Tuesday, January 29, 2008

China.... consume or save?

"We're told that saving rather than consumption will ultimately lead to increased economic growth, as saving will encourage increased investment. However, some commentators insist that Mainland China take steps to increase domestic demand, which is the exact opposite. Why is that?" - Zheng

That's an excellent question! The issue with Mainland China is that it has developed very rapidly on the basis of ever increasing exports to the rest of the world. At the same time, the high level of domestic savings has financed increasing levels of foreign investment outside of China.

But this may be a fragile source of growth. There is growing resentment in some of the rest of the world as China's low-cost production drives foreign domestic producers out of business (irrational, in my view, since the rest of the world benefits on net from free trade with China), leading to increased talk of protectionism. (A by-product of China's massive trade surplus is its growing foreign currency reserves).

Also this makes China's continued development very dependent on the economic health of the rest of the world. Right now, with the US on the brink of recession, it is easy to see that this may not be in China's best interests.

Finally, and most importantly, China appears to be suffering from a serious imbalance. Why does the Chinese economy as a whole save up to 40% of total income (see here)- much higher than nearly any other economy? This suggests some structural problems that the Mainland Government would do well to try to rectify.

In sum, many commentators interpret China's high savings rate and massive trade surplus as symptoms that something is not right in the Mainland economy. It's the "something" that they'd like to see change, rather than the savings rate per se.

2 comments:

The Kiwis said...

//There is growing resentment in some of the rest of the world as China's low-cost production drives foreign domestic producers out of business (irrational, in my view, since the rest of the world benefits on net from free trade with China), leading to increased talk of protectionism.//

Given that the benefits of free trade are spread among all consumers each saving some bucks and that the harms on inefficient foreign producers can result in job losses and factory shutdowns, it's perfectly rational that the latter have much greater incentive to pay for lobby service, leading to increased talk of protectionism. And like you said, compensating the losers can be a problem, both in principle and in practice.

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