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The Bamboo Curtain splits - and the world changes by Dr. Michael Power, Investec

This article is based on the presentation given by Dr. Michael Power, equity strategist, Investec, at the annual EE Publishers breakfast in February 2006.

Virtually every economist I speak to in South largely in the image of the Old World – one growth, but one that was regularly interrupted Africa has singularly failed to grasp the enormity led by consumption and not production, and by painful dislocations to its key macroeconomic of the changes that have been unleashed upon reinforced when necessary by “prudent” metrics. The most formative experience came in the world by the falling of the Bamboo Curtain of government spending. In today’s world, and early 1993 when, after a decade of haphazard in 1979 and then the collapse of the Iron especially for an emerging market, this quite and disjointed liberalisation, a serious bout of Curtain of the Soviet Bloc a decade later. And simply creates a back-to-front economy, one that inflation caused the value of the Remnimbi to since 1991, the Silk Curtain of has, if not puts the consumptive cart before the productive fall over 50% in less than six months. yet been fully crumpled, at least been torn. horse. In the wake of this salutary lesson, China’s policy Most South African economic commentators To understand this, one has to realise just how makers resolved “never again”. To ensure this, – both in the public and the private sector differently the next economy that will probably they designed a set of policies that would still – are still trapped in the old paradigm, one claim the über alles title – China – is gearing deliver high GDP growth but which would also where the structure of the global economy itself up. Only then can one appreciate how ensure that this hyper-growth did not lead to is headed by the über alles. the Chinese model is quite literally turning periodic bouts of inflation and so uncontrolled Increasingly, their benchmarks – be they risk modern economics – and, with it, the world devaluations. To do this, China effectively free rates or PPP currency comparisons - are economy – on its head. South Africans, take reconstituted its own atmospheric pressure for out of date. As a result, their understanding note; your future depends upon appreciating the capital, but at a barometric level that, whilst of the practicalities of modern geo-economics implications of this stunning volte-face. lower than the outside world, was sustainable for verges on the pre-historic. Not surprisingly, their the foreseeable future. Their primary decision in It may help to think of China as a space-ship conventional wisdom is built around a world this process was to fix the Chinese Remnimbi to full of a billion plus people which crash-landed of macroeconomic management that, echoing the US Dollar at a rate that would help generate into Mother Earth in 1979. This followed the the Keynesian Revolution, is little more than about 10 million new jobs a year. 1976 death of its communist pilot, Chairman demand management writ large. They believe Mao. Its new captain, Deng Xiao Ping, forced In the decade since 1994, this policy has proved governments should spend counter-cyclically opened the door of that stricken vessel and to be a stunning success, but only now is it – even when hyper-democracy dictates that they persuaded China’s Communist Party that the easy to see why – it allowed China’s economy cannot “down-spend” as much as they should only way forward was to integrate its ramshackle to gain traction with the Western consumer by in up-cycles – whilst central banks, echoing economy into the capitalist world in which it offering the latter all manner of goods at much the Friedman Revolution, should do their best now found itself. cheaper prices. Since then, China has prospered to keep inflation (much of it generated by mightily, because it has avoided being sucked unproductive government spending) in check. What is perhaps less appreciated is that the into the lop-sided Western paradigm. This means And the typical outcome of this old paradigm price structures and value hierarchies that it has essentially shunned a world characterised is the Anglo-Saxon style economy: long on characterized the economy of communist by a savings deficient US at its core, sucking consumption, short on savings, debt-fuelled, China – think of them as the spaceship’s in often scarce capital from the periphery. experiencing a boom in property prices and own particular atmospheric pressure – were China has controlled its own atmosphere running a large current account deficit. Sound completely different from the capitalist world through a combination of “pressure valves”, familiar, South Africa? that Deng was now forcing his compatriots to essentially a fixed exchange rate backed up by join. To say that it was lower would be to miss Harvard’s Richard Freeman recently noted: “The capital controls on domestic individuals and the point entirely: it was so much lower that it entry of China, India and the former Soviet bloc institutions. In doing so, it not only retained its was off the barometric scale that was in use in to the global capitalist economy is a turning point own capital (with all the attendant risks with the global economy of 1979. So for the next in economic history”. And into this transforming regards to the misallocation of that capital), but decade, as the capitalist air rushed through the world has been born the New South Africa. it has now firmly established itself as the world’s breach in the superstructure of that Sino space- But with the IMF as its policy midwife, it is not premier destination for FDI, surpassing the US ship, China was forced to adjust its previously surprising that the Rainbow Nation was baptized in this status in 2003. closed economy to the capitalist atmosphere in the spirit of the Washington Consensus. And, outside, and do so at breakneck speed. The result One benefit to the West of this Sino-centric not surprisingly but very sadly, this newborn has was that, during the 1980s, its warped economy arrangement – which perhaps explains why ended up building its post- economy endured a rollercoaster ride of high economic the West has been prepared to live with it for

8 Elektron February 2006 so long – was that Chinese-made goods entered of Eastern ones, particularly the Remnimbi. the rest of the world at so much lower levels than The new currency regime China put in place Engineering week for previously prevailing and Western consumers during last August is the mechanism by which (and so voters!) lapped up this windfall, even this equalisation will be achieved, though every students - if it was for the most part financed by debt! indication thus far suggests it will be done at a Think of China as a giant air-conditioning unit, pace dictated by Beijing, and no one else. April and July 2006 cooling the world’s price structure and creating The faculty of Engineering, Built Environment Over the next decade, the Grand Strategy of a deflationary undertow that has allowed and Information Technology at the University China must be to avoid the global hard landing Western central bankers to claim they had slain of Pretoria will present two Engineering that would surely happen if one or other side the dragon of inflation. The reality, of course, is Weeks for Grade 11 and 12 school learners was to deflate or reflate too fast. To achieve this, that the dragon itself had played a greater role in China must grow up its domestic consumptive on 9 -12 April and 2 - 5 July 2006. inflation’s ‘death’! (Since then, a second AC unit power to wean itself off a debt-drenched Western has been hitched up to the Western economy. During these Engineering Weeks, the learners consumer. No doubt there will be hiccoughs Supplementing China’s cold air in the form of will have an opportunity to get acquainted along the way but, if the mandarins of Beijing are cheaper goods, India has generated more cold with the engineering profession and the careful, they can minimise the buffeting caused air in the service sector, using the ‘vents’ of the various disciplines in engineering, in terms these “atmospheric disturbances” as China’s internet to deliver these lower ‘temperatures’ of both theory and practice, so that they economy comes down to earth. across the Western world). can make an informed career choice. From Meantime, have the oil price and perhaps experience we know that learners regard this Adding weight to this alternate paradigm, China even the gold price become the most visible as an enlightening, educational and valuable has, in the wake of the 1997 Asian Crisis, barometers of rising Chinese atmospheric experience. garnered itself an East Asian fan club. This pressure? includes Hong Kong, , South , Contact Aubrey Louw, (012) 420-2482, , , , the Contact Dr. Michael Power, Investec, [email protected] and ; indeed one might even argue Tel (021) 423-8305, that has become a de facto member. [email protected] This cabal of countries has, to varying degrees, attached themselves to China’s atmosphere Painting Africa yellow - thereby reinforcing China’s policy. This they did China has arrived! by employing similar tactics to those used by China: a managed exchange rate with exchange controls on locals. This has enabled them to regulate their own “air pressures”. The balancing item in this global equation – for otherwise the US-centric paradigm would have imploded – has been a willingness by Asian central banks (Japan included) to support the Old Order via purchases of US dollars and especially US treasury bills. This was necessary because foreign private sector purchases of US dollar assets would have in no way been sufficient to keep the US show on the road. This ‘atmosphere’ analogy suggests what China will do in the next decade as the Asian Century dawns. These pressures will be very gradually equalised through a combination of “deflation” (never has that word been so graphically correct!) via the slow devaluation of Western currencies and “reflation” via slow revaluation

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