John Bruton

Opinions & Ideas

Category: China

CHINA ,EUROPE, AND THE POLITICAL ECONOMY OF THE WORLD.

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Speech by John Bruton, Former Prime Minister (Taoiseach) of Ireland (1994 to 1997), to a meeting of Zhejiang Chamber of Commerce  at the Guangzhou Baiyun International Convention Centre, at  9am on  Sunday 1 September 2013.
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I would like to speak, today, first about the Chinese economy and some of the challenges it faces, which have also been faced by my own country, Ireland.
Second, I would like to say something about the  global political economy, and particularly about Europe and the euro.

A COUNTRY TRANSFORMED

The last time I was here in Guangzhou was in 1978 when, as a relatively young member of the Irish legislature, I came here to observe the beginning of the modernisation of China , under the leadership of the late Chairman Deng.
My impression, at the time, was that everybody travelled by bicycle, and wore uniform clothes. The sound of China for me, was the tinkle of a thousand bicycle bells. China struck me, then, as a sensibly frugal society, which let nothing go to waste. There was a sense of order, a sense that people knew where they were going.
I also found a people who were was immensely welcoming towards a European like myself, who came from a continent whose interactions with China, over the previous 150 years, had often been marked, on the European side, by exploitation and racism.
I even saw the remnants of the European concessions here in this city, where, until 1949, European nations had applied their own rules, even though on Chinese sovereign territory. In the French concession I came across a disused Catholic church, that had been converted into a  clothing  factory. I sometimes wonder if it has since been restored to its former use.
I also had a strong sense, then, that China was a society on the move.
Now, 35 years later, I am back in a very different city. In one of the great commercial centres of the world, to see the results of the modernisation initiated 35 year ago.
Most people in the west did not really understand what China was doing then.

THE FOUR MODERNISATIONS

Many may have thought that the Four Modernisations were only rhetoric.
I came across a phrase recently that will probably be familiar to many here,  that sums up the  Four Modernisations  policy initiated here in 1978.

It was that the country was
 “wading across a  river, by feeling for stones underfoot”.
In other words, it was a policy of experimentation, of trial and error, of allowing mistakes to be made, of trying different approaches in different regions, and allowing competition between the different approaches and the different regions.
This flexibility explains the difference between Chinese and Soviet economic policy at that time, and explains why the first succeeded, and the other failed.
Indeed, the strength of the western capitalist economic model, is that it, too, encourages experimentation and trial and error, but uses different methods to do so.
China has made huge strides since 1978. It is now well established, on an income per head basis, as a middle income country according to World Bank classifications.

FROM A MIDDLE INCOME COUNTRY TO A HIGH INCOME COUNTRY

In 1960, there were 100 middle income countries in the world. Ireland was one of them.

By 2008, only 13 of those 100 countries had reached high income status. Ireland was one of the 13 that made it, along with Hong Kong, Japan, South Korea, Mauritius, Spain, Equatorial Guinea, Portugal and Greece. 
The remaining 87 countries, which were middle income countries in 1960, have undoubtedly made progress since, but they are still middle income countries, and some of those who attained high income status by 2008, may now be falling back into the middle income category.
Nothing stands still. Progress to the next stage is not automatic.

Economic growth is, as the economist Schumpeter put it, a process of constant creative destruction. Growth is about change. Change is often painful, and painful, but necessary, change can easily be confused with mindless austerity.   
When a country is moving from less developed, to middle income, status, it is often able to compete by doing things , that are already being done, more cheaply than established competitors can do them. It does not have to come up with brand new technologies. it can use existing technologies, but apply at less cost and with minor improvements.

Moving a country, from middle income, to high income status, in contrast, often requires it to push at the boundaries of technology, to find a niche that no one else if filling, to invest in people and ideas as well as in concrete and metal. 
That is the stage into which China is now moving its 1.4 billion people, a move that promises to be one of the great transformations of human history. 

ENGINES OF ECONOMIC GROWTH

The size of the transformation involved explains why China is today spending 2% of its GDP on Research and Development (R&D), which is more, as a proportion of GDP, than Ireland, Netherlands, the UK, Norway, Luxembourg, Italy, and Spain and many other European countries are spending. 
Incidentally, Israel, Korea, and Finland are the biggest proportionate spenders on R & D.
But R&D alone will not move a country from middle to high income status. It must be made easy for entrepreneurs to use the R&D, by setting up new businesses and to recruiting talented local people to help them do it.

Here, Ireland has a strong advantage in that it is one of the easiest places in Europe to set up a new business, and one of the easiest in which to recruit young well educated people at competitive salaries. 
This has already attracted 18 different Chinese companies to set up operation in Ireland. Ireland is particularly interested in Chinese companies that are in fields like Life Sciences, Clean tech, financial services and information technology.

Ireland is also active in food exports to China ,which have  grown by 92% in just two years! 
I believe there are aspects of the Irish educational system from which China could benefit . 5000 Chinese students study in Ireland. Numerous agreements exist between Irish and Chinese Universities. These must be built upon, especially in key areas of research ,like financial services.

REMOVING BLOCKAGES IN THE SYSTEM

If China is to exploit its investment in R&D to the full , it needs to liberalise its system of local residency permits, which discourage migration within China,  and to make it easier for  new Chinese companies to set up, in competition with existing  state owned or established enterprises.
The European Union, with its 0.5 billion people is a much smaller entity than China with its 1.4 billion people, but in the European Union, there are still restrictions on internal migration, analogous to the Chinese residency permit scheme, in that the EU does not have full transferability of Social Security rights, and full mutual recognition of professional qualifications, for internal migrants within the EU.

THE DANGER OF PROPERTY BUBBLES….THE IRISH EXPERIENCE

But it would be unrealistic for me to come here and fail to refer to some of the recent economic difficulties Ireland has encountered. These difficulties are being overcome. Growth has been resumed, foreign investment in the country is at an all time high, and the government is following a careful plan. But it is also important to analyse objectively how Ireland got into these difficulties, and I believe that would be helpful to a country, like China, that is also undergoing rapid development and  wants to avoid converting that into a destructive bubble.
Indeed, the latest IMF report on China, contains warnings that will sound familiar to those who have studied recent Irish economic history. It talks of the risks of “a steady build up of leverage eroding the strength of the financial sector”, of “a boom in non traditional sources of credit”, and of the need to take “steps to reduce moral hazard to ensure that banks do not engage in potentially destabilizing competition” in China. On the other hand, it recognises that China has very well capitalised banks.
A few years ago, these risks existed in Ireland, and were not adequately addressed by the authorities in Ireland itself, or in the European Union. We have suffered for that, and these are useful lessons for China.
As I see it, this is what happened in Ireland. Thanks to artificially cheap credit, and rapidly rising property prices, Ireland experienced a property bubble between 2000 and 2007. This bubble led to a radical distortion of the country’s economic structures, and to a big increase in private and government debt.
The cheap credit was available because of decisions taken by the US Federal Reserve and by European Central Bank. Both favoured low interest rates. They did so to avoid dislocations to the economy, that might have arisen from the dot com burst, 9/11, and the costs of German reunification. In these goals they succeeded.
But the extra credit found its way across national boundaries into housing markets in various countries, causing a bubble in prices, most notably in Ireland.  In 2008, the bubbles burst.

BUBBLES DISTORT THE ECONOMY

The bubble distorted the Irish economy in ways that will take years to repair. There was distortion in the form of
 a doubling in the size of the construction sector,
 large and uncompetitive pay increases across the economy, and
 rapid increases in numbers of people employed in the public sector. The fact that money flowing in, temporarily, to government coffers, made it hard to resist demands to increase the size of the government sector, permanently.

In just five years from 2001 to 2006, the share of the workforce in the public sector reached 29%, as against 19% in Germany.  The numbers in top grade positions in the civil service grew by 86% .
Bubbles misallocate human capital. Instead of choosing careers and skills, for which there is enduring global demand, talented people were drawn, by quick rewards, into activities for which demand is inherently temporary, like construction.

WHY BUBBLES HAPPEN

In a way, it is easy to see why people made the mistake of thinking, in the 2000 to 2006 period, that house prices in Ireland (and household wealth) would never stop rising. Recent history seemed to suggest that the only way house prices could go was up.

House prices had already risen  by 133% between 1994 and 2000. These increases were justified by rapid economic growth, immigration, and new family formation, all of which created a genuine demand for housing.

The trouble is that the increase in house prices continued after 2000, and was financed, not by improved competitiveness, but by excessive lending, and by income generated from, inherently temporary, construction spending. 

The assumption of the bankers, who were lending this money, seemed to be that demand for housing could go on growing, to infinity. A moment’s thought would have shown how nonsensical that was. 

But, in the middle of a boom, people are often too busy, to take a moment to think
The revenue of the Government became unhealthily dependent on taxes derived from property sales such as stamp duty, capital gains tax, and VAT on house sales. Property related revenues reached 18% of all revenues in 2006, whereas they were only been 8% in 2002.  But once house sales stopped or slowed down, of course, that revenue growth stopped, leaving a huge hole in the Government’s budget.

Again, a moment’s thought would have shown how dangerous it was, to build up permanent spending programmes, on the back of inherently temporary streams of revenue. But very few people, in politics or outside it, took a moment to think. 
For a country like China, the relevant question to ask about Ireland’s recent experience is
 “How can sensible, and generally public spirited, people make mistakes like this, and how can such mistakes be avoided ?”

THE CAUSES OF BUBBLES………….SILO THINKING, AND FOLLOWING FASHION, WITHOUT REFLECTION

I would identify two tendencies of policy making in both the public and private sector, that were at the heart of the problem in Ireland 
1.  “Silo tendencies” within institutions, charged with mitigating risks,  where people only thought about their own immediate responsibilities, and did not question wider assumptions.
2. A “consensus approach”, which encouraged a single view to be taken of any issue. Human beings are followers of fashion. We need institutions that deliberately challenge fashionable  assumptions, and those institutions did not work, in Ireland or in the wider European Union.
These errors can occur in ANY country, under ANY political system. They are not unique to Ireland, Spain, Arizona, California, Florida, or any of the other parts of the world where property bubbles arose.
 China must be wary that these problems do not arise here, and I know the authorities here are fully alive to these risks.


THE GLOBAL CHALLENGES…..AGEING, MIGRATION, CLIMATE CHANGE, AN ERODING TAX BASE , AND SOUND FINANCE. 
These are the five big problems that the counties of the world must come together to tackle. They are all loosely related to one another. With the exception of the finance problem, they are all problems that are silently creeping up on us, so silently in fact that it is difficult to create a sufficient sense of immediate crisis, to get anything done about them.
Technology will provide some of the answers, and I know China is devoting a significant proportion of its R&D to some of these issues.

But sacrifices and compromises will be needed between and within nations.
Pension entitlements will have to be limited in some countries, working lives extended, and elder care   vastly expanded with the aid of technology.
Migration will have to be accepted in ageing economies, and that is a big cultural challenge.

CO2 emissions and pollution will have to be tackled by making the ultimate polluter meet the full cost of what he does.

We may eventually need some form of global taxation, to meet the cost of preserving out common global heritage, but, in the meantime, we need to restore the tax base of states, in a cooperative way. We cannot expect Governments perform functions if its revenues are artificially depleted.
And finally we need to put banking on footing that will be sound enough to allow incompetent banks to be closed down without putting the whole economy at risk. “Too big to fail” and “ too interconnected to fail” should no longer be characteristics of our banking systems.

THE EURO….WHAT IS ITS FUTURE?

The existence of the euro, the single currency, has not created the economic crisis in Europe.

This was going to come anyway because of lost competitiveness, the emergence of new competitors, like China, for traditional European industries, and the progressive ageing of European societies. Expansionary monetary policy could only have postponed the emergence of the symptoms, it could NOT have prevented the illness.
What the existence of the euro has done is impose discipline and mutual solidarity on Europe.
Without the euro, countries would have pursued the route of devaluation and inflation in response to their problems. Savings would have been wiped out.  This is not possible now, and that is good. Instead problems are now being tackled at their source.
Without the euro, wealthier and stronger European countries would not have come, so quickly, to the aid of other European countries in difficulty. They have now done so on a systematic basis, and that too is good.

The EU is moving toward a common system for winding up banks that need to be wound up, without putting the overall system at risk. It is moving toward a common system of deposit insurance. These are issues that also require attention here in China.
Much better systems are now being put in place in the European Union, to ensure that, in future, public finances, and underlying competitiveness, do not get out of line again.  Out of the crisis, we are now facing up to problems we had ignored for the past 20 years in Europe.

The euro will survive. Not only that, I believe it will eventually be imitated in other parts of the world. 
To sum up, the euro
  • is a protection against the expropriation of savings, through inflation and devaluation.
  • is a factor for economic stability in the world, and
  • is a major political step forward for unity Europe. 

NAPLES

I have just spent an enjoyable day and a half in Naples, capital of the Italian south
It is a beautifully situated city, near Pompeii and the Amalfi coast, and endowed with some of the most remarkable churches in the world.
In one of these I discovered the tomb of an Irishman I had never heard of before, Luke Concannon born in Kilbegnet in Co Roscommon in 1747, and a Dominican priest, who was the first ever Catholic bishop of New York. He died in Naples in 1810, presumably on his way back to New York after a visit to Rome.  
I was struck by how clean and well kept Naples was, contrary to its reputation, and by the number of young people and small children on the crowded streets of the old city.

THE ITALIAN ECONOMY

Italy is facing many economic problems at the moment and I saw signs calling for demonstrations against the policies of the Monti Government.
Economic growth has been lagging in Italy since the 1990’s, and Italy has been hit particularly hard by Chinese competition, particularly in fashion goods. Meanwhile pay has increased far faster than productivity.
 Italy had the same balance of payments situation as Germany in 2000, whereas in 2010 Germany has a large surplus and Italy a large deficit.

THE IMPACT OF CHINA ON THE EURO ZONE HAS BEEN DIFFERENT IN ITALY THAN IT HAS  BEEN IN GERMANY

This is because Germany has been able to export engineering goods to the expanding Chinese market, while Italy has lost market share to China in its speciality, fashion goods.
 In a way, the opening up of China has created unanticipated new imbalances in the euro zone that have arisen since the currency was launched. Some of the German commentary on the euro crisis has ignored this fact.

UNLIKE IRELAND, ITALY ALMOST HAS A PRIMARY SURPLUS

Italy has a big Government debt, but most of this debt dates back to the 1990s, when services expanded while revenues were contracting. Today, Italy almost has a primary surplus on its Government accounts, in other words, it is collecting as much in tax, as it is spending on all Government services apart from interest on past debt. In this regard, it is in a much better situation that the rest of the euro zone.
In contrast, Ireland has a smaller government debt as a proportion of GDP, but has a substantial primary deficit….Ireland’s day to day spending on all services, apart from debt interest, still exceeds its day to day revenue by one of the largest margins in Europe.
Italians have a much lower level of private debt, 130% of GDP, as against 350% in Ireland, and 250% in Spain, Sweden and the Netherlands. There was no property bubble in Italy, in sharp contrast to Spain, something that needs to be explained.
Italy’s problem is that its medium term growth potential is less than that of either Ireland or Spain . This is partly because Italy has an older population, and partly because Ireland has a more modern industrial economy. 
Italy has a large black economy (15% of GDP), and it takes ages to enforce a contract or set up a business in Italy. A judicial process that would take 52 days in the Netherlands, 49 days in the US, or 183 days in Spain, would take 630 days in Italy!

ITALIAN BOYS LOSE OUT

Italy’s educational system is open to criticism.
A large number of students, particularly boys, drop out of school with no qualification at all, and its universities fail to prepare students for the jobs that actually exist. This is strange for a country, so many of whose prominent politicians are university professors! 
Only 15% of men, and 24% of women, in the 30 to 34 age group have a university education. 
As in other countries, the educational system is failing boys more than it is failing girls. Similarly, in Ireland, the unemployment rate among boys is higher than it is for girls.  

SOME OF THE BOOKS I ENJOYED IN 2011

I have been travelling a lot during 2011, and  that has given me time to read  some good books.
I find that it is only when one has a limited choice of things to do, that one can concentrate on reading a book  and enjoy it fully, and there is a limited choice of things to do on a airplane.
The best book I read in 2011 was “Napoleon in Egypt” by Paul Strathern.
It is about the invasion, in 1798, of an Egypt that was then nominally part of the Ottoman Empire, by an army of Revolutionary France, led by General  Napoleon  Bonaparte.
 Napoleon brought with him a large number of French academics and scientists, and his plan was to bring the benefits of the European enlightenment to this part of the world and, in his own mind at least, he intended to use Egypt as a jumping off point for an invasion of India,  and the eventual  establishment of a global empire.  He modelled himself on Alexander the Great.
 Napoleon was an atheist, in the French revolutionary tradition, but he put himself forward  to the Egyptians as a friend of Islam. He wanted  to make the invasion acceptable to the locals, some of whom initially welcomed the overthrow of the previous Mameluke military regime.
He told them that the “French are true Moslems”.  But, as time wore on, the main local support for the French came from the Christian and Jewish minorities, who suffered most when the expedition eventually failed.  As is the case today, there was a wide divergence of values between French secularists and devout  Muslims, and for all his efforts Napoleon never bridged that gap.
The Mamelukes, who Napoleon initially defeated, were  a military caste who had  been created by the Ottomans  from  among people they  enslaved in European  parts of their Empire. The Mameluke  system of administration had been  corrupt and unpredictable.  Napoleon tried to modernise it,   and, to assist in the process, he brought the first ever printing press to Egypt.  The French also opened first  shops in Egypt  where prices were fixed , rather than to be bargained.
Napoleon’s soldiers were the first Europeans to travel to the upper reaches of the Nile, and to see some of the glories of ancient Egypt, like Luxor and Thebes. The French also discovered the Rosetta Stone, which eventually explained the ancient Egyptian language.  They assiduously mapped the plant and animal life of Egypt.
 Militarily, the expedition was doomed, when Nelson defeated the French navy at the battle of the Nile and thereby cut Napoleon off from supplies from home. His communications with France were haphazard after that, and most of his reports back to Paris were captured by the British Navy.
In an attempt to break out of this situation, Napoleon invaded Palestine and Syria in the hope of getting  back to Europe by fighting his way through Turkey to the Balkans.  But, as in Russia in 1812, he overextended himself and lost many soldiers from exposure to harsh weather conditions. While in Palestine, he issued a proclamation describing the Jews as the “rightful heirs of Palestine”. It is not recorded what the locals living there at the time thought of that.  He certainly felt he could remake the world without too much concern for the views of local inhabitants.  Napoleon eventually abandoned his army in Egypt to return to France, and insert himself successfully into French politics. About 15,000 Frenchmen were killed or died of disease during the two year occupation.
I read “Earthly Powers” by Michael Burleigh. It deals with the clash of religion and politics from the French Revolution to the Great War.
The French Revolution was strongly opposed to Christianity.   By 1794, masses were only being celebrated in 150 of France’ s 40,000 pre Revolutionary parishes , and  monasteries had all been broken up. In the suppression of the Catholic  anti Revolutionary risings in western Franc e, up to a third of the population in some areas were put to death.  I saw a monument to some of these people on a visit to Angers during 2011.
The Revolution’s rejection of religion removed  restraints on human behaviour, and contributed to disorder. One of Napoleons first initiatives  to restore order when getting power was to  negotiate a Concordat with the Catholic Church . Under it the Concordat, a new episcopacy was formed, some of whom included bishops who had cooperated with the Revolution and some bishops who  had remained loyal to the Pope. Clergy were obliged not to marry couples without a prior civil ceremony, something that remains the case in France this day.
Burleigh argues that the Concordat reduced the pre existing role of the laity in the French church, a role that they had been forced  take on while the church was being actively persecuted by the Revolutionary authorities.
In Britain, socialism and Christianity were frequently allied, whereas on the continent Christianity was more frequently allied with conservatism, perhaps in reaction to the excesses of the French Revolution.  In working class areas of London in 1900, 15% of the population still went to church on Sundays,  whereas only 1% did so in similar areas of Berlin.
I found the subject fascinating, but the book to be a bit too long, and diffuse.
I read “China, the Fall and Rise of a Great Power, 1850-2009” by Jonathan Fenby.  I strongly recommend it to anyone visiting China, as I did during 2011. When one reads of the chaotic conditions that existed for much of China’s recent history, one comes reluctantly to understand why authoritarianism has a certain appeal.
“The Quants ,”  by Scott Patterson who shows how some of the financial innovators, who devised the  innovative financial products that helped bring about the  2008 crash,  had stated their lives as mathematicians applying Maths  to professional gambling in  Las Vegas.
In fiction , I enjoyed  two books that explore human relationships and keep the readers interest right to  the last page, by Irish author , Deirdre Madden,  “One by one in the Darkness”,  and “Molly Fox’s Birthday”.  I also greatly enjoyed “The Help” by Kathryn Stockett.

DUST BOWLS AND DESERTS —- HAVE WE ANYTHING TO LEARN FROM CHINA?

I am going to China this week to take part in a conference in Ordos, in Inner Mongolia, on desertification.  Desertification happens when land, that was previously capable of supporting life, is turned into infertile sand.  This   is a problem in all  the continents of the world, except Antarctica.
Deserts , worldwide,   expand by about 50.000 square kilometres  per  year, and desertification threatens the livelihoods of a billion people in  110 countries.  In Europe, Spain is particularly affected.
Desertification is a particular problem in China.
During the 1990s, the Gobi desert grew by an area equivalent to  half the size of Pennsylvania.  The immediate cause is wind eroding a soil that has become so dry that it is prone to be blown away.   Sandstorms from Northern China reach as far as Korea and Japan.  Ironically, flooding can also lead to desertification by loosening soil.
One Chinese study suggests that soil becomes prone to erosion for the following reasons
  •    Overgrazing (30%)
  •    Excess land reclamation of unsuitable soil (27%)
  •    The collection of firewood (33%)
  •    Water misuse (10%).   Excessive irrigation can make soil salty and infertile.
The pressure of providing food and fuel for an increasing population can lead people to overuse land in a way that eventually leads to the  destruction of its fertility.
The solution is to be found by 
  •       planting trees,
  •       managing grassland better and
  •       conserving water in river basins.
Curbing bad practices and initiating good practices requires effective political organisation.  In the past ten years, China has begun to  reverse the process  of  desertification.
The world population is now 7 billion and will eventually reach 9 billion. We cannot afford to lose fertile food producing land if we are to avoid famine. 

We have also got to conserve water, because water demand is increasing rapidly. Urban societies consume more water than rural ones.  Meat production requires much more water than grain production, but as people get richer they  eat more meat.

A week in China

I spent the last week in China. It was the first time I had been there since 1978. The change is dramatic.

Then, everybody seemed to be wearing the same colour boiler suit and the roads were thronged with bicycles . Now , high fashion is on display and the sound of bicycles bells has been replaced with that of accelerating cars and trucks.

Some things did remain the same. In the fields of southern China one could still see farmers doing their backbreaking work, under the eyes of their ancestors. In rural China, the bones of the deceased are buried under tombstones in midst of the land they once tilled, rather than in graveyards .

But ,even in the remotest areas of China, change is under way. We met a young man in Guilin , in the south west. He approached us and asked in good English where we were from. When we said we were from Ireland, he immediately responded “O , Yes, Riverdance!” .

It emerged that he himself was a student of Chinese calligraphy, and was the first person from his village ever to go to college. His village was up in the mountains, three hours walk from the nearest road and six more hours by road from the university.

He said he was almost a celebrity at home because he had gone to college. His parents were tea planters and neither could read. He said his mother still could not believe him when he told her he had learned English. He said he would love to travel outside China, but that his main ambition was to return to his village and help the children there to learn English.

There are still big gaps between income levels within China. Incomes range from a GDP of 72000 RMB per head in Shanghai ,down to just 12000 RMB in Kansu.

In Guangxi, the province where we met the student, GDP per head is 15500 RMB. These gaps in income are no wider than those found within the European Union between, for example, London and Latvia.

Labour shortages will eventually become a problem in China. Honda is facing a strike by workers demanding higher wages in their plant in Guangdong. Food prices will also come under pressure as arable land is taken over for development and water shortages affect irrigation.

We visited some tourist sites, like the Great Wall and the tomb of Confucius. What was striking was that the overwhelming majority of the other tourists there were the Chinese themselves. They are able now to afford to enjoy their own country. It is a remarkable contrast to the situation that existed in China throughout the nineteenth, and most of the twentieth centuries.

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