The US Pew Research Center, one of most important global opinion polling organisations, recently concluded ‘pessimism is pervasive’ in G7 countries. IMF Managing Director Christine Lagarde, in a memorable phrase, characterised the situation as ‘the new mediocre’. Indicating how currently depressed spirits are, a New York Times article immediately seized on this phrase to describe not only the economy but everything in the US from fashion, to books to TV shows. Regarding the economy former US Treasury Secretary Laurence Summers characterised the US and G7 economic situation as ‘secular stagnation’ – a prolonged period of very low growth.
Feeding the depressed state is the reality that even when some economic recovery has taken place it has not turned into improvement in ordinary people’s living conditions. Median US wages are lower than seven years ago, while the UK has suffered the most severe fall in personal incomes in the country’s recorded history.
Such economic trends inevitably created an increasingly bitter political atmosphere. A recent US poll found 65% believed future generations would live worse than the present one, while other surveys showed respect for US political institutions at record lows - only 13% of Americans believed the US government could be trusted to do the right things most of the time. A further poll found only 33% of the US population believed the country was going in the right direction, compared to 62% who believed it was going in the wrong one. Europe is witnessing a rise of racist right wing parties, such as the Front National in France, and separatist and independentist movements – most recently in Catalonia.
The same global polling organisations find China remains the exception among major economies. The latest Pew Research Center survey found 87% of people in China were ‘satisfied with the way things are going in our country’ - compared to the US 33%. At the factual level, the latest economic data shows that in the year to the third quarter of 2014 China’s economy grew by 7.3% compared to 2.3% for the US – China’s economy was growing more than three times as fast as the US.
The correlation between these economic developments and public moods is highly rational. Pew’s research showed almost two thirds of economic optimism or pessimism found in opinion polls in a country is accounted for by how fast its economy is growing.
Taking first the bottom of the economic ladder, the reason for much greater optimism in China than in the West is therefore easily explained. One of the most striking World Bank statistics is that there has been no fall in the number of people living in internationally defined poverty in capitalist countries in the last 30 years. The whole decline in the number of those living in poverty is accounted for by countries describing themselves as socialist – above all China.
Taking middle income bands, while median US wages fell in the last seven years, China’s real urban incomes frequently rose annually by not far short of double digit amounts. Much greater satisfaction by average and low income China’s citizens with the country’s direction, compared to the situation in Western countries, is therefore unsurprising.
But a striking feature is that China’s economic improvement is dramatic not only at the middle and bottom of the income ladder but at the top. This was spectacularly highlighted when Alibaba’s IPO raised $25 billion, the largest for any company in history, instantly turning Ma Yun into China’s richest person.
This was only the tip of the iceberg. By 2012 China had 10.9 million private companies, employing 113 million people, plus 40.6 individual enterprises, employing 86.3 million people. No equivalently rapid expansion of private enterprises took place anywhere else in the world. How, therefore, has China, an avowedly socialist state, produced not only the world’s biggest improvement in living standards for ordinary, and the poorest, people but the world’s fastest development of private companies? This combination helps explain the much higher levels of optimism in China compared to US pessimism.
The reasons for both the objective economic dynamic, and its reflection in popular moods, is the way the fundamental economic structure created by China’s economic reforms has successfully aligned all the major forces in its economy. This, as will be analysed, is strikingly unlike the situation in the West, where the economic structure is currently riven by contradictions, with consequent economic misfunctioning, producing the deeply pessimistic economic moods already noted. As the contrast has major lessons for world economy and politics it is worth analysing in detail.
The G7’s proclaimed media self-image is that they are ‘market economies,’ in which large numbers of companies compete on equal terms to produce fair efficient economic outcomes. Small and medium enterprises are particularly held up as the economic exemplar of this.
But this is image of economies dominated by relatively small scale competitive markets ispure myth. In reality a dominant feature of modern production is that it takes place on ever larger scales. The invention of the railway, in the first half of the 19th century, created for the first time a large industry in which the investment required was so great it produced an inherently monopolistic character – the cost of railway construction being so huge duplicate competitive lines being impractical. Since then pure monopolies spread into further fields of production - the electricity grid in all countries is so expensive it is impossible to create competing systems, the metro system of modern cities is impossibly costly to duplicate etc. In short, in a modern economy a number of economic sectors, are necessarily monopolistic in character and cannot be made competitive.
Even when pure monopoly does not exist, globalisation illustrates that many branches of modern industry require production of dimensions for profitability that they cannot be carried out a purely national scale. There are only two major civil aircraft manufacturers in the world, Microsoft has overwhelming dominance in computer operating systems, outside China Google dominates search engines, less than 10 companies dominate world automobile production etc. In its most developed form this has created the phenomenon of companies recognised as ‘too big to fail’ – i.e. firms operating on such large scales that no alternative can take over their functions without unacceptably destabilising the economy. This reality is explicit in sectors such as banking but, as the state bailout of the US auto companies after 2008 graphically showed, it extends to a far wider range of industries.
Some industries, of course, still remain characterised by competition between large numbers of companies. In addition to obvious small scale ones such as restaurants, hair dressers etc, in an industry such as tourism, one of the world’s largest, no company holds even a 1% market share. But overall large companies which dominate the economy. To illustrate this with a striking statistics, the turnover of the world’s 2,000 largest publicly listed companies, the Forbes 2,000, is equivalent to more than 50% of world GDP.
In short, the concept that a modern economy consists of huge numbers of small scale competing enterprises is an ideological myth. Equally, the West treating a totally uneven and differentiated economic structure as though it were a single ‘market’ has, as will be seen, dangerously negative destabilising tendencies. It is the consequences of this which creates the pessimistic mood in Western economies.
A key example is the banking and financial system, which has been at the core of economic crisis in the G7 economies. The fact the largest private banks are ‘too big to fail’ necessarily incentivises them to extreme risk taking, and even criminal, activity. In a purely competitive economy company risk taking is constrained by the threat of bankruptcy – the latter automatically halting risky, indeed all, activity. But once a private financial institution receives a state guarantee it is ‘too big to fail’, and therefore it will survive whatever its risk taking, pure pursuit of the highest potential return, and consequently the riskiest financial projects, becomes wholly rational - as the private institution will receive the profit if such projects are successful but the state will absorb the losses if they fail. The continuous series of massive private banking scandals – LIBOR, JP Morgan’s ‘Whale’, foreign exchange manipulation etc. – are therefore an inevitable development, as was the huge asset misallocation seen in developments such as the US sub-prime mortgage crisis prior to 2008.
Such ability to undertake ultra-high risk and ultra-high profit activities necessarily also means an increasing part of profit is taken by such private institutions – contributing to the huge increase in the percentage of total US profits taken by the financial sector. Simultaneously, the absorbing of increasingly high proportions of profits by such institutions permits the financing of extraordinarily high pay rates for their top executives, helping ensure that the gains of increased economic output are almost exclusively taken by the best off sections of society – the now notorious problem of the 1% and the 99%.
Such gigantic inequality of outcomes is therefore an inevitable consequence of the real economic structures which exist in the G7 economies, ands necessarily produces not only economic disfunctioning but pervasive popular pessimism of the type already described.
While the purely private operation of privately owned competitive companies may therefore be sufficient, for example, to maintain order and efficiency among small scale producers it is dangerously destabilising for banks or very large scale industry. Consequently, an undifferentiated economic policy cannot be successfully applied across economic sectors which have totally different economic structures - talk of ‘the market’, as though it were the same for local family shops and for large scale banks, is entirely misleading.
Far from being a single ‘market,’ a modern economy has at least three major types of market – pure monopoly, competition between small numbers of very large companies (oligopoly), and competition between very large numbers of small producers (perfect competition). By maintaining the myth that there is only one single type of market the G7 economies conceal economic reality, with the dangerous consequences already noted.
China’s economic structure, ‘socialism with Chinese characteristics’, sharply differs from such Western myths. The very word ‘socialism’ derives from ‘socialised’, i.e. large scale, production. In China the purest form of large scale production, monopolies, remain firmly in state ownership. But, simultaneously, since 1978 China has rejected a distortion, which originated in the post-1929 USSR, that small scale, i.e. non-socialised, production should be in state hands. The largest sector of small scale production, agriculture, is not collectivised, and purely competitive industries are left to the private sector. In competitive sectors dominated by large scale production (oligopoly) both state and private producers have advantages so the best way to test the relative strengths of these is to let them compete.
This structure is why China, a socialist country, also has the world’s most rapidly growing private sector. China has unremittingly affirmed dominance of its state sector. As recently as November 2013, the 3rd Plenum of the Central Committee of the 18th Congress of the Chinese Communist Party, the last top level decision making meeting on China’s economic policy, unequivocally stated: ‘We must unswervingly consolidate and develop the public economy, persist in the dominant position of public ownership, give full play to the leading role of the state-owned sector.’ Furthermore, this is not merely apaper statement - China has by far the largest state sector of any major economy.
But the difference, given the economic structures outlined above, is that whereas in the West the state and private sectors of the economy are seen as counterposed, in China, for structural economic reasons given, they are complimentary.
Western economic experts already concede the results of China’s economic structure isthe greatest economic growth seen in world history. As Nicholas Lardy, one of the most well-known US writers on China’s economy, recently summarized: ‘China’s growth since economic reform began in the late 1970s is unprecedented in global economic history. No other country has grown as rapidly for as long.’ Laurence Summers put it more precisely: ‘China… “already holds the distinction of being the only instance, quite possibly in the history of mankind, but certainly in the data” to sustain super-rapid growth for more than 33 years.’ China simultaneously saw the most rapid rise in living standards of any major economy
The attempt is made in the West to claim that this is nothing to do with China’s specific economic structure and is due only to private companies. But this thesis does not make sense. The great majority of countries in which private companies are dominant - Africa, Latin America, and much of Asia – remained trapped in poverty. As already seen, no major country with an economy based on private ownership has ever achieved China’s rate of economic growth over such a prolonged period.
But, alongside the overall rise in living standards, it is clear why the economic structure outlined explains why China has also produced the world’s most dynamic private sector. While the state should not own the companies in sectors dominated by small scale competition, and it does not in China, this does not mean that such companies do not require the state – not in owning the companies in the sector, but in creating the conditions in which they can best operate. Posed in terms of economic theory a truly (‘perfectly’) competitive market requires strict preconditions – perfect knowledge of market conditions, simultaneous price adjustments, minimal or zero transport costs etc. But these require real material underpinnings. Much of what is popularly referred to as ‘infrastructure’ is in fact the material structures required for efficiently functioning competitive markets – roads, railways, information technology standards and structures, power supply, wholesale markets etc. Many of these, due to their high costs, are monopolistic in character and therefore best supplied by the state. Consequently, even in sectors where the state should not own the operating companies, the state is required to create the conditions for most effective market functioning.
The same applies in sectors where the huge expenditures required are not in production but in research. To take a graphic example, it is a myth that the foundations of the information technology revolution, the cutting edge of US industrial innovation today, were developed by the private sector. They were developed by the US state. As Martin Wolf, chief economics commentator of the Financial Times, put it reviewing the Mariana Mazzucato’s classic study The Entrepreneurial State:
‘innovation depends on bold entrepreneurship. But the entity that takes the boldest risk and achieves the biggest breakthroughs is not the private sector; it is the… state…
‘The US National Science Foundation funded the algorithm that drove Google’s search engine. Early funding for Apple came from the US government’s Small Business Investment Company. Moreover, “All the technologies which make the iPhone “smart” are also state-funded ... the internet, wireless networks, the global positioning system, microelectronics, touch screen displays and the latest voice-activated SIRI personal assistant.” Apple put this together, brilliantly. But it was gathering the fruit of seven decades of state-supported innovation.’
In China, also, the state monopoly on large scale banks is fundamental in keeping down the cost of capital for productive companies. In the West, the high risk strategies which are rational for ‘too big to fail’ private banks mean their assets are most logically deployed in areas offering the highest returns and which therefore typically have the highest risk – derivatives and futures trading, foreign exchange operations, commodities speculation, interest rate arbitrage etc. Such high risk activities can be undertaken on a large scale because fatal losses will be borne by tax payers. To attract savings for such highly profitable, but high risk activities, high interest rates on deposits can be offered. The rates of return on such high risk activities are typically far higher than those achieved by productive companies. Due to such pressure the interest rates for the supply of capital to productive companies is sharply raised. China in contrast, by control of interest rates and restrictions on high profit but high risk financial operations, ensures a lower cost of capital tor productive companies.
By providing both a comparatively cheaper supply of capital plus superior infrastructure, i.e. the material conditions for markets, China’s state dominated economic structures creates particularly favourable conditions for the development of private business. It is therefore by seeing the state and private sectors of the economy as complimentary, not counter posed, that China has produced economic growth never achieved by Western economies. It is this which, in turn, explains the high levels of optimism in China regarding its development compared to the pervading pessimism which currently all studies find gripping the West.
* * *
This article was originally published in Chinese on Sina Finance's Opinion Leaders column.