CHINA AND THE GLOBAL ECONOMY: CHALLENGES, OPPORTUNITIES,

RESPONSIBILITIES

JOSEPH E. STIGLITZMARCH, 2005

THE NEW GLOBAL LANDSCAPE

The current global economy The new geo-politics

BASIC PREMISE

• Growing recognition that we live in a “positive-sum” world

• China’s growth and success can contribute to a more prosperous and more stable global economy– - Challenge is to combat “zero-sum”

thinking prevalent in some quarters– - Especially when the thinking primarily

focuses on job losses

• New globalization—integration of countries of the world— puts enormous strains on global economy– Standard theory predicts lowering of wages, especially

of unskilled workers– Has not happened in the past largely because of

differences in technology, access to markets– But predictions of standard theory are more likely to be

evidenced in the future– And pace of change may make adjustments difficult

• Need to be aware that some developed countries are not managing these global changes well, and as a result there will be strong protectionist sentiments

THE CURRENT GLOBAL ECONOMY: I

China has succeeded in rapid growth even when other parts of the world have had only moderate growth

It has become an engine for much of rest of the world And especially for Asia

China’s growth alone has had global impact on commodity and shipping prices

THE CURRENT GLOBAL ECONOMY:II

New and large imbalances in global economy:

America’s fiscal and trade deficits —enormous drain on global savings

Exchange rate instability Energy prices

– Uncertainties– Limitations to future growth

THE NEW GEO-POLITICS

China’s entry into the WTO:– Has given China greater access– Provided some protection against

protectionism elsewhere – Put new demands on China

Unipolar world And new unilateralism

- Is it consistent with global stability?

THE CHALLENGES

• 1. MANAGING CONSEQUENCES OF WTO

• 2. MANAGING GROWTH• 3. MANAGING EXCHANGE RATES• 4. MANAGING RESERVES

1. MANAGING CONSEQUENCES OF WTO AND GREATER OPENESS

China will need to be aware that globalization in many countries—both developed and less developed—has been accompanied by increasing inequality and economic insecurity, and will need to undertake explicit measures to combat these Especially important given magnitude of

increases in inequality that have already occured

MANAGING CONSEQUENCES OF WTO AND GREATER OPENESS

WTO accession entails a need for changes within China:

Agriculture– Essential to do something to maintain growth

with equity– Renewed emphasis on productivity increases

to compete effectively with subsidized agricultural goods from abroad

– Need to explore variety of other mechanisms for providing assistance within WTO framework

WTO ACCESSION ENTAILS A NEED FOR RESPONSES WITHIN CHINA

Financial services:– Need to ensure broad access to finance

• Generalized Community Reinvestment Act (CRA)– Need to enhance domestic productivity

• Countries have a natural competitive advantage in the provision of domestic services (based on localized information)

• Very little that cannot be imitated• Weaknesses often a result of failing to appreciate

importance of service sector in general and financial services in particular

• Changing role of banks and financial institutions in move towards market economy

• Broad based mortgage markets, insurance, consumer loans can be important stimulus for future growth

• But will need to be monitored closely—excesses in many countries

2. MANAGING GROWTH

IN THE FACE OF GLOBAL SUPPLY EFFECTSIN THE FACE OF POSSIBLE LIMITATIONS IN SCOPE

FOR MAINTAINING GROWTH OF EXPORTSIN THE FACE OF GLOBAL NATURAL RESOURCE

CONSTRAINTS

WILL REQUIRE “BALANCE”• GROWTH OF DOMESTIC DEMAND• RESOURCE CONSERVATION/EFFICIENCY• MANAGING PACE/STRUCTURE OF GROWTH

3. MANAGING EXCHANGE RATES

• IN FACE OF PRESSURE FROM US FOR APPRECIATION

• AND CHANGE IN EXCHANGE RATE SYSTEM

Would revaluation of Yuan be in the best interest of China?

• Possibility of significant adverse distribution effects—especially on rural sector

• Large balance sheet effects– Just as a devaluation is bad for country with large dollar

denominated debts, appreciation is bad for country with large dollar denominated assets

– Magnitude of capital loss is huge• Would dampen inflationary pressures

– But how serious a problem is inflation today?• Might dampen global political pressures on China

– But if trade imbalance, loss of jobs in manufacturing remain large, only temporary palliative

– Likely to be case• There may be better ways to do this

Would revaluation help?

• Not much for U.S. trade deficit –– Basically determined by U.S. domestic savings,

investment; savings likely to remain low

• Trade deficit would appear somewhere else• Europe might be helped• Even bilateral trade deficit might not be affected

much– Low price elasticity of demand for Chinese goods?– Some of price adjustment would occur in China and in

margins– So, even effect on other countries would be limited

Export Tax As Substitute for Appreciation

• Tax adjustments have been used in the past (1997/1998)

• Advantages:     – They avoid most of balance sheet effects (exporter’s

balance sheet may be adversely affected)– They provide revenues to government to improve its

balance sheet– They can be targeted to promote growth and

manage dislocation– - sectors targeted for dynamic comparative

advantage can be exempted– - sectors where labor mobility may be difficult

can be exempted- appreciation will strengthen demand for non-tradable sectors – real estate, other sectors already problem etc.

– Solves problems of lower prices in agriculture - huge distributional consequences

Export Tax As Substitute for Appreciation

• Disadvantages:– Places more of burden of adjustment on

export sector, less on import substitution sector

– Appears to be more micro-managing of economy

Greater Exchange Rate Flexibility

Is greater exchange rate flexibility desirable from China and other nations in the region?

• Certain irony in current debate - China was urged not to devalue in 1997; it was argued that greater flexibility would destabilize global financial markets

• Needs to recognize that there are problems with all exchange rate systems

• Problems (crises) occur when countries with limited reserves try to maintain an overvalued currency

• But, China has large foreign reserve• And the complaint is about China’s currency

being undervalued• Large costs of exchange rate volatility (one of

reasons for interventions in capital markets), but also costs of large adjustments may be much larger than costs of small adjustments

• Even anticipations of large changes (especially in absence of exchange controls) can be very disruptive, unless countervailing measures to discourage speculation are taken

4. MANAGING RESERVES

• MANAGING RISK– DOLLAR NO LONGER VIEWED AS ‘SAFE’– DOLLAR NO LONGER AS GOOD A STORE

OF VALUE– LONG RUN PROSPECTS PROBLEMATIC– REQUIRES RISK DIVERSIFICATION– MORE DIFFICULT THAN FOR SMALL

COUNTRY—CAN HAVE GLOBAL EFFECTS

MANAGING RISK OF RESERVES

• POSSIBLE PARTIAL SOLUTION– INVESTING IN DOLLAR ASSETS WITH

RETURNS WITH APPROPRIATE RISK PROFILE• CORRELATED WITH VALUE OF EURO• CORRELATED WITH PRICE OF OIL

OPPORTUNITIES

• New rules of game not only provide greater access into China, but also provide reciprocal access for China– China’s growth has been based on access to

international markets, capital inflows, and technology

– In the future, new rules may help getting more assured and better access to resources, markets, and technology

– Including by making investments elsewhere in the world

NEW RESPONSIBILITIES

• WHAT CHINA DOES HAS GLOBAL ECONOMIC EFFECTS– NO LONGER SMALL PLAYER– NEEDS TO TAKE THESE GLOBAL EFFECTS INTO

ACCOUNT• CHINA CAN NOW PLAY A MORE

IMPORTANT ROLE IN ADDRESSING PROBLEMS OF GLOBAL ECONOMY– AND ADVANCING REGIONAL COOPERATION

• HELPING DEVELOPING COUNTRIES• AND IMPROVING GLOBAL ENVIRONMENT

GLOBAL ECONOMIC ARCHITECTURE

• WELL KNOWN DEFICIENCIES – INCLUDING IN GOVERNANCE

• REFORM IN GLOBAL RESERVE/FINANCIAL SYSTEM ESPECIALLY NEEDED– SOURCE OF INSTABILITY– Growing dissatisfaction in developing countries

in general, and in Asia in particular– - Allows U.S. to have access to cheap credit– - Net transfer from developing countries

NEW REALITIES Many in Asia are waking up to the new realities:

– They are the world’s net savers– Why should they be lending money to the richest

country of the world at low interest rates?– Basic principles of portfolio diversification would call

for diversification of reserve assets– And increased perceived risk associated with U.S.

dollar would lead to further diversification out of the dollar

– Members of the Class of ’97 (countries hurt by East Asia crisis) feel that their interests were not given sufficient weight during the crisis

• There needs to be more Asian cooperation• Greater understanding of Asian economic systems and

realities

CAN THE CURRENT SYSTEM CONTINUE? Reserve currencies need to be good store of value Which is why inflation has always been viewed so negatively by

central bankers But the credibility of a currency as a reserve currency depends

also on exchange rates For foreign holders of dollars, weakening of the exchange rate is

as bad as an increase in inflation Even true for domestic wealth holders, because of opportunity

costs Negative dynamics—as confidence erodes, people move out of

currency, weakens currency Now there are alternatives to dollar Problem is partly inherent—reserve currency country gets

increasingly in debt as others hold its currency; ease of selling debt entices borrowing; but eventually, debt gets so large that credibility is questioned

Countries are beginning to look for alternatives or complements to current global reserve system. China will have to be play a central role in developing these new systems

CHINA AND THE DEVELOPING WORLD

China as an economic role model– Proof that a country can do better without ‘Washington Consensus’ policies Both in growth And poverty And in other indicators of human well being

CHINA AND THE DEVELOPING COUNTRIES

Promoting development:– Help other developing countries get fairer trade

agreements in development round– Assuage the fear of other developing countries – the

fear that China will take over all their export markets, especially in the post MFA world

– Providing assistance

Engage in fair bilateral trade agreements and ensure that such agreements are not to exploit its development partners for special interest:– Standard theory emphasizes greater gain from north-

south agreements– But practice often looks different– Because those agreements are often unfair

Efforts in that direction are likely to be ‘win-win’ situation; even if China as a whole sacrifices a little, global benefits will exceed costs

CHINA, SUSTAINABLE DEVELOPMENT, AND THE GLOBAL ENVIRONMENT

China’s growth in coming years will require huge resource (including energy) usage, with global effects

If growth is to be sustainable, measures for conservation must be undertaken

Some of the measures can simultaneously help other developing countries

GLOBAL WARMING

Increased evidence of effects:– Melting of polar ice cap– Antarctica

China could unilaterally announce commitments to reduce greenhouse gases per unit GDP and/or undertake tax/regulatory measures to reduce carbon emissions

Providing role model for other developing countries and beginning process of global engagement

Engage in enhanced emissions trading scheme with other developing countries

Including carbon sequestration– Recognize avoided deforestation– Especially important for rainforests like

the ones in Papua New Guinea– Support schemes for certified lumber– Ensure that developing countries get full

and fair value for their resources– Which will consequently reduce their need

for deforestation

GLOBAL WARMING

CONCLUDING REMARKS

• CHINA HAS REPEATEDLY ADAPTED POLICIES AND STRATEGY AS IT HAS MOVED FROM ONE STAGE OF DEVELOPMENT TO ANOTHER

• CHINA’S NEW ROLE IN THE GLOBAL ECONOMY HAS PRESENTS CHALLENGES AND OPPORTUNITES—REQUIRING EVEN MORE ADAPTATION AND CHANGE– WILL BE ESPECIALLY IMPORTANT IF CHINA IS

TO PURSUE ITS “BALANCED” GROWTH

CONCLUDING REMARKS

• QUESTION: WILL THE “NEW” SPECIAL INTERESTS THAT HAVE BEEN CREATED BE IMPEDIMENT BE AN EFFECTIVE IMPEDIMENT TO THE ADAPTATION THAT IS REQUIRED?– FORCES RESISTING INCREASING IN ENERGY

PRICES

• QUESTION: WILL A NEW MARKET FUNDAMENTALIST IDEOLOGY REPLACE PRAGMATISM THAT HAS BEEN HALLMARK OF CHINA’S SUCCESS?

• CHINA’S SUCCESS IN SEIZING THE OPPORTUNITIES, MEETING THE CHALLENGES, AND RISING TO ITS NEW RESPONSIBILITIES HAS GLOBAL IMPLICATIONS

• WITHOUT CHINA, THE PROBLEMS OF GLOBAL RESOURCES, INCLUDING GLOBAL WARMING, CANNOT BE SOLVED

CHINA CAN MAKE A BIG DIFFERENCE FOR DEVELOPING WORLD

By promoting the well being of other developing countries– Both by example– Development oriented trade– Development oriented investment– Assistance

Everyone in the world will benefit And China will be doing well for itself by

doing good

CONCLUDING REMARKS