Cause and Effect in European Politics and Law

What Happens When China Sneezes

Ralitsa Kovacheva, March 29, 2012

What processes are running in the Chinese economy and how do they affect global economy and the situation in Europe - this was the topic discussed over a cup of coffee by Adelina Marini and Dimitar Ashikov, economist, in our regular feature euOUTside. Bulgaria should be interested in China, because the Bulgarian economy is small and open and absorbs shocks from the global economy, and China is the second largest economic power in the world. The issue of Chinese economy`s health is important for a whole range of allied economies, as well as the global economy, Mr Ashikov thinks.

He noted that the expectations China to participate in the rescue efforts for the eurozone proved false. On the one hand, while it is a powerful economy, the country is significantly under-represented in the international financial institutions. So, China expects, quite reasonably, this situation to change, if it is expected to help Europe. On the other hand, China has to solve its own internal problems related to the economic structure and management of its large public sector. Recently the Chinese economy has started slowing growth, which is a process entirely orchestrated by the state itself, because it makes no sense to sustain such high growth when foreign demand is decreasing. Dimitar Ashikov also explained in detail the measures outlined in the "China 2030" programme.

He said the country focuses on acting at the regional level, as China is a major investor in South Korea and Indonesia. By comparison, Europe offers a market of 500 million people, with an ageing population, with a high living standard, while Indonesia is a market of 300 million people, predominantly young population, and is very rich in natural resources, the economist explained. Not surprisingly, there is such a race of foreign investment currently and we can expect an economic boom in the coming years. At the same time, China is negotiating with South Korea and Japan to create a free trade area.

From the conversation you will also find out what the new term "troiking" means, stemming from the Troika (the EC, the ECB and the IMF) and referring to measures applied by that structure to bailout countries like Greece.


A.Marini: Hello from Coffee Roasting Boutique Domani! This time we'll not talk about the EU, probably this will be the big surprise for you. China - this is our topic. With Dimitar Ashikov we were planning to talk about China a long time ago because ... it is clear why. This is the second largest economy in the world, which all ailing economies - most of all the United States and Europe - were looking at as a source of rescue and financing. However now, the economic data in the past weeks for China make analysts and may be decision makers start asking themselves questions. And as I already mentioned, China is the second largest economy in the world and we can in no way ignore what is going on there and this is why, as Dimitar, our host, is following the topic - not only China by the way but Asia at large, let us start from there: why do we have to care, here in Bulgaria this question is being omitted very often - why should we bother about China. But why should we care?

D.Ashikov: For the same reason why we are interested in all major economies in the world, because the state of global economy has a direct impact on the Bulgarian economy. The Bulgarian economy is open and it absorbs all the shocks and all the positive and negative impulses of global economy. The Chinese economy indeed is the second largest economy in the world. This is why the processes that are unfolding there should very much interest us, which will have influence on global growth trends, of global demand for goods and services, etc.

A.Marini: Quite seriously for that matter, because we remember that more than a month ago there was a summit between the EU and China and there were certain hopes that China would participate with investment and funding for the rescue funds. But now it seems these hopes are a bit whithered.

D.Ashikov: There were certain hopes, a lot of statements in this direction that the Chinese could invest in debt bonds in Europe but for several reasons this did not happen. One of the reasons is that China's role in global economy is too big and its presence in global financial institutions, such as the IMF for instance and similar, is sharply in contrast. In other words, they have no representativity that corresponds to its economic and financial weight in the world. And quite reasonably the Chinese wanted to get another status before starting to help and invest in European debt bonds, because there are European economies, which are much smaller than the Chinese but have greater weight in these international financial institutions.

A.Marini: This is a debate that is going on in the framework of the G20 since 2008, ever since in fact the high level format exists for this group, but still there is no agreement.

D.Ashikov: No, there is no agreement but there is another peculiarity when we talk about China and why we should be interested in it - and it is that the economies of a number of Asian countries are also quite dependent on China. As in terms of trade relations among them, so in terms of raw materials deliveries and investment flows. Therefore, the question in what health the Chinese economy is and where it is headed to is vital from the perspective of the entire set of economies in Asia.

A.Marini: So, how is the Chinese economy doing these days?

D.Ashikov: The Chinese economy has started to slow down since last year.

A.Marini: It is being talked about a hard landing.

D.Ashikov: There is a dispute whether it is hard or will be hard, whether there will be a soft landing. The most important thing is that this process is controlled. It is controlled by the state itself and as we see demand in the West is stagnated, consumer demand, which means demand for Chinese goods. Global economy has slowed down, it entered a recession and then exited. At the moment, it seems to be again entering a kind of short-term recession or there will be significant slow down. In these conditions it is unreasonable China to maintain the previous pace of growth, ranging between 10% and 11%. The current Chinese policy is growth to be slowed down to 8.5%. Now it is being talked about 7.5% growth, which is generally healthy as for China, so for the global economy.

A.Marini: Yes, I was about to ask the same - should this be a problem?

D.Ashikov: It is not a problem for China ...

A.Marini: Until when it is not a problem?

D.Ashikov: It is not a problem because there is no point in maintaining this speed of growth without relative external demand. China cannot maintain these big strides of growth using external factors. This is very risky as well and is very difficult to achieve. In the same time China has to solve many internal problems and they are related to the very Chinese economy - its structure. With a huge public sector, which is in the industry, the finances, the way the economy is managed. There are also a number of problems, related to the pure monetary circulation in China and the use of the Chinese currency as a means for payment, including ....

A.Marini: Really? What is this circulation problem?

D.Ashikov: At the moment there are negotiations among China, South Korea and Japan for a common trade zone. A zone of free trade and the three currencies to be freely exchanged and be used for investment purposes, which is currently impossible. You cannot easily acquire Chinese currency and invest it in China. Except if you buy such with hard currency from abroad. There is also a kind of dualism between the currency regime in Hong Kong and China, so the currency that is used in Hong Kong can be used for investment purposes. I would like to stress that in China they have their own domestic problems in arranging their economy, in rearranging certain rules and in restructuring with a view to China's future. At the moment the debate is initiated, as we know the programme China 2030 has been presented already.

A.Marini: And what was interesting about it was that it was written with the assistance of the World Bank, how do you interpret that? Because it can be interpreted as opening to globally respected institutions?

D.Ashikov: Forming a joint team between Chinese specialists and scientists, experts from the World Bank formally was on the occasion of the 10th anniversary of the establishment of relations between them. Practically here we have two elements: one is that thus confidence is significantly boosted in the way the Chinese economic policy is being handled and second, when foreign experts are present. In other words, a lot of doubts would be removed when joint groups of experts from the World Bank, for instance, and China develop measures and proposals for changes of the economic policy. This significantly boosts confidence, mutual trust. And on the other hand, the experience of the World Bank is also used, which had realised a number of assessments and took part in a series of transformations of countries in the past decades. So, it has experts, it has background and very rich experience. And this huge experience is also to the interest of China when developing programmes and strategies for the future.

A.Marini: And obviously, on the other hand, it might mean that the World Bank, and we as well, could have a peek a bit deeper into the ways and mechanisms by which the Chinese economy is managed, because the Chinese development in the past 30 years is unique.

D.Ashikov: I think that in terms of management of the Chinese economy, especially the World Bank, the IMF and other institutions, where economic processes are analysed, there are no secrets how the Chinese economy is managed. This is quite a clear process. This is controlled economy with huge public sector.

A.Marini: Yes, but nevertheless what is known is just the tip of the iceberg, but what is inside probably is not very clearly seen?

D.Ashikov: The inside is a problem of the Chinese.

A.Marini: Why?

D.Ashikov: Because when you have a double digit economic growth in the course of two decades and more, you have bubbling of this public sector and therefore it is developing quite extensively. Its coefficient of useful capacity and its efficiency is hard to be changed. Therefore, if you have lower effectiveness of the public sector, increasing its size would lead to bigger potential losses if you do not reform it. This is the main problem. And at the moment in China must be found various formulae to help transform this public sector. One way is to change the structure of state property. Probably holdings will be established to manage the assets on a sectoral basis.

A.Marini: In other words, property will become half state-owned, semi-autonomous, is that correct?

D.Ashikov: The question is not state-owned or not state-owned sector, because I can give you an excellent example - at the moment the Royal Bank of Scotland is two thirds state-owned, when ...

A.Marini: Well, a lot of banks were rescued ...

D.Ashikov: ... when the British state rescued it. There are a lot more rescued banks which are practically nationalised, so the problem here whether it is state-owned or not is in a sense not valid any more in a time of crisis. And the question is whether a sector is effective or not.

A.Marini: And if they are separated in what way will this sector become more efficient?

D.Ashikov: Another forthcoming measure, which will be discussed, is to separate ownership from management, which is being done in all developed economies. You have a clear separation between ownership and management. And a number of such measures, which I guess the Chinese will experiment on in the beginning in some sectors and industries to see what works in their environment.

A.Marini: And what is the end-objective? You read quite extensively, how many pages was the Chinese programme until 2030?

D.Ashikov: It is quite huge. It was around ...

A.Marini: I think you mentioned once it was some 400 pages.

D.Ashikov: It was some 340 or so pages.

A.Marini: What is the final objective? By 2030 China to become what? Because with this state structure obviously it will be more or less what?

D.Ashikov: China must be very different then. There are several objectives: first to move on to quality growth because the numbers of growth are one thing but behind it are various levels of quality. Then, it has to have another structure and quality of demand, because, again, behind one and the same growth you can have various structures of demand.

A.Marini: So, they will stop being cheap labour and cheap production destination?

D.Ashikov: Gradually they will get rid of a number of industries and a number of businesses, which are more appropriate for countries that are much behind in their economic development and we have observed this many times in economic history - a number of industries that were in USA moved to Japan after the war. Then from Japan, in the course of its development, they moved to South Korea. Then to China. Now, part of these things, it's like in a big family, where the smaller children wear the clothes of the bigger. Currently, these days a process of exporting part of industries is observed from China to Indonesia. And today [March 24] they have signed an agreement with the Indonesians for $17 bn of investments, Chinese investments in Indonesia.

A.Marini: Let us say that, against the backdrop of all the investments, because we discussed this before us starting here, to Indonesia in the past year, so that we can get the scale.

D.Ashikov: Foreign investment in Indonesia last year were $20 bn. Only today's deal signed with China is for $17 bn.

A.Marini: Well, we can only say good for them, while here we are still waiting for investments ...

D.Ashikov: ... therefore there is a kind of race for investing in Indonesia, which is emerging in the past months. China is not investor number one in Indonesia. Before it are Japan, South Korea, the States and even the Netherlands. So, China has a lot to catch up as a foreign investor in Indonesia. It is emerging as the next territory, which will live through economic boom.

A.Marini: I'm very happy about Indonesia because they are really emerging from a level of poverty that we in Europe have long forgotten, but isn't this in fact a bad news for us, because if China is looking at its region for investments this would mean that it won't invest here? I mean in Europe.

D.Ashikov: This is a matter of scale. In Europe how much is the population? 500 million?

A.Marini: 500 million, yes, ageing.

D.Ashikov: Indonesia has 300 million.

A.Marini: Not ageing.

D.Ashikov: With very young population.

A.Marini: This is vital to be mentioned.

D.Ashikov: There is another element - that Indonesia is very rich of natural resources and a large part of them - it is the biggest exporter of coal in the world and is a big exporter of various metals. One of the big exporters of palm oil in the world. These raw materials are now exported from Indonesia to China and other countries. It is quite simple to understand, from economic point of view, that it is better that they are processed on the spot instead of being transported to large distances ...

A.Marini: And there investments go ...

D.Ashikov: ... to be transported to thousands of kilometres. I'm saying this to compare with Europe. Why it is not being invested in Europe? As we see, in Europe we don't have the Indonesian raw materials, we don't have that young population and don't have such a standard of living to allow lower payment.

A.Marini: But we can after all suppose that at least part of Europe has something to offer - know-how, new technology?

D.Ashikov: Look, with these investments comes the know-how. As is said in the economy, when you export an industry, innovation will follow it. And this is confirmed so many times when a number of industries were exported abroad, say from America to Japan, then from Japan to South Korea, etc. The innovation process follows production. Whenever production goes, a new innovation process is born.

A.Marini: OK then, but I, after all this we spoke about, wonder what is in fact the bad news? That the Chinese economy is slowing down or that the Chinese will invest elsewhere?

D.Ashikov: No, the bad news is different and it is that labour in Asia is becoming more expensive mainly ...

A.Marini: For the companies?

D.Ashikov: ... for the companies

A.Marini: But for the politicians it is not, because maybe they will come back.

D.Ashikov: ... but it will be a bad news for the West, including for Europe and for us, because there is no other way but these multinational companies to increase the prices of their end products. So, we will see prices pressure, through which they will try to compensate for the increased production costs in Asia. In a number of Asian countries at the moment there is a process of rising wages for workers ...

A.Marini: Of standards, which roughly means that there will be enrichment of that part of the world at the expense of impoverishment of ours, right?

D.Ashikov: It will not get that rich but it will get closer to the economic realities, because it is normal people to want a greater share of the fruit of economic boom. And to maintain an economic system vital, you need to increase the quality of education, the quality of health care and all this needs money. You cannot maintain poor population, earning miserable incomes and in the same time want to maintain stable growth pace for decades in the future. So, the general rise of payment in Asia, it goes with economic development and in certain periods lags behind, it could lag behind with several years, with 5-10 years, but it cannot lag behind forever and has to catch up.

A.Marini: Is there something the European decision makers, probably the American ones too, but I don't worry about them because they always follow things closely, can do against the backdrop of these new data about the Chinese economy - less growth, dropping production, rising costs for labour? What could they do to respond?

D.Ashikov: Several things can be done. They are with a different level of difficulty, on the one hand ...

A.Marini: And time consumption.

D.Ashikov: ... and on the other hand, the old reflexes need to be taken into account. What does the classic old reflex dictate in this case - a protectionist wave emerges ...

A.Marini: A trade war is emerging too.

D.Ashikov: ... the Chinese subsidise solar panels - let us make so that we restrict the import of these panels to the US. The Chinese have too many counter arguments for subsidised industries in the US. So, a protectionist race begins.

A.Marini: Even now the Chinese violate several rules of the World Trade Organisation by not letting some very significant raw materials, which only they have and which are vital for many technological industries to the West.

D.Ashikov: Yes, but this is not from yesterday.

A.Marini: No, it isn't.

D.Ashikov: These processes are taking place for more than a decade. Who invests where, who acquires what companies for production of raw materials. All this is visible, it is known. You cannot hide the fact that you own a mining-enrichment company in Brazil for example. So, all this was clear to the analysts and was clear to the politicians. The question is why is this coming forward now? I think because of the old reflex, the protectionist reflex. When you want to gain time until you find another way of counteracting or to rearrange things in the new global realities from the perspective of economy, finances, investments, etc., the easiest thing is to resort to protectionism in order to temporarily not halt but slow these processes down. And probably new trade barriers will be discussed, there will be a dispute for the steel, for a number of goods.

A.Marini: Steel is always among the first to fall victim.

D.Ashikov: Yes, so there is a list of the usual suspects, which are taken out. They are always suspects because in our world everybody knows who subsidises what and with how much. It is not that difficult.

A.Marini: And knows where to strike first.

D.Ashikov: Yes, and everyone has a list of usual suspects, which is taken out when the dispute starts.

But nevertheless this will not solve the problem in the long term. But could slow down the search of more durable solutions.

A.Marini: What else can be done? Because this is already being done.

D.Ashikov: Another thing that can be done is to review a number of things, like for example the free trade zones. I expect to see what the US's or Europe's reaction would be if China and South Korea and Japan decide to make a free trade zone.

A.Marini: May be a slight panic?

D.Ashikov: Indonesia will join them and this is very interesting in the context of the Pacific tour of President Obama, who ...

A.Marini: His second I think in his term.

.D.Ashikov: Yes, who launched precisely the idea of another free trade zone, excluding China.

A.Marini: Let us not forget that the Pacific is at the centre of the new security strategy of the US, published in the beginning of the year.

D.Ashikov: Yes, but this is part of the protectionist instinct. Because, as you can see, the first fusillades were fired on the occasion that our trade secrets are stolen. There are people who work for foreign companies, especially in Asia, who steal know-how, technology, etc. and this is where it begins from. There are some enquiries taking place, processes, a bit of spying, then comes the list of subsidised goods. There is technology for this. Not for the first time such things happen in the world.

A.Marini: But the big question many analysts bring forward is whether the Chinese economy is starting to follow this Western model, whereas when you reach a kind of average level, you create a middle class, now we see labour is becoming more expensive, growth starts to fit the framework of the norm for a relatively prosperous country. And if we put to the equation the ageing population, will China suffer from our Western disease?

D.Ashikov: I don't believe so, because there are a number of peculiarities in China and one is that the public sector is very stable. It enjoys the state's full support for funding, for subsidises.

A.Marini: Well, the Greek public sector also enjoyed full support and we saw what happened.

D.Ashikov: I did not see the world invaded by Greek goods. This is the difference. There is public sector in other countries as well, who have insignificant export. As you can see, this public sector serves as a foundation for a strongly export-oriented economy in China and while we observe the transformations in China, we should not expect any serious concussions there. At least I don't expect any.

A.Marini: Which means globally too?

D.Ashikov: Globally, concussions will not come from China.

A.Marini: They will not come from China but obviously will come from somewhere else, right?

D.Ashikov: More precisely, concussions globally have impact on China. They were very concerned during the Greek crisis ...

A.Marini: Indeed they were.

D.Ashikov: ... what its development will be, what will be the impact on the eurozone because it is ....

A.Marini: While being very worried they did not give any money. But they took a very nice harbour in Greece.

D.Ashikov: Well, but this is where we started from - in order for you to give money you have to receive a certain status.

A.Marini: Indeed.

D.Ashikov: You are not allowed in the house but you are asked to give money through the window.

A.Marini: Because China said 'enough'.

D.Ashikov: Moreover, these crises we are observing in Europe with budgets and the finances of certain countries, first Europe should make enough credible mechanisms and sufficient funds to handle these crises. And the argument that Brazil did not take part in the financing, that China did not take part and others who, allegedly develop well but don't take part, is or should be a little bit insulting for the Europeans.

A.Marini: May be it should be insulting for the Brazilians and the Chinese, for the sake of truth.

D.Ashikov: No, it is not insulting for them because they come to them and ask for something. It should be insulting for the Europeans and the European politicians. Once an agreement is achieved at the European level, all of a sudden all of them spread around the world to ask for financing.

A.Marini: It is bit like the anecdote about the man who took the money and said "We'll see". This is how it sounds.

D.Ashikov: I remember that the first, one of the first, trips of which Italian famous politician it was in China? After one of the agreements.

A.Marini: No, I think it was of French President Sarkozy. He made a phone call directly after the October European Council. This was a key summit when very important decisions were taken, one of which was about the second bailout for Greece.

D.Ashikov: And then the Europeans took very important decisions and all of a sudden someone takes off for China.

A.Marini: Yes, in fact you are right that someone went to China, but I can't remember who that was. I do remember, though, that Sarkozy, right after the end of the summit early in the morning made that phone call.

D.Ashikov: OK, he goes to China or calls and says: "Well, they will not give money". And what do the Europeans do? They arrange for another summit.

A.Marini: No, I think he said "Well, we've established this fund. The permanent rescue fund will start operations earlier, if you could get involved in this scheme, that would be great". When they developed that scheme with all the ...

D.Ashikov: Yes, but let me clarify what this is about. Why was this troika established? For Greece for example.

A.Marini: I just want to mention something with regard to the phone call and it is that when this summit took place, I think it had to take place on October 18th at first but the troika's report for Greece was not ready and the summit was postponed. Then it took place and then again on October 26th the final decision was taken. And in that fragment of time, if I remember correctly, the EU-China summit had to take place. I think it was October 25. But then Barroso and Herman Van Rompuy called the Chinese and told them "We are very sorry but the situation with us is tragic, so we can't meet". So, in all this context, we know how easily hurt the Asians are, they finally meet and Sarkozy says: "In fact, we wouldn't refuse some assistance from you".

D.Ashikov: There is a paradox here, a little bit like the Catch 22. Because, in order to enact these policies and this interference in public finances - for instance for Greece and some other nations - here there is a new term, which I would translate in Bulgarian and would introduce it as troiking.

A.Marini: I haven't heard it but it sounds ...

D.Ashikov: There are countries fit for troiking. So appropriate for troiking ...

A.Marini: Because until recently they said rescue, obviously troiking is more appropriate.

D.Ashikov: Because we saw how Greece is being troiked. And in order for this troika to be available, one of its main objectives was to legitimise this entire process. And they say, here the IMF and the ECB take part ...

A.Marini: ... yes, and all of them take part in solidarity ...

D.Ashikov: ... we participate here and responsibility cannot be sought specifically in anyone.

A.Marini: A bit of Pontius Pilatus style.

D.Ashikov: Yes, a large basis of legitimacy is being sought for these measures.

A.Marini: It is called legitimacy but is in fact a distribution of responsibility.

D.Ashikov: However, if we take the IMF - it has legitimacy and weight with such operations and measures that are being imposed, say in Greece, it has to rely on China's support, on Brazil's support, and other serious economies' support. South Africa and others. But there things have been languid for decades as a structure of participation, ownership, capital, decision making, etc. So, there is a kind of Catch 22 in you trying to legitimise a policy in Europe through the IMF in an environment whereas its own legitimacy ...

A.Marini: ... is questioned.

D.Ashikov: It is not questioned but is not as strong as it was before China and other economies to gain so much weight.

A.Marini: In other words, the representation in the fund does not reflect ...

D.Ashikov: ... yes. And in order the IMF to have greater power to tackle such crises and to emphasise on such measures, to have greater weight, it needs more capital from these economies which at the moment do not have sufficient representation. And you have this search of legitimacy for a structure that has lost some legitimacy.

A.Marini: Therefore, as we can talk about China probably until tomorrow morning, is China in general a solution in the context of all we talked about? Can we expect something from China? Good, bad, now, later?

D.Ashikov: I think that it would be best if nothing bad happens to China. So, we should have fingers crossed for those reforms to go through as painlessly as possible.

A.Marini: What was it: if China sneezes...?

D.Ashikov: Yordan Radichkov said this for another country, when there rain started, in Bulgaria people began to put their boots on. So, there are important economies, there are important countries and we have to carefully follow what is going on there.

A.Marini: I would suggest that we end this way because indeed we can talk about this until tomorrow morning. Thank you for being with us. This is not the last time we will be discussing China. We are yet to talk about it for a number of occasions, including on the occasion of the reform of the IMF, so see you again.