Chrystia Freeland

On a recent trip to Hong Kong Chrystia recorded a podcast for the American Chamber of Commerce in China, about an op-ed she published in the Washington Post this summer that critiqued China’s economic system of state capitalism.  Chrystia, invoking a recent speech from Mike McFaul of the National Security Council, tells the Chamber that while the Chinese system succeeded in raising the country out of the lowest rungs of poverty, there is no historical evidence that suggests it can turn China into a rich nation:

My argument, and as it turns out quite independently, Mike’s argument, was we have to be really careful about thinking that authoritarian regimes are better at modernization, and one reason why we have to be careful is there is some historical evidence that says that authoritarian regimes can be quite good at the early stages of modernization.  They can be pretty good at that brute force moment when you’re dragging and economy out of being an agrarian society into industrialization.  What we haven’t seen yet—and as we look across the world, across histories—we haven’t yet seen that an authoritarian state is able to move an economy to the next level, and in fact what we’ve seen is that even in those countries where an authoritarian state successfully led an industrialization effort, as the country got richer and the economic transformation that needed to be achieved was more complex, what you actually have had happening is democratization.  There are some Asian countries that are a really good example of that.  I think South Korea is perhaps the best one.  […]  What we don’t have evidence of is that the state capitalist model… works in a really rich country.  All the countries that are really rich are democracies.

Chrystia also elaborates on a topic she touched on in her original op-ed, namely economic historian Joel Mokyr’s thesis that the same centralized, authoritarian decision-making process which foreigners marvel at today actually caused China to miss out on the Industrial Revolution centuries ago:

What is most interesting is China could have been the place where the Industrial Revolution actually started.  If you look at medieval Chinese history, China had all of the ingredients for an Industrial Revolution centuries before Western Europe did, but it didn’t happen in China.  And why was that?  Because China had a highly centralized authoritarian state, and just as those elements were coming together, the Chinese state, which was authoritarian and centralized, decided, “We don’t want that,” and decided to go in another direction.  That couldn’t have happened in Western Europe because Western Europe was much less centralized.  Suffered from that of course—lots of wars, lots of countries moving in bad directions, less good at doing all sorts of things.  But because you didn’t have this centralized, authoritarian decision-making process, industrialization did happen in Western Europe.  And when one Western European country slowed down, went off the rails, became too authoritarian, that process—those people, those ideas—very quickly jumped across the border into another country and the energy, the economic growth went there.  And the whole continent, the whole society benefitted.

Do go listen to the whole thing.

Posted by Peter Rudegeair

“There is no other policy tool available [besides quantitative easing],”‘ Laura Tyson, a former chairwoman of the Council of Economic Advisors, said at this morning’s Reuters/YouTube live debate on how to fix the economy. Tyson argues that additional Fed purchases of long-term bonds is the most viable way to energize the U.S. economy since a new fiscal stimulus bill is unlikely to pass Congress:

She appears alongside Glenn Hubbard, another former CEA chairman, who maintains the Fed will spend another $1 trillion to lower rates by 20 basis points. “We can’t inflate our way to prosperity,” he said.

Tyson disagrees and thinks the risk to inflation is low. She admits we have to convince the rest of the world that the U.S. has no intention to inflate away its debt.

Their conversation then turned to China. Both agree that the increasingly fiery rhetoric Washington directs toward Beijing is counterproductive and that the U.S. is better served by enacting policies to reduce its trade deficit:

HUBBARD: If [the U.S. and China] both keep beating up on each other and try to beggar our neighbor, we’ll get into a very bad place. China does have a protectionist policy. It does have a mercantilist policy. And I think focusing on those things quietly rather than from the hilltops, as the administration is doing, would be the right answer.

TYSON: [the rhetoric towards China is] a mistake for them and it’s a mistake for us. … but I honestly think that, just like Glenn does, the exchange rate is not the issue here … frankly, I think we’ve seen much more of a sign that the Chinese are rebalancing and restructuring than we’ve seen in the United States so far. [...]

HUBBARD: [If you focus] on export led growth, you’re guaranteeing, at some point, to have a large financial crisis, because you’re building up a lot of negative net present value projects in China.

As for a second fiscal stimulus, Tyson said the U.S. should spend $1 trillion on infrastructure over the next five years. She thinks direct aid to states should be a priority at a time when 25% of the nation’s children live in poverty and state and local governments are forced to lay off 88,000 teachers because of budget shortfalls.

Surprisingly, Hubbard conceded that a second stimulus would be helpful, but said it should only take the form of investment incentives and a mass refinancing of mortgages held by Fannie Mae and Freddie Mac. While infrastructure spending could be stimulative, he says shovel-ready projects are few and far between.

Posted by Peter Rudegeair

U.S. monetary policy is flooding the world with cheap liquidity, Nobel Prize-winning economist Joseph Stiglitz said at the Canadian Consulate’s “Invest in Canada” luncheon yesterday. Our current policy, he explained, acts as a competitive devaluation against emerging-market currencies. Stiglitz added that he is worried about the prospect of a currency war but conceded that there’s not anything we can do about it.

Stiglitz went on to say that what the Fed is doing is not so different from China’s interventions in the foreign-exchange markets and accused the U.S. central bank of undermining global financial market integration and only acting out of a sense of guilt:

The Fed, having created the problem in the first place, feels guilty and says, ‘We should do something to get us out of the mess.’ [...]   [Emerging markets] see this as competitive devaluation of the United States.  We say, ‘No, no.  We’re not engaged in competitive devaluation.  That’s something China does.  We don’t do those kinds of things.  We don’t manipulate our currency.  All we do is ordinary monetary policy.’  But the consequence of ordinary monetary policy is competitive devaluation.

Appearing alongside Stiglitz was BMO chief economist Sherry Cooper, who forecasted that the U.S. would see moderate growth of 2-2.5 percent in the second half of 2010. She was encouraged by recent indications that the deleveraging process for households and businesses is beginning to slow, but noted that that would not be enough to restore job growth. “Fiscal stimulus is essential,” Cooper said. She thought no new government spending in the U.S. would be passed, though, as deficits have become the focal concern of Washington, even as the Treasury is able to borrow at rock-bottom rates.

Stiglitz weighed in that it was a “total mystery” to him why the Democrats are not pursuing fiscal stimulus. “I am disappointed,” in President Obama, he said. In his view the Republicans’ invoking the language of deficits “captured the public’s mind.” Ultimately, he thinks that efforts to downsize the government by reducing deficits will backfire as the slower growth will shrink tax revenues and necessitate more government borrowing to keep basic services running.

The pre-election economic treats that President Barack Obama handed out this week included several intended specifically for business: research and development tax credits, for instance, and the small-business tax breaks he is pushing to introduce in the face of Republican congressional opposition.

But these familiar sweeteners won’t be nearly enough to reverse one of the most significant estrangements of the first two years of the Obama administration — the rift between the White House and business.

Two years ago, candidate Obama was the darling of the CEO class: Hedge fund titans, Silicon Valley entrepreneurs and even registered Republican chief executives from the Midwest flocked to his banner. Today, America’s business leaders — even those who raised millions for him in 2008 — have turned on their president: “Socialist” is among the nicer epithets some use when describing Obama.

For Democratic politicos, this virulent critique is especially painful because it is so out of sync with the views of the party’s traditional base. The MoveOn activists, union leaders and progressive pundits are as united as the C-suite in their verdict on the president — only in their opinion, he has sold out to big business, particularly its Wall Street wing.

That’s why conventional wisdom on the left is advising the president to abandon his milquetoast ways and go on the offensive against the capitalist overlords. He should model himself, as Chris Matthews suggested last week, on Franklin Roosevelt, who said of the country’s bankers: “They are unanimous in their hate for me — and I welcome their hatred.” In a similar vein, Post columnist Harold Meyerson recently urged Obama to “acknowledge how our power elites have betrayed Main Street America” and to take a lesson from FDR’s tirades against the “money-changers” on Wall Street.

If you want to play traditional political hardball, that advice makes sense: The bankers hate the president anyway, so why not embrace that sentiment and use it to reenergize his core constituency?

But if the president wants to be true to the worldview that got him elected in 2008 — his pursuit of a “more perfect union” — he should do something completely different. And in the process, he might find himself transforming the American conversation about capitalism and society.

Obama needs to reframe the discussion about business and taxes and regulation. Right now, that debate is being waged as a class war. The left rages against “casino capitalism” and the evil businessmen who wrecked the economy and must now pay to fix it. On the other side of the ring, Wall Street is using the same “warring camps” language. Not everyone (thank goodness!) goes as far as Blackstone Group Chairman Steve Schwarzman, with his ill-judged comparison to Hitler’s invasion of Poland, but fund manager Dan Loeb spoke for the broader financial fraternity last month when he accused the president of abandoning free-market capitalism and the Constitution’s guarantee of freedom from “nonpunitive” taxation.

The president is partly to blame for this zero-sum mentality. The business case for ill-treatment by the White House is pretty overblown — remember the Troubled Assets Relief Program (initially ringing up at $700 billion) and the gift that keeps on giving: cheap money from the Fed. Yet when it comes to rhetoric, this eloquent president has made critical missteps. The worst came in spring 2009, when he attacked the “speculators” who held Chrysler bonds. He was also out of line in permitting the denunciation of Goldman Sachs; all the name-calling notwithstanding, Goldman is probably the Wall Street firm least to blame for the 2008 crisis.

Painting affluent bankers as America’s villains is no doubt fun, especially when your base is egging you on. But it is a big philosophical mistake. It invites a malign interpretation of the tighter regulation Obama’s administration has already imposed and the higher taxes on the rich he has promised. And when you rail against nasty speculators, you shouldn’t be surprised if business accuses you of imposing more rules and higher taxes as a punishment.

That’s the wrong way of looking at things. Stricter regulation of financial services is necessary not because American bankers were bad, but because the rules governing them were. Higher taxes on the rich are necessary not because the wealthy are undeserving or made their money unfairly, but because America is broke and, in this age of income inequality, the super-rich are the people who can best afford to pay more. Taxes aren’t punishment for a crime; they are how we contribute to the society we inhabit.

If Obama really believes in capitalism — as he surely does — he needs to stop demonizing business. If he gets this right, he might just convince some of his erstwhile banker buddies that higher taxes and more regulation aren’t an attack on capitalism or on capitalists — they are his effort to make this capitalist democracy work better for everyone. Surely that would be change both Wall Street and Main Street could believe in.

This piece first appeared in The Washington Post.

This piece first appeared in The Washington Post.

Forget the “Ground Zero mosque,” Michelle Obama’s Spanish holiday and even the oil spill in the Gulf of Mexico. When future historians look back to the summer of 2010, the event they are most likely to focus on is China’s emergence as the world’s second-largest economy.

Mostly, this is a very good thing. The rise of China, and the related, albeit slightly slower, emergence of India, is the story of hundreds of millions of very poor people joining the global economy and getting a little richer. Gross domestic product per capita in those two countries was basically stagnant from 1820 to 1950. Then, it increased 68 percent from 1950 to 1973, and a whopping 245 percent from 1973 to 2002.

But we need to be careful not to draw the wrong lessons from China’s resurrection. The most dangerous one is that authoritarianism works.

That notion has become particularly tempting at a time when so many Americans, on the right and the left, are skeptical of the efficacy of their government. By contrast, many, particularly in the U.S. business and political elite, openly admire the effectiveness of China’s state-controlled version of capitalism. Indeed, a popular intellectual trend, as Stefan Halper, Ian Bremmer and others have noted, is to suggest that, especially in the wake of the global financial crisis, China’s economic model — a.k.a. “the Beijing consensus” — could replace the U.S. model.

That’s plain wrong. Centrally planned economies tend to be good at wrenching societies out of agricultural poverty into the industrial age — especially when the technologies needed to accomplish that shift have been invented elsewhere. Remember that in the 1930s, ’40s and even ’50s the Soviet model seemed viable, for precisely that reason.

So far, China’s rise has mostly been about industrializing an incredibly poor, rural economy. Even today, China’s $3,600 per capita GDP is roughly on par with those of El Salvador and Albania. We haven’t seen whether centrally run China will be able to take the next step and compete at the cutting edge of technological and financial innovation. When South Korea went through the same transition in the 1980s, it also shifted to a much more democratic form of government and freer version of capitalism.

One reason state capitalism may falter as China gets richer is that it may be hard to allow people to become consumers without letting them become real citizens, too. One of China’s big economic challenges over the next decade will be to allow its domestic market to grow. That will mean giving the Chinese people more spending power. As the Chinese become more bourgeois, they may demand more political rights, too.

A second constraint on state capitalism will be innovation. The American political economy has many flaws — collapsing infrastructure, a hollowed-out middle class. But America has one great virtue that no other country has yet to replicate: When it comes to innovation and its translation into things people want, America is unbeatable. This is the country of Apple, Google and Facebook. These are the inventions driving the technology revolution, and only an open society can create them.

In fact, China is an object lesson in the threat that centralized, authoritarian states pose to revolutionary technological development. One of the big questions historians wrestle with is why China, which was on the brink of industrial revolution in the 14th century, then seemed to give up on radical technological change, ceding the initiative to Europe.

A favorite explanation for those centuries of stagnation is the same one we offer for China’s current dynamism — its centralized, authoritarian state. As economic historian Joel Mokyr has written, “the absence of political competition did not mean that technological progress could not take place, but it did mean that one decision maker could deal it a mortal blow.” Meanwhile, in chaotic, divided, inefficient Europe, when one ruler decided to repress his innovators, “they did no more than switch the center of economic gravity from one area to another.” Dictatorships aren’t so great at self-correction.

The United States shouldn’t be complacent about China’s rise. At the very least, it means that American companies, American politicians and the American people need to adapt from the comfortable role of the globe’s sole hyper-power to the tougher task of working in a multi-polar world. China’s fans are right when they point to some of that country’s dazzling infrastructure projects and ask why Americans, whose average income is more than 12 times greater than that of the Chinese, can’t come together to achieve something so grand.

But America can respect China without imitating it. Dictators are easy to admire, especially at a distance. Free markets and free societies always look messy and inefficient, especially up close. But when it comes to inventing the modern world, and living at its edge, so far the best model the world has come up with is democratic capitalism.