The Dark Side of Chinese State Capitalism

The Weekly Standard, October 24, 2011, Vol. 17, No. 06

–Article by Ying Ma

Big-government types in the United States are simultaneously seduced by the sizzle of China’s economic growth and envious of the rapid completion of its large-scale, state-planned projects. Speechless before China’s meteoric global rise and frustrated with America’s economic woes, Beijing’s admirers in America have concluded the solution is to copy China. Not surprisingly, they know little about the jarring cost exacted by China’s government-centric approach.

President Barack Obama represents all the misguided assumptions of this trend, which calls for fawning all over and freaking out about China at the same time. As a candidate in the 2008 presidential election, he bemoaned the crumbling infrastructure of the United States and noted that China’s state-directed infrastructure spending had produced ports, trains, and airports that were “vastly superior” to ours. As president, he has repeatedly invoked the Chinese example to call for massive infrastructure spending. In his jobs speech before a joint session of Congress on September 8, he asked, “And now we’re going to sit back and watch China build newer airports and faster railroads? At a time when millions of unemployed construction workers could build them right here in America?”

Given the adulation from abroad, China’s rulers have not hesitated to tout the superiority of their unique political-economic system. After all, authoritarian China has vaulted past Japan as the second-largest economy in the world and is expected by the International Monetary Fund to overtake the U.S. economy as the world’s largest in 2016. Chinese premier Wen Jiabao has spoken glowingly of the Chinese system’s general “advantages,” which he claims give China the ability “to make decisions efficiently, organize effectively, and concentrate resources to accomplish large undertakings.”

Zhao Qizheng, who chairs the Foreign Affairs Committee of the Chinese People’s Political Consul-tative Conference of the Chinese Communist party, is even more explicit. In a book entitled The China Model, he explained, “In comparison with the West, we do not waste much manpower, time, material, or financial resources of taxpayers for [elections]. .  .  . You can go forward: You don’t need to quarrel and you don’t need to lose time.”

Not quarreling and not losing time, however, has resulted in numerous large undertakings—from infrastructure to economic stimulus to environmental cleanup—that create enormous inefficiencies, impose drastic human costs, and fail to bring sustainable benefits.

Most glaring are the problems in the area of infrastructure, which captivates President Obama. In October 2010, with U.S. unemployment hovering near 10 percent, Obama glumly admitted, “There’s no such thing as shovel-ready projects.” China, on the other hand, was shoveling at breakneck speed.

To battle the global financial crisis that began in 2008, Beijing pushed out a $586 billion stimulus package and allocated 45 percent of the funds for infrastructure. Simultaneously, Beijing unleashed a torrent of lending by its state banks. In 2009 and 2010, the banks issued $2.7 trillion in new loans.

Much of the state lending went to local governments eager to pursue grand dreams. Unfortunately, a great deal of what they built already appears downright useless. As the Washington Post reported, China’s stimulus spending produced “an astonishing frenzy of building—highways, subways, airports, bridges, high-speed rail lines, and even new cities constructed, literally, in the middle of nowhere.” Chinese citizens are staring at new airports in small counties to which few passengers will fly, new subway lines in small cities that may not have needed them, and high-speed trains with ticket prices many cannot afford.

The local governments, meanwhile, are sitting on large piles of debt they cannot afford. According to Victor Shih of Northwestern University, official estimates of total local governmental debt in China range between $2.4 trillion and $3.1 trillion, with the latter more than 50 percent of China’s 2010 GDP. Much of the debt consists of bad loans for which the central government will likely ultimately be responsible. Beijing, sitting on more than $3 trillion in foreign currency reserves, can certainly afford the bill, but its infrastructure binge and the subsequent hangover hardly provide a good model for America to copy.

Worse yet, high-speed rail, the crown jewel of China’s infrastructure prowess, has thus far delivered more human tragedy than authoritarian effectiveness.

On July 23, a high-speed rail accident in southeast China killed 40 and injured about 190 passengers. Officials blamed signal failure, but outraged citizens and journalists (including many from the state media) have demanded investigations. While China has built the world’s largest network of high-speed railway in under seven years, this undertaking has been plagued by corruption and shoddy construction. In February, Liu Zhijun, China’s minister of railways and architect of the country’s $300 billion high-speed rail network, was fired and arrested, accused of taking $152 million in bribes—not to mention keeping 18 mistresses. In April, China’s railways ministry announced that trains traveling at the top speed of 350 kilometers per hour, the fastest in the world, would be slowed to 300 km/h in July. The faster speed garnered prestige for China but created serious safety concerns and should never have been instituted in the first place. Since the July accident, the ministry has expanded speed reduction and suspended the construction of new rail projects.

Though President Obama has endlessly repeated the desirability of crisscrossing America with high-speed rail, China reminds us that when state planning goes awry and government spending goes unchecked, citizens pay—sometimes with their lives.

But inconvenient truths don’t deter the Obama administration from pointing to China’s state-centric approach to defend its own grand, left-wing plans. Aside from infrastructure projects, nothing makes liberal knees wobble more than visions of an America covered in green technology funded by taxpayers. Liberals love to remind us that China has already made an aggressive, government-funded push into this area and threatens to leave the United States behind.

Not surprisingly, the Obama administration has served up this justification for its disastrous $528 million loan to now-bankrupt solar panel maker Solyndra. At a congressional hearing in September, Jonathan Silver, executive director of the Energy Department’s Loan Programs Office until last week, defended the administration’s Solyndra decision. He said, “[In 2010, China] alone provided more than $30 billion in credit to the country’s largest solar manufacturers through the government-controlled China Development Bank. That’s roughly 20 times larger than America’s investment in the same time period.”

On, Barry Cinnamon, CEO of Westinghouse Solar, offered a different view: Solyndra’s spectacular failure resulted largely from its bet on the wrong technology, not from Chinese competition or a lack of U.S. government support. According to Cinnamon, while Chinese solar panels are 10 to 20 percent less expensive than U.S.-made panels, Solyndra’s panels, by some estimates, were 100 percent more. Joel Cannon, CEO of tenKsolar, Inc., another solar company, concurred and wrote in a letter to the Wall Street Journal: “Most in the [solar] industry will argue that the smart money .  .  . was never interested in Solyndra.”

Having funded Solyndra with quite a bit of dumb money, the Obama administration remains undeterred and continues to cite China’s government-backed green tech dominance as a reason for the United States to pick winners and losers in the renewable energy industry. Once again, China itself offers the evidence for why its record of state investment is not worth imitating. According to a report issued in April by the Unirule Institute of Economics, an independent think tank in Beijing, the average return on equity of state-owned industrial enterprises in China was much lower than that of their nonstate counterparts between 2001 and 2009. When preferential government subsidies (such as free land and cheap loans) for the state firms are factored in, the real return on equity registers at an embarrassing -1.47 percent.

Moreover, 70 percent of all net profits made by Chinese centrally owned enterprises in 2009 came from a mere 10 companies that had been afforded heavy market advantages by the state. The unflattering flipside, writes the Hoover Institution’s Zhang Jialin, is that a vast majority of the remaining state-owned companies are poorly managed or suffer from overcapacity.

In other words, a future that follows in the footsteps of Chinese central planning may not be as dreamy as Obama imagines.

Furthermore, it is unclear that China’s grand projects even produce lasting benefits. In the environmental area, the world oohed and aahed at the speed with which Beijing acted to improve the city’s notoriously poor air in preparation for the 2008 Olympics. Yet even authoritarian zeal has its limits.

China’s rulers implemented a series of drastic measures, including plant closures and relocations, furnace replacement, new emission standards, and stringent traffic control, and spent over $10 billion to clean up Beijing’s air.

The gains were sizable. According to a study published by the National Bureau of Economic Research (NBER) in March 2011, the air quality in Beijing improved by 29.65 percent during the Olympic Games “as compared to one year before any Olympic-motivated action.” But only a year after the games, the study’s Chinese and American researchers concluded, roughly 60 percent of the improvement in Beijing’s air quality had evaporated.

Elsewhere in the world, the study notes, improvements in air quality have resulted from a long process that “largely depends on the dynamic interplay of government policies and private compliance.” In China, on the other hand, the problem was tackled with an authoritarian campaign of white-hot intensity, but the environmental gains could not be sustained.

For all its warts, fans still credit Chinese state planning with having delivered breathtaking economic growth for over three decades. The accomplishment is tremendous and is a tribute to the hard work and entrepreneurial spirit of the Chinese people. But even here, admirers overestimate the power of the state and underestimate the power of the market.

In his book Capitalism with Chinese Characteristics, economist Huang Yasheng of the MIT Sloan School of Management argues that reforms that have worked elsewhere—such as private ownership, financial liberalization, improved property rights security, and even some degree of political constraint—were essential to the successful takeoff of China’s economic revolution in the 1980s. On the other hand, he observes, the slowing of market reforms in the 1990s had a direct impact on the quality of China’s economic growth, even if not on the actual rate of growth.

In an essay updating his book, Huang writes that between 1989 and 2002, a period when China’s market reforms slowed and statist intervention increased significantly, per capita GDP in China grew at a real rate of 8.1 percent a year, but during the same period, Chinese personal income per capita grew at an average of only 5.4 percent a year. “The gap is thus huge,” he writes, “between GDP growth and the performance of a metric that directly tracks the actual living standards of the average Chinese person.”

Meanwhile, China’s most dramatic statist turn has come in the aftermath of the 2008 financial crisis, when the country’s massive stimulus spending flooded into the state sector.

Yao Yang, director of the China Center for Economic Research at Peking University, spelled out the drawbacks of state intervention even while lauding the accomplishments of the China model at a conference earlier this year: Excessive state participation in the economy squeezes out the space for regular citizens to increase personal consumption, and overly concentrated government power harms the people’s welfare. President Obama might take note.

Amid the endlessly repeated assertion that China will inevitably dominate the 21st century, it is worth remembering that the country not only continues to persecute religious believers, jail political dissidents, and censor the media, but also is home to immense waste and abuse. As a U.S.-trained economist turned high-ranking Chinese government official has observed, China’s economic inefficiencies result directly from its political contradictions.

The United States, despite tortuous political wrangling over issues ranging from the debt ceiling to job creation, remains capable of making broad political compromises, forging lasting consensus, and giving its citizens a voice. As U.S. policymakers enlist Chinese authoritarian-chic to justify their own grandiose big-government plans, American taxpayers should know that Chinese-style state intervention comes at a price they cannot afford and brings severe infringements on liberty they will resent.

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