U.S. and China: Common problems, different solutions?

by Ken Feltman

Anticipate the difficult by managing the easy.
– Lao Tzu

Recently, a Russian friend told me that Europeans are especially good at dwelling on other people’s problems while Russians and Americans are especially good at dwelling on our own problems. The Chinese, he said, try to make their problems someone else’s problems.

The Chinese have been good at that. When unemployment threatened as workers left rural villages for cities, the government transferred huge sums of money to the banking sector. The banks’ job was to pour that money into construction of manufacturing facilities and to loan the new factory managers money to meet payroll. Many of those loans will never be repaid. In essence, Beijing created a giant full-employment scheme and bailed out the manufacturing sector even as the factories put millions of Chinese to work making products that flooded the West.

Despite squawks from consuming countries, Beijing kept China’s currency and wages at levels that produced a comfortable balance of trade. But producing the products demanded resources and the Chinese were soon scouring the earth in a ravenous search for raw materials. They found them and took them home, often paying premium prices and incurring high transportation costs. They began buying up the sources of raw materials, shutting out other customers and creating more squawks. China stayed the course.

A rough patch

Then the United States hit a rough patch and exposed the weaknesses in the U.S. situation and in China’s as well. The Americans soon dwelt on their economic problems. The Europeans dwelt on the Americans’ problems and took note of their own problems, too. Fewer people took note of China’s developing problems.

Our imports from China have fallen while long-standing Chinese problems remain. In the manufacturing process, the Chinese have sucked up huge amounts of water. They have despoiled their land with industrial pollution. As water supplies began to dry up, the waste from the manufacturing process continued to spill into rivers and streams, creating health problems and destroying agricultural land. Are the booming cities built around the new manufacturing plants living on borrowed time?

For years the Chinese labor pool just kept growing, turning out more and more things for others to buy. Now it shows signs familiar to Western economies: A shortage of qualified, low-cost labor may be just ahead. Soon, China’s labor force should start to shrink. The one-child-per-family policy was never synchronized with the industrial policy. A result, predicted in the Wall Street Journal, will be more wage increases. Already, wages are up, sometimes dramatically, in many regions and across several industries.

China’s rising labor costs, coupled with the increasing value of the yuan, will confront a different dynamic in the U.S.: Increasing efficiencies in production coupled with a declining dollar. The economic advantages that American manufacturers have enjoyed through offshore production will narrow and, in more and more cases, vanish. That good news for U.S. manufacturing comes with a cautionary note.

Change never comes as easily in state-directed economies as it does in free-market economies. Sooner or later, we all must confront and adjust to not just our own but also to our trading partners’ problems. China has tried to confront and adjust to the problems created by lingering recessions in North America and Europe. China’s calls for replacing the dollar as the world’s primary reserve currency may be an attempt by China’s central planners to cushion the blow that China is facing, not a political strategy, as seems the case with Russia and Iran, for example.

The Lada example

Apparently, the lessons of the free market, so easy to document throughout history, are difficult for advocates of statism to comprehend. Russia is still trying to make a success of the Lada automobile, as Prime Minister Vladimir Putin demonstrated again this week. He failed to get a brand new Lada to start while reporters and camera crews watched him fiddle with the ignition.

Last year, Putin embarked on a trip across Siberia to promote the reliability of the Lada. The first Lada broke down and was replaced. The replacement broke down and Putin finished his trip in a third Lada. The Russian government tried to dismiss the Lada’s troubles by saying that the Kremlin had bailed out the automaker during the economic downturn to preserve and create jobs and that objective had been achieved.

Not much has changed. An economist from the old Soviet Union delighted in telling about Moscow’s colossal central planning misjudgments. He cited case after case in which the real goal of factory managers was to keep payrolls full and growing. One plant kept turning out Ladas despite the fact that thousands of finished vehicles sat rusting in storage lots and fields surrounding the plant.

The facility was located in an area selected because of a large unemployed labor pool. Rail and highway transportation was insufficient to get the finished cars to market. But the central planners in Moscow did not shift employment to alleviate the transportation bottleneck. When some Ladas did dribble to market, they did not sell as expected because financing was not available. Potential customers who had cash did not want the Soviet equivalent of a Fiat. They bought a more reliable and more expensive imported vehicle. The managers of the auto plant received awards for increasing production.

Eventually, Moscow found it easier to get the cars to ports for shipment by sea to potential consumers within the USSR and Soviet client states. Even today, old Ladas are not uncommon in former Soviet republics and other markets with command economies. Cuba has thousands. Thousands more still sit rusting beside the shuttered plant.

As Chinese wages spiral, so may China’s currency

China will have similar tales to tell. The Chinese central planners know that they will not be able to control wages with the rigid efficiency of the past. The labor force is now too mobile to sit still for low-paying jobs when higher pay is available by relocating. When central planners cannot control wages, they begin to lose control of their ability to value (or in China’s case, to undervalue) the currency.

America’s rough patch will be extended as China hits a rough patch. China’s rough patch could be another example of China making its problems our problems. The U.S. already has enough problems as the country struggles to become a low-cost producer. At least the higher hurdles of China’s subsidized manufacturing sector and an artificially low currency seem headed toward elimination.

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About Radnor Reports

Ken Feltman is past-president of the International Association of Political Consultants and the American League of Lobbyists. He is retired chairman of Radnor Inc., an international political consulting and government relations firm in Washington, D.C. Feltman founded the U.S. and European Conflict Indexes in 1988. The indexes have predicted the winner of every U.S. presidential election beginning in 1988, plus the outcome of several European elections. In May of 2010, the Conflict Index was used by university students in Egypt. The Index predicted the fall of the Mubarak government within the next year.
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