40% 5 years ago. In the last 5 years the US securitization model has been replicated in the shadow banking system in China. 

Prof Michael Pettis a finance professor at Guanghua School of Management at Beijing University says -

Once China begins the adjustment process, which I expect to characterize the ten-year period of the current administration, growth rates must slow significantly. My expectation for long-term growth is that it shouldn’t average much above 3-4% annually. This is what it will take for household consumption to rise to roughly 50% of GDP in a decade if consumption growth can be maintained at its historic rates of around 8%. But I always warn that this is likely to be an upper limit, not a lower limit, to growth. 

Although they might not be as negative as 3-4%, even the IMF has changed its growth forecasts about the Chinese economy from 8.8% to 7.75%. Click here to read report by Ryan Rutkowski of Peterson Institute of International Economics (PIIE). 

Something has seriously changed over the last five years since the 2008 Western crisis. And this involves the huge expansion in credit, especially the hidden unofficial credit which is being termed as Shadow Banking by the financial experts.

Chinese Shadow Banking and how it takes place

A very recent phenomenon of Shadow Banking is afflicting the Chinese finance industry. Although the bad loans of Chinese banks are remarkably just 1percent, this hides the reality. In reality Trust Funds (Read  a PIIE report by Nicholas Borst - "Role of Trust Funds in Amazing Rise of Chinese Credit", here ) and offshore investment companies team up in league with the second rung of banks. Loans are taken and then these are repackaged through innovative financial instruments to move these loans out of the banks balance sheet! It is almost as if there are two balance sheets. The loans are moved through a process of securitization the official balance sheet to an unofficial balance sheet. The official balance sheet shows low bad loans but the hidden balance sheet is accumulating the toxic assets. The Chinese government has been aware of this for some time and has continuously tried to stop these irregularities. But the financial wizards have kept one step ahead. Unregulatable Financial Innovation which resulted in the Great Recession seems to have China banking industry in its grip? It seems to be happening because the official bank rate is very low (as in India) and so investors come to bank with funds to invest but only if they get lucrative deposit rates. These banks then team up with LGFVs through unofficial methods to promise high deposit rates and the loans are given to local governments. But now the local government agencies are finding it even difficult to keep paying these high interest rates. Nicholas Borst of PIIE takes a different line. He says that most of these LGFV financed projects are viable and productive! But that they suffer from a wrong financing model. The financing of infrastructure investments should have long payment horizons as they fructify over long periods. Instead because of the hidden nature of the financing, they accepted short payment periods. The revenues on these projects will be earned many years later and so the LGFVs are in an extreme cash-flow crisis. Maybe the government needs to intervene and act as a bridge to resolve this time-period mismatch. But he says that while the government should crackdown on the Shadow Banking practices, it needs to provide a financing model for the local governments - otherwise growth rate could drop considerably.

Changing to Consumption Model - a Regional Perspective

Prof Pettis also quotes an IMF paper to take a regional perspective on the investment vs consumption debate. The coastal regions are having a relatively higher autonomous consumption based economy and the drop in investment could be shifted towards a rise in consumption. But the current low consumption in the western region is sustained by infra investments which have poured in (Western Development Strategy). And a drop in investments will not result in an automatic shift towards consumption as for the coast, but it could result in a dramatic fall in consumption. Investment can be used up productively only where requisite social capital exists to make productive use of it.

Conclusion
The pessimistic China Bear Lobby (Peter Chovanec, Gordon Chang etc.) has long been crying itself hoarse predicting China Collapse. As expected it has again gone into overdrive predicting a hard landing for China. Crying wolf they hope would dissuade investors and so by choking investment with their alarmist projections they hope to serve as a self-fulfilling prophecy.

But this time around their is a greater degree of skepticism and alarm that China might be in for a tougher time. One has to be more cautious as the new Shadow Banking phenomenon has spread like wildfire over the last five years. The true scale of Shadow Banking is not known. However, at one extreme it could bring down the Chinese Financial system and the economy. At the best, tackling it would seriously challenge the Chinese economy and slow it down considerably. On the other hand the steady discourse of 7-8% growth by the normally proactive Chinese leadership indicates that it is not considering the 4% growth rate projections to be a serious possibility. Once earlier, China has once cleared up its banking system in 2003 to rid it off bad loans. The year after the transition from Jiang Zemin-Zhu Rongji to Hu-Wen leadership. And now we have similar problems arising once again when the Hu-Wen leadership has been followed by the Xi-Li leadership. This raises the interesting thought that during its last years in office each generation of Chinese leaders tends to overspend in order to squeeze out every bit of growth out of the system. This is probably done to leave behind a legacy of exceptional economic leadership. But the problems which this loose credit policy creates have to be resolved by the next set of leaders during their initial years. Or to put it in another way it could reflect a desire of the new leadership to place the inherited problems upfront on the table and then to start with a fresh slate.

Related Documentation

Some of these issues especially the dangers to the Chinese economy especially the buildup of a threatening credit bubble are covered in the following articles. 

1. Whatever Little Momentum China Had, It's Losing It by Kenneth Rapoza (Forbes). Click here to read.

2. China's economy stumbles in May, growth may fall in second quarter By Langi Chiang and Jonathan Standing Click here to read.

3. Is China’s Public Debt Level Sustainable? by Ryan Rutkowski (Peterson Institute of Intl Economics). Click here to read.

4. Economic Observer from China - Most Local Govt debt is becoming due next year and lending banks could bust - Click here

5. Bernanke signals end of Cheap Money - world in fear - Click here ;

6. The Economist - Chinese Credit is analysed. It say's that Chinese companies are taking credit for Nothing - no performance. Click here  ;

7. NYT - Diminishing Job prospects in a slowing Chinese economy. Click here ;

8.  Mamta Badkar of BusinessInsider - Fitch warns that China's Credit Bubble is unprecedented. Click here; The Telegraph says the same thing here ; Also here about the Credit Squeeze in China ;

9. On the other hand surprising news is pouring in (NYT) that the US economy is in for a huge rebound. In the short run (2013) it stays low but steady (1.5%). But 2014 is expected to see dramatic change  (3 to 3.5%) and 2015 to 2018 could see growth in the range of 3.5 - 4%. This is expected due to huge Shale Gas  reserves resulting in Cheap Energy and the attainment of marketization of a new cycle of technologies especially artificial intelligence. This is astonishing as most prominent US economists have been quite pessimistic about the middle term prospects of the US economy. Click here ;

10. Euromoney - Credit Fears grow in China. Click here ;

11. Gordon Chang here persisting with his extreme views as always in Forbes. Click here ;

12. Regarding the painful nature of transition to a Consumption led system for China. Prof Michael Pettis at Peking University is very pessimistic. Click here to read. 

Rising China, Declining West and Changing Softpower Balances - China Expands in the Commercial World

<<Work in Progress>>

Growing economic strength, leaves China as one of the few entities flush with funds in these hard times.  Funds have become so precious after the 2008 Great Recession which for Southern Europe is very nearly a Depression. Governments have had to inject massive amounts of liquidity by printing cash to make up for this lack of liquidity. This was done through Quantitative Easing in the US. QE 1,2 and now 3 which injects close to $80-100bn in the US economy every month.

The powerful West has been among those thirsting for funds. In the current context, the enhanced value of their accumulated funds, leaves the Chinese in a very powerful bargaining position. Their funds are sought after all across the world. However even the Chinese people, are truly invading all corners of the Earth. From running Greece's largest port terminal to setting up prpjects to open up remote Greenland's huge resources. From  the biggest Chinese engineering project in Africa - the Merowe Dam on the Nile in Sudan, to the  $2.3 billion Coca Codo Sinclair Dam in Ecuador, China is setting up 200 dams across various nations. Large numbers of Chinese personnel are transiting all across the globe implementing infrastructure projects. But along with that they are learning about the world, influencing people and communicating with them, but also changing it. For example the textile market in Egypt is dominated by poor Chinese migrants! It is said that by next year more than half a million Chinese will be working overseas on Chinese infrastructure projects . Loan Funds, personnel, infrastructure and natural resource projects typify the Chinese commercial invasion all across the globe. China is delivering services sought after across the entire world. Can one say that because of the Chinese entrepreneurial spirit  the foundations of a New Chinese Tributary system are automatically falling into place - without really aiming for it. And that this tributary system is more commercial at this point than civilizational and cultural. How the British came to India as spirited traders with far greater latent capabilities. And then over time they followed it up by setting up the cultural hierarchies.

China's zooming commercial clout can be best summarized using the following statistics. In 2006, US was the largest trading partner of 127 countries while China was the largest trading partner only to 70 countries. By 2012,   China has become the largest trading partner to 127 countries, while the US is only to 76. A stunning reversal of statistics! And that too achieved in such a remarkably short period of time. This can be seen as a tribute to the flawless economic management of the Hu-Wen team who have quietly but intensely focused on getting China to the safe harbor of "Largest Economy" status. An economic power level which safeguards China - ensuring that it wouldn't arm-twisted into submission to the West. An economic power level which is China's insurance policy against a repeat of 1991. Thanks to this staggeringly fast economic development, China's has been able to build up its Comprehensive National Power in record time. 

This Hard Economic Power is now beginning to build a Soft power persona as well. The Chinese achievements are beginning to be "seen" as stupendous, miraculous, stunning. This boosts the credibility of the Chinese economic model and governance system at a time when the Western economic model is faltering and the governance system is coming under deep attacks from the mainstream - not just the leftists and the Occupy movement. The western middle class discourse is full of anger, bitterness and rebellion at the monopolistic plutocracy - Big Oil, Big Pharma, Big Banks, Big Coal and Power, etc. which corners almost all profits. Through their tight control of the economic decision-making process this 0.01% makes a mockery of the much-vaunted Liberal Democratic model.  The Chinese economic model and governance system is increasingly alluring to the rest of the world. Without so much as trying.  There is growing evidence that even without any control over the levers of global media, Chinese Soft Power seems to be on the Up. What is astonishing is that this is occurring despite a continuous barrage of negative reports covering street protests, food pollution, medical epidemics and bad air quality in Beijing. Almost a deliberate negative feed  being generated for the global media by a brat-pack of Western journalists whose main aim seems to disparage, mock and vilify the Chinese system. 

This seems to be done with the intention of deligitimizing the Chinese system domestically.  But that is only part of the story. A bigger aim seems to be deligitimize the Chinese system globally. Joseph Nye claims that China is doing very poorly in the competition for Softpower (Click here for Nye's article). I refute this and claim that the US is clearly worked up about the threat of  Chinese soft power. China's economic success is viewed not just as an Economic Threat but more than that it is being perceived to be reaching the dangerous levels of an Alternative Successful Model. The Chinese soft power threat is being countered but not through power games like alliance building and sanctions. The perception of a an alternative model has to be challenged not militarily but in the perceptual domain on the battlefields of Legitimacy. And the intention is to prevent a rising global following for China. 

Nye has disaggregated Soft Power into three broad categories - culture, political values (ideologies) and policies. I would like to recast these into 2 relevant categories: firstly, Cultural-Civilizational; the second and third categories can be bundled into a Ideology-Governance category. To make the point of global Chinese soft power threat, let us look at the US-China soft power in the context of these categories. First, Cultural Soft Power i.e. soft power of a culture/ civilization among the societies of the world. Here clearly the US is an outstanding and unrivaled leader. Second, Ideological-Governance Soft Power. While both US and China adhere to the Capitalist model there is much that separates them. The US follows a Liberal Market-led version of Capitalism as against the State-led regulated-market Capitalism of China. This relatively small difference in Ideology explodes into a major difference at the Policy and Governance level. There is a greater dependence on State policies which are being constantly evaluated and rectified. The better Governance model carries tremendous appeal for all the backward and developing countries interested in growing out of their poverty and backwardness. 

The superior governance model which the world looks up to, admires and pursues becomes a tremendous source of Soft power. As it is based on the Governance system, it can be termed as a Governance Model Soft Power. This is Soft power based not in a Culture or even in an Ideology but at the National-level. At the Governance and policy set-up of a nation. The delicious irony here is that China while being a profound civilization seems to be wielding little cultural soft power (Nye's point), while the US constituted primarily as a Nation has been leading in cultural-civilizational soft power - a representative of the West. As a nation China has done remarkably well over the last 35 years, primarily because it deviated in crucial respects not just from the Western model but also from the West-led developmental model imposed on the developing world. This new model evolved by China is turning out to be an attractive alternative model for the rest of the World. In National Soft Power it seems to be significantly outperforming the US model. So I reject Nye's thesis that China has no worthwile soft power offering on the table. He is viewing the situation only in terms of one of his own softpower categories - cultural softpower. Chinese Governance model on the other hand is the hottest talk across the global Governance-sphere. China is figuring prominently in developmental considerations of African and Latin American governments.

But China as a governance model is not just attractive to the governments and the people of the Rest of the world.  In the context of a disillusioned American public the effects of Chinese "National" Soft Power would surely be knocking at American doors if they are not already doing so. The danger is not just of losing sway over the rest of the world but of losing control over one's own abused and exploited public. A very important goal seems to be to deligitimize the Chinese system as an alternative model in the eyes of the American public. To prevent the increasing disenchantment with the American system turning into a full-blown revulsion and rebellion against the American  system. A trend which could be accentuated by the example of a currently successful Chinese  model. A State-led capitalist model where the size of Big Business has been limited (uptil now) to ensure that Business does not dictate Policy to the State and a State which is free from such interventions. <<working>>

--------------<<work in progress>>

So can one not say that Soft Power derives mainly from Hard Power. Isn't that what Soft Power is? Nothing really substantial on its own. It is perhaps just the glamorous qualities associated with the Powerful. Hard power cannot be viewed directly by the rest of the world. The less powerful need to adjust to Hard Power which is unavoidable and up there. So the rest of the world has to view Hard Power through the illusion of Soft Power in order to make life more livable. To make this world appear the best of all worlds. So stable, even and non-arbitrary Hard Power generates its own soft power.  

--------<<>>>-------------------------

All these details and more can be referred to in an article written in New York Times "China’s Economic Empire" by Heriberto Araujo and Juan Pablo Cardenal on June 1, 2013.

Click here to read.

Jeffrey Wassertrom critiques the ideas of Araujo and Cardenal in a Review of their book - China's Silent Army - The Pioneers, Traders, Fixers who are Remaking the World in Beijing's Image

Click here to read.

Tracking the Chinese Economy - 2nd Post (contd)

A Blueprint for Rebalancing the Chinese Economy

China needs Rebalancing. The West has been crying hoarse for more than 6-7 years now. Now renowned China economist Nicholas Lardy, Senior Fellow at Peterson Institute of International Economics and author of Sustaining China's Economic Growth after the Global Financial Crisis (2012), China's Rise: Challenges and Opportunities (2008) and China’s Unfinished Economic Revolution (1998), etc (along with Nicholas Borst) has brought out a Policy Brief on how China needs to implement this very crucial economic task of Rebalancing.

What is Rebalancing?
Wen Jiabao had said as early as 2007, that the Chinese economy was “uncoordinated, unsteady, imbalanced, and unsustainable.” The Chinese leadership realized that the extreme economic policies it had been following for almost 2 decades were going to have severe consequences if they were not rectified. This was the policy of suppressing private consumption and in turn focusing on the pursuit of super high levels of investment-led export-led growth. Over-investment over long periods leads to large amounts of mis-allocated capital and the potential of unsustainable asset bubbles which can crash the economy. Moreover, Western markets are facing near recessionary conditions and China can no longer depend on export-led growth to rescue it. The Chinese leadership has realized that its single-minded pursuit of growth in order to economically empower China as quickly as possible against a undependable and untrustworthy West, has resulted in a highly distorted and unbalanced economy. This can boomerang against China in unpredictable dangerous ways. Rebalancing is the process for restabilising the economy.

So what does Prof Lardy say about managing Rebalancing in China?
He says that for Rebalancing, domestic consumption needs to be spurred and Investment needs to be tempered through a set of policies. Essentially this can be done through 4 ways.

Firstly, implementation of Market determined interest rates.
This will tend to increase deposit rates which means banks will have to increase their lending rates. This in turn will result in reduction of investment activity and divert funds from capital investment towards labor intensive sector resulting in job creation and therefore increased household income. High deposit rates will also alleviate the 'financial repression' conditions existing in China. Higher returns on deposits  will increase the confidence of the citizens in their economic situation resulting in higher consumption!

Second, Revalue the Yuan or Appreciate the Currency
The hugely devalued currency (yuan) used to make Chinese exports considerably cheaper (unfairly) as compared to other countries. This along with China's very low hukou-based labor costs had led to the 'Chinese Price' phenomena - very cheap Chinese prices which had made Chinese exports so attractive. This was the engine of China's export-led growth which had resulted in China's massive trade/ current account surplus. China definitely needed to address this huge imbalance. But things have changed in the last few years. China’s current account surplus in the first half of 2012 fell to only 2.1 percent of GDP, down dramatically from the 10.1 percent peak in 2007. So China has done quite a bit. But further work needs to be done to set things completely right.

Third, Market based Energy Prices
Price controls on fuels act as a hidden subsidy to China’s industrial sector, which consumes two-thirds of energy production. This has subsidized the growth of the capital-intensive sector at the cost of the consumption-based service sector. Removing these subsidies for manufacturing would eliminate the incentives for investment which in turn would flow to the service sector (which is consumption based) increasing wages and consumption. Between 1980 and 2002, the services sector  share of the GDP, doubled from about 20.5% to 41.5%. But this trend has changed sharply since 2003. As a result of the severe intensification of the financial repression and investment directed policies, this ratio has increased only marginally to 43%!

Fourth, Redistribution mechanisms and Reduction of Inequality
Enormous gains have accrued to capital owners over the past decade and worsened inequality. Wage share of the GDP has declined considerably. The above mentioned policies of Market-based interest rate, exchange rate, and energy prices, will help increase the wage share of GDP and thereby reduce inequality.

But more is required to be done to address the Social problems. The Chinese government needs to continue to develop social safety nets in order to reduce precautionary saving by households. With such nets in place people will not need to save for their old age. With greater income in hand, people will spend more increasing the consumption in the economy.
In addition, China should increase the progressiveness of taxes as there is too much reliance on indirect, and therefore regressive, tax collection. Finally, further reforms to the hukou household registration system would reduce inequality between rural and urban areas and improve the living standards of China’s migrant workers. This too would result in increased spending by citizens.

Finally the authors touch on the Politics of Rebalancing. Many are saying that 'vested interests' are blocking Reform and further (economic) Reform cannot take place without political reform. The authors disagree with this view. There are pockets like SASAC where the vested bureaucratic interests are definitely at play. But the authors say that this phenomena is essentially limited to certain pockets. Rebalancing has increasingly greater support across the the Chinese leadership.

Click here to access the full report.

Relooking at Soros comments about Renimbi in 2009 end
George Soros had said that China will be the New World Revered Currency.

Tracking the Chinese Economy

[Tracking relevant Events and Analysis of the Chinese Economy in an Ongoing Manner]

Official Inequality Data Released after More than a Decade

A significant economic event took place on 18th Jan, 2012 with the official release of new income inequality (Gini coefficient) data for China - after more than 12 years. 

According to Ma Jiantang, the head of the National Statistics Bureau of China, the figures for the last 4 years are : 2009=0.490，2010=0.481，2011=0.477，2012=0.474。
Inequality seems to have peaked in 2009 and declined somewhat after that. This probably indicates that government policy geared towards inequality is having some positive effect. The data released prior to this was in 2000 when the Gini coefficient was 0.41. The equivalent US inequality data for 2010 was about the same as China in 2012 - 0.47.

Considering how centrally important a topic Inequality has become for China, it is rather strange that this  economic data had not been issued out for more that a decade!
Last year, the reason given was, difficulty in estimating the income of the rich persons.

Although, there has been no release of official inequality data for a decade by the Chinese authorities, there have been some unofficial efforts. The International Institute for Urban Development, a Chinese think tank, estimated China’s 2010 Gini coefficient at 0.438. A Texas A&M professor Gan Li, did an independent household survey, to conclude in 2012 that the Gini number for China at 0.61!! The World Bank had published 0.425 as the inequality coefficient for 2005. Moreover, the CIA in 2009 had calculated that the Gini coefficient for China was 0.48. The CIA inequality figures for the US in 2007 were 0.45.

After the release of the Gan Li data, it was felt that the China had entered a period of dangerous socio-economic instability. But the new data released by China which is in line with the CIA estimates, indicates that inequality while disturbingly high, is not as dangerous as was being thought recently. Significantly, the recent figures are showing a welcome declining trend.

Inequality in income distribution, raises fears of social instability. But Martin Whyte, a professor at Harvard and author of "The Myth of the Social Volcano" says, that, the link between inequality and instability is not so straightforward. He says, “It is subjective popular perceptions of fairness or unfairness, not objective income and wealth trends that contribute to instability.” . In his opinion, public cases like Bo Xilai which attract attention of the ordinary Chinese people to corruption, make them more angry about social injustice.

Read The Wall Street Journal, The Reuters and Business Week . The Financial Times reports that this data has met with  skepticism - even in China. Read here. 

The Economy's Latest Performance - Q4 2012 GDP results
The latest Quarterly Economic Performance  Results of China - for Q4 2012 - are just out (18th Jan). Q4 growth was 7.9% as against the current expectation of 7.8%. This has to be seen in the backdrop of a low 7.4% growth rate in Q3 2012. Annual growth rate for 2012 comes to 7.8%. 
There are 2 ways to view these results:
First, the interpretation of the results can be categorised as - China's economy posts slowest or weakest annual growth in over 13 years. Read here.
Second, these results can be viewed optimistically as a rebound from a fairly low point by standards of the Chinese economy. Read here or here.

Both interpretations are correct! This was a bad year when quarter-wise growth fell to its lowest in a long time and so a certain economic weakness is an acknowledged fact. But more importantly, growth now seems to have bottomed out towards the end of the year. The quarterly results of Q4 2012 show a distinct upward trend compared to Q3 2012. The next quarterly results (Q1 2013) should confirm this analysis further. The next few quarters will not only confirm that the decline has been arrested but will also confirm whether this recovery will be a L-shaped recovery (economy stays around the 7.8-8% mark), or whether this will be a V-shaped recovery (economy rises further beyond 8%). The doomsayers predicting a hard landing for the Chinese economy will have to hold their horses for the moment. One also needs to keep in mind, that there has been some slippage as compared to the prediction of Institute of Economic Research of Renmin University of China for an growth rate of 8.4% in Q4 2012. Read here.

Government policy can keep warding off economic disasters - for a very long time through short-term measures by using essentially 2 options - either by burdening a section of the population and  making it pay the bill - say by continuing to extract surplus from migrant  workers and the household savers whose savings fetch very poor returns, OR, through profligate policies which keep reflating the bubbles (real estate, mining, etc) in the economy but in return lead to a greater future disaster. Probably the controllers of the Chinese economy are successfully using both options to keep the growth momentum alive. Is there a plan to maintain high sustainable levels of growth till they attain the prize of being the largest economy in the world - before they slowdown to address the deeper structural problems? 

In another perspective the Financial Times quotes premier-designate Li Keqiang's view of Chinese economic statistics as being "man-made" and probes the real condition of the Chinese GDP growth through an alternative set of calculations which make use of power production and rail freight, etc. This concludes that the economy tanked quite low - to 3.5% in mid-2012 and has risen to 5.5% since. Importantly, it also mentions that the good period of the Chinese economy ends by mid-2013. Collapse of export demand, inflation and controls over wasteful government spending will lead to another drop in growth. Read here.

What can however be concluded is that in the short-term, despite the drop from 10% growth levels, the economy is being managed fairly safely and skilfully. But whether the deep structural issues facing the Chinese economy in the long term are being addressed successfully - that is an open question and an entirely different matter. Some of the arguments for this ongoing debate can be tracked below.

1. Lardy-Pettis Debating China's Economic Future
Post the Economic Recession, China has continued to blaze a high growth path thanks to its solid basic macroeconomic situation which allowed it to go in for large financial stimulus without facing any fiscal challenges - unlike India. But since then, China's growth figures have shown some decline. Recent numbers shows growth in the third quarter of 2012 at just 7.4%.  This has spurred a debate between 2 sets of economists. One set seems to think that 7% – 8% growth is the new normal unless China reforms and rebalances its economy from an export-investment led to a domestic consumption led model. Another more pessimistic set of economists (Patrick Chovanec, Michael Pettis, etc) argue that in fact the China economy has deep structural weaknesses and a further sharp slowdown in China’s economy is inevitable. Its growth is set to decline to an unprecedented 3-4 %. This debate as one will realize is of tremendous political significance as the legitimacy of the Chinese regime is supposed to depend on delivery of economic prosperity and a baseline growth rate of 7-8% becomes essential.

China Real Time page of Wall Street Journal, asked two leading experts on the China's economy to debate this out : Is China Still Rising albeit more moderately, or is the Chinese growth rate set to tumble to unprecedentedly low levels?

Nick Lardy, an expert on China’s economy at the Peterson Institute, argues current growth rates can be sustained. Michael Pettis, a professor of finance at Peking University, argues that a further sharp slowdown is inevitable. 

The debates are covered in the following 2 posts:
Round 1 of this Debate
Round 2 of this Debate

2. Michael Pettis' blog

It covers the Chinese Financial Markets and aspects of the Chinese Economy

A few of his interesting posts:

Debating Growth in China (June 2012)

Among the points highlighted here, he author mentions that economic parameters on the ground suggest a sharp slowdown. He points out that despite extremely low interest rates (cheap credit), the private sector is keeping away from investment. This is because the returns on investment are too low and cannot match the low interest rates. It is the State-sector which is the center of the huge investments taking place in China. The SOEs know that they are protected and so can venture into investment even in these uncertain times. Liberal economists have had a tough time explaining the excellent performance of the SOEs in the 2000s. Pettis tries to deconstruct this by arguing that the SOEs have outperformed the private sector in China because they have been in monopoly markets and so have extracted rents from the liberalized downstream sectors and consumers. This has a growth-undermining impact on the downstream private corporates. This marvellous performance should not be taken as a proof of their efficiency vis-a-vis the non-SOEs.

Has the Great Rebalancing already started? (August 2012)

After making rebalancing plans for the last few (seven) years, Pettis feels for the first time that maybe the long-awaited Chinese rebalancing may have finally started. He suggests some pointers for proceeding with the rebalancing and warns that trying to revive the unsustainable aspects of the economy ('bubbles') now will only lead to a hard landing (crash) of the economy.

How to be a China bull? (October 2012)

He argues that those who are bullish on China either base themselves on the past. That, the future will be like the past! Or they base themselves on predictions of others. That, China story is safe because so many reputed people have said so in the past. He says that the Chinese model has always been flawed but they have managed to avoid the consequences of their profligacy because of the high savings rate of the people.

When the Growth Model Changes, Abandon the Correlations (October 2012)

He argues that the China Growth Model is set for a change as the West will now import less from China and so China's growth rate is set for a deep dive.