The Wrongologist

What’s Wrong Today:

The relationship between China and the US is that of a rising power confronting a status quo power. China’s emergence as a challenger to the current global power structure and to the US as the world’s dominant power is based in part on challenging its neighbors, Japan, the Philippines and Vietnam in order to consolidate its maritime interests in its territorial waters and beyond. In each of these situations,
it will confront our proxies, or it will confront the US.As
Professor David Lai of the US Army War College asks: Is
the Pacific Ocean big enough for China and the US? His answer is, maybe not.

China’s recent assertiveness on the global stage is based upon their economic growth in the past 25 years. China’s spectacular growth is hard to wrap your
mind around. Bill Gates helpfully tweets:

Gates shares Vaclav Simil’s book, Making of the Modern World, in which Simil argues that the most important man-made material is concrete. Concrete is the literal foundation for the massive expansion of urban areas globally for the past several decades. In 1950, the world made roughly as much steel as cement (a key ingredient in concrete); by 2010, steel production had grown by a factor of 8, but cement had increased by a factor of 25. This animated GIF from The Atlantic shows the dramatic transformation of the Shanghai skyline since 1987. Most of what you’re seeing in that picture is new concrete, steel, and glass.

So, in the next 25 years, the US won’t grow as fast as China has for the past 25 years. That means that China is likely to become the world’s largest economy.
What will that mean for America? Let’s compare our economies today. Start by remembering what makes up GDP. From our barely remembered college econ 101
course comes the formula: GDP = Consumer spending + Investment + Government spending + the Net of imports and exports. So to compare the US and China:

	GDP =	C +	I +	G +	NX
US	$16.6T	71%	13%	16.5%	-.5%
China	$  8.2T	35%	48%	13%	3%

Source: Dr. John Troxell, Army War College

China’s economy is about half the size of ours, and investment spending drives it. That explains all of the new
buildings and new infrastructure that is reshaping its landscape. That investment has brought 600 million people out of poverty and added 200 million Chinese to the middle class. In order to sustain its growth, China’s challenge is to move more of its GDP to consumption, since government investment in infrastructure cannot continue at current levels forever. Looking at GDP/capita, it is $49.9k in the US and $6.1k in China, so they have a ways to go for the average Chinese to meet our standard of living, or to catch the US economy. 

Given that China is a strong economic competitor that is morphing into a challenger to our role as the only superpower, what should our strategy be in dealing with them?

Should we consider them an “enemy”?

In the business world, all companies compete for market share with a variety of other firms. They engage their competitors, at industry meetings, on the golf course, over drinks, and in frequent communication. Along the way, they pick up some industrial espionage, facts that are useful to their strategy and businesses. For the most part, they
maintain active friendships with the top people at their competitors.

To a large degree, that is what was intended with the Obama Administration’s “Rebalancing” of our military as part of the US “pivot” to Asia. This is a good idea, but we have probably not executed it as well as we could have.

We need to have a comprehensive engagement with China, including greater strategic and economic dialogue. The
objective should be to deepen our cooperation across the spectrum of issues confronting the world.

If we are to retain our position as the world’s superpower, we must compete more effectively with China. The issues that we have to confront are here at home. We need to:

• Improve the quality of our education

• Modernize our infrastructure: Ports, Airports, Highways and Internet

• Improve our export competitiveness

• Strengthen our commitment to innovation

Given the lack of responsibility shown by Congress, our success at achieving these things may be doubtful.

China has the capabilities and ambition to challenge the US as the great superpower. How should we react to
that threat? The question becomes, do we want China to succeed or fail, as an economy and as a nation? The answer is not simple.

Our temptation will be to focus on China’s ring of potential conflicts with our regional partners. It will be difficult for America to let those conflicts play out without intervening and moving the conflict to one between China and the US. If that happens, we will almost certainly decide that the Pacific Ocean is not big enough for the two of us.

On the other hand, China has its own domestic challenges. It is the world’s #1 polluter. It has huge demographic issues that grew out of the one child policy. The one-child policy will reduce China’s labor force by 67 million people by 2030, equivalent to the population of France. While they have moved away from the policy, the economic impact is
already baked in. By 2040, China will face a labor shortage of almost 140 million workers, surely the biggest job crunch the world has ever seen. That will have a big impact on wage inflation and will hurt their export competitiveness.

The Chinese know that they have to move from a low-cost manufacturing country to a value-added innovator. That
will be an enormous challenge, and it will be difficult to bring off, without further reforming their tolerance for entrepreneurship and innovation.

They need to enhance the safety net for the world’s largest elderly population, which will be 300 million (the current size of the US) by 2025. The question of who will pay for these social safety net expenses is an open question. Local governments fund today’s costs by appropriating
local property and then selling it to developers or they use it as collateral for municipal borrowing. That is an unsustainable model.  

We should want China to succeed, because we are now part of a concept that originated with Richard Katz in Foreign Affairs, called Mutually Assured Production. During the Cold War, the United States and the Soviet Union avoided triggering a nuclear war because “mutually assured destruction” meant that each side knew that any conflict would mean the obliteration of both countries.

But, no two nations with integrated economies can realistically go to war with the other. Today, in any potential tensions between China and the US, an economic version of mutual deterrence should preserve the status quo between both sides. Our economic interdependence is profound and likely to grow. Foreign-owned companies in China account for 52.4% of all Chinese exports, they account for 82% of high tech exports, and 99% of computer exports. That means both sides have a stake in staying cool, even in potentially hot situations.

Where do China and the US go from here?

China is challenging the existing world order, and the US will not look the other way. How both countries learn to sublimate their aggressive instincts and actions in favor of healthy competition will determine the shape of the world for the next several decades.