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China: External Economic and Financial Relations under the New Leadership

Legendary heroes who mould the destiny of nations rise during years of grave crisis. When they depart, the onus is on ordinary men who may lack the charisma or the stature of heroes. Fortunately, for managing the affairs of the State during ordinary times we need ordinary men. They are expected to row the ship and not rock it. For some countries, smooth succession of leadership is problematic. Democracies seem to ensure this more smoothly than authoritarian regimes.

It is no surprise that debates and research in the U.S. and Europe are over the new leadership in China and how smooth the process will be and how well they can perform. The interest or rather anxiety over these issues flows from the crucial position China occupies in the global polity and economy. What the world outside witnesses is the rise of a fifth generation of leaders.

The first generation was led by Mao Zedong. Deng Xiaoping took over during the second. Jiang Zemin followed in the third and Hu Jintao, representing the fourth, has given way to the fifth generation under Xi Jinping. Leadership changes were seen from the days of Mao to Hu Jintao’s. During the past six decades there have been phenomenal changes within the China and in the global systems. Chinese leaders steered through a modernization or ‘marketization’ process and China grew at a stellar rate of over 10 per cent for over two decades. It has come to occupy the second position in the global economy, next only to the U.S. This rise of China has been a source of admiration for some and fear of rivalry for others. For China, it has created problems both within and abroad.

Five years ago, in one of his papers(1) Dr. Cheng Li, a Fellow of Brookings Institution, wrote about the growing diversity in China and wondered whether “The emerging generation of Chinese leaders, known as the “fifth generation,” is likely to find the challenge of producing elite harmony and unity within the CCP more difficult than leaders of previous generations.” He referred to three factors which may contribute to political challenges. The first was the move from single charismatic leadership to a collective form of leadership. Second was the changing nature of the elite from a largely homogeneous in terms of sociological and professional backgrounds to wider and disparate streams. The earlier generation consisted of “old guard” with revolutionary background and the new ones are from varying professional classes. The fifth generation is the most diversified in composition. The last is the context or the glaring reality which faces the fifth generation. There is growing unrest within China and the People’s Republic of China (PRC) confronts unstable and increasingly complicated external environment.

He contrasted this pessimistic scenario with an optimistic counter scenario. He felt that power struggle was unlikely as the fifth generation leaders realize that they are all “in the same boat” and it is in their interest to demonstrate political solidarity when facing enormous economic and socio-political challenges. “The diverse demographic and political backgrounds of this generation of leadership can also be seen as a positive development to the extent that this diversity contributes political pluralism in the country.” He posited that the collective leadership could provide a basis for power sharing through checks and balances among political camps and “also entails a more dynamic and institutionalized decision making process through which political leaders come to represent various social and geographic constituencies and thus develop better policies to meet new and complicated socio-economic environments.”

In retrospect, this assessment was prescient. The new leadership represents various contending interests and groups. By now, it is known that despite the show of unity at the end of the 18th Congress, it was preceded by months of intense factional struggles, highlighted by the purging of former Chongqing party secretary Bo Xilai, who was contender for the Politburo Standing Committee (PCB). As World Socialist Web Site(2) put it, “This infighting was driven by differences over a further wave of pro-market manufacturing, and how to respond to the tightening geo-strategic encirclement by US imperialism through the Obama administration’s “pivot” to Asia.” All the factions agreed over leadership. The claims of ‘old guard’ were met by the inclusion of Li Keqiang who is to succeed Wen Jiabao as Premier.

In his first speech as CCP leader, Xi appealed to Chinese nationalism. “Our responsibility now is to rally and lead the entire party and the people of all ethnic groups in China in taking over the relay baton passed on to us by history, and in making continued efforts to achieve the great renewal of the Chinese nation,” he said. In a live televised address on 15 November, Xi exhorted, “Our party faces many severe challenges and there are many pressing problems within the party that need to be resolved” and added that the new leadership must “effectively deal with the prominent issues within the party: earnestly improve the party’s work style and maintain close ties with the people.” Commenting on the speech and the problems confronting the new leadership, one commentator wrote in Financial Times(3) that incoming administration would not have the luxury of the favourable forces which Hu had. He went on to add, “Hu Jintao administration, despite overseeing what was perhaps the greatest period of prosperity in centuries, did not seriously attempt to enact economic and political reforms that could have put the country on a more sustainable path.”

Ever since the new leadership was appointed, the question raised by many analysts and commentators is whether the leadership under Xi would carry on the reforms. Opinion varies from those who are hopeful to those who deeply sceptical. Mr. Louis Kujis, one of the old China hands who worked in the World Bank, gave his assessment in November 2012. He felt that Xi “may take a more comprehensive approach to reform and do more to rebalance the Chinese economy. But it is important not to overplay the impact of the new leaders. Gone are China’s strongmen, Mao Zedong and Deng Xiaoping. Leadership is now collective, headed the party’s all-powerful Politburo Standing Committee.” He also referred to the fact China’s economic plan for 2011-15 would continue to serve as an important reference point much in the same way the reforms were championed by Hu and Premier Wen Jiabo and the new leaders will continue to be under their influence. His own expectation was that the new leaders will maintain pro-growth policies through measures such as infrastructure and relaxed monetary conditions and not go further.

Xi and Li Keqiang have made repeated statements on the need to continue with reforms to promote growth and rebalance the economy. These have been covered in extenso in papers like Xinhua, China Daily, People’s Daily, South China Morning Post etc. Xi undertook a tour to Guangdong Province in what seemed like a self-conscious imitation of Deng’s legendary tour in 1992 in support of reform. As People’s Daily said, “Xi’s latest southern tour is widely seen as a signal of the new leadership’s determination to firmly deepen reform.” Le Keqiang in a statement said, “We do not blindly pursue gross domestic product growth and it is very likely that our development will go through a period of moderate growth rate that can hardly stay in double digits.” Prof. Michael Pettis, a well-known China analyst based in Beijing University, analyzed(4) all these statements and concluded, “The good news is that the current leadership seems very clear about the need to implement reforms and also understands that this is going to be politically a difficult process.”

A recent development, as gleaned from Chinese press reports, is that there is a lot of soul searching going on among academics and economists over rising imbalances and inequalities. On 12th December 2012 the China Academy of Social Sciences (CASS), a ministry level research institute that advises the State Council, narrated in a report that the structural imbalance in the country’s growth model had worsened over the past decade or more.

Data released in the third week of January by China’s National Bureau of Statistics were equally disturbing. The report suggested that the Gini coefficient for 2012 was 0.474. Over the course of the past nine years, China has consistently had a Gini value of over 0.4 peaking in 2008 at 0.491. According to NBS, the value was consistently decreasing over the past five years. The social impact of this development was clear. While China’s rapid economic development lifted much of its population out of poverty and into the middle class, it has pushed a class of people to lower income levels generating class tensions and threatening the country’s social and economic stability. China has seen the rise of billionaires and millionaires alongside deprivation. Hot flows and capital flights are rampant.

Political leaders in China have become more and more aware of the unsustainability of the model of economic development adopted so far. For long, indeed too long, the authorities relied on investment and exports to drive the economy. It served China well for some years and led to extra-ordinary growth. National savings, especially bank deposits, could be directed to finance investment. In greater measure, this was facilitated by high rates of national savings (household) and absence of alternative investment facilities for the public. Accelerated public investment in infrastructure made China an attractive location for foreign investment. American market and global retailers like Wal-Mart promoted flood of exports. It was indeed one of the unintended consequences of Nixon’s New China policy. It was also a part of the cold war strategy to wean China away from the USSR. As long as the economy could grow at high rates, it papered over the cracks. But once the economy lost speed due to its dependence on external markets, the cracks became visible. The leadership in China began to realize that for long term sustainability they have to rebalance and turn inwards. The battle over the exchange rate for renminbhi or the Yuan was also the trigger.

The argument mostly advanced by U.S. economists and the IMF that China’s currency policy created global imbalances was unsound. Fortunately, it was given up when there was realization that there could be other factors such as the QE policies of the FED, ECB, etc. However, many other economists like Easwar Prasad, Kujis, Pettis, etc. provided theoretical constructs to establish how the China mode could get distorted. In fact, the top Chinese leadership repeatedly described the country’s model as “uncoordinated, unsteady, unbalanced and unsustainable.” They began their attempts to rebalance the economy way back in 2002. The endeavor of the global community, especially the West, was to ensure China’s integration with the global economy as a stabilizing partner and not as one creating imbalances. The ECB wrote in one of its papers(5), “The sustainability of China’s economic growth if a key element of the global outlook. There is a widespread consensus, including in China, that the producer-biased growth model which still prevails in the country is unsustainable in the long run.” “It is widely acknowledged that a failure to implement more ambitious economic reforms would involve a tail-risk scenario of sluggish output performance, widespread corporate defaults, systemic banking stress and social unrest.” Eswar Prasad drew attention to the depressed wage levels and income disparities brought about the export promotion policies under devalued Yuan. As described by Nicholas Lardy and Nicholas Borst in a recent Peterson Institute Policy Brief(6) , “Rebalancing entails large changes in fundamental economic policies, such as removing lingering price controls and opening up the closed financial system. It will also bring about a shift away from the economic winners of the past decade, namely manufacturers and the property developers, towards private consumers and the service sector.”

As we said earlier, the Chinese authorities began to rebalance in 2002. The eleventh five year was one of the attempts and greater emphasis was in the 12th Plan for the years 2011-15 to which Xi and Le Keqiang are committed. Many studies suggest that rebalancing is taking place. A paper by Yiping Huang(7) gave an assessment. China’s consumption share declined steadily from 2000 to 2008. There was a sharp decline in trade surplus from 7.5% of GDP in 2007 to 2.1% in 2011. In a more recent article in The Wall Street Journal(8) Eswar Prasad says, “New data suggest that it is time to revise the view that China’s growth if driven largely by exports and investment. Private and government consumption together accounted for more than half of China’s output growth in 2-11-12, signaling a big shift in the composition of domestic demand. Physical capital investment, the main driver of growth over the previous decade, is no longer the dominant contributor to growth. As for exports, shrinking trade balance has in fact dragged down growth these past two years.”

As a major economic policy, there is every reason to believe that the new leadership will pursue this policy of rebalancing. In fact, it becomes imperative for them to continue with this policy to ensure greater economic and social stability. More importantly, it can be managed in a calibrated manner in stages (like crossing a river stepping on stones!) depending on changing dynamics, both domestic and external.

But when the western analysts talk of “reforms” they include a multiplicity of areas, sectors and components. There has all along been an attempt to impose the Western model on China which China has resisted. To its credit, it has to be said that it introduced marketization in stages and in a graduated manner. It may be recalled that when China was negotiating with the US and the EU for its inclusion in the W.T.O., there were innumerable demands made on it. China agreed to many of them and had reservation over some. China changed more than one hundred local legislative acts and statutes to comply with the WTO agreement. By and large, China has a good record as a responsible member of the WTO. Unfortunately, recent disputes in the WTO over many issues including that on steel, rare earths, etc. have revealed that the agreement does not serve the overall interests of China. Some Chinese scholars residing in universities like Oxford feel that these provisions were introduced to keep China down in the global market. There is disenchantment over the WTO process and over the benefits to China due to its accession.

There have been demands on China to open up its financial sector and also privatize its state-owned-enterprises. Within China, despite the enthusiasm over marketization, there are serious misgivings over such demands and the new leadership is unlike to widen the scope. The CPC or no Chinese government can give up on the commanding roles which SOEs and state-owned banks play in the economy. These sentiments stood in the way of Hu rushing through reforms. In fact, the nationalist ethos fanned by the “old guard” has gained more strength in recent years. The U.S. authorities showed realism in acknowledging Chinese sensitivities in their dialogues in the context of Strategic Economic Dialogue. Given these ground realities, it is not practicable for Xi and his colleagues to have a faster pace of reforms. They seem to be aware of it if we read their statements closely!

On the financial side, the future path is likely to be smooth. The dispute over the exchange rate for the Yuan has been settled. The recent disputes over “currency wars” and at5tackson QE policies of the US Fed and ECB have buried the issue. China will continue to manage the currency in a manner which ensures promotion of exports along with economic growth and stability. The PBoC had handled the issues relating to the Great recession more efficiently than the US Fed or the ECB with all their publicized wizardry over monetarist economics.

The good news(9) is that Dr. Zhou Xiaochuan may continue as the chief of the PBoC for a couple of years more. This will ensure continuity of policies. Dr. Zhou has proved to be a legendary chief of PBoC and his record is unmatched by any in the West. He has been able to interact with contending factions within the CPC, Ministries, SOEs, exporters, etc. and steer through an exchange rate policy even as he was constantly under threat from the U.S. Treasury and Senators. He has been able to build camaraderie with all central bank chiefs and treasury officials and served his country extraordinarily well.

The issues to be managed are: China’s currency reserves; rate for the Yuan; and management of sovereign wealth fund (SWF). Most of the issues have been clarified and well settled. On currency reserves, there is a good rapport with the U.S. Treasury. There is a good understanding of the mutuality of interests. China may not issue “nuclear threats” of pulling out reserves, not will the U.S. fail to protect them. The PBoC and the Chinese authorities will continue to pursue their policy of internationalizing the Yuan. They visualize a long horizon and do not wish to precipitate matters. In the meantime, they are promoting the use and expansion of offshore Yuan balances through swaps, bonds, etc. It is significant that the U.K. government wants to promote RMB swaps in the London market. There are problems over investment of SWF in the U.S. Often security issues block such investment. Sooner or later, there will be a better understanding. It is interest6ing that the U.S. did not mind China investing in banks which were on the verge of bankruptcy! China in fact lost heavily in some of its private equity deals. China has expanded its role in investment in Africa both as a measure of deploying reserves and to ensure supply of raw materials, minerals, etc. to feed its factories.

These financial policies and strategies will continue under the new leadership.

Note: 1 Cheng Li (2008): China’s Fifth Generation: Is Diversity a Source of Strength or Weakness? Asia Policy, The national Bureau of Asian Research, No.6 July.

2 John Chan (2012): Chinese Communist Party unveils new leadership, World Socialist Web Site, 16 November available at

3 Jami Anderlini (2012): New leaders face tough challenges, Financial Times, November 11.

4 Michael Pettis (2013): China; Recognizing the need for economic adjustment, Credit Write Downs, 14 January available at…

5 CEB (2013): Discussion Paper No.142, January.

6 Nicholas Lardy and Nicholas Borst (2013): A Blueprint for Rebalancing the Chinese Economy,

7 Yiping Huang (2012): China’s economic rebalancing is already underway, VOX, 17 February available at

8 Eswar Prasad (2013): Beijing’s steady progress toward rebalancing, The Wall Street Journal, February 18.

9 Lingling Wei (2013): China poised to extend Central Bank Chief, Financial Times, February 22.

(The writer, Mr. K.Subaramanian,is Associate with the C3S. This formed the basis of his presentation at the C3S National seminar on “Leadership Changes in China: Domestic and External Impact” , held in Chennai on 2 March,2013,

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