Podcast: China’s Economy Is in Flux. Here’s What American Businesses Need to Know.
Economics Dec 23, 2022
Podcast: China’s Economy Is in Flux. Here’s What American Businesses Need to Know.
On this episode of The Insightful Leader: the end of “Zero Covid,” escalating geopolitical tensions, and China’s potentially irreplaceable role in the global supply chain.
Tensions between China and the United States are growing, exacerbated by a wide variety of geopolitical and national-security issues—from Russia’s war in Ukraine to control over the global supply of rare minerals.
Throw in three years of pandemic-related supply-chain issues, increasing “Buy American” sentiment among policymakers, and a sudden end to China’s zero-Covid policies, and it’s all a lot to keep track of. So where exactly is China’s economy headed? And what does this mean for American businesses?
“If you read the news headlines, it does feel like every day, there’s something about China,” says Nancy Qian, a professor of managerial economics and decision sciences at Kellogg and codirector of the Global Poverty Research Lab.
She recently sat down with Kellogg’s Ben Jones, a professor of strategy, and David Dollar, a senior fellow at the Brookings Institution, to discuss both the short- and long-term headwinds facing China’s economy. The trio also discuss the challenges that American businesses continuing to do business in China may face; why China’s role in the global supply chain may be irreplaceable; and whether it’s even possible for the world’s two largest economies to “decouple” without causing a tremendous amount of harm.
Laura PAVIN: In recent weeks, China abandoned its controversial zero-Covid approach to the pandemic, which it had maintained for nearly three years. The approach was never particularly popular in the global business community, because it caused havoc to supply chains everywhere. And lifting it is sure to send infections soaring—meaning even more chaos, at least in the short term.
But for economists and policymakers who closely study China, this is hardly the only story. This year, the nation saw its largest democratic protests in decades; and China and Russia declared “no limits” to the partnership between their nations—shortly before Russia invaded Ukraine, significantly ramping up geopolitical tensions with the U.S.
All this, combined with China’s growing economic and military might—and the U.S.’s growing nervousness about how intertwined its economy is with China’s—has American businesses wondering: How should they interact with China?
Nancy QIAN: “So for the last few years, if you read the news headlines, it does feel like every day, there’s something about China.”
PAVIN: That’s Nancy Qian. She’s a professor of managerial economics and decision sciences at Kellogg, and codirector of the Global Poverty Research Lab.
QIAN: And the issues are so complicated, it seems like a good time for us to dig into the minds of people who have been thinking about this from the research community and see what we can learn from them.
PAVIN: This is The Insightful Leader. I’m Laura Pavin. But I’m going to hand the mic over to QIAN for the next episode…to talk about China…and how the economic uncertainty surrounding it could affect its future, and the futures of the countries it does business with.
For this discussion, she is joined by two people.
Ben JONES: I am Ben Jones, the Gund professor of entrepreneurship at the Kellogg School of Management.
PAVIN: Ben Jones studies economic growth in advanced economies. And he was the senior economist for macroeconomics for the White House Council of Economic Advisers.
David DOLLAR: I’m David Dollar. I’m a senior fellow in the John L. Thornton China Center at the Brookings Institution.
PAVIN: And that’s David Dollar. He’s a leading expert on China’s economy and U.S.–China economic relations.
Qian, Jones, and Dollar joined forces to talk about the current landscape in China, what it would mean if the U.S. decoupled from China, and what multinationals should think about as they navigate the waters ahead. The discussions were a mix of in-person and remote—so, just a heads up on that.
Editor’s note: To read more of this conversation, read our roundtable discussion here.
QIAN: First of all, David, thank you so much for joining us. The big overarching question we have, as you know: What are the biggest challenges for the Chinese economy in 2023 as it’s easing out of almost three years of very stringent covid-zero policies—and in an environment where the political rhetoric, especially between its biggest trading partner, the United States, is getting evermore adversarial? So what do you think are the biggest challenges for China next year?
DOLLAR: I think China faces both short-term and long-term challenges. I think the biggest challenge for 2023 is going to be managing this exit from the zero-tolerance policy. I and many other China experts were quite surprised at the dramatic way in which China seems to be deconstructing its zero-tolerance policies. It’s quite interesting. I think Xi Jinping and other leaders are apparently being responsive to a lot of public unhappiness that’s been demonstrated in various ways. It has to have some positive effect on the economy, the rest of the economy, because I think the zero tolerance had a pretty negative effect. So easing up there has to be some increase in people’s consumption going out to restaurants, traveling. But again, we don’t know how people are going to react. And then what happens with this disease will definitely react back on people’s behaviors. So if the disease spreads very quickly, then you may not get too much change in people’s behavior, because they’re going to essentially self-restrict instead of having the government restrict them.
JONES: So, just to dig into that a little further, David: So the U.S. has had a very loose policy from a government perspective around Covid for quite a long time. And yet we still see kind of puzzling—maybe not so puzzling—constraints on labor supply where at least some people sort of seem like they don’t want to go back to work, maybe for a variety of reasons. And that may be one of the forces that is driving up inflation, say, under service workers or other things. When you look at China, where we’re already talking in general about structural challenges and labor supply with an aging economy, do you think that there’s going to be a labor-supply issue going forward, even in this relaxed policy, kind of like in the U.S. or maybe different from the U.S.?
DOLLAR: Yeah, I think that makes a lot of sense, Ben. Uh certainly looking at my own behavior and some of my close friends’, we have no government restriction on our behavior, but we selfs-restrict. I was just out doing some errands, and I was wearing a mask whenever I went in anywhere. And we’re generally turning down invitations to any kind of large event, my wife and myself; it’s just seems unnecessarily risky. So you definitely get a lot of self-restriction in this environment, and that carries over to the work side. And I would think you would get a similar reaction from many middle-class urban Chinese, that if they can avoid working or going to work, they’re going to do so.
QIAN: And I was thinking about the Chinese context and specifically when I think about my family or my friends in China who are my age and who have children, most of them still rely on grandparents, right? There are parents, the elderly parents, for childcare. So, as we’re exiting and if Covid rates are going to go up and the elderly are unvaccinated and they start self-restricting, that’s just going to be really complicated if they also have to provide childcare.
DOLLAR: Yeah, absolutely. You may very well get an oscillation in official policy. So if there’s a big resurgence of the disease and rising deaths and crisis in hospitals, they’ll probably come back. Not all the way to zero tolerance, but to a much more restrictive policy in some way. And so we’ll probably see that kind of oscillation that just creates tremendous uncertainty about economic activity, about investment. Do you want to be expanding your business when there’s this kind of uncertainty about whether people are going to be going out and consuming? It’s gotta be something of a constraint.
JONES: Building on that, there’s both the government policy point, David, and then there’s the self-restriction point. And Nancy, that’s a really interesting observation about how households are structured, and then the exposure of older Chinese within the household. And that might extend self-restriction considerably compared to what U.S. behavior has been because our household structures are different. But it does seem that the Chinese government has also been deploying a narrative to justify zero-covid over years that the disease is really scary and really deadly, maybe more so than you hear from the government, even in the U.S. And do we have a sense that Chinese sort of believe this is even riskier than people do in other countries? And that will lead to much more tentativeness and self-restriction in terms of getting back to work and driving demand and in the economy.
DOLLAR: Well, the fact that people got really unhappy with the zero tolerance and were willing to go out and demonstrate an environment where that can be quite personally risky, I think that that says that people were not completely buying the government story. I like this storyline that just watching the World Cup has had a considerable effect: to see 180 to 80 to a hundred thousand people packed into a stadium, nobody wearing masks, people cheering. Now, when I see that myself, I worry a little bit.
QIAN: I also feel like China, like all other countries, it’s big. There are many different people with many different views and preferences and risk perceptions. And it has to go through what all the other countries went through, right? Which is this kind of rather conflictual often, a very conflictual process of where people who are very different kind of find their own equilibrium. And the reason I’m saying that is I remember when I had covid, my parents had covid, my kids had covid. And every time this happened, the degree of concern that was shown for us from my Chinese family and friends was, I would say, a hundred times more than my colleagues at Northwestern. So, I feel like there is this sense of extraordinary fear that I think Americans felt in the beginning and sort of moved on from, and that the Chinese still feel now, but they will move on from, right. And at the same time, there’s also this diversity and opinions. I think the young people, like young people everywhere, are kind of more ready to get on with things, right? And we have that even in the U.S., like in the beginning of the disease: there are parts of the U.S. and Florida, Texas, they just wanted to live as if we didn’t have to deal with the disease. And I feel like that heterogeneity also exists in China. And one of the things we’ll see is once we lift the restrictions, all of these differences and opinions will be expressed in a way that they haven’t been allowed to be expressed under a strict covid-zero policy. And that’s going to cause internal social frictions that just have to be worked out. And I’m very interested to see how the government deals with that type of social conflict, if we wanna call it that.
JONES: So to build on this, people talk about structural challenges for the Chinese economy. They sometimes talk about demand and how it’s always low consumption, high savings, but also, is there enough domestic demand going forward? They talk about debt. There’s a lot of maybe bad investments in housing or other forms of capital investment. David, I mean, as you look at sort of these structural features, which people talk about without necessarily reference to Covid, but now we’re going to go ahead into a year where Covid is still complicated, how concerned are you for the Chinese capacity, say, of the government to manage social insurance, manage stimulus, to keep the economy going after three years of having to rely on a lot of government intervention, just to keep doing it if people are trying to stay home?
DOLLAR: You know, I do think the risks in the financial system are quite serious. They have really overbuilt the housing stock and their private real estate developers, many of them are in trouble. And so far they, the authorities, have managed that without obviously a financial crisis. So that’s very much to their credit. But they do kind of push the envelope in terms of credit expansion and making sure that enough finance gets through to many of these developers so that they don’t default on their bonds and go bankrupt. So, so far they’ve managed that, but it’s a pretty big challenge they’ve got there.
JONES: Well, I just wanted to follow this kind of out of the world a bit and come to decoupling, which of course is a big issue. And if I can, just to define decoupling for our audience, we mean, moving away from trade and economic interaction with other countries. And if you’re the Chinese government, you’re facing a lot of tariffs from the U.S., a lot of retaliation. And as you’re trying to get back on your feet and get back to work coming out of the Covid times, you might be looking for demand from global consumers for your products to help support the economy. You might be looking for more foreign direct investment into China to bring investment in dollars, but also maybe technological know-how and connectivity to the world economy. How important is decoupling for understanding what’s going to happen in the Chinese economy in the year or two ahead, and how important is that going to be for Chinese policymakers?
DOLLAR: Well, I think it’s extremely important. You know, China has to worry about this decoupling trend, which is really kind of politically driven in a sense, particularly from the United States. The idea being that we don’t wanna be so dependent on China for national security reasons, but then you have to add on top of that the U.S. economy slowing down, European economy slowing down. Maybe one or both will go into recession. So you’ve got the kind of long-term structural issues of decoupling, and then you’ve got short-term cyclical issues that things look pretty bad.
QIAN: When we think about decoupling, I guess my very basic question is just, what does that even mean in this context, right? Like, there’s one extreme, which is the Cold War, or Moscow and Washington were just cut off. There was a wall politically, economically; there was no trade. I think everyone agrees, everyone in business in research agrees, that that would be disastrous, right? The economic impact on the U.S. and China and many, many other countries would be terrible if we just completely decoupled. On the other extreme, you have just a free-for-all, like free trade. This is probably the mentality we had like in the nineties. And this is probably not realistic at this point in time. You know, there’s been a lot of discussions about how the semiconductor industry is strategically very important to the U.S. That’s just one example, right? The US needs to make sure that that’s not completely under the control of China. So I guess my question is, is it possible to have a quasi decoupling, like in between the two extremes of a complete wall and a free-for-all, where certain strategic interests are addressed without wrecking the entire economies of these two countries and the rest of the world?
DOLLAR: You know, if you look at actual trade between China and the United States, since the U.S. imposed these tariffs under President Trump and then followed up with many other measures putting Chinese firms on our so-called entity list—which really prevents American firms for exporting most things to them—since all of that, there’s definitely been some downward trend in U.S.–China trade, but it’s been surprisingly modest. And actually this year we’re going to hit a new high in U.S. imports from China. So while we have this rhetorical war going on, what you actually see in the data is there continues to be a very high level of trade in both directions hitting a new high. Now, as you dig a little deeper, you will find there are specific products where that story is not true. So the U.S. is importing about 50 percent less in semiconductors and telecommunication equipment from China. So you can see evidence of this—it’s really more of a tech war than a trade war.
JONES: I mean, it’s interesting stepping back from U.S.–China, the kind of classic way industries in the U.S. achieved trade protection for a long time has been through anti-dumping and countervailing duty tariffs. Because they’re sort of the easiest to get. And so you look at it and you think, oh my gosh, it’s so many categories. But sort of to David’s point, when you step back in the end, it’s actually a very small percentage of products. And so really it’s a sort of annoyance around a lot of trade, but it’s not actually the kind of thing that’s going to show up in the aggregate numbers. I do worry about this national-security reasoning, which has been coming into trade policy and getting people sort of outside in their view of their World Trade Organization obligations. You know, we had, the Trump administration was saying national security applies to steel and aluminum, and you get to much bigger commodities rather than narrow tech products. It’s not really clear once that cat gets out of the bag, how far it gets out of the bag. And sort of to David’s point that we don’t know where this is going looking at it right now, maybe too soon. And if the political momentum is such that people are going to keep obstructing trade and there’s going to keep being retaliation as there often is, whoever’s instigating it in the first place, we could be decoupling in some more meaningful way. But I guess more practically, David and Nancy, are you seeing—I mean, obviously telecom in Huawei was a big issue that spills from intellectual property, the national security and then chips—but do you see people making incipient arguments that national security should apply to a much wider class of products? Or do you think that national-security argument has kind of run its course and we kind of know the verticals that we’re talking about and it won’t really infect other forms of trade?
DOLLAR: Well, I think in Washington, at the risk of oversimplifying a little bit, you’ve basically got two views. You’ve got the kind of national-security view that within the spectrum of all the thousands of different products that we trade, there are a few that are of national-security import, and we should be restricting these. And maybe we have it about right at the moment you know, that that’s one view. But the other view is that anything that’s contributing to China’s growth and development is a threat ultimately to the United States. You know, this is a true “let’s keep China down” kind of approach. And in some people in this camp, you bring up the issue that this is going to hurt the U.S. economy, hurt innovation. And what you’ll get back is as long as it hurts the Chinese more then this is a good national-security policy. And I personally think this is really quite dangerous when you start declaring that your policy is trying to keep down another major economy, second-biggest economy in the world, biggest trading nation. That just seems completely unrealistic and quite dangerous.
QIAN: I guess when I think about decoupling today, I think two issues come up. One is just implementation. Like, how does one actually implement decoupling? I can see how you can do that for narrowly defined products with short supply chains. But if it’s a complex product, it’s almost impossible without going all the way and building a wall. And the reason is, as we all know, most businesses know their suppliers. They don’t know the suppliers of their suppliers. And to ask them to know the suppliers of the suppliers of the suppliers all the way down to the raw material to make sure that some aspect isn’t coming from China, that’s just administratively very cumbersome, if not completely impossible, given the complexity of the products that we’re making these days. And the second concern is about spillover effects. I have had conversations with people, entrepreneurs. in the U.S. and China that are very concerned about decoupling and making business decisions based on that. So no one I speak to actually works in defense industries or defense-related industries. They all work in other industries, but I would say that there’s a spillover effect of concern. So I was speaking to a vice president of one of the U.S.‘s largest food-manufacturing companies. They produce candy and food and food coloring, things like that. It’s not strategic at all. But she was telling me that the discussion they’re having with the corporate leadership is that they’re probably not going to be in China for the next 30 years. And the reason is because they just can’t deal with the policy fluctuations, right? So they’re trying to divert a lot of their investments towards Latin America, south Asia, like other countries that are just politically more benign. I am worried that even if we do strategic decoupling, we need to do it correctly in the sense that both China and the U.S., they need to articulate their policy clearly so that people really understand that it’s really about these strategic sectors and this is how it’s going to be implemented and carried out. And there’s not this general concern of uncertainty for everyone’s business going forward, because that could just generate inadvertent decoupling.
DOLLAR: I think those are really important issues you’re raising, Nancy. On the first one, I think I have a good example. It doesn’t exactly come out of the national-security realm, but it’s analogous. And so it’s the case of the solar panels; the United States has countervailing duties on solar panels from China, more than 250 percent. And the result of that, of course, is we don’t import any solar panels from China, okay? But we import solar panels primarily from Vietnam and Malaysia. And these are Chinese firms that have moved some of their factory operation to Vietnam and Malaysia. And the United States was thinking of launching an investigation about whether it should extend the countervailing duties to those panels. But it dropped that; it just told the industry that, for at least two years, there would be no countervailing duties on panels coming from Vietnam and Malaysia. Because if you want to increase renewable energy in the United States, this is where these panels are produced basically. So what you have there is a very complex supply chain. China’s not necessarily being hurt by this. China’s finding new business in selling machinery and components. And so in some ways, some of the value added we’re trading between the U.S. and China now is in a sense being mediated by countries like Vietnam. And just trying to figure all that out could end up being a pretty costly bureaucratic impediment to trade.
JONES: Yeah, just building on that, which I think are issues of both complexity and then substitute-ability. So when I was working in the White House in the first term of the Obama administration was when the tsunami came to Japan and took out the Fukushima nuclear reactor, and that shut down a regional economy in Japan, which is very important potentially to the global economy. So we were struggling then to figure out what is the implication of the Fukushima shutdown disaster for the U.S., for U.S. workers, for U.S. manufacturers, for the world, et cetera, which has many dimensions. And so we found ourselves calling major multinationals, like major auto manufacturers in the U.S., and saying, do you have suppliers in this area of Japan? And then they would say to us, “well, we know where our direct suppliers are, but we don’t know where the suppliers of our suppliers are much of the time” And so to Nancy’s point, it is very complicated into David’s point. It’s hard to know, and it’s very costly to figure out. And so I think that that makes it far more difficult to manage from a policy perspective. The second point though was substitute ability, which I think reflects on, you can move solar panels to Vietnam and avoid tariffs, which is very common in how companies around the world respond to anti-dumping and countervailing duty type of tariffs or other forms of tariffs. But there’s also the issue, backing up a little bit about decoupling. And if the U.S. wants to disengage from the Chinese economy, China can integrate with other economies. If Europe, if the EU, is saying, no, but we’ll still trade with you in all these ways. You know, in that case, are you really putting any pressure on the Chinese economy or the Chinese government that you think you’re doing if you’re the U.S.? Or are you just shifting demand and supply to other regions of the world economy? And so really the one who’s losing in that context is you, is the U.S.
DOLLAR: Yeah, I think it’s completely unrealistic to expect our trade partners to completely decouple from China. So I think keep that in mind that the degree of integration between the U.S. and China is one issue, but the fact that we’re both integrated into the same global system, I think that’s probably more important.
QIAN: You know, in all this conversation about decoupling, the question is how best to identify the strategic sectors. And they have to be clearly and transparently identified; how to identify those and how to articulate the policy to the public, and including like the bus businesses. So people understand exactly what this means for their business, that they can carry on as usual. And for the few sectors that need to comply, what does it mean to comply?
JONES: We talked before about sort of covid policy in China as a government choice, and then also sort of self-restrictions as a personal choice to avoid getting covid. And I think that going to this decoupling metaphor, we have the U.S. and China governments imposing certain kinds of policy restrictions through tariffs or other means on each other. But then we have a bunch of companies, multinationals often, that are trading across borders and may not be restricted but have to make choices themselves. In light of the issue of policy uncertainty that came up before, you talked about food dye, I think, Nancy, that was an interesting example. So I just want to dig in here if we can, on multinationals and sort of what’s your decision; like, do I continue to expand in China? Do I just hold steady and wait, or do I exit or kind of pull back. And how we think about what kind of choices they might be making, and then maybe how that might change depending on the industry you’re in.
DOLLAR: I think multinationals in general remain pretty committed to China. Quite a few of them are in China to sell under the domestic market. So if there’s going to be a decoupling they’re not going to leave, they’re going to just double down and source more from China if they’re worried that international trade is being threatened.
JONES: So an example like electric vehicles and what are companies that you think would go that route?
DOLLAR: You know what, there are a lot of companies that fly under the radar, frankly; you know, multinationals have a big share of the toothpaste market in China, for example. And they came in with the brands that we’re familiar with, but they also bought up a lot of Chinese brands and continue to sell under the Chinese brands. So you go into a store, and it looks like there are 20 different toothpastes available, but actually there’s a relatively small number of companies behind that. So there are lots of consumer products, food products, you know, where companies are deeply committed, and not just the preparation, the production, of food, but also restaurants, fast-food restaurants, all our familiar ones: McDonald’s, Kentucky Fried Chicken, Starbucks, et cetera. So I think a lot of multinationals are in China to sell to China. Aside from the tension with the U.S., obviously Covid and the zero-tolerance policy have had considerable effects. So I definitely think it’s got many companies worried about how lean their value chains had become in a sense that they hadn’t really built in any redundancy. So I do think there is some rethinking about maybe you want to have a little redundancy. A phrase I’ve heard is “China plus one,” meaning you’re mostly producing in China, and a lot of that’s for the Chinese market, but it’s good to have at least one other country where you’re operating. And it’s typically a developing country.
QIAN: I just wanted to add two thoughts to that. One is China’s moving up the value chain over time. And I think as it moves up the value chain, it actually makes it harder to substitute away from China. Earlier I gave the example of a food company. So they were thinking of producing their raw agricultural products, sourcing that from China versus Latin America, and they can do it from Latin America. So that was not a very difficult move for them. But a lot of what China’s producing now is pretty high-tech. So recently I spoke to a startup entrepreneur who spent the last 10 years working for a large MNC that sent him to China all the time. They were tech multinational. And during this time he met some guys in a Chinese factory and they figured out how to make a really small and very powerful battery to make portable blenders. So these guys want to make portable blenders so you can make margaritas on the fly, from your backpack. You can just pull this out of your backpack and start blending ice and you can make eight of them. The battery’s like really strong and, according to him, it took a while to figure out how to make this and also to make it at a consistent high quality at a low cost. And they figured it out with this one factory in China. And they’re going to keep working with this one factory, right? Like their entire business plan, their cost analysis, depends on working with this guy, and they actually can’t find anyone in the U.S. or in Mexico to make the same thing. So they’re actually just going to double down and work with China and they’re raising money to expand the size of that factory in China. So I think one thought was that as China moves up the value chain and makes more and more high-tech things, it’ll be harder for people to just switch away to another producer. And the other thought I was thinking, that came to me when David mentioned McDonald’s and KFC, which are great favorites in China along with Coca-Cola and Disney movies, is that it seems like a bad idea for the U.S. to move away from these customer-facing brands. I mean, having brand presence in China has lots of benefits, right? Obviously for the businesses, they make money, but even from the U.S. is strategic self-interest. We know now, like from economic research and from political scientists, the importance of soft power, right?
DOLLAR: You know, lot of our conversation has been about China but more generally the U.S. has introduced quite a bit of protection aimed at lots of different trading partners. And I think that really cuts into our soft power around the world, because it means a lot to other developing countries and even the European countries, which are advanced. But yeah, mostly they’re pretty small compared to the United States. So access to the U.S. market is very important for a lot of countries around the world. And in my experience, it’s been a source of goodwill that this is a public good the U.S. provides to the world, having this big open market. So I do think the tariffs that we’ve introduced, the various trade impediments, this, this tendency toward Buy American in our recent legislation, all of this is undercutting our influence around the world.
JONES: But I think there’s another question. I mean, this goes to the kind of soft power and sort of connectivity and cultural connectivity and maybe good feeling that exists between nations because of these interactions that might prevent conflict or have other kinds of benefits in the world. And it’s really the big question in history in the 20th century, which is when countries sort of advance, in terms of their standards of living, do they shift towards more political liberty, towards democracy? Or not? And I, I think the kind of laissez-faire era of globalization was indeed built on building connectivity regardless of the political regimes often that you’re dealing with in pursuit of obviously economic well-being for all the nations involved, but potentially as well for this extra benefit, which is that it would encourage the rise of a middle class and it would create pressure in those societies for democratic change and create a kind of world environment that might be healthier. And I think the real question with China, then, it’s become … and not just China. Because we’ve seen a sort of authoritarianism building in a number of countries around the world—obviously Russia, obviously other partners like Turkey or Hungary—that it seems like countries are moving against democracy and sort of maybe participating in a world exchange and trade isn’t really working. And now maybe it’s even worse if we disengage and we didn’t run that experiment. But I think there’s more skepticism now that this kind of laissez-faire globalization pays the kind of economic or conflict dividends, especially with Russia invading Ukraine, that we would’ve hoped for. And so I feel like this is a very big question, which we don’t maybe know the answer to though. If you guys feel like you have strong feelings about it, I’d be very curious why you think the way you think that that, that maybe it’s not so simple as just letting everyone into the system and kind of hoping for the best, and that maybe we need to think carefully about engagement based on shared human rights or political values.
DOLLAR: Yeah, yeah. My sense is that there is a relationship between economic integration and political liberalization, human rights; that these are issues, but it’s extremely long term. And I mean, there’s tremendous uncertainty. Nobody’s really made it to high income without political liberalization, with the exception of a few oil-rich states. So unless you’re sitting on some huge quantity of natural resources, basically nobody’s made it to high income without political liberalization. But as they said, I think it’s… extremely imperfect relationships can take a long time. It was naive to expect that there would be political change in China. I mean, there has been a lot of political change in China, just not the shift to some kind of democratic system that we would recognize. It was naive to expect that to happen because China joined the WTO and started trading. I don’t know any serious China scholar who thought that whole path was likely.
QIAN: I guess I don’t think anyone knows or should pretend to know what exactly can bring about political liberalization. Right? But just to add to David’s point, it’s hard to think of an example of a country that has become a stable democracy without a certain level of human capital, social capital stability that comes with economic development. So in my mind, economic development is a necessary but perhaps not sufficient condition for political liberalization. So the fact that not all rich countries become politically liberalized, I mean, maybe that’s true, right? I mean, we’ll see. But if you don’t do economic liberalization and boost incomes, political liberalization probably just isn’t going to happen. And then the other thing that comes to mind, and again, this is sort of a refinement of what David was saying, is just the benchmark:What’s the right benchmark? I think it is naive to think that the benchmark for China or Russia today should be the U.S. or France or the UK. And here I’m going to put my economic, economic-historian hat on, right? Which is when we think about how long it took for the West to become stable democracies, really, at the latest you wanna start that process is probably the enlightenment. So that’s a couple of centuries, right? And Russia and China were ruled by the Czar and the emperor until the beginning of the 20th century. So they’ve only been on this road for a hundred years. So if you see it in that light, the long-run trajectory both in terms of economic and political development, the trajectory is strongly positive over time for China and Russia. And they’re actually going pretty fast. I would say they’re on the fast track relative to the enlightenment until the Civil Rights Act.
DOLLAR: Yeah. Nancy, listening to you, when I worked for the World Bank, and when I worked for the U.S Treasury, I had opportunities to sit in on some senior meetings, where I was never the principal. I was kind of the fly on the wall. But the U.S. in particular was always pushing China for very specific economic reforms: open the capital account, more flexibility of the exchange rate. And it seemed to me after a while that the typical Chinese response is that “We agree; we just think it’s not quite right timing wise and we’re going to get there. You know, we’re moving in that direction.” And I remember one very frustrated U.S. official, that kind of bang-the-table kind of moment, like, “Well, when are you going to get to that? When are you going to get to that?” And the Chinese response is, “We Chinese like to think in terms of centuries.”
JONES: I love this historical orientation, but I will say that I think the more contemporary, if I looked at Russia, I mean Putin is sort of taking us back to a pre-World War II mentality in some ways, a 19th century mentality of capturing resources. I would say, though, China is in a very different category. I mean, Russia is an oil state, and so in some sense it’s a big one. But today’s earlier point, it’s in a bit of a different group. And the government can sustain a lot of authority and economic power through its control of the oil and gas resources, where China really is much more of a diversified economy, and its success and development is going to require the kinds of things you guys are both talking about in terms of human-capital development. And so I think the path forward for China is really quite different economically to get the higher standards of living and greater influence in the world, if we think that’s correlated with the size of your economy, which I think it strongly is. So I guess I get to bring this full circle in a way. David, you were surprised how quickly Xi and the Chinese government turned around on zero-covid. And one read of that, we may disagree, but one read of that is it shows a certain pragmatism. I mean, if you look at Putin in Ukraine, it seems like it’s all bad news all the time for Russia, but nonetheless, doubling down, doubling down, doubling down. Whereas we haven’t seen a dramatic policy reversal there. But here we see a very dramatic policy reversal suggesting that the government is capable of maybe surprising us in pragmatic ways. And so as we think forward along the lines of development and human capital and political liberalization, which maybe is still too far off, I mean, do you see obvious interesting practical choices ahead that now seem more possible.
DOLLAR: Yeah, so I would argue that pragmatism is a feature of recent Chinese decision-making. Deng had that famous statement that it doesn’t matter if a cat is white or black, as long as it catches mice. And there’s been a worry—you see it very much in the West—a worry that the Xi Jinping was taking China in a different direction, that he was going to be more ideological, less pragmatic. So frankly, I’m very encouraged with the easing of the zero-tolerance policy; that does show responsiveness, pragmatism. Hopefully, we’ll see that in things like further reform of the capital markets, which I think would really help China a lot. Actually, if I were going to list one more, despite the rhetorical support, China is not really giving Russia any material support. And I think that that’s actually quite important.
QIAN: Yeah. And I’ll just add one more thing on this point about China not giving material support to Russia. So for those of you who aren’t on Chinese social media, it’s interesting to know. I found it really interesting, even from the beginning of the war, that China, which is known for censoring things that are misaligned with the official view, didn’t really censor support for Ukraine on social media. And my sense was that that was a positive sign that the Chinese government was actually open and how it would go and it would be pragmatic about it, which is what we want, I think. But I just want to say thank you, David, for giving us so much of your time and talking to us. And thank you, Ben.
JONES: Right. Thanks to you both.
DOLLAR: Really enjoyed the conversation, and happy to come back.
PAVIN: That does it for this special episode of The Insightful Leader. It was produced by Laura Pavin, Jess Love, Emily Stone, Fred Schmalz, and Maja Kos. It was mixed by Laura Pavin. Special thanks to Nancy QIAN, Ben Jones and David Dollar. Want more The Insightful Leader episodes? You can find us on iTunes, Spotify, or our website: insight.kellogg.northwestern.edu. We’ll be back in a couple weeks with another episode of The Insightful Leader Podcast.
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