Honors Lecture Series: Myths, Mysteries, and Miracles  
February 8, 1999

Economic Mandarins and China in the 21st Century

By Richard L. Hannah	rlhannah@frank.mtsu.edu
www.mtsu.edu/~rlhannah/homepage.html


I am amazed each semester by John Paul Montgomery's ability to devise
challenging and catchy themes for the honors lecture series.  I have tried
to live up to Professor Montgomery's flair by selecting complementing
titles for my past lectures--such as, if I recall correctly, "The Goose,
the Gander, the Gender: What is Economic Fairness?" and "It Ain't Mayberry
Anymore."  While the former may have stirred some controversy among the
student audience, I now regard the economic content as patent and I dare
say, in hindsight, somewhat passe.    And while the latter lecture is one
of the most boring presentations I have ever made, I still believe it most
insightful of socio-economic change in our era.

This year I shall endeavor to strike a balance in sticking to John Paul's 
theme--with some apology for altering the order of his descriptors in
order to streamline my comments.  I do hope that by the end of the 
presentation that the balance will lay not between boredom and
passe, but between controversial and insightful.  I shall also do
something I have not done in some years.  I have actually prepared a
formal lecture that I intend to read.  Ironically, in today's world of
techno-glitz information technologies, I now find this a rather refreshing
exercise.  My one concession to technology is that the entire contents of
this lecture, including resource links, are available on a web page which
I will reference at the end of this session.

By way of introduction
I can not claim to have been formally educated in Chinese studies, but
quite frankly in today's hyper-paced world of economic change, I do not
feel information impaired--especially with respect to events of the past
two decades in China.  So, while admitting deficiency in the deeper, often
more important, understanding of Chinese culture and history, the economic
rules and processes are changing almost daily in a way that one must see
and diligently monitor in order to gain an appreciation of the economic
drama in China.  In that context I've had the good fortune to visit parts
of China each of the past three years.  Still, I caution that observations
more than a year old with respect to Chinese economic development should
be accepted with a bit of skepticism.

A Bit of Economic History--See summary comments and linked references at:
Satellite Telecast: Virtual China
Colonial Era
WWII
Communism--equality of poverty, Great Leaps that went nowhere, 
	5 Year Plansthat didn't pan out, and a Cultural Revolution that is 
	one of the world's most sinister misnomers
U.S. Policy--containment, Nixon opening, human rights, engagement
Why is China Important Today?   Size Matters
--size of population, size of economy, size of ambition

\\\\\\\\\\\\\\\\\\\\\\\\\\\\\\\\\\\\\\\\\\\\\\\\\\\\\\\\\\\\\\\\\\\\\\\\

Perhaps the most instructive way to describe the economic miracle, myth,
and mystery of China in the emerging century is by biological analogy.

China: The Miracle

Prior to Deng Xiaoping's reforms beginning in 1978, China was
economically comatose.  Rather than fostering economic development, the
communist party was administering economic death.  This was being done
figuratively in policies such as the Great Leap Forward and the Cultural
Revolution, and literally in the starvation deaths of an estimated 30
million Chinese people, in part derived from misallocated resources in the
pursuit of industrial production of questionable value.  In this context
the end of such a massive human tragedy might aptly be characterized as a
miracle.  The disease of irrational economic dictates had at least been
put in remission by Deng's shift in economic policy, less attributable to
benevolence than to the recognition that continuing down the path of
dogmatic socialist economic policy would eventually spell the death of the
party elite.

Like similar regimes, the centralized government control of the economy
had essentially strangled the life from entrepreneurial activity and other
market processes--absolute necessities for economic survival and growth.

So imagine, the economic body on its deathbed, drawing ever more shallow
breaths and the communist power elite (brain cells if you will) looking
around to see the robust western economies ready for the wake.  Enter the
miracle--oxygenation and the miraculous recovery of the Chinese corpus.
In the parallel economic universe, market forces are oxygen, and the
unleashing of these forces in the past two decades in China has produced a
double-digit economic growth rate far surpassing the growth rates of
western market economies.  Even accounting for the usual mathematical
critiques of starting measurement from a low base level, and the generally
poor credibility of Chinese reporting of economic data, the consensus
amongst academics and policymakers alike is that "the Chinese economic
miracle" is worthy of articulating myth vs. reality.     

China: The Myth

While recovery from the brink may have been a miracle, the economic 
patient is not assured of a robust life.  A basic economic principle is that 
sustained dynamism of economic processes (i.e., markets) can not be
accomplished by decree, in China's case left to the Mandarins.  The evolution 
of markets must be driven by individual choices and incentives and they
must be unfettered enough to nurture spontaneous order of mutually beneficial
exchange of economic agents.  

A fair analysis requires recognition that Chinese officials have in fact
allowed street level entrepreneurial activity to flourish.  What the
Mandarin (translation: administrative) approach to economic growth and
development has not resolved is the disease of its own doing--government
control of the major industrial infrastructure and the attached legacy of
inefficiency, corruption, and stranded cost.

So the patient may have experienced a miraculous recovery, but it is far
from being a well-conditioned 21st century economic athlete.  The myth
that China will overtake the U.S. in economic size early in the next
century is perpetuated by poor intelligence and exotic ideas that are
better drama and more popular press than sound economic reasoning.  Why?

The Chinese economic body is resuscitated, and given its near death state
has recovered impressively, but world class economic conditioning requires
more than the oxygen of markets.  Holistic medicine and patient
participation are required.  In the case of China, I fear that a willing
patient does not make the attending physicians more intelligent.

While we must be on guard not to erroneously assert western ideals and
ideas in an unwarranted manner, certain economic truisms cut across all
cultures and locations.  One is that politicians and dictators are not
smarter than the collective populace.     

China's Realities and Mysteries in the 21st Century

A student of today's China is well served by a healthy taste for the
ironic, the enigmatic, and the paradoxical.  China can be a very exotic
place of the imagination or reality.  In this final segment of my lecture
I'd like to articulate some of the realism offered by scholars who I think
accurately capture the current state of affairs. I will sketch the reality
and mystery of several of these ideas, first by describing China's
internal economic environment and second by commenting on China's place in
the global economy.  This of course requires some speculation on my part,
but that's what I'm paid to do today, so I'd like to give your money's
worth.

Internal Economic Forces

Reality
If one had visited China several times during the past decade, the
observation that there is something innate in the human spirit about
entrepreneurial incentives would be inescapable.  Street level enterprise
has spread like wildfire, needing only the passive approval by the
communist regime.  This is a clear-cut example of spontaneous adjustments
through markets.  However, there is a bigger, though less successful
story, that of State Owned Enterprises (SOE's).

SOE's are the government owned industrial infrastructure that presents an
extremely difficult challenge to the conversion from an economy based on
government ownership and central planning to a market economy based on
private property and decentralized decision making.  Most SOE's are money
losers, in part because there is no market discipline to make them more
efficient, and in part because they have historically been responsible for
workers' housing and a comprehensive array of social security expenses.  

Just imagine being a woefully inefficient producer (no incentives) with a
bloated workforce (that by government decree can not be reduced),
producing goods or services that quite often are not even desired in the
marketplace. You might ask how SOE's stay afloat.  Well the Mandarin
solution is to require other SOE's to buy their output at artificially
high prices sufficient to service the seller's cash flow needs--i.e., a
guarantee that all expenses will be covered.  And then, even if SOE's are
still losing money, loans from state owned banks are available, loans
which are very unlikely to be repaid.  This of course leads directly to
the insolvency problem with Chinese banks, with an estimated 25% to 30% of
outstanding loans being uncollectable.  You don't have to be an economics
student to grasp the drag this places on any system with aspirations to
become a world class economic dynamo.

So why doesn't China jump headlong into privatizing SOE's?  Estimates are
that trimming employment in the SOE's that can be saved and shutting the
doors on those that can't will generate 100-200 million unemployed
workers--not acceptable to a regime paranoid about its own political
stability and continuity.  Hence, the Chinese are pursing an economic
reform policy of gradualism, a policy of slowing the pace of change such
that there is not "unmanageable" social disruption.

However, a closer view of the segment of the Chinese economy that is
supposedly privatizing reveals interesting insights.  Let's consider Joint
Ventures, Township and Village Enterprises (TVE's, or collectives--by U.S.
analogy consider these similar to local governments).  In fact, the shift
has not been one of privatization in the western sense.  For example, the
19 percent relative decline in the gross value of SOE manufacturing
production between 1991 and 1994 was picked up by these kinds of
"quasi-private" organizations.  [Mueller and Tan, 1997, p. 69]   

This broad brush of internal economic realities hardly points to the type
of economy that is poised to overtake the U.S. early in the 21st century.

Mystery
One mystery is whether the gradualism advocated by the communist regime is
better than an immediate leap into privatization of industry.  The western
analogy often used is that attempting the transformation from socialism to
capitalism with a gradualist approach is like trying to leap a deep ravine
in two steps; failure is assured.  The Chinese response is that gradualism
is more akin to finding the right stones to ford the stream.  

Without being an apologist for Chinese leadership I think it fair to say
that the western view advocating "damn the chaos, full capitalism ahead"
(or, "The Great Leap Forward" ideology turned on its head) is historically
insensitive to the potential scale of human tragedy in China--tragedy
already experienced in war and famine of this century.  The Mandarin
choice of gradualism seems inescapable.  The mystery is whether that
choice contains a shred of moral purpose or is simply a calculated method
to maintain those in power.  

I confess the recent persecution of political dissenters leaves me no
cause for optimism.  How can the full weight of the nation-state of 1.2
billion people be threatened by a few dozen voices?  Either power is more
fragile, or paranoia more pervasive than we have thought.  If there is
cause for hope on this front, it may lie in the autonomy of the provinces
that seem to largely ignore, or at least mitigate, the central
government's enthusiasm for persecuting political dissent.

A final comment on mystery is the nature of practical and theoretical
economic analysis with respect to China.  While the theorist may not
relinquish dogma, some sensitivity to reality of definitional distinctions
is important.  Perhaps Mueller and Tan said it best.  I quote, 

"New market entry in China comes from the movement of government agencies
into commercial markets.  Although a so-called nonstate sector is growing
in its contribution to output, an autonomous private sector is far from
being a reality.  A classification scheme that sharply distinguishes
between the public and private sectors and that focuses exclusively on the
firm as the unit of analysis is inadequate in China.  In reality, market
forces are being channeled into local governments and the ministerial
hierarchies at the national level.  These hierarchies are still the source
of capital in China, and in many ways their exposure to market forces is
strengthening rather than weakening them."  (Page 71) 

Chinese philosophic heritage and markets.  Much has been written in the
past decade about Asian values as related to market success.  The only
comment I am comfortable making on this matter is that there may be
interesting insights gained by tracing Chinese intellectual traditions
with respect to applicability and acceptance of the idea of a "natural"
order of markets, the role of government, and the rule of (vs. rule by)
law.  (See Mote, 1971 and Dorn, 1998.)  

A common theme seems to be the search for the best way to achieve social
order.  From the perspective of intellectual history, there are few
contrasts between East and West that are so sharp.  The current Chinese
regime relies on the human imposed order of the communist state while
market driven western systems esteem the creative destruction by
capitalist systems.  The concept of individual liberty in the latter
system works within markets because people gain property and with property
comes responsibility and the desire for individual freedom to act in
responsible self-interest.  It is this linkage that leads some highly
respected China experts to assert that Chinese market-socialism is like
being a little pregnant, a state that can not be maintained.  (E.g., see
Patten, 1998.) 

Low Tech vs. High Tech.  This is an intriguing economic question for
China.  With its abundant and relatively inexpensive labor, economic
theory leads to the conclusion that China should focus on low tech
manufacturing as its comparative advantage in the global economy.  While
the migration of manufacturing industry from Hong Kong and Taiwan into
China has clearly been taking place, as a national policy China is also
transfixed on high tech acquisition through trade and then force feeding
its economy with domestic production from this sector.  Aside from the
motivation for military applications, in the absence of a broad economic
rationale, we must look elsewhere for an explanation of why China is
pursuing a policy of technology acquisition that is counterintuitive to
accelerated economic development.

One very interesting thesis with respect to the critical area of
information technology (put forth by Mueller and Tan) is that the
mentality of the economic administrator is predisposed to believe that
advances in this field will in fact finally offer the tool needed to
implement central planning.  Most serious western economists would find
the plausibility of such "success" in this technical superstate laughable,
and I agree.  What is not laughable is the enhanced capability of this
technical superstate's surveillance and policing of its own populace.  On
this count China wants western capital and expertise, but maintains a
total (and unique) ban on foreign ownership and operation of
telecommunication services.  (Mueller and Tan, p. 105)     

China's Place in the Global Economy

Reality
Trade.  The U.S. has been the leader in the policy of economic engagement
of China.  If nothing else our $40 billion trade deficit illustrates this
point.  As a practical matter we seem to be perpetually renewing the Most
Favored Nation (MFN) for China, but manage to straddle the fence by
refusing to vote for China's entry into the World Trade Organization
(WTO).  China is a tough customer in international trade negotiations, but
America has gained some small concessions, such as protections for
intellectual property.  With respect to foreign investments in China two
key factors are in play.  One is the establishment of the rule of law in
business relationships (rather than guanxi).  The other is transparency in
financial reporting and dealing.  

Foreign Investment.  When China began economic liberalization in the late
1970's, the philosophical justification was catchy pragmatism: one
country-two systems (or the evolution to a socialist-market economy).
Over the years this one-two terminology has evolved to rationalize other
economic developments, such as the Hong Kong hand-over in 1997, the
world's unique example of the peaceful acquisition of a capitalist system
by a socialist one.  Furthermore, China has tried to limit the influence
of western values that come with foreign trade and investment by creating
special economic zones to encourage but geographically confine the
non-economic exchanges.  (Note that FDI was $45.3 billion in 1997, about
2/3 from Hong Kong and Taiwan.)  This policy of containment on the
mainland is not effective.  China has been infected by capitalism and the
fever has begun to run its course.  With this attempt at containment a
whole new set of issues has arisen with respect to regional inequality of
economic development.  Some might argue that this further intensifies
economic decentralization, and this in fact appears to be the case.
(Hook, 1996)  However, this economic state of affairs is still much
confused when assessing the potential impact on political
decentralization.

The Matter of Economic Size.  China's 1997 GDP in nominal U.S. dollars was
$957 billion compared to approximately $8 trillion for the U.S.  Measured
another way the Chinese per capita GDP was $769, compared to $26,835 for
the U.S.  Economists sometimes compare such variables in terms of
Purchasing Power Parity (PPP), which, I'm oversimplifying here, is
intended to reflect the relative purchasing power, in this case, due to
lower prices in the home country.  If viewed this way, China's economy is
much larger than the conversion to U.S. dollars indicates.

			PPP GDP
U.S.			$8.1 trillion
China			$4.4 trillion
Japan			$3.0 trillion
Germany			$1.6 trillion

Computation of PPP also raises the Chinese per capita GDP to $3,560.
However, this is still only about 12% of the U.S. per capita GDP.

     
Food.  Economic growth means accelerated industrialization.  This has
meant increasing losses of rich agricultural land, increasingly scarce
water resources, and faltering food production--all in the face of rising 
food demand in terms of quantity and quality.  While China will likely earn
enough foreign currency to purchase its future grain needs on the world
market, the potential magnitude is staggering, by one estimate likely to
grow to 200-300 millions tons per year.  This is nearly double the entire
current world grain surplus produced annually.  Therefore, China's
environmental, industrialization, and food policy will have a dramatic
impact on world markets, and eventually the political stability of more
economically disadvantaged grain importing countries.  [Brown, 1995] 

Mystery

Greater China .  We can no longer only think of China in terms of old
geographic boundaries.  The British hand-over of Hong Kong in 1997, which
by the way was equal to one sixth of the entire mainland economy, and the
Portuguese hand-over of Macao this year have been matter of immense
political prestige and importance to Chinese leadership in framing the
Greater China policy.  Next on the table is Taiwan.  However, long before
this may ever take place, China is already attempting to create a more
positive sphere of influence in Asia.  Whether this policy is successful
in years to come is no small mystery in itself, but this is only a part of
a larger mystery of whether a 21st Century Greater China would be founded
on military or commercial power.  

Currently, China is in no position to seek empire based on military might.
Nor is China currently capable of casting about substantial and sustained
economic favors in Asia in order to build political capital.  Perhaps more
intriguing is the building of commercial empire in consort with Hong Kong,
Taiwan, and the millions of ethnic Chinese scattered throughout Asia and
the Pacific Rim.  It is often said that the first loyalty of Chinese is to
commerce.  Despite the differences in political systems in which mainland
Chinese vs. other ethnic Chinese reside, the investment, trade, and
continuation of personal relationships seem to continue unabated.  

Is China Potentially the World's Largest Single Market?  An assessment of
the current economic system in China is not persuasive on this matter.
The "largest single market" hypothesis is in my opinion the wrong track of
thought, especially in the context of the emerging European Union, NAFTA,
and other trading blocs that, while they may not be defined within a
single national boundary, are often more penetrable than China's
quasi-market.  Projections to the contrary are heroic hype.  My assessment
is perhaps best illustrated by an example of some exceptional insights
provided by a graduate student who completed an independent study from me
last semester.  Martin Murray's paper on the GM-Shanghai investment is
most instructive.  [Summary given.]

The point of this story is that a billion dollars is a significant
investment hitched to administrative whim.  I concede that thinking
globally is essential in the long-term economic environment, but the
current risks in China appear to outweigh the rewards in many cases.  The
psychology that seems to drive major corporations is that the risk of not
being a part of the Chinese market is much greater. 
 
Final Comments
I began this lecture with the biological analogy of markets as the
economic oxygen that "miraculously" saved a dying China, which is now
undergoing something of an economic conditioning regimen that will
determine what parts of the old system will thrive and what parts will
die.  As an economist I find the economic reality more intriguing than the
myths that are perpetuated in such popular notions as Asian values, or
convergence of East-West socio-economic-political systems.  The real
mysteries of the future of Chinese economic evolution lie in one key area.
Are those in power willing to liberalize natural economic and derived
political processes in a way that ultimately requires that they give up
power?  On this point, though an economist, I am required to offer a
political note.  The state of mind of the current Chinese leadership seems
still to be transfixed on the real or perceived threat to the political
state from a few dissenters.  There is not much mystery in the intent of a
government motivated to such repression.  

In the end, Chinese leadership may be missing the most fundamental point.
Economic growth is creating complex systems and processes that can not be
managed or administered in the Mandarin sense, at least not without
degrading economic potential.  Truly progressive steps into the 21st
century will require significant political changes to let the economy
breathe in a natural, unobstructed, self-regulating manner.  The Mandarin
state is ill-suited for this kind of economic life form.

Finally, if there is economic mystery in the moral sense, its de-cloaking
lies in whether Chinese leaders will ever accept the principle that
economic and political freedoms are inseparable.  As an academic or
practical question western belief is clearly that these freedoms are not
separable.  But contrary beliefs and values held by an exclusive and
self-perpetuating power elite almost always tempts them to contradict
history.  This of course is ultimately not just a Mandarin or Chinese
question.  We must all alignment our sense of morality and self-interest.
An interesting aspect of most of the economics profession is the
harmonization of these two traits.  But I'll have to leave that mystery to
another lecture.

Postscript added after lecture given.
One of the great ironies of the Mandarin economic policy is the "8 percent
solution."  In order for China to successfully chart a course of
gradualism the economy must grow at about 8 percent per year to absorb the
unemployed in the transition.  This is an extremely high growth rate to
sustain for even a very few years, but the real complication is that the
economy becomes less responsive to administered controls as it gains in
size.  Thus, in a nutshell the Mandarin solution is a spiral toward
Mandarin irrelevance.  Successful policy requires 8 percent growth, and 8
percent growth means government administration is less and less suited for
a modern market economy.



References

Brown, Lester R.  1995.  Who Will Feed China?:  Wakeup Call for a Small
Planet  New York: W.W. Norton & Company.

Dorn, James A.  1998.  China in the New Millennium.  Washington, D.C.:
Cato Institute.  See Dorn's essay, "China's Future: Market Socialism or
Market Taoism?"

Hook, Brian, editor.  1996.  Guangdong: China's Promised Land.  Hong Kong:
Oxford University Press.  

Mote, Frederick W.  1971.  Intellectual Foundations of China.  New York:
Alfred A. Knopf.

Mueller, Milton and Zixiang Tan.  1997.  China in the Information Age:
Telecommunications and the Dilemmas of Reform.  Westport, Connecticut:
Praeger.

Patten, Christopher.  1998.  East and West: China, Power, and the Future
of Asia.  New York: Times Books.

Van Kenenade, Willem.  1997.  China, Hong Kong, Taiwan, Inc.  New York:
Vintage Books.