The author of a new book on China warns that if 2010 is another difficult year for the US economy, Washington could come under a lot of pressure to impose tariffs on Chinese products.
Giles Chance, who's just brought out his book 'China and Credit Crisis: The Emergence of a New World Order' says the Chinese would react negatively if the US were to impose such tariffs. They might think that the basic contract between them and America had been undermined and they were at liberty to do what they felt like doing.
However, he told INSEAD Knowledge, if the Americans show that they are prepared to take some steps in a constructive way towards resolving the current impasse, (such as) stabilising the US dollar by suggesting that at some point in the not-too-distant future monetary conditions in America will have to be tightened, then that would stabilise the dollar, which has fallen a long way in quite a short space of time. It would arrest the upward rise of gold. The Chinese, I think, would be sufficiently encouraged by that, possibly to consider that they could then start to move - or should move - towards a more flexible arrangement for the RMB (China's currency, the renminbi), which of course it's in their interest to do.
Chance, who first visited China is the late 1980s and has lived there for many years, says the Chinese have to float the RMB at some point. They've been talking about full convertibility since the late 1990s, he says. Former premier Zhu Rongji certainly talked about it quite a lot. It's a big step for the Chinese. However, the Chinese economy is still broadly structured around the reforms carried out by Zhu Rongji 10 years ago and it needs to be reformed again. It needs to become a lot more efficient and productive than it is. The export sector in China is pretty efficient and productive, but the rest of the Chinese economy is not. It's dominated by the state sector.
China, he says, has to 'release' the entrepreneurial spirit in the country, by reinforcing the private sector. A good place to start on all these reforms, which are necessary, is with the currency which has obvious benefits both externally and domestically, and would go a long way towards starting to make China a more efficient economy.
If China were to float its currency, the RMB would likely appreciate, although Chance is quick to point out that these things are never certain.
China's export sector could withstand quite a large appreciation of say 10 per cent. Above that, I think it would start beneficially to force the Chinese export industry to produce higher value-added products and the lower value-add would go to other less developed countries like Burma (Myanmar), Vietnam, Indonesia on labour-intensive products.
China needs to become more efficient and productive domestically, he says, and floating the currency would be a good step forwards.
Although his book has the title 'China and the Credit Crisis,' China's role was a peripheral one -- it didn't cause the meltdown, but it did play a role in the run-up to the crisis. The crisis was caused by too much debt. I think a debt crisis is a better name for it, Chance says. The great moderation, the so-called low inflation, low interest rates for a long period of time, persuaded households and businesses (in the US) that they could take on much more debt than they should have.
Policymakers in the US after 2000, sensing possible deflation, then added far too much liquidity to the system. And this flood of liquidity attacked the existing weaknesses of the system, with the result that the system broke in 2008 and now this debt has transferred itself to the public sector.
Chance argues that globalisation, led by China, was the major contributor to the great moderation, which in turn caused the debt crisis. So I think you can say that although China did not cause the crisis, without China and without China's entry into the world economy (after formally joining the World Trade Organisation in 2001), the credit crisis would not have happened - at least at the time it did.
Chance believes the liquidity which really caused the problem was created by the US Federal Reserve, rather than China's massive reserves. This became Chinese liquidity in a sense because the Chinese at that time pegged their currency, the RMB against the dollar, and were forced to sterilise (it) when the currency was trying to go up. And they didn't want it to go up. They had to sell the RMB and buy dollars and this created huge dollar reserves.
Apart from looking at China's role in the run-up to the financial crisis, the book also deals with post-crisis China's new position in the world - how it's dealing with that and how we're all going to deal with it as well.
China looks set to play a more central role in the global economy, he says, although the Chinese probably aren't ready for this. The crisis has happened probably five or 10 years too early for China. It's been thrust into a very important position. China is already in a key economic position within Asia. It's Japan's largest trade partner now and it's the number one or two trading partner with pretty much all the Asian economies.
China is already beginning to occupy a dominant economic position within Asia. And there is a cultural habit also within Asia of looking to China as a source of cultural inspiration and leadership, which goes back thousands of years. It's not difficult for most Asian countries to do that.
The Japanese position, however, is complicated. Japan must think it's the most important country in Asia because of its wealth and its relationship historically since the war with America. But it's now showing a new readiness to deal with China and invest in China. It has no choice but it does seem that in the short term, and indeed now, China is becoming more important in Asia.
'China and the Credit Crisis: The Emergence of a New World Order' is published by Wiley. Giles Chance is a visiting professor at the Guanghua Business School at Peking University.