Is China in the midst of major economic transformation?

How should we interpret China’s market turmoil? Judy Woodruff talks to Nicholas Lardy of the Peterson Institute for International Economics and Evan Osnos of The New Yorker.

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    We turn now to two people who follow events in China closely.

    Nicholas Lardy is an economist and a senior fellow at the Peterson Institute for International Economics. He has written a number of books on China's economic growth, including, most recently, "Markets Over Mao: The Rise of Private Business in China." And Evan Osnos, he's a fellow at the Brookings Institution and a writer for "The New Yorker" magazine. He was based as a reporter in China for eight years.

    And welcome to both of you.

  • EVAN OSNOS, The New Yorker:

    Thank you.

    NICHOLAS LARDY, Peterson Institute for International Economics: Thanks.


    Nick Lardy, let me start with you. You wrote in The New York Times today that all this talk about China being in an economic and a financial meltdown is just wrong. Why do you believe that?

  • Nicholas Lardy:

    Well, the evidence doesn't really support it yet. They could be heading in that direction over the next several months or quarters, but the economy is actually growing reasonably well.

    It's growing at about 7 percent. Consumption demand is fairly strong. Incomes are growing. Wages are growing up at about 10 percent per year. The service sector is the big driver of its growth, so it doesn't look like an economy that's kind of going over the cliff, as some people have anticipated.


    What do you think is happening right now? NICHOLAS LARDY: Well, I think what's happening is mostly a major correction in equity prices. The prices got way ahead in the year to the peak. The peak was in June six weeks or so ago, and in Shanghai, prices were up 150 percent.

    In the Shenzhen markets, they were up by even more. And so prices were in the stratosphere. There was a lot of leverage. People had borrowed money to buy stocks. A small price correction required a lot of those people to start selling those shares, or the brokerages sold them for them, and so you had a big, big downward, sharp decline in equity prices.


    But the equity — you know, price-earnings ratio, which is a very common measure, is still way ahead of what it would be in the U.S. In the Shenzhen market, it's about 39, for example. So this was just an overheated market that was going to correct sooner or later. And it's still going on.

    Evan Osnos, as we said, you were based there for eight years. You still stay in close touch with folks in China. How do they see what's going on in their own country?


    Well, I think one of the things Nic hit on, which is that we're so used to economic growth, both those of us over here and also of course people in China, that when we see this kind of turmoil as we have seen over the last few weeks, it feels radical.

    And that's really what we're seeing. We have to separate in some sense what we're seeing on the stock market from what's going on in the broader economy. And in the broader economy, we're in the midst of a major transformation. And it's a really hard thing to do. As I think the report mentioned in the lead-in, China for 30 years, they succeeded on a certain recipe, which was exports, sending things to us over here, and also building things at home, infrastructure.


    That recipe has run its course. And what they're trying to do now is to move into an entirely different economic chapter, build up Chinese companies, a Chinese Apple, a Chinese Google, for instance, something that can unleash creative power, while also putting money into the hands of ordinary people. Doing that is very, very difficult and we're seeing a lot the turmoil that generates. Why has it been so hard for the leadership to get it right?


    Well, there are short-term reasons to want to go slowly. For instance, if you're one of the people that succeeds under the current system, let's say you're a big state-owned enterprise, for instance, or you're a provincial government that builds a lot of bridges, you have a lot of reasons to want to put the brakes on reform.


    And so we sometimes assume the Chinese leadership is one monolithic group. There are a lot of different voices in there and there are a lot of people are able to say, well, let's try slow down, let's see, let's stop to stop the market from collapsing, for instance. Nick Lardy, how do you see what is going on in the leadership and whether — to what extent have they made a decision to try to turn this monolithic economy which is in transition around and move toward some reforms that you have written about? NICHOLAS LARDY: Well, in principle, they have made decisions to change to a new growth model, as Evan has said. In practice, it's very difficult to carry out.

    They have made progress. Consumption has become a more important driver of economic growth, as just — as opposed to building more property and infrastructure. And more money is filtering into the hands of people. And you see a huge increase in expenditures on services. People are spending a lot of money on education, health care, entertainment. Travel has become a big part of the economy, so we're moving away from the industrial-based growth that was so important for so long, towards this more consumption-driven model.


    But it's challenging. And they have made some progress over the last few years, but there is still a substantial way to go. What is it thought, Evan Osnos, that the leadership really wants? How far do they want to go? And how do you know for a fact that that's what they want? Because there was a lot of speculation last week and the week before, no, this was just an effort to shore things up in the short-term, that it's not at all clear they're committed to reform. EVAN OSNOS: Well, the man at the top, and he's a very powerful figure, Xi Jinping, who is the Chinese president, head of the party, head of the military, he has really staked his name and his reputation both internally and abroad in saying I'm going to transform the economic model.

    And one of the ways that you know that he's encountering resistance is that he says I am encountering fierce resistance. He uses the abundant powers of the state media to say we are in a fight.

    And that tells us on the outside is that there are serious conflicts going on inside Chinese politics, people who say, well, let's not move too fast or we're going to undermine all the things that we have.


    So I think what you're seeing today is less second thoughts among the leadership than it is a real war within to try to figure out how fast and how far you can go. How does that play itself out? If this really is an internal debate, and there is every evidence that it is, Nick Lardy, how do you see this moving forward? NICHOLAS LARDY: Well, I agree with Evan. It's a conflict between those that want to maintain a great deal of state control and those that want to reform and rely more on the market.


    And so that's the tussle. But I think the evidence is, as they have relied more on the market over the last decades, their economy has been growing strongly. And I think as they debate this, they are not always going to go for control over the market. At the end of the day, the party needs to have reasonably strong growth to remain in power. And they recognize ultimately that the market is what's going to deliver that growth, not traditional state enterprises and a heavy-handed government intervention in the markets. So, Evan Osnos, what's going to be driving the thinking of the leadership of China in the coming months? You have got Xi's visit, as you just said, next month.


    Sure. Yes, Xi Jinping of course is coming next month. They want to make sure that things are going as stably as they can be when he comes.

    We sometimes think that the Chinese government is impervious to its own public opinion, because of course it's an authoritarian government. It doesn't have elections of the kind that we have. The truth is they're very sensitive to public opinion. In fact, they're — in some cases, they are very afraid of public opinion. They know that a dissatisfied public is a precursor to political and social unrest.

    And so what they look — they can look over the horizon and they say, if we continue on this economy path, we are going to stall economically, we're going to get trapped in what is known as the middle-income trap, meaning that we're not going to be able to make that final leap to being a fully highly advanced country, and that is the real risk for them over the long term politically.


    And so, in a sense, there's the short-term political instability that they're trying to avoid by having a stock market collapse. But at the very top, they know that the bigger risk is actually falling short of making the reforms they need to make. Well, fascinating to watch. And we thank you both for helping us understand it a little bit better.

    Evan Osnos, Nick Lardy, thank you.


    Thank you. EVAN OSNOS: Thanks very much.

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