If we are to understand the broader reasons why the global economy has unravelled so swiftly, we need to examine the crucial relationship between the world’s biggest economy, the United States, and its eastern pretender, China. This relationship has for many years driven globalisation and has the potential now to wound that same project fatally. For a decade or more, the United States (along with the UK) has pursued a model of growth based on debt-fuelled consumption, the cash and cheap goods provided courtesy of China. Pursued to its limits, this relationship has become dangerously unbalanced, the myth of its sustainability brutally uncovered as the complicated financial mechanisms that hitherto propped it up, dramatically collapsed. The West’s position in the world may never be the same again.
In the 1970s and 1980s, various legislative changes allowed Wall Street to access a huge new source of finance which it sought to invest to maximum value, encouraging corporations to invest globally and exploit new markets. Alongside this came a ‘hollowing out’ of the US manufacturing industry as companies looked abroad for cheap goods and labour. Whilst the working classes of America were invariably the losers of this deal, politicians made the case that the benefits to the US would outweigh their collective plight. New employment would be found in services, technology and the like, workers would be ‘re-skilled’ and the vulnerable would be caught by the welfare system.
China was poised to take advantage of these developments. Moving away from command socialism in the late 1970s, the country started to develop strategic industries with a global market in mind. The United States was happy to pave the way for further Chinese integration into the global economy. However, whilst China did liberalise and open certain sections of its economy, it kept the door to its domestic market firmly closed. By casting aside the established rules of free trade, China became the overwhelming beneficiary of globalisation, exploiting western markets whilst reinforcing its role at the centre of a powerful Asian market bloc. It simultaneously built up its own internal market and service sector, accrued vast reserves and began to secure stakes in strategically important commodity corporations and those which agreed to transfer technological know-how.
To disguise the increasing wage stagnation in the US, politicians eagerly took advantage of the low inflationary environment provided by cheap Asian labour. They turned to a high consumption economic model fuelled by debt (often racked up against Chinese reserves) in the private and public sector. With easy credit and cheap mortgages, US and UK individuals were able to borrow cash as never before, the false perception of wealth embedded by access to cheap Chinese goods. Meanwhile financial services in the West thrived to manage the seemingly insatiable demand for new investment instruments.
Even in the late 1990s there were nagging doubts about the sustainability of this arrangement. But to rectify them would cause short term economic difficulties and get politicians into hot water with angry voters. Furthermore, the United States was still in the driving seat. It would always be able to dictate the terms of its relationship with China…or so we thought.
Make no mistake, China will not emerge unscathed from this global recession. Given that China relies heavily on a healthy US consumer, it is conceivable that the unbalanced, but overly dependent relationship may yet develop into a tight economic alliance. Nevertheless, China remains on a growth trajectory that seems set to take its economy past that of the United States by 2050. The US Treasury and its ailing banks have been stabilised by Chinese loans. The US market remains dependent on cheap Chinese imports. It is hard not to conclude that in truth China holds almost all the cards when negotiating the terms of its bargain with America. What is more, its ascendancy – and that of near neighbour, India – may only just be beginning.
The legitimacy of western capitalism has always been bound up in the idea that it can best deliver prosperity to the masses, offering many millions a route to middle income stability each year. But as jobs and money have been sucked eastwards, that mass prosperity – for the West at least – may no longer be guaranteed. The wealth of the past two decades is increasingly being regarded as an illusion and the competitive edge the US and Europe have over China and India in services, technological development and scientific research may just as easily be taken from us. China is churning out millions of industrious, well qualified engineering and technology graduates. As it controls stakes in so many western corporations, it is also able to transfer and copy intellectual wealth with ease. Soon the powerhouses of Asia could be undercutting western labour not only in manual jobs but also white-collar and the most highly qualified management positions.
So what will China do with the strong hand it has engineered? Many naïvely assume that China will inevitably become more open, democratic and western. They hope that it will abide by the western ideals which have shaped the world’s international institutions and laws. It will play by our rules. But all these notions betray a fundamental misunderstanding of how China operates.
China has played – and continues to play – a patient game. Not for that country the quick fixes and instant gratification inevitably pushed for by western democracies. Instead it has pursued a path along the lines of Deng Xiaoping’s ‘Twenty-Four Character Strategy’ – observe calmly, secure our position, cope with affairs calmly, hide the extent of our capacities, bide our time, maintain an assiduously low profile, never claim leadership and make some contributions apparently from the sidelines. It is inconceivable that China will not now seek to exercise its muscle on the international diplomatic and military stage as a result of the strong hand that has been quietly won.
What does this all mean for the UK? Curiously, now that the price of our national profligacy has been put into sharp focus, policymakers seem determined to return to business as usual. Further borrowing and the maintenance of historically high levels of public expenditure seem the order of the day, as government remains reluctant to prepare voters for some very inconvenient truths.
In cold reality, as a medium-sized economy primarily reliant on a hitherto booming financial services industry, we will remain vulnerable for some time to come. Average salaries and wages have stagnated for almost a decade, a fact that has been disguised by grossly inflated asset prices. Merit and hard work is no longer inevitably translating into secure, well paid jobs and affordable homes.
In the short term, we will have to take a long hard look at the books and sharply pare down spending commitments. In the long term we must make a strategic decision as to the direction of our economy; whether to gamble our future on the possible resurrection of our financial services industry; going it alone as a beacon of dynamism, or whether to diversify our economy and – implausible as it may sound today – tie our future more firmly to Europe in the hope that the strength in numbers approach will partially shield us from the stiffest of economic competition from the East.
The fundamental imbalance in the economic relationship between the United States and China will now either cause that relationship to implode or it will be prolonged and made more acute by a continued tsunami of debt. Either way, the coming decades will likely be shaped by the emergence of an increasingly confident China keen to flex its muscle economically, politically, culturally and in short order too, I suspect, militarily.
The West’s hope that it can assume continued dominance in the ‘knowledge economy’ may prove optimistic. I suspect that within the next twenty years, it is quite likely that the intellectual property rights that have underpinned the West’s competitive advantage (licensing, patents, copyright protection) are overdue for a radical, philosophical shake-up. An ever more assertive China will argue that traditional IP structures are no more than the West’s attempt to impose its own form of protectionism to suit its particular demographic. We should not assume that the dominance of ‘our’ values in determining global trade will remain unchecked.
If there is to be a longer-term price for our collective indebtedness, it will be for the UK to watch with increasing impotence as it becomes our turn to suffer as the rules of the global trading game are changed to our detriment.