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| FIGHTING THE ASIAN FLU | |
 July 1, 1998  | |
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ELIZABETH FARNSWORTH: For more we're joined by three economists who watch China. K.C. Fung is Professor of East Asian Economics at the University of California, Santa Cruz. He's co-authoring a book on U.S./China trade relations; Barry Naughton is Professor of Chinese International Affairs at the Graduate School of Pacific Studies of the University of California, San Diego, he's the author of "Growing Out of the Plan, Chinese Economic Reform;" and Greg Mastel is vice president of the Economic Strategy Institute, a Washington think tank. His recent book is entitled "Rise of the Chinese Economy." Thank you all for being with us. Barry Naughton, how crucial is China's economic role in Asia now, given all of its economic problems? BARRY NAUGHTON, University of California, San Diego: China's economic role has increased dramatically during the course of the Asian crisis precisely because it's been the one economy that has managed to adapt its policies pretty effectively to the overall growth slowdown. So people have tended to look to China for its new leadership role. But we have to say, in all fairness, that Japan's economy is still by far the largest and most important in the region. ELIZABETH FARNSWORTH: Professor Naughton, for those of us who don't follow this as closely as you do, explain why China's currency did not fall in value precipitously like Thailand's or Indonesia's did. BARRY NAUGHTON: Well, China's currency is less exposed to international markets than the currencies of Thailand or Indonesia. It's not convertible on the capital account, so that means if you want to convert the Chinese currency into dollars, it has to be associated with a trade flow, either an important or an export. That means it's not as easy for large amounts of capital to flow in or out, and it's also not as easy for people to bet large amounts of money either for or against the value of the currency. ELIZABETH FARNSWORTH: But the government can devalue when it wants, right? BARRY NAUGHTON: The government effectively sets the value of the currency by intervening in the inter-bank market to buy or sell dollars, so, yes, the Chinese government could, in principle, devalue the currency. But if they did that, they'd have to explain the fact that they're devaluing while they have a very large trade surplus. ELIZABETH FARNSWORTH: Greg Mastel, what are the pressures now to devalue? GREG MASTEL, Economic Strategy Institute: Well, China is in a tight spot right now. As your setup piece mentioned, it's got great layoffs because of the state-owned enterprise reform, its banks are weak, and its exports are beginning to slump. Now throughout China's grand growth period since 1978, exports and foreign investment have been the engine that really pulled China along. And exports are beginning to slide because it's getting competition from some of its Asian neighbors, and some of its markets may not be absorbing as much Chinese product as they have in the past. That gives China an incentive to try to devalue the RMB to gain a temporary trade advantage, but there's also offsetting interests. Of course, they don't want to-as Professor Naughton mentioned-they don't want to embarrass themselves in the world community, and they enjoy the positive press they've gotten by holding their currency stable throughout the crisis. ELIZABETH FARNSWORTH: Go ahead. GREG MASTEL: But I think that six to nine months down the road, if things don't improve, the temptation will really grow in China to think about devaluation as a serious option, particularly if the yen weakens. ELIZABETH FARNSWORTH: And Professor Mastel, the basic point is they would want to devalue the currency, which you referred to as the RMB, right? GREG MASTEL: RinMinBi, yes. ELIZABETH FARNSWORTH: Because it would make their exports cheaper? GREG MASTEL: Exactly. By devaluing their currency, they gain a temporary trade advantage of making their exports cheaper and imports more expensive. ELIZABETH FARNSWORTH: How do you, Professor Fung, see the pressures to devalue and the possible outcome? K.C. FUNG, University of California, Santa Cruz: I feel that at least three reasons why I think the Chinese government will not devalue the currency. One, I think a lot of people would agree that it's not going to work. The reason it's not going to work is because everybody thinks that if China is going to devalue, it's going to generate a new round of competitive devaluation by other currencies as well. So if other countries match the lower price of the exports, then the Chinese exports will not increase. Second, there are alternative ways, while not perfect, that the Chinese government could stimulate domestic economic growth. One is through domestic demand. At this juncture the inflation rate in China is very low, officially at 2.8 last year. It has been practicing tight monetary policy for the last four years. So there is elbow room to stimulate the domestic demand and thus economic growth through expansionary fiscal and monetary policies. And thirdly, I think while everybody talks about the potential benefits of devaluation, there are also costs and not just political. Economically speaking if a devaluation that is not matched by other currencies and if it works, it's going to increase prices of imports into China, and some of these goods are precisely the goods that are necessary to further develop the technology sector in China: machinery, equipment, or purchase of foreign technology. And, as your piece shows previously, there will also be negative repercussion on Hong Kong. It would put pressure on the Hong Kong dollar, which is really the focus of confidence in the Hong Kong economy right now. ELIZABETH FARNSWORTH: Barry Naughton, how much has China opened up? How far has the reform gone, and how much more vulnerable does that make China? BARRY NAUGHTON: China has, in a sense, has gone sort of most of the way towards the market and most of the way towards an open economy. But it still has some very important barriers to still cross. Those barriers are, on the one hand, the problems that are preventing China and the United States from agreeing on WTO membership. But there are also some of the additional weapons that allow China to keep its economy insulated from the Asian flu. So I think right now they have the technical ability to maintain their currency value, and I think, as Professor Fung pointed out, they also have a very good likelihood that they'll be able to stimulate the domestic economy to replace the growth impetus that would have come otherwise from growing exports. ELIZABETH FARNSWORTH: Greg Mastel, is that how you see it? And comment too on how vulnerable you think China's economic reforms make it. GREG MASTEL: Well, I think China is going through a very critical period of economic reform right now. As I said, there are big problems out there, state-owned enterprise reform. The banking sector is weak, and China's trying to deal with those problems bravely by reforming the state-owned enterprises. But that causes considerable cost in China. Unemployment is rising. There are some financial problems. The Chinese could embark on a bold course-can open up, need to adjoin the WTO and use exports, and economic reform is the engine growth-or they could retrench and try to stop reforms and use the Asian economic crisis as a reason to wait for a while and watch and see if infectious reform is really a good idea or not. I'm not sure what direction the Chinese will go, and a lot depends on what happens in the next six months. As I say, if economic conditions improve, I think the Chinese will continue on a course toward reform. If they deteriorate, I think we might see some entrenchment. ELIZABETH FARNSWORTH: And when we're talking about-Professor Fung, when we talk about-when you talk about unemployment, we're not just talking about numbers, we're talking about a real potential for some social upheaval here, right? How many people are we talking about who could be left unemployed by the changeover from state-owned industries to private ones? K.C. FUNG: I think estimates by World Bank put the number at 10 to 20 million people by the end of 2000. Now, of course, it's very difficult to forecast exactly what it is. It is, no doubt, a critical juncture for the reform process of China. Having said that, though, given the current record of how China has been able to carry out some of the difficult reforms, including achieving a soft landing, of reducing inflation rates from very high and almost socially dangerous level- ELIZABETH FARNSWORTH: By soft landing, you mean reducing inflation rates without too much- K.C. FUNG: Without too much- ELIZABETH FARNSWORTH: --negative effect. K.C. FUNG: --negative economic effects. The growth rate, it slowed down, but partly that's again explained by the slowdown in Asia as well. So given those current records, I'm still confident that they're able to achieve a satisfactory outcome. ELIZABETH FARNSWORTH: Barry Naughton, what do you think China's leaders are learning from the economic crisis? What conclusions are they drawing? BARRY NAUGHTON: Well, I think they're learning that in the last step of a transition to a market there are some very significant dangers that you have to be very careful to avoid. It's not enough to create the institutions that work adequately in a market economy. You also-there's a very difficult period where you have to let go of your children and let them walk by themselves for the first time. And that's a difficult stage, because that's precisely the stage when an economy is most likely to run into difficult problems and into crises. But I think the thing we really need to keep in mind here is that this process of change that Professors Fung and Mastel are talking about is already well underway. I mean, the restructuring of enterprises is going on right now. The unemployment has been created, but so has the re-employment of many of these laid-off workers. So it's an economy that's in the middle of a process of very dramatic change. And I think that, although that carries dangers, it's also a very promising development for us. ELIZABETH FARNSWORTH: And Greg Mastel, you've said something about this, but expand a little on what you think the Chinese leaders have-what kind of conclusions they've drawn from what's happened around them in Asia. GREG MASTEL: Well, I think that's a huge question. I think we hope they've learned that there are-that you have to be careful in managing a market economy. This next step is critical, as we hope they've learned. I think we fear they may have learned that maybe this market reform is not such a good idea, maybe it makes sense to maintain government control, and to maintain some of those state limits on trade and on the currency exchange, and to hold back reform, or move much more slowly. I guess I fear they've actually taken this as a lesson that they need to be much more conservative, and this may actually slow it down the pace of reform in China, the recent events in Asia. ELIZABETH FARNSWORTH: Why do you fear that, Mr. Mastel? GREG MASTEL: Well, I think the Chinese believe that the reason they weren't swept up in the Asian economic crisis, the only reason they weren't swept up, is because they maintain controls in their currency. They didn't have this control, because they were more market-oriented like Indonesia and Thailand. It would have been swept right along. And that may have been true in isolation, but it ignores the fact that if they had a fully developed market economy and a sound banking system, they wouldn't run the same risk of being swept up in currency speculation. But, again, the lesson the Chinese I think have taken from it is, it's better to have some controls in place, it's better to go slow, maybe even slow down entirely on the reform process. So I'm concerned that despite the optimism we heard from the other two panelists, that China may not be moving in a happy, positive direction in the future. In fact, it may be slowing down the reforms that it undertook in the last 20 years. ELIZABETH FARNSWORTH: And you're not so concerned about that, are you? K.C. FUNG: I think there are two parts to that. One is the control on the capital account. And I think that would likely going to stay- ELIZABETH FARNSWORTH: Explain what that is. K.C. FUNG: That is whether people can convert a currency for activities that are not related with import and exports. That has always been seen, I think, increasingly, so even by mainstream economists that the flow of hot money in and out of economies can have very dangerous consequences. But on the other part- ELIZABETH FARNSWORTH: Hot moneys being moneys that aren't related to definite and specific- K.C. FUNG: Fundamental economic factors. ELIZABETH FARNSWORTH: But that's not happening in China. K.C. FUNG: That is not happening right now, and in the past, there have been urges by outside commentators that they should open it up more quickly. But the banking reforms, I think, in the sense that getting-trying to get rid-or get a handle on that non-performing loans-I think that is proceeding, so one part of the whole reform package may be delayed, and then the other part is going to increase actually. ELIZABETH FARNSWORTH: So you think the message is that they're taking from the crisis is actually not to slow down reforms too much. K.C. FUNG: No. No. ELIZABETH FARNSWORTH: Well, thank you all very much for being with us. |
