The China syndrome: coming soon to the world economy

Its transformation from a slumbering giant to a dynamic, outward- looking market economy has astonished the world

For the past 15 years it has probably been the fastest-growing country in the world. It will almost certainly become the world's largest economy by 2010. It will have a gigantic impact on the rest of the world economy and the global environment. Yet until recently, most conventional economic analysis ignored it.

The country, of course, is China. Its transformation from a slumbering, inward-looking giant to a dynamic, outward-looking (if touchy) market economy in the space of little more than a decade has astonished the world. Now that the economic transformation seems secure, and the rash of opportunities for foreign businesses multiply by the day, western analysts have started to chart what is happening to the Chinese economy. So that gap is beginning to be plugged. When it comes to forward-looking analysis - what might happen in the next 25 years rather than the next two or three - there is pretty much a desert. But for the world in general, as opposed to investors in emerging markets, the long view is the one that matters most.

So a new long-range study by the OECD, China in the 21st Century, deserves a wider audience. The OECD is one of the three or four places in the world which is doing really reputable work peering into the future. Not only do its conclusions in this case have profound implications for the rest of us, but just as important, the way the contributors to the exercise put together the information and judgements helps teach the rest of us how to think about China's future.

The best starting point for looking into the future is often the recent past, in this case by seeking the answer to the question: why has China grown so fast? As the left-hand charts show, growth doubled after 1988, when the market reforms were started.

A paper by Professor Dwight Perkins of Harvard argues that there were a set of inputs which explain this change. Among the most important were: high investment, even before the policy reforms; an economic system which allowed market signals to come through, and which therefore could supply the goods for an export boom; and sufficient control over social tensions to create a stable environment for investment. Will these continue?

The answer is probably yes. Savings and investment seem likely to remain high. Exports can remain strong providing the world trading system remains open and providing China can move the balance of its exports up-market, as other East Asian countries have. As for social stability, there are and will be great strains. You can look at this in two ways. China needs social stability to maintain growth. But it also needs high growth in order to contain its social pressures.

Professor Perkins sets out three possible scenarios for the future. First is the high growth one, with continuing reform of the state-owned enterprises, and with the fact that most of the population is intent on becoming rich, keeping down social unrest. That depends on the rest of the world being prepared to carry on taking Chinese imports, which have grown sharply as a percentage of GDP. (See middle graph.)

Second is a deteriorating external environment, with China's exports increasingly shut out by protectionist governments, a mishandling of the takeover of Hong Kong, slower growth and rising internal tensions. The third he calls the triumph of the bureaucracy: state controls on the economy increase for a while and growth slows, though not by as much as under the second scenario.

For the rest of the world there is an enormous difference between 4.5 per cent growth and 9 per cent growth. This affects, for example, the amount of food that China is likely to import from the rest of the world. Some calculations published in the booklet show that rapid income growth might increase grain imports from 3 million metric tonnes in 1991 to 96 million by 2020. The baseline calculation for imports in 2020 is only half that. On the other hand, slow growth could lead to China not needing to import any grain in 2020 - I say needing, it might be more a question of not being able to afford to. Indeed the difference on grain imports between fast and slow economic growth is greater than the difference between fast and slow population growth.

Or take energy needs. These will increase enormously, and as the right hand graph shows, that will mean the burning of much more fossil fuel, in particular coal. Remember that electricity plants in China are largely coal-fired, so the fossil fuel share is even larger than it appears on that graph. These are just residential and commercial needs - add in transport (overwhelmingly dependent on oil) and the demand for fossil fuel goes up even further. At the moment China just about covers its oil needs from domestic production. By 2010 that could be a deficit of 2.8 million barrels a day, as large as present domestic consumption. Production will rise somewhat, but China could go from producing nearly all its needs to producing only about 60 per cent and having to import the rest.

So if China is to be a large food importer and a large oil importer it will need to earn foreign exchange. The main burden of that will continue to be carried by its low-wage manufacturing sector - it is now 80 per cent of export earnings. A couple of other papers look at this. One, by Vincent Cable of Shell, looks at the prospects for manufacturing both under continued rapid market reforms and under a re- imposition of controls. The other, by a well-known Japanese economist, Masaru Yoshitomi, looks at China's com-parative advantage in the next century. He argues that China's manufacturing will move up-market and that this will bring it more directly into competition with developed countries. It will not select specific high-tech sectors and target those, like Japan, but instead will move generally upwards into more sophisticated products. Its trade relations will be more like those at present between Europe and the US, not between Japan and the US.

If one had to select a core issue in all this, it seems to me to be whether the rest of the world will be prepared to carry on importing Chinese manufactured products. This is partly a general question about the continuance of a liberal world trading environment, but it is also a specific one about Western attitudes to China, and China's behaviour.

It is reasonably easy to be hopeful about the first, for through protectionist forces remain strong in much of the developed world, it is so overwhelmingly in our self-interest to maintain an open trading system that I can hardly believe we could abandon it. Surely we are not so stupid.

But it is harder to be hopeful about long-term relations with China. Understandably there is concern within China about the West seeking to impose its own political standards on an ancient and proud culture. But there are genuine western worries, not so much about politics but about the environment, about basic human rights, about open trading behaviour, which China seems unwilling to acknowledge. China will not be an easy economic partner, even if it will inevitably be a very big one.