IN CHINA’S ORBIT – NIALL FERGUSON “We are the masters now.”

I wonder if President Barack Obama saw those words in the thought
bubble over the head of his Chinese counterpart, Hu Jintao, at the
G20 summit in Seoul last week. If the president was hoping for
change he could believe in—in China’s currency policy, that is—all
he got was small change. Maybe Treasury Secretary Timothy Geithner
also heard “We are the masters now” as the Chinese shot down his
proposal for capping imbalances in global current accounts. Federal
Reserve Chairman Ben Bernanke got the same treatment when he
announced a new round of “quantitative easing” to try to jump start
the U.S. economy, a move described by one leading Chinese
commentator as “uncontrolled” and “irresponsible.” “We are the
masters now.” That was certainly the refrain that I kept hearing in
my head when I was in China two weeks ago. It wasn’t so much the
glitzy, Olympic-quality party I attended in the Tai Miao Temple,
next to the Forbidden City, that made this impression. The displays
of bell ringing, martial arts and all-girl drumming are the kind of
thing that Western visitors expect. It was the understated but
unmistakable self-confidence of the economists I met that told me
something had changed in relations between China and the West. One
of them, Cheng Siwei, explained over dinner China’s plan to become
a leader in green energy technology. Between swigs of rice wine,
Xia Bin, an adviser to the People’s Bank of China, outlined the
need for a thorough privatization program, “including even the
Great Hall of the People.” And in faultless English, David Li of
Tsinghua University confessed his dissatisfaction with the quality
of Chinese Ph.D.s. You could not ask for smarter people with whom
to discuss the two most interesting questions in economic history
today: Why did the West come to dominate not only China but the
rest of the world in the five centuries after the Forbidden City
was built? And is that period of Western dominance now finally
coming to an end? In a brilliant paper that has yet to be published
in English, Mr. Li and his co-author Guan Hanhui demolish the
fashionable view that China was economically neck-and-neck with the
West until as recently as 1800. Per capita gross domestic product,
they show, stagnated in the Ming era (1402-1626) and was
significantly lower than that of pre-industrial Britain. China
still had an overwhelmingly agricultural economy, with
low-productivity cultivation accounting for 90% of GDP. And for a
century after 1520, the Chinese national savings rate was actually
negative. There was no capital accumulation in late Ming China;
rather the opposite. The story of what Kenneth Pomeranz, a history
professor at the University of California, Irvine, has called “the
Great Divergence” between East and West began much earlier. Even
the late economist Angus Maddison may have been over-optimistic
when he argued that in 1700 the average inhabitant of China was
probably slightly better off than the average inhabitant of the
future United States. Mr. Maddison was closer to the mark when he
estimated that, in 1600, per capita GDP in Britain was already 60%
higher than in China. For the next several hundred years, China
continued to stagnate and, in the 20th century, even to retreat,
while the English-speaking world, closely followed by northwestern
Europe, surged ahead. By 1820 U.S. per capita GDP was twice that of
China; by 1870 it was nearly five times greater; by 1913 the ratio
was nearly 10 to one. Despite the painful interruption of the Great
Depression, the U.S. suffered nothing so devastating as China’s
wretched mid-20th century ordeal of revolution, civil war, Japanese
invasion, more revolution, man-made famine and yet more
(“cultural”) revolution. In 1968 the average American was 33 times
richer than the average Chinese, using figures calculated on the
basis of purchasing power parity (allowing for the different costs
of living in the two countries). Calculated in current dollar
terms, the differential at its peak was more like 70 to 1. This was
the ultimate global imbalance, the result of centuries of economic
and political divergence. How did it come about? And is it over? As
I’ve researched my forthcoming book over the past two years, I’ve
concluded that the West developed six “killer applications” that
“the Rest” lacked. These were: – Competition: Europe was
politically fragmented, and within each monarchy or republic there
were multiple competing corporate entities. – The Scientific
Revolution: All the major 17th-century breakthroughs in
mathematics, astronomy, physics, chemistry and biology happened in
Western Europe. – The rule of law and representative government:
This optimal system of social and political order emerged in the
English-speaking world, based on property rights and the
representation of property owners in elected legislatures. – Modern
medicine: All the major 19th- and 20th-century advances in health
care, including the control of tropical diseases, were made by
Western Europeans and North Americans. – The consumer society: The
Industrial Revolution took place where there was both a supply of
productivity-enhancing technologies and a demand for more, better
and cheaper goods, beginning with cotton garments. – The work
ethic: Westerners were the first people in the world to combine
more extensive and intensive labor with higher savings rates,
permitting sustained capital accumulation. Those six killer apps
were the key to Western ascendancy. The story of our time, which
can be traced back to the reign of the Meiji Emperor in Japan
(1867-1912), is that the Rest finally began to download them. It
was far from a smooth process. The Japanese had no idea which
elements of Western culture were the crucial ones, so they ended up
copying everything, from Western clothes and hairstyles to the
practice of colonizing foreign peoples. Unfortunately, they took up
empire-building at precisely the moment when the costs of
imperialism began to exceed the benefits. Other Asian
powers—notably India—wasted decades on the erroneous premise that
the socialist institutions pioneered in the Soviet Union were
superior to the market-based institutions of the West. Beginning in
the 1950s, however, a growing band of East Asian countries followed
Japan in mimicking the West’s industrial model, beginning with
textiles and steel and moving up the value chain from there. The
downloading of Western applications was now more selective.
Competition and representative government did not figure much in
Asian development, which instead focused on science, medicine, the
consumer society and the work ethic (less Protestant than Max Weber
had thought). Today Singapore is ranked third in the World Economic
Forum’s assessment of competitiveness. Hong Kong is 11th, followed
by Taiwan (13th), South Korea (22nd) and China (27th). This is
roughly the order, historically, in which these countries
Westernized their economies. Today per capita GDP in China is 19%
that of the U.S., compared with 4% when economic reform began just
over 30 years ago. Hong Kong, Japan and Singapore were already
there as early as 1950; Taiwan got there in 1970, and South Korea
got there in 1975. According to the Conference Board, Singapore’s
per capita GDP is now 21% higher than that of the U.S., Hong Kong’s
is about the same, Japan’s and Taiwan’s are about 25% lower, and
South Korea’s 36% lower. Only a foolhardy man would bet against
China’s following the same trajectory in the decades ahead. China’s
has been the biggest and fastest of all the industrialization
revolutions. In the space of 26 years, China’s GDP grew by a factor
of 10. It took the U.K. 70 years after 1830 to grow by a factor of
four. According to the International Monetary Fund, China’s share
of global GDP (measured in current prices) will pass the 10% mark
in 2013. Goldman Sachs continues to forecast that China will
overtake the U.S. in terms of GDP in 2027, just as it recently
overtook Japan. But in some ways the Asian century has already
arrived. China is on the brink of surpassing the American share of
global manufacturing, having overtaken Germany and Japan in the
past 10 years. China’s biggest city, Shanghai, already sits atop
the ranks of the world’s megacities, with Mumbai right behind; no
American city comes close. Nothing is more certain to accelerate
the shift of global economic power from West to East than the
looming U.S. fiscal crisis. With a debt-to-revenue ratio of 312%,
Greece is in dire straits already. But the debt-to-revenue ratio of
the U.S. is 358%, according to Morgan Stanley. The Congressional
Budget Office estimates that interest payments on the federal debt
will rise from 9% of federal tax revenues to 20% in 2020, 36% in
2030 and 58% in 2040. Only America’s “exorbitant privilege” of
being able to print the world’s premier reserve currency gives it
breathing space. Yet this very privilege is under mounting attack
from the Chinese government. For many commentators, the resumption
of quantitative easing by the Federal Reserve has appeared to spark
a currency war between the U.S. and China. If the “Chinese don’t
take actions” to end the manipulation of their currency, President
Obama declared in New York in September, “we have other means of
protecting U.S. interests.” The Chinese premier Wen Jiabao was
quick to respond: “Do not work to pressure us on the renminbi
rate…. Many of our exporting companies would have to close down,
migrant workers would have to return to their villages. If China
saw social and economic turbulence, then it would be a disaster for
the world.” Such exchanges are a form of pi ying xi, China’s
traditional shadow puppet theater. In reality, today’s currency war
is between “Chimerica”—as I’ve called the united economies of China
and America—and the rest of the world. If the U.S. prints money
while China effectively still pegs its currency to the dollar, both
parties benefit. The losers are countries like Indonesia and
Brazil, whose real trade-weighted exchange rates have appreciated
since January 2008 by 18% and 17%, respectively. But who now gains
more from this partnership? With China’s output currently 20% above
its pre-crisis level and that of the U.S. still 2% below, the
answer seems clear. American policy-makers may utter the mantra
that “they need us as much as we need them” and refer ominously to
Lawrence Summers’s famous phrase about “mutually assured financial
destruction.” But the Chinese already have a plan to reduce their
dependence on dollar reserve accumulation and subsidized exports.
It is a strategy not so much for world domination on the model of
Western imperialism as for reestablishing China as the Middle
Kingdom—the dominant tributary state in the Asia-Pacific region. If
I had to summarize China’s new grand strategy, I would do it,
Chinese-style, as the Four “Mores”: Consume more, import more,
invest abroad more and innovate more. In each case, a change of
economic strategy pays a handsome geopolitical dividend. By
consuming more, China can reduce its trade surplus and, in the
process, endear itself to its major trading partners, especially
the other emerging markets. China recently overtook the U.S. as the
world’s biggest automobile market (14 million sales a year,
compared to 11 million), and its demand is projected to rise
tenfold in the years ahead. By 2035, according to the International
Energy Agency, China will be using a fifth of all global energy, a
75% increase since 2008. It accounted for about 46% of global coal
consumption in 2009, the World Coal Institute estimates, and
consumes a similar share of the world’s aluminum, copper, nickel
and zinc production. Last year China used twice as much crude steel
as the European Union, United States and Japan combined. Such
figures translate into major gains for the exporters of these and
other commodities. China is already Australia’s biggest export
market, accounting for 22% of Australian exports in 2009. It buys
12% of Brazil’s exports and 10% of South Africa’s. It has also
become a big purchaser of high-end manufactured goods from Japan
and Germany. Once China was mainly an exporter of low-price
manufactures. Now that it accounts for fully a fifth of global
growth, it has become the most dynamic new market for other
people’s stuff. And that wins friends. The Chinese are justifiably
nervous, however, about the vagaries of world commodity prices. How
could they feel otherwise after the huge price swings of the past
few years? So it makes sense for them to invest abroad more. In
January 2010 alone, the Chinese made direct investments worth a
total of $2.4 billion in 420 overseas enterprises in 75 countries
and regions. The overwhelming majority of these were in Asia and
Africa. The biggest sectors were mining, transportation and
petrochemicals. Across Africa, the Chinese mode of operation is now
well established. Typical deals exchange highway and other
infrastructure investments for long leases of mines or agricultural
land, with no questions asked about human rights abuses or
political corruption. Growing overseas investment in natural
resources not only makes sense as a diversification strategy to
reduce China’s exposure to the risk of dollar depreciation. It also
allows China to increase its financial power, not least through its
vast and influential sovereign wealth fund. And it justifies
ambitious plans for naval expansion. In the words of Rear Admiral
Zhang Huachen, deputy commander of the East Sea Fleet: “With the
expansion of the country’s economic interests, the navy wants to
better protect the country’s transportation routes and the safety
of our major sea-lanes.” The South China Sea has already been
declared a “core national interest,” and deep-water ports are
projected in Pakistan, Burma and Sri Lanka. Finally, and contrary
to the view that China is condemned to remain an assembly line for
products “designed in California,” the country is innovating more,
aiming to become, for example, the world’s leading manufacturer of
wind turbines and photovoltaic panels. In 2007 China overtook
Germany in terms of new patent applications. This is part of a
wider story of Eastern ascendancy. In 2008, for the first time, the
number of patent applications from China, India, Japan and South
Korea exceeded those from the West. The dilemma posed to the
“departing” power by the “arriving” power is always agonizing. The
cost of resisting Germany’s rise was heavy indeed for Britain; it
was much easier to slide quietly into the role of junior partner to
the U.S. Should America seek to contain China or to accommodate it?
Opinion polls suggest that ordinary Americans are no more certain
how to respond than the president. In a recent survey by the Pew
Research Center, 49% of respondents said they did not expect China
to “overtake the U.S. as the world’s main superpower,” but 46% took
the opposite view. Coming to terms with a new global order was hard
enough after the collapse of the Soviet Union, which went to the
heads of many Western commentators. (Who now remembers talk of
American hyperpuissance without a wince?) But the Cold War lasted
little more than four decades, and the Soviet Union never came
close to overtaking the U.S. economically. What we are living
through now is the end of 500 years of Western predominance. This
time the Eastern challenger is for real, both economically and
geopolitically. The gentlemen in Beijing may not be the masters
just yet. But one thing is certain: They are no longer the
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