The view from Beijing

China's economy expanded at a mere 9% rate in the third quarter, well below expectations and nowhere near the 11.9% for 2007. With news like that, it's getting harder every day for officials to ignore the global financial crisis knocking on their doors.

Give them credit for trying, though. In late September, when world markets were in a panic after the U.S. Congress failed to approve the first bailout plan, top Chinese political leaders at an economic forum in Tianjin ignored the frightened expressions and frantic BlackBerrying of the Western investors on hand and stuck to their familiar scripts. They reiterated their long-term commitment to market liberalization, making polite but pointed jokes about how U.S. banks are looking more socialist these days than their Chinese peers.

Continue reading below

---

The major Chinese media outlets have so far framed the global financial crisis as a foreign problem. According to one source, the government has even quietly advised television producers to keep the gloomiest economic analysts off the air. As reports of trouble have percolated up from regional and business media, the response has been to spin. "Official says no massive bankruptcy in Yangtze River region," read an unconvincing headline on Oct. 16 from official news service Xinhua.

The eyes-averted posture so far falls well short of what China watchers in the West had been hoping for. Economists and analysts in the U.S. and Europe have called variously for China to offer a massive loan to the U.S. financial sector, conditional on reforms, or to set up an Asian monetary fund. There's been speculation that China will offer support to financially troubled developing countries, thereby increasing its influence with them. And when are Chinese investors going to buy some more stakes in struggling U.S. and European financial institutions?

Given China's financial position -- nearly $2 trillion in foreign reserves and a financial sector better insulated than most from the international havoc -- those ideas may not seem so far-fetched. But the reality is that China's leaders are far more driven by domestic priorities. That seems unlikely to change anytime soon, especially since the effects of the global economic slowdown on those same priorities have become impossible to ignore.

China's fast-growing export sector--which accounts for 37.5% of GDP, according to J.P. Morgan--has already begun to falter, and economists expect it to take a much sharper hit as the demand slowdown in the U.S. spreads to Europe and Japan. Local newspapers and TV have started reporting on the troubles of small and medium-sized exporters. The bankruptcy of a giant toy manufacturer in southern Guangdong province in mid-October that cost 7,000 workers their jobs was widely covered in the Chinese media.

Around the same time, the chairman of the China Securities Regulatory Commission conceded at a Beijing conference that the U.S. credit crisis "poses grave challenges to China." And as if the external headwinds weren't bad enough, China's manufacturers must also cope with inflation in wages and raw-materials prices as well as the appreciation of the renminbi.

In response, China has already slowed the appreciation of the renminbi. Bureaucrats have been talking up the need to goose domestic consumption to make up for the falloff overseas. Most economists, though, believe the process will be long-term, no easy feat in a slowdown.

The troubles in the corporate sector are now starting to make themselves felt in China's banks, which (with most of their holdings in renminbi) have managed to avoid much direct exposure to the subprime debt crisis. A September report from Fitch Ratings says all but one of 11 listed banks reported significant increases in overdue loans in June, compared with six months earlier. Another potentially troubling development for banks, some of which have made substantial loans to developers, is the recent slide in property prices around the country.

On a separate front, steep declines in the stock market, down about 70% from the highs of October 2007, may begin to slow consumption. Luckily, equity ownership is much less widespread in China than the United States.

How to respond is a puzzle for the nation's policymakers, who were in inflation-fighting mode earlier this year after sharp rises in the price of staples such as pork and cooking oil stirred resentment among even middle-class Chinese. In September, the central bank, concerned over signs of slowing growth, shifted course and has since enacted two rate cuts. But it must still remain sensitive to any signs of returning inflation.

The fallout from the global financial crisis has begun to hit at a time many thoughtful Chinese are reflecting on the need to revise the export-oriented, growth-at-all-costs model that has held sway for the past three decades. As the government is uncomfortably aware, economic gains have also led to disturbing income inequities, environmental devastation and a startling absence of the most basic regulatory oversight--witness the shoddy building construction responsible for thousands of unnecessary deaths in the Sichuan earthquake or the scandal over adulterated milk that killed Chinese infants.

Beijing, conscious of rising dissatisfaction among the nation's hundreds of millions of poor, has been planning to focus on a new round of changes to grasp some of these problems, including rural land overhaul and healthcare and pension reform. Its lengthy domestic to-do list is important to keep in mind at a time many outsiders are waiting for China to take a more active global role, filling the vacuum created by a decline in American power.

No doubt Beijing would happily accept greater influence as a byproduct of its economic strength. But the Communist Party's overriding goal is to bolster its legitimacy with the Chinese people, not to win friends in foreign capitals.

Some analysts, talking up China's potential clout, have pointed to the Pakistani president's appeal to Beijing earlier this month for a cash infusion to stave off a default. Yet Chinese officials reportedly turned him down.

Beijing isn't likely to spend its reserves of goodwill on any undertaking perceived to primarily benefit foreigners, especially given the prevailing view that Western banks are stuck in a mess of their own making. Last month, Liu Mingkang, chairman of the China Banking Regulatory Commission, described the United States' zero-down-payment plans and reverse mortgage loans associated with the credit crisis as "ridiculous."

It's already bad enough that China's $500-plus billion in Treasury holdings risk losing value from the dollar-depreciating effects of the U.S. bailout.

Odd as it seems coming from an export powerhouse, there has been a note of economic isolationism from Beijing. As Premier Wen Jiabao said late last month: "What China can do is maintain the momentum of [its own] sustained growth ... that would be an important contribution to global stability."

Strikingly, amid the crisis, China has yet to show itself as an opportunistic investor. Its most aggressive move to date has been upping the China Investment Corp.'s stake in PE group Blackstone Group LP from 9.9% to 12.5% on Oct. 17. Morgan Stanley, which discussed selling a stake to CIC, ended up striking a deal instead with Mitsubishi UFJ Financial Group Inc. So far, Japanese and Middle Eastern investors have shown themselves far more willing than the Chinese to take advantage of beaten-up valuations during the crisis, though that could change. Chinese buyers are reportedly interested in buying up some of American International Group Inc.'s assets, probably in China or Asia.

But for now, seemingly impervious to the chaos on all sides, China keeps trundling along with its liberalization agenda, aiming to slowly and gradually extricate government from business. The government--which, for better or worse, happens to be run by a bunch of single-minded ex-engineers--seems unfazed by the pro-regulatory ethos enveloping Western capitals.

An editorial in the prominent Chinese financial journal Caijing cast the crisis as a test that will help determine whether China sticks to its market reforms. On that front, the signs are still good. The United States may have banned short selling for nearly three weeks during the financial panic in late September, but in China the stock exchanges are preparing to permit it, along with margin trading.

Post a comment

Name:

Email Address:

URL:

Remember personal info?

Comments: (you may use HTML tags for style)

Please only click "Post" once. It may take a few moments to process.