Nate Smith

Economic Growth in China

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One argument that is used to support free markets is to point out that states or countries that are more free tend to be more prosperous. It is often pointed out now that California and Illinois are two states that are in financial trouble because of statist regulations, America rose to great power relatively quickly due to its freedom, and East and West Berlin were great examples as well.

Given this, how would one account for China's growth? It is now has one of the largest economies despite a communist regime in power over the last few decades.

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Largest economy on what scale? Per capita? Per IQ? EQ? Ambition Units?

You're talking about an "economy" that is assigning people to carriers based on DNA tests.

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Given this, how would one account for China's growth? It is now has one of the largest economies despite a communist regime in power over the last few decades.

And China is such a great place that all of their young scientists flood the grad schools, research labs and industries of western nations. Why is it that no Americans do the same in China?

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China is now a Fascist state. It is gradually releasing production from total state control, although it still controls the results of such production. When a country with nearly a quarter of the world's population starts from such a low base; one of total control over the economy, the relative freedom given to normally enterprising people will result in spectacular gains. It is possible for a dictatorship to reduce restrictions on production to a greater level than so called "free enterprise" economies tied down with Green tape and welfare burdens.

The question now, is what happens to China as they try to keep the freer parts from overthrowing the system. Another Tainemin Square?

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Because China isn't a communist country in the 20th century sense. It's a defacto mixed economy.

I read rationalistic comments all the time to the effect that China isn't "really productive" - the irony being that these are comments being typed from people on computers using parts very likely manufactured in China while wearing clothes made in China. That a mixed economy where a nominally communist government is doing better in many ways than America, says more about the degraded condition of America than anything else.

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I read rationalistic comments all the time to the effect that China isn't "really productive" - the irony being that these are comments being typed from people on computers using parts very likely manufactured in China while wearing clothes made in China. That a mixed economy where a nominally communist government is doing better in many ways than America, says more about the degraded condition of America than anything else.

Things are made in China not because they do things better, but because they have a billion man army willing to work at low wages and in less comfortable conditions. If Western countries weren't so over-regulated and over-unionized China would probably be a shadow of what it is today.

If you want to pay the lowest price for a product, you probably buy something made in China. If you want to buy a nice product, one that is made with care and will last a long time, you don't by Chinese products.

Americans have nothing to envy about a disturbing statist country where life is cheap. You can call it a mixed economy and draw comparisons to America all you like, but we haven't had Tiananmen Squares or blatantly oppressed innocent people like what the Chinese do to Tibet and Taiwan.

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I read rationalistic comments all the time to the effect that China isn't "really productive" - the irony being that these are comments being typed from people on computers using parts very likely manufactured in China

Supposedly these electronic gadgets are mostly assembled in China, while the high-tech components are made in Taiwan or other countries.

http://r-center.grip.../docs/11-05.pdf

Of US$377 billion high-tech exports, 82% was processed/assembled high-tech

products, mainly made of imported parts and components from industrialized

economies, such as Germany, Japan, Korea, Taiwan and the US. China contributed

very little intellectual properties to these assembled high-tech products.

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More interesting stuff:

For example, some analysts believe that China is the world’s “leading technology-based economy” because it exports more high-technology products than any other country.

But Chinese high-tech exports are not very Chinese and not very high-tech: Over 90 percent are produced by foreign firms and consist of imported components that are merely assembled in China. These percentages have increased over time, a trend that suggests Chinese firms are falling further behind foreign competitors. Indeed, in any category – research and development, patents, profits – Chinese high-tech firms have fallen further behind their American counterparts over the last two decades.

Another misleading statistic is China’s debt-to-GDP ratio, which the Chinese government lists at 17 percent. America’s debt-to-GDP ratio, by contrast, will remain above 60 percent through 2020.

RELATED: China is ripe for its own Occupy protests

But most Chinese state spending is not reported in official figures because it is funneled through investment entities connected to local governments. Studies that account for this spending place China’s debt-to-GDP ratio between 75 and 150 percent.

And things are only likely to get worse for China. Because of the one-child policy, China will soon suffer the most severe aging process in human history. The ratio of Chinese workers per retiree will plummet from 8:1 today to 2:1 by 2040. The fiscal cost of this swing in dependency ratios alone may exceed 100 percent of China’s GDP. The American working-age population, by contrast, will expand by 17 percent over the next 40 years. America’s fiscal future may not be bright, but it is brighter than China’s.

http://www.csmonitor.com/Commentary/Opinion/2012/0124/3-reasons-why-China-isn-t-overtaking-the-US/Many-observers-rely-on-flawed-indicators-to-gauge-Chinese-economic-power

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Since 1991, China’s per capita income grew 15 percent annually, and its military spending rose 10 percent annually. By contrast, America’s per capita income and military spending grew at annual rates of 4 percent and 2 percent respectively. Yes, 15 is greater than 4, and 10 is greater than 2. What could be simpler?

But growth rates are not comparable. The average Chinese income in 2010 was $7,500. Fifteen percent of $7,500 is actually less money than 4 percent of $47,000, the average American income that year. Despite China’s higher growth rates, the average Chinese citizen is $17,000 poorer compared with the average American today than he was in 1991.

OPINION: World to US: ‘You’re No. 2’ – but can China be No. 1?

Over the same time period, Chinese military spending declined by $140 billion relative to America’s, even when excluding funds for the wars in Iraq and Afghanistan. China’s growth rates are high because its starting point was low. China is rising, but it is not catching up.

From that same article.

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Mainland China is no longer a serious Marxist-Leninist State. It has morphed into a thug fascist State with a non-inconsiderable market subsystem. Culturally it is far from capitalist. Historically it is matched to the Confucian philosophy. I think we should be glad that Mainland China is no longer in thrall to the Marxist Leninist nonsense. But do not forget for a moment that Mainland China and the U.S. are adversaries.

ruveyn

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Given this, how would one account for China's growth? It is now has one of the largest economies despite a communist regime in power over the last few decades.

China grew because the theory itself is correct--more freedom equals more prosperity.

You may want to build up your knowledge on the economic history China and its economic reforms before you question why the theory itself is wrong. Note that having a party in power with "communist" in their name does not influence economic growth; what influences economic growth are the laws and economic regulations that such a party would put in place.

The majority of China's prosperity is derived from the areas in which people have been set free to a large degree. Much of the country has not undergone economic reform, but the illegal migration of millions of people to these more free areas is what is driving economic growth. If the Hukou registration system is abolished, expect a boom in China that will far surpass the last 20 years as hundreds of millions of people will crowd themselves into coastal FTZ's.

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Despite China’s higher growth rates, the average Chinese citizen is $17,000 poorer compared with the average American today than he was in 1991.

I do not know how to decipher that sentence. The "average" Chinese citizen is vastly richer today than he was in 1991. Also, the median American has not gotten richer since 1991, although maybe the average American has.

Take a look at the numbers for significantly economically reformed megacities with FTZ's like Shanghai http://en.wikipedia.org/wiki/List_of_Chinese_administrative_divisions_by_GDP_per_capita#Historical_GDP_per_capita_.28PPP.29

China is enormous and does not contain one economic system. This is hard for outsiders to understand, because many people come from places where there is national regularity in the economic system. China is best looked at like we look at whole continents--it is a massive land mass with over a billion people, many cities of over 100 million, many administrative regions with vastly different economic systems, many cultures, races, languages, etc. Imagine if Obama set up a Hong Kong in New Orleans, and you can understand the regional differences in government.

"China" has not really developed massively in the last 20 years. Coastal cities with free trade zones have developed massively in the last 20 years. The rural interior is run by a nearly identical economic system as it was 20 years ago--take Tibet for example. The government has redistributed money from some areas to help improve transportation networks and infrastructure in the impoverished areas, but those areas have not seen significant home grown growth. Note that it is not a simple as just the interior vs the exterior though, the province of Inner Mongolia has been undergoing a commodities boom. Interior areas like Chongqing have loosened industrial and trade regulations.

If you go to China, you'll see what a free market economist would expect to see: relative prosperity in the freer areas and less prosperity in the more regulated areas.

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Things are made in China not because they do things better, but because they have a billion man army willing to work at low wages and in less comfortable conditions. If Western countries weren't so over-regulated and over-unionized China would probably be a shadow of what it is today.

I disagree. If Western countries were less regulated and unionized, both the West and China would be vastly richer than they are today.

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China is the biggest malinvestment case the modern world has seen, dwarfing Japan and even the US mortgage bubble. It follows a classical pattern of booming markets for a while giving the illusion of a "superior system" as FDI flows in, followed by an economic collapse as the FDI flows back out like a herd.

It's tough to sum up why in a post. I would like to do it but have short time (the time for my washing machine to finish) and little inclination for oversimplifying a mix of good and bad.

I found the following frameworks for thinking about China helpful:

- http://www.bwater.co...hine-works.aspx - especially Why Countries Succeed and Fail Economically;

- The Alchemy of Finance, by George Soros, showing a few concrete examples of what it is like to be at the heart of a few bubble cycles;

- Why Nations Fail by Acemoglu/Robinson: so far the most successful attempt at linking with examples political and economic freedom, and economic success, and a favourite in the hedge fund world (amongst the better ones especially);

- the famous Rogoff/Reinhart study "This Time is Different", worth buying as a book, which looks at 600 years of malinvestment cases (the style is still quite academic making this a hard read);

- Clissold's "Mr China", showing juicy real life examples of attempting to operate as a foreign investor in China;

- Lee Kuan Yew's "From third world to First", not directly related, but one of the best if not the best book written on taking a country from third to first world status in a single generation, with thoughts regarding neighbours and analysis of China's position;

- "Red Capitalism" by Walter, exploring the way in which Chinese endeavours are financed, which is chilling for anybody versed in sovereign investing;

- many of the books on Japan, such as Tett's excellent "Saving the Sun" (warning: heavy on financials; if you are not a fan, don't bother).

Understanding why China is broken requires some economic knowledge and awareness; it's about understanding beyond the headlines grabbing "look at these dead activists" part and focusing on why bank deposits at 4.5% are a form of highway robbery, or why the Shanghai exchange has moved only a fraction of the real value of companies on it. From personal experience, I can confirm much of what is said in the above and have many juicy anecdotes which unfortunately cannot be retold here. Let's just say we prefer operating in Nigeria, and even Myanmar, than the PRC. Fraud is systematic, business partners actively want to harm you, and the local laws overwhelmingly favour the locals. Property rights, if you do not have a Chinese passport, are a temporary favour granted to you in exchange for you blowing more money locally.

Touching on points made earlier:

China is now a Fascist state. It is gradually releasing production from total state control, although it still controls the results of such production.

The vast majority of what is exported comes from the "private" sector which runs independently of the government (then again, define "government" in China's case - does Beijing really call the shots in Guangzhou or Fujian?). In some places, the private sector built infrastructure like roads and power supply. Beijing does not DARE take back these areas. They coexist uneasily since they have aligned interests.

Duke's points are excellent, if unrealistically optimistic about what happens in the next 5 to 10 years. The prosperity base case is far from the most likely.

Carlos correctly points out that the Chinese military is worth little. The indicator of shifting global military power is actually Australia, which is wholly dependent on global sea commerce safety and thus shifts allegiance to whichever country yields domination of the most important routes (i.e. of the world, militarily). Despite China being responsible in large part for Australia's recent boom (I will come back to that), Australia didn't think twice before allowing Americans to host a few thousand more Marines in Darwin, causing some uncomfortable noise from high up in Beijing.

Things are made in China not because they do things better, but because they have a billion man army willing to work at low wages and in less comfortable conditions. If Western countries weren't so over-regulated and over-unionized China would probably be a shadow of what it is today.

Businesses outsource to emerging markets because most costs are lower and transport costs are very low. That part is correct. However, China just happens to be where we were 100 years ago - with a cheap workforce providing ample labour, a growing industrial sector absorbing it, and consequently a good case for lower costs to eb maintained temporarily. This is changing. Already, real estate costs are such as to drive local salaries higher. A friend running a Asia ex-Japan private equity fund is actually relocating all production facilities for portfolio companies into South East Asia.

China is not special, it's just big and hasn't blown up yet. But the pattern is very similar to what you saw in Japan in the 1980s (except here, the roads wash away with rain) and Latin America in waves throughout the second half of the 20th century (in fact, Latin America has bankrupted Europe several times in the 17th and 18th century, but that's another story - covered in some of the above sources).

If you want to pay the lowest price for a product, you probably buy something made in China. If you want to buy a nice product, one that is made with care and will last a long time, you don't by Chinese products.

Untrue. Many Chinese companies are excellent at manufacturing - where is your iPhone made?

It's a question of catching up with the status quo, and if you continue to be overinvested in and have cash to burn, taking over. We haven't seen this in China, much, yet, but companies like Foxconn in B2B show it's possible locally. Internationally, look at South Korea: Samsung and Hyundai both started off making terrible products, ate through the learning curve in an accelerated manner, and now compete globally with the market leaders. (there is however a world of difference between South Korea and China; South Korea, together with Singapore and Israel, is actually an exception to the usual pattern).

If you want to short China, avoid exposure to Chinese things, instead, look for high correlated things like Korea or Australia. The price of Chinese things is manipulated locally, and even should you manage to make money on paper, you will not be allowed to collect it.

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Untrue. Many Chinese companies are excellent at manufacturing - where is your iPhone made?

China doesn't make electronics; they assemble them, meaning the skilled, high-tech part of the labor is handled by people in the US or Europe. I quoted this earlier from a news report about China's tech exports

But Chinese high-tech exports are not very Chinese and not very high-tech: Over 90 percent are produced by foreign firms and consist of imported components that are merely assembled in China.

http://www.csmonitor.com/Commentary/Opinion/2012/0124/3-reasons-why-China-isn-t-overtaking-the-US/Many-observers-rely-on-flawed-indicators-to-gauge-Chinese-economic-power

Regardless, if you want shoes or a belt of high quality, you don't buy Chinese products. You get something else, like Italian-made.

Random Anecdote: one wedding gift my wife and I received arrived not functioning, and only partially assembled. It was "made" by some company in China, and the item manual had unreadable English and no help numbers or contact info for sending our complaints. We finally got in contact with the distributor in the US who sent it to us, and were were sent another identical product, not working. There are many companies in China who do these kinds of scam products because there's no way for us here in the US to get them in trouble about it.

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"China doesn't make electronics; [...]"

http://www.alibaba.com/showroom/ic-manufacturers-china.html

http://www.pwc.com/gx/en/technology/chinas-impact-on-semiconductor-industry/integrated-circuit-ic-production.jhtml

"China's semiconductor industry grew by 14.4% in 2011 to reach a record $43.5 billion. Measured in US dollars, China's semiconductor industry growth was more than ten times greater than that of the total worldwide semiconductor industry."

http://seekingalpha.com/article/125540-mainland-china-s-integrated-circuit-production-continues-to-expand-rapidly

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Not surprising. The People's Republic of China is the Cheap Labor Capital of the World.

Companies in the U.S. are dumping their workers into the dole hole and going to China to have things made.

ruveyn

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"China doesn't make electronics; [...]"

Phil, did you understand the nature of my point, which is the majority of Chinese high-tech exports are actually just assembled in China, with the high-tech components made in other countries? Did you even see the links posted earlier in the thread?

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http://r-center.grip.../docs/11-05.pdf

Of US$377 billion high-tech exports, 82% was processed/assembled high-tech products, mainly made of imported parts and components from industrialized economies, such as Germany, Japan, Korea, Taiwan and the US. China contributed very little intellectual properties to these assembled high-tech products. However, when these assembled high-tech products are shipped abroad, the Chinese Customs

classifies them as high-tech exports, regardless whether China’s contribution is labor or technology; the entire value of these assembled high-tech products is credited to China, regardless whether most of key parts and components are imported or domestically made. Therefore, current trade statistics are misleading and greatly inflated China’s exports in high-tech products and created a myth. If the value added approach was employed to record trade flows, the value of the high-tech exports would shrink significantly.

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Carlos - you made an unqualified comment in the preceding post, "China doesn't make electronics". I was responding specifically to that completely wrong statement, regardless of the percentage of their "high-tech exports" that use imported parts.

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Are the Chinese responsible for 100% of the supply chain, no. Can Chinese firms manufacture excellent products, yes. Can Chinese firms take over most of the supply chain right up to design, and eventually, R&D investment, yes. Is China ever going to overtake the US in innovation? Clearly not. Most important innovation will continue to occur in countries where property rights are respected and with a history and network of supporting knowledge (stand on the shoulders of giants, et al.). The vast majority of patents are useless.

But the story of China as the eternal source of cheap bad quality stuff, is similar to the 1970s story of Japan as the eternal source of cheap bad quality stuff. Those Honda bikes mentioned by Clayton Christensen in his various innovation books led to cars that completely destroyed the competition for decades (much as the Koreans are starting to do) in terms of value for money.

Re: IP, it starts with copying. I am quite worried that Comac could copy a complete A319 with impunity. The saying in industry is don't build a factory in China unless you want a Chinese competitor to spring up within a month.

Re: high quality, you'd be amazed what you can get in Shanghai. It's like everywhere - good companies, bad companies. People then fit anecdotes in the mental framework they feel most comfortable with. If China will fail, it will not be through the lack of skill or drive of its entrepreneurs but because of its political structure and classic high level of corruption and dysfunctional governance, coupled with a lack of clear property and individual rights.

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Re: outsourcing workers, it's a simple cost/profit equation (mostly on the cost side). It costs you less to build, costs you less to maintain, costs you less to match regulations, and costs you less to hire and train staff. However, it costs you more to retain staff and have them work productively, costs you more to ship stuff across the world, costs you more to sort out quality issues, and costs you more to get your factory confiscated, destroyed or closed down (this risk can be priced), funding funneled to the local Party member or other crook, managers imprisoned, or goods impounded for illogical reasons. For as long as the addition of these cost differentials favour making things out of the US, things will get made out of the US. As China gets more expensive, they'll go to South East Asia. As South East Asia gets more expensive, it will go to whichever African place is close to a sea route and safe. In every case a Democrat somewhere is going to complain about the loss of American jobs. These jobs aren't "American". It costs a certain amount to build something, and if your competitor is selling the same thing cheaper, you go out of business.

This is, by the way, the same dilemma facing banks as the Feds moved into their markets. As Fannie Mae was taking over the mortgage market by lending way below cost, you had a choice between staying, and hoping for a bailout when it blew up, and closing shop, and hoping it would blow up soon so you could raise funds and restart. I suggest anybody interested in understanding the pressures undergone by management in those days read the RBS annual reports from 2004 to 2008 included.

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Carlos - you made an unqualified comment in the preceding post, "China doesn't make electronics". I was responding specifically to that completely wrong statement, regardless of the percentage of their "high-tech exports" that use imported parts.

I made a figure of speech, which you removed from context and took literally. "China doesn't make electronics; they assemble them" referred to the well-known fact that the majority of high-tech exports are assembled in China, not made from the bottom-up. Slicing up statements and taking the isolated parts literally is like claiming that Romney is a sexist who "binds women", ignoring the obvious figure-of-speech meaning.

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China doesn't make electronics;

Neither does Canada.

Regardless, if you want shoes or a belt of high quality, you don't buy Chinese products. You get something else, like Italian-made.

You get a Coach bag, which is made in China. (I don't know anything about "quality" in clothes but I hear my partner mention that brand, and the bags are expensive considering their relative cost efficiency at serving the purpose of "holding stuff" which free plastic bags also accomplish for me).

Anyway, check out the specs for the Huawei Ascend Mate and tell me what you think. It looks like it will be the fastest smartphone on the market when its released, depending on how Huawei's home grown processor stacks up to the quad core Samsung Exynos in the Note II.

There are many companies in China who do these kinds of scam products

You've probably heard the jokes about American manufactured consumer items. Higher prices for less quality. I can literally rip an American Apparel shirt down the back when I put it on.

But yes, every developing country you go to you'll find fly by night, short-term thinking operations. That's par for the course in most developing countries you go to. China separates itself from the rest to a certain degree in the last 20 years and that's why manufacturing has grown there. Wages are getting too high to make clothes now though. The Korean people I know have factories in places like Indonesia or (increasingly) Bangladesh if they make clothes. That's why Coach has recently increased their prices in the last year as wages have been rising in the manufacturing areas of China.

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