On shaky ground
By Claudio Guler for ISN
The Schadenfreude came first. Then governments watched financial chaos permeate world markets, and anxiety quickly took its place. It has become abundantly clear that everyone will be affected.
The month of September 2008 ushered in the most severe financial crisis since 29 October 1929. Many analysts foresaw an economic downturn stemming from a ballooning US housing market. But that it would crumble, and consequently spread precipitously took most by surprise.
Economists and central bankers are now focusing on jump-starting frozen credit and inter-bank lending markets. It is proving to be no simple task. Political scientists, alternatively, must begin considering the political instabilities that have historically succeeded such economic crises.
Today's most volatile case is the People's Republic of China. Can the Communist Party of China (CPC) weather the impending storm?
Since committing to economic liberalization under the leadership of Deng Xiaoping in 1978, China has maintained its autocratic political structure. Mao Zedong first introduced it in 1949.
The contradictory nature of an open economic sphere - the state now controls less than one-third of China's economy - and a closed political arena, has forced the CPC to rely on two pillars of legitimacy: economic growth and nationalism.
Extraordinary economic growth has allowed the CPC to divert attention and quell calls for democratization. Since the events of Tiananmen Square in 1989, the CPC has experienced little domestic turmoil - with the exception of longstanding tensions with Tibet and Xinjiang Province in the northwest of China.
external pageNationalism is the CPC's second pillar of legitimacy. It springs from China's 5,000-year-old status as a great civilization and the foreign interference it suffered at the hands of the West from 1842 to 1945. The 1894-1895 Sino-Japanese War and Japan's invasion of Manchuria in 1931, moreover, reinforce the narrative of a humiliated China longing for atonement.
International trade and financial investment enabled China's rapid growth over the past two decades. The industrialized world had moved into the post-Fordist era by the late-1980s, i.e. manufacturing no longer took place in the US, Europe and Japan, but rather in the world's developing countries where labor was inexpensive. The industrialized world, instead, shifted to service-based economies. This, in effect, permitted China to become the world's foremost manufacturer, and pursue an export-based growth strategy. Over the past 15 years, Chinese exports increased by 1,600 percent. Since 2005, exports have contributed to more than 20 percent of China's growth.
Sino-US trade in 2007 amounted to US$385 billion. Sino-European trade came to roughly US$245 billion in 2005, and Sino-Japanese trade reached US$215 billion in 2007. The size of China's trade with the world underlines its economic interdependence. So far, the balance was in China's favor, and allowed it to amass an extraordinary US$1.8 trillion in foreign currency reserves.
The extent of China's trade with the world therefore raises an important question. If international demand for Chinese products falls or even collapses, what next?
Weisbrot and Rosnick from the Center for Economic and Policy Research in Washington DC external pagepredicted back in July 2006 that the US import market would shrink over the decade 2010-2020. The current crisis promises to accelerate this trend. A consumer-based recession external pagelooms large in the US. Credit card issuers have external pagelowered charge limits, many Americans live from pay check to pay check, are heavily indebted and have low savings rates.
If only US consumer demand drops, China's growth will suffer. If European and Japanese consumer demand also declines, exporting in significant quantity will become difficult. Asia and the Middle East still import from China, but if the industrialized world slows, it is difficult to imagine that they will not follow suit.
The trend, unfortunately, is already external pageobservable. Chinese exports are falling, the Shanghai Stock Exchange is down 60 percent on the year-to-date, the Hang Seng index is down 45 percent, and property values in China, much like in the US, are plummeting. However, unlike US homeowners, the Chinese have not used home equity to finance their spending.
Investment, which comprises 40 percent of Chinese GDP, may sustain the economy for some time, but it too is likely to fall as international sources dry up. Chinese consumer spending, which makes up 30 percent of GDP, is a buffer, but insufficient. The government, finally, can employ its massive foreign currency reserves to subsidize the economy. However, time limits this strategy, and any large sell-offs will cause the dollar's exchange rate to sink, consequently lowering the absolute value of Beijing's reserves.
Not too long ago, the CPC may have welcomed a slowing Chinese economy to combat rising inflation. Now, a grinding halt may threaten the Party's survival.
The coming years will prove decisive. Slow growth jeopardizes the CPC's legitimacy and forces it to fall back on nationalist credentials - an exceedingly disconcerting notion. The still unpredictable depth of the global financial crisis is very likely to shake the CPC and test its fortitude. And in the worst-case scenario, it may even spell its demise.