CHINA

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CHINA

• The Great Awakening

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Historical Background

• The Peoples Republic of China developed from
• The Soviet central-planning system

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with its information, incentive, and
inflexibility problems.
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Historical Background

• The Peoples Republic of China developed from
• The confusion and economic disaster stemming
  from the policies of Mao Zedong

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China Under Communism 1949-1978

• The Great Leap Forward, 1958-1960
• Maos version of Soviet Style Central Planning
• Forced industrialization
• A steel mill in every back yard
• Disappearing tools and famine

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China Under Communism 1949-1978

• The Cultural Revolution
• Red Guards and permanent revolution
• Remove all productive people (capitalist
  roaders) to the countryside

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Enter Deng Xiaoping, (Three Times Altogether)
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The Reforms of Deng Xiaoping

• Phase 1 Reform the Countryside, 1974-1978
• Deng restructured incentives, making it
  profitable for peasants to produce.

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The Reforms of Deng Xiaoping

• Phase 2 Financial and Enterprise Reform
• 1983, SOEs had to meet negotiated output targets,
  but could then sell any excess in markets.
• Managers set wages, made investments, retained
  profits.

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The Reforms of Deng Xiaoping

• An open door policy announced 1979
• Four Special Economic Zones were created to
  open regions to foreign investment and
  partnerships
• Markets rather than central direction

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SEZs located in

• Guangdong Province
• Fujian Province
• Hainan Province
• Hunchun
• Pudong Development Zone (Shanghai)

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The Purposes of SEZs

• As a laboratory to provide reform experience for
• the inland regions.
• Promote Inflows of foreign investment,
• technology, and managerial techniques

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Policies in the SEZs

• Domestic decentralization, no planning or
  regulation from center
• Tax incentives to foreign investors

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The Result an Example

• Shenzhen, a small border town, changed into a
  modern city
• In the early years, the average annual growth
  rate was over 80 percent

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The Result an Example

• Per capita GDP was 7 times the nations
  average
• Foreign investment and exports were the primary
  engines of economic growth

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Shenzhen The Early 1970s
Shenzhen Today
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The Reforms of Deng Xiaoping

• Phase 2 Financial and Enterprise Reform
• The economic boom continued, but
• There was political rebellion (Tiananmen Square,
  1989) and subsequent retrenchment

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But Communistic Legacies Remain

• The State-owned enterprises remain a part of
  contemporary China, and they need reforms.
• The Communist Party of China remains and needs
  reforms.
• Authoritarian methods and bureaucratic traditions
  likewise remain.

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Where is China at Today?

• The Asian Crisis after the mid-1990s slowed the
  economy down
• But by 2000, 9 annual economic growth again
  became the standard.
• In early 2006, first quarter growth was over 10.

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The Old Guard Passing from the Scene?
Jiang Zemin, Dengs heir to power
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The Party Today
Hu Jintao, Elected General Secretary of the CPC
and President of the Peoples Republic of
China, March 15, 2003.
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The Current Scene

• The global economy puts tremendous pressures on
  Chinas political system.
• Change is gradual, since the party wishes to
  perpetuate its own power, but change does go on.
• Reforms are tentative, the party is not moving
  quickly toward price liberalization, currency
  convertibility, or reduction of subsidies.

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Leadership Since Deng

• It is not probable that the CPC will be a part of
  a peaceful evolution all the way to democratic
  government.

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Political Environment Since Deng

• The process of democratization began at the same
  time as the economic reforms, and modest progress
  has been made since.

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Political Environment Since Deng

• Purges no longer occur
• The National Peoples Congress has been
  strengthened
• The legal system has been reformed to prevent any
  further cultural revolutions.
• Human rights abuses remain a problem

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Authoritarian Controls still needed?

• The Party believes that the process of economic
  development requires authoritarian leadership.
• Dissent must be managed while painful reforms are
  administered.
• The SOEs should be privatized or closed. Many
  millions will likely be sent into unemployment.

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The SOEs and Unemployment

• By 1998, nearly 1/3 of the labor force was
  unemployed or underemployed.
• Millions of SOE employees were laid off in the
  late 1990s.

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Economic Reforms

• Reforms have also attempted to
• Allow management greater decision-making
  prerogatives
• Impose greater accountability for the bottom line
  on enterprise management
• Promote greater labor discipline on the shop
  floor.

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Can market and plan be combined?

• Overall economic direction includes protection of
  inefficient industries, fixing the value of the
  yuan, and statist planning at the regional level.
• Picking industries, subsidizing, and protecting
  them has been common. There has been a tendency
  to pick identical industries and generate excess
  capacity.

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Another Chinese advantageAn Open Economy

• Dengs early desire to link to the global economy
  was much more far-sighted than the autarky that
  crippled the Soviets over their entire existence.
• As early as 1980, China renewed its membership
  with the IMF and the World Bank.

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China and the WTO

• After more than a decade attempting to gain
  admission to the WTO, China officially joined on
  December 11, 2001
• China became the 143rd member.

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Chinese Policy Objectives Maintaining an
Undervalued Currency and Purchasing US Bonds
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What are Chinas trade policy objectives?

• Keep the value of the Yuan low to promote
  exports.
• Keep the U.S. export market open.
• 50 million jobs dedicated to U.S. trade. Rural
  Chinese pour into manufacturing areas seeking
  work.

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How has China kept the Yuan price low?

• Sell Yuan in foreign currency markets.
• Buy dollars.

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Dollars become foreign currency reserves. How can
you make money on reserve holdings?

• Purchase U.S. treasury bonds.

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Why do we sell so many bonds?

• To finance the war in Iraq, to fund
  Katrina-related projects, to fund medicare
  prescription benefits,
• Etc.,
• Etc.,
• Etc.

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• Purchasing our bonds, China helps maintain the
  U.S. trade-finance system. We need the foreign
  funds to sustain our import deficits.
• Why does China want to sustain our system by
  purchasing treasury bonds?

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• They have about two hundred billion dollars
  invested in it.
• They want to retain our export markets.
• U.S. bond yields, although currently fairly low,
  still higher than those of other major countries.
  

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What happens if China were to sell off their bond
holdings?

• The increase in supply would drive the price
  down.

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So the interest rate rises from 4 to 8.
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• When China unpegged the Yuan from the dollar, it
  was pegged to a market basket of currencies
  including the Euro.
• China then purchased Euros to support their new
  market-basket pegging.

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When China Unpegged the Yuan

• Interest rates rose a little (bond prices fell a
  little).
• We panicked. Was China restructuring its reserve
  portfolio?

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A cutback can do the same job as a selloff in the
Treasury bond market!

• Cutback Selloff

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Japan has been doing the same thing, only theyve
got a lot more bonds!

• Why do they buy bonds?
• When they sell Yen, buy dollars in foreign
  exchange markets. . .

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Japan has been doing the same thing, only theyve
got a lot more bonds!

• They acquire huge dollar reserves.
• Buying U.S. bonds yields 3-4 interest. Thats
  better than just sitting on the dollars.
• They have c. 740 billion in our bonds and have
  lost c. 110 billion in value with decline of the
  dollar.

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Japans Interest in the Dollar

• Maintaining the bond market defends the dollar.
• If bonds sell well, the value of the dollar will
  not fall.
• If China stops buying our bonds, Japan's central
  bank probably would buy more to protect its huge
  export trade with the US.

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Is a selloff likely?

• Nobody thinks so at the moment, but would it take
  a selloff to drop bond prices and raise interest
  rates?
• No, the cutback would do the job fine.

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Could we raise the funds by selling additional
bonds to other parties?

• Of course.
• How can we get other investors to buy more than
  they currently want?
• Raise the interest earnings (drop the costs of
  the bonds).

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Could we raise the funds by selling additional
bonds to other parties?

• But if interest rates go up, then what?
• Other interest rates rise as well. Crowding-out
  occurs in private sector investments.
• Interest rates on housing go up, so the housing
  boom ends.

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What happens if the housing boom ends and all i
rates skyrocket?
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• Fini
• (The End)

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Let China sleep, for when it wakes, it will
shake the world. -Napoleon