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Good afternoon, Ladies and gentlemen,
Thank you very much for the wonderful welcome! I¡¯m delighted to be here,
and I¡¯m very happy to become an honorary professor of Zhengzhou
University. I attended this morning the Expo Central China 2007, and it
has been a wonderful thing to see this exposition in Henan Province and
Central China. And I think it¡¯s a wonderful experience for me to come
and talk to you about something that I work on day in, and day out in
economics.
China, as you know, has been one of the high points of
the world economy. One of the most important facts of modern world
history is the growth of China, and the movement of China from a
relatively poor and backward country to a much more modern country¡ªa
rapidly growing economy that is integrating into the world economy at a
rapid pace. It is surprising you have had thirty years of an average
annual growth of 9%. And I might say, for the past four years, there has
been a two-digit yearly growth, that is, more than 10%. This is a
remarkable achievement. China¡¯s exports, in the beginning of the
modernization era ¡ª the Deng Xiaoping era, in 1978, took up only 1-2% of
the world economy, now it is 7% of the world economy. And it is growing
and continuing to grow, and you can imagine what kind of impact it is on
the world economy. Massive FDI (foreign direct investment) ¡ª 8 billion
dollars ¡ª goes to China a year for several years running. China now
stands number four in global GDP and has achieved remarkably in
manufacturing and the successful modernization and transformation of its
industries.
However, I always have to add that there are
always problems to growth since there¡¯s no free lunch everywhere. When
you move ahead rapidly, and in some dimension, that creates some other
problems. And you have to always manage those and in an efficient way.
In the short run, the problem of macroeconomic management, including
exchange rate policy, is definitely in the forefront. In the
intermediate run, rural poverty, massive migration to the cities,
pollution and environmental problems have to be coped with. And in the
long run, it¡¯s good to anticipate that China will face a demographic or
aging crisis, like other countries have, and the counterpart of its
population control measures. It is proper China¡¯s population, now 1.32
billion, will increase to 1.54 billion in 2142 and then fall back to
maybe 1.2 billion by the end of the century. That¡¯s still a demographic
or demographer¡¯s prediction as to the population goal. Aging of the
population and migration to the cities will involve problems of poverty
with cities full of old people. I¡¯d like to say emphatically how
important education is because even at the very early ages, young people
in primary and secondary schools, in universities should be aware of
this because you don¡¯t want to have cities filled with all the people
that don¡¯t know how to cope with and earn their own living. That¡¯s very
important.
Now, please look at the chart¡ªthis is the way I look at
the world economy in a way. These globe spheres reflect monetary power,
or maybe GDP. Monetary power of a country is more or less in proportion
to its output, that¡¯s we call it GDP¡ªgross domestic product. The biggest
economy in the world today, I think, is my own country¡ªthe United
States. Its GDP now is 13.5 or 14 trillion dollars. And the second
biggest economy in the world is the Euro area, with its GDP at 10 - 11
trillion dollars. Japan¡ªthe yen area¡ªstands the third. The GDP of Japan
is about 4.5 trillion dollars. And the next biggest economy is China¡ªthe
RMB area as China¡¯s has taken over the fourth place from the United
Kingdom. It is remarkable that in such a few decades, China has become
the fourth biggest economy in the world. Remember: 100 years ago,
Britain was the center of a great empire. And now its GDP is about 2.2
trillion dollars while China¡¯s GDP is about 2.5 trillion. The dollar,
the Euro, the yen, the yuan/RMB, and the pound sterling are the five
most important currencies in the world.
Now, I¡¯d like to ask a question: what are the drivers
of China¡¯s growth¡ªwhat is it that makes China move into this wonderful
position that is unprecedented in the world history¡ªits 9% annual growth
for decades? High savings rate¡ª50% of GDP last year was savings. That¡¯s
partly caused by the population policy when China changed its population
policy in the early 1980s to restrict it to one child per family. People
all over the world have children, of course because they love them. But
also because it¡¯s a way of continuing the race; it¡¯s a way of also
supporting their parents when their parents retire and get old. And that
was a kind of social security system: you invest in your children today,
and they repay you by looking after you when you retire. In a private
system, this is an exchange. And that¡¯s the way all economies have
always done it. When that shuts up, the people in China have to move to
an alternative way which is, instead of building up capital assets in
their children, they build up the capital assets in their money or in a
security, that is, stock market, they are trying to build up capital.
This is the root. This is a very important part of the high savings
rate, and it is so high that it astonishes the world.
Second is the world prosperity. 2007 is a remarkable
year¡ªit¡¯s the period when the world economy is in the best shape it¡¯s
ever been in. Never before have you had this. The five big economies or
areas, the United States, and Europe, and Japan, and then, the two huge
populous economies with over almost 2.5 billion people¡ªChina and India,
are all moving ahead well. For the first time, this has happened. And
the U.S. economy is doing great. The European economy is in a better
shape it¡¯s been in, and the Japanese economy has recovered, and the
Chinese economy is galloping ahead like a race horse and continues to do
great things.
Then, export demand growth is very important. When
China grows, the problem ¡ªmany countries have¡ªwill rise: they produce
more products, but they can¡¯t find enough people to buy them. So what
happens is they turn the trade down¡ªthe export prices go down; the
import prices go up; and they don¡¯t have real benefits from it. But what
is going on in China¡ªthe world¡¯s strongest growing economy¡ªis that the
goods China produces are of lower cost and high quality. So as income
grows, people want more and more of them and they want more than 10% of
them. That¡¯s what is meant by ¡°high income elasticities¡±.
Then of course, due to strong FDI, China has become the factory of the
world. But I have to draw your attention to one thing: you can import
technology and catch up until you reach the frontier of technology, but
you cannot develop any more and you have to go with other people and
invent yourself¡ªinvent your own progress or go along with the world. But
that¡¯s a great part of high growth.
Chinese have the propensity to apply the latest technology. They
rejected the advice of people who say, ¡°oh, take this second cheaper,
second-hand technology¡ªmaybe a little old, but it¡¯s much cheaper, and
you can get many more of it for the same price.¡± But China rejected that
approach, and I think because they realize that the real cost of
technology is the cost of the workers using that technology and learning
how to use it, and that there¡¯s no point learning some old technology.
If when you want to upgrade, you have to relearn it. This is the cost,
so this is a good argument. I think it is always true in China: the
desire to learn and improve. Stable political framework and massive
labor force have made the RMB constantly strong since the late1990s. For
ten years, the RMB has been strong and no question of its appreciation.
It¡¯s only a question of whether that will appreciate. So far by 2007,
China has overtaken all the G7 countries in GDP, except the U.S., Japan
and Germany.
By 2010, China will overtake Germany in total GDP,
becoming the third largest country by GDP in the world of market
exchange rate. When you look into the history of economic growth in all
countries, you will see one country suddenly moving ahead in such a pace
into the world economy and it pushed back other countries. Britain did
that in the late 17th century to Italy. It pushed back Italy with its
manufacturing and then Britain moved ahead enormously in the 19th
century. And then Germany came on and was pushed back. And then the
United States came in the early 20th century, charging ahead and
increasing its share of the world output and became a very powerful
country and it is always pushing back other countries. Then Japan in the
1950s and 1960s was growing at ten or twelve percent for fifteen years
in that period. And what you saw was that Japan¡¯s share of the world
economy with export was rising and the British share was going down, so
Britain was a declining nation in this. This was the competitive shock
of Japan, and we all had to experience that and had to cope with that.
And we should be liberal enough to learn from it. Just as people had to
cope earlier in the century with America¡¯s competitive shock, and now
the world economy has to cope with China¡¯s competitive shock. It¡¯s
inevitable. Increasing resistance in the west with the protectionist
tendencies, always strong within a nation has been harassed by
competition, and it is easy to turn to protectionism. They¡¯ve done that
against China because the biggest example was the textile issue: when
ten years ago, or twelve years ago, China was starting to move ahead
rapidly in textiles, and they made agreements concerning general quotas
on Chinese textiles. China was so competitive that it was going to knock
off textile industry all over the world. They made an agreement on
textiles and then they would take off the quotas and that was fine. But
two years ago, the other countries took off the quotas, but they hadn¡¯t
done anything to protect themselves against Chinese competition from it.
They took off the quotas and immediately it began to swamp their
markets. They were creating enormously unemployment. And they made a new
deal which is to take off the quotas, keeping those quotas on until
2008. Whether they do that or not is not clear because European
countries would like to protect themselves. So, this is an issue that we
have to be sensitive to.
Competitive shock produces groups that benefit and
groups that are hurt by it. People in U.S., Europe, Japan, and other
countries worried about jobs lost as a result of competing imports. And
then, also other labor-abundant economies, Mexico, India, can also lose
from competition in this. In the classical view of the world, there was
a kind of harmony in one country¡¯s growth and that growth would help the
rest of the world because they get those products at lower prices than
before. That¡¯s generally been the case. China¡¯s growth helps a lot of
countries because they get Chinese products cheaper, but it hurts
another group of countries which are producing the same kind of goods as
China. And then those countries suffer in terms of trade loss and they
will be made worse off.
So protectionists tell only one side of the story.
China¡¯s expansion of imports helped to stabilize the world economy
during the global slowdown of 2001-2. And the other side is that the
consumers have benefited enormously from the ¡®Made-in-China¡¯ goods.
Now, another fact is that China has developed a
triangular trade pattern with large surplus to the United States matched
by large deficits with East Asia. China has big deficit in Asia but big
surplus with the United States and Europe. And the East Asian economy
exhibits a pattern of vertical integration with China as the dominant
processing center. Think of all Asia being a big factory with inputs
coming from outside Asia in the final processing part to be done in
China. And China¡¯s current account balance is only a small part of the
problem of the US deficit. The US deficit problem is a global problem.
But now we do have to look at that because that¡¯s what people are
talking about. China¡¯s export has changed over ten years from 1996 to
2005. There are four categories here: Resource-intensive, that¡¯s iron,
nickel and coal resources that come from the ground; Low-technology
exports, medium-tech exports and hi-tech exports. Resource-intensive has
gone way down; Low-tech has gone down from fifty percent to thirty six
percent; Medium-tech exports have gone up from 8.9 to 11.5; and hi-tech
exports have gone from 22.7 to 43.7(43.3). This is a very interesting
thing which shows how rapidly this is, ordinarily this kind of change
would take most countries twenty or thirty years to do while this
occurred in China only in ten years.
Well, is there global disequilibrium? We are talking
about globalization. People mean by global imbalances, the US current
account and trade deficit, and the counterpart surpluses in the rest of
the world. Where are the surpluses? Well, the oil-exporting countries,
China and Japan. You have to understand the causes of these imbalances.
The world economy is said to have never been better. I object. But here,
the US deficit is a motor for the growth of world economy. I love the US
deficit. It¡¯s great for the world economy. It means the rest of the
world has surpluses. And when they have those surpluses, they can
acquire dollars, and financial assets that can fuel their growth. So
it¡¯s like a fusion, and it¡¯s working¡ªit¡¯s wonderful. that¡¯s why the
world economy is in top shape. If you didn¡¯t have the US deficit, today
this world economy would be going way down. So we need that deficit, or
if we can¡¯t have that deficit from the United States because it¡¯s going
to hurt ultimately the United States, we have to find some way of
getting the same thing in a different way. We have to make a reform of
this system so that we can get that. Paulsen is the Treasury Secretary
of the United States. He gave a one-hour interview with Charlie Rose on
television, and ninety percent of the interview is devoted to China. In
the interview Paulsen said the world economy was in great shape. But
then he went on to talk about the really connected fact: the imbalances.
And that¡¯s a thing we need to. Well, the deficit is very
large---$800,000,000,000. This deficit is something like six to seven
percent of US¡¯ GDP. This is a very large amount. But just go to hear the
IMF at the Singapore meetings. The main subject about the IMF was the
IMF hasn¡¯t been lending money to people, because they don¡¯t need it.
They are getting it from the surpluses they have. So the IMF is going
broke¡ªit can¡¯t make ends meet. We don¡¯t have to feel sorry for the IMF
because they can find the means or way of doing. But the main lesson we
hear is when the public is healthy, the hospitals go broke. And when the
world economy is in great shape, the IMF goes broke, because nobody
wants to borrow¡ªno body needs to borrow.
But here is the US deficit since 1990. The deficit
started in 1990 and then got tremendous. But the deficit was huge in the
1980s, too. It¡¯s just because US had a recession in 1990, so the deficit
ended, but just momentarily. But the whole 1980s, US had deficit and
there was a schedule to increase, so that was a problem that we have to
focus on.
Now, why is this? Why is the US in the position of
being the driver for this? In the twentieth century the dollar took over
from the British pound the role of a dominant world currency. Before
WWI, the United States was a debtor economy. It was involved in a
development phase. But in WWI, the other countries sold off their
assets, and the United States became a creditor. And US had surpluses
all the way up until 1975. With those surpluses, it kept building up its
current position---the world¡¯s largest creditor by far. Then it started
to have deficit after that. So the deficit started after 1975. China
wasn¡¯t trading anything then so there was nothing to do with China.
After 1980s, US had a big deficit and in the 1990s it
also had big deficit. So they had those deficits and it¡¯s only recently
that it¡¯s been the Chinese surpluses which make it worse. But all that
periods before when the deficits were huge and worse then, other
countries had the surpluses. So nobody can blame China for the problems
of the US deficit. And this is the day that we have to worry about
thinking if they are really problems.
Throughout its rise to a superpower status, the U.S.
has had roughly four phases of its balance of payments. Before 1915, it
ran deficits for a century and it became a debtor country, built up in
debts. It was building railways, doing all the things, mading itself
into a great economy---borrowing a lot and investing and becoming a
great economy and an immigration country in that time. In 1915-1975, it
ran surpluses all the time, building up its creditor position, and it
reached a maximum of that creditor position in 1975. But then it started
to run deficit when it was still a creditor. It ran down that creditor
position and earned off its assets. By 1990s, that was a turning point,
the U.S. stopped being a creditor and became a debtor. And now in the
phase after 1990s, it was seventeen years and the debtor¡¯s status got
increasingly worse. What happens means that the U.S. debts increase all
the time every year when U.S. runs $800,000,000,000 deficit. So this is
a summary of those positions, as I said, phases of the U.S. currency.
But the U.S. runs deficits because of the strength of the U.S. economy,
not because of its weakness¡ªbecause people want to invest in the United
States. When they invest their capitals in the United States, the only
way to invest capital in real terms is that they will have to run trade
surpluses. And the U.S. accepts that¡ªthey let other countries buy up
their financial assets and spend the money. So they have deficits. But a
good part of that spending goes to the capital stock of the United
States so that the capital stock of the United States is going rapidly.
It isn¡¯t a large percentage as seen by the rest of the world. Well, the
deficit is over 800 billion and looks as if it will continue¡ªthat¡¯s 6%
of the GDP¡ªbut this is only 1.5% of the U.S. capital stock. Capital
stock is about four times GDP. So U.S. net indebtedness is about 3.5
trillion dollars¡ªsounds like a large amount¡ªthat¡¯s 25% of GDP, but
that¡¯s only 6% of the U.S. capital stock¡ªnot so worse¡ªhardly a problem,
as long as indebtedness and growth grow at the same rate. Is the deficit
a threat to the dollar? Well, since flexible exchange rates began, the
dollar has gone through about four cycles. And when the U.S. is strong,
the dollar is strong; when the growth is slow, the dollar is weak. The
catch is that when the dollar goes down, so does the U.S. indebtedness
because assets of the United States are in foreign currency and
liabilities are in dollars. So when the dollar depreciates, the U.S.
assets and liabilities go up so the indebtedness of the U.S. goes down.
It¡¯s a system that protects the United States. The United States should
not worry about its subsidies because right now there is no reason for
any kind of panic about this. But the first thing is the U.S. runs these
deficits because other people want its assets, and they know that
because these assets are worthwhile. The dollar is the world¡¯s money. It
shouldn¡¯t be, but it is because there is no other way in the money
system now, and the foreign central banks hold 5 trillion dollars in
liquid dollar assets. China holds almost 1.3 trillion dollars of those
assets. China¡¯s got the biggest foreign exchange assets than any other
country in the world. But the deficits are good for the world economy,
as I have said before. The conclusion is that the current levels of U.S.
deficits are no threat to the dollar as long as the U.S. economy turns
strong. And in the long run there will be a threat to the dollar in
unfavorable phases of the dollar, which is exacerbated by
diversification. The bottom line is: in the long run stability of the
dollar and the world economy will depend on sharing the burden of
reserve provider by creating a world currency.
The deficit of the United States has caused three
surpluses in the rest of the world. The counterparts of these surplus
countries are mainly the oil-exporting countries, Japan and China. The
oil-exporting countries have surpluses of collectively all the Middle
East countries, Russia and so on, $500 billion. Japan has surpluses of
$150 billion, which it has had since 1980¨Dfor more than 25 years. China,
though, recently has a big surplus. When oil prices go way up, the oil
bills go up and America spends more on the oil deficit. That is by far
the biggest factor in the deficit. So don¡¯t tell that China has caused
the increase in the US deficit because that¡¯s been oil prices. That¡¯s
the first thing. Japan has its big surpluses for a long time.
China has got big surpluses now, exactly, over $200
billion, but it is very recent. So China is not the Explanation of the
US Deficits, China has had nothing to do with these long-term phases of
the US economy. A change in China's surplus would just be shifted onto
other exporting nations, with no change in the US deficit.
Now should China float its exchange rate? Well, the
Euro Area, the example of a floating exchange rate, would be a terrible
one for China. The Euro came into being in 1999 and the Euro was worth
$1.18. But in the next two years it went down to 82 cents. That was a
fall of 40%. And then it soared to $1.08¨Dit is supposed today, by the
way, $1.306¨Dan increase from the bottom of 70%. And then it went down to
about $1.15, and then it is back to $1.306.
If China floated the RMB and did the inflation targeting the way Europe
did, and had big movements on the exchange rate, that would kill the
Chinese economy. That is because the Chinese economy has been geared to
the American economy for the past 20 years. That has been the reference
point.
And another bad example would be Japan. Japan was
charging ahead in the 1980s. The US insisted on Japan appreciating its
currency. At that time after the Plaza Accord in September 1985, the
dollar was almost 240 yen. 10 years later, the dollar had dropped to
about 80 yen. In other words the yen tripled in value against the dollar
over the decade. This had devastating effects on the Japanese economy
and it created a decade of stagnation in Japan. It ruined the economy;
it brought deflation to Japan; it brought bankruptcy, non-performing
loans. Strong economy like Japan was having non-performing loans because
they over-appreciated their currency. If any country appreciates its
currency, it will aggravate the non-performing loans. That is one of the
problems that China has to have.
So of course we can say China cannot avoid floating. If
the rest of the world are floating and China fixes to the dollar, then
it is floating against the rest of the world. So you cannot avoid
floating. The question is if you are going to pick up something, what is
going to be the guideline for the monetary policy? Well, in the past my
position was to support China¡¯s fixed exchange rate, which it had
solidly and absolutely fixed from 1997 until 2005 at 1:8.28. That worked
well for China. During the Asian Crisis, people were saying China should
float and let the Chinese currency depreciate. That was when the dollar
was very strong and China had some deflation. Nothing is perfect. And
then in 2002, the dollar went down. And when it went down, China had a
little more inflation in 2004. The inflation rate went up to nearly 4%.
But nothing is perfect. If you are with the dollar and the dollar
depreciates, China would have a little more inflation; and if the dollar
appreciates, China would have less inflation and have a little more
deflation.
The point is that you ever anchor and that anchor works
well. But what the rest of the world was saying was that China should
depreciate in the late 1990s, or it should float and depreciate. And
they were saying in 2004 that China should appreciate. Some people say
China should appreciate by 40%. They should let the dollar go down to 5
RMB. Instead, China said no in that period and China was absolutely
right. In a couple of places I said ¡°don¡¯t appreciate¡±, ¡°don¡¯t
depreciate¡±, ¡°don¡¯t widen the exchange margins¡±, ¡°don¡¯t fix to a basket
of currencies and keep the RMB exactly where it is¡±. However, China
changed its policy in July 2005. And the result of that is that China is
now appreciating. It has 1% appreciation. They let the dollar go down
and now it is at 1:7.7. It has gone down from 1:8.28 to 1:7.72 now.
Those changes, altogether about 5% since the change are not enough to
create great damage to the economy. But if China ever made a mistake of
accepting the advice of a 25%, 30% or 40% appreciation; it would be
devastating, it would ruin the Chinese economy.
So anyway, the harmful effects of substantial
revaluation¡ªand I mean by this the acceleration, the speeding up of the
rate of appreciation¡ªor even a permanent continuation of appreciation
would yield to some extent a deflation risk, because appreciation always
causes deflation. And China has a do-all economy. They have got the
economy of strong coastal regions¡ªthe export regions, and they have got
the interior economy¡ªmaybe the trade economy. Deflation would be most
harmful to the west of China, which is not in good shape¡ª with low
income and poor; and second harmful on the central regions of China. For
the coastal regions, it may work; but it would down foreign direct
investment, no doubt about it. There would be a big drop in growth rate.
And it would aggravate non-performing loans in the banks because
appreciation leads to deflation. It would increase unemployment, delay
convertibility. It would cause distress in rural sectors because it
lowers the prices of agricultural commodities. And it would be a reward
for speculators, destabilize Southeast Asia, weaken the external role of
RMB, and undermine WTO compliance. This is the reason why I make the
argument. So no movement back now.
This is the projection of the globe again as China
expands. According to what we expect, the RMB will take over the RMB
area at the market exchange rate. If some people say the Chinese economy
is really bigger than the Japanese economy now, it isn¡¯t necessarily
true; but China will overtake Japan in 2030, maybe earlier like in 2025.
It will overtake Europe in 2060. You will all be quite old then. But
China will be coming up like this.
The US grows more rapidly than Europe because the US still has
substantial population growth. The US population continues to get up; it
has 300 million people now and it will have 400 million at some point.
So this is what is happening.
Part of the lecture is about reforming the world
economy. Well, I painted this picture of a perfect world, a wonderful
world. Right now, it is the best world the world economy has ever been
in. But there is a worry about it because in the long run the system is
not good when the rest of the world uses and relies upon the deficit of
one country. What will happen over time, you can imagine. We don¡¯t know
how long it might be, but the chronological deficit that the world
relied upon is going to weaken the United States¡¯ economy. And then we
will have to retrench, take steps; and that is going to be harmful to
the world economy. And that is why we need to prepare to ease the dollar
as the global currency, instead as a share of the global currency.
We need a global currency. 100 years ago, there was a
kind of global currency, gold or bimetallism of gold and silver. Now
there is reliance¡ªbecause the dollar got strong and there was so much
turmoil in the 20th century¡ªthe dollar became the world currency. That
is something that the world hopped on the dollar¡¯s side. But that is not
sustainable in the long run. We should take steps to reform the world
economy and reform the international monetary system before the dollar
goes belly-up, because it will be to do if the dollar collapses and
there will be nothing to take its place. The Euro cannot take the place
of the dollar. It can shoulder part of the burden but it is not going to
work. And the China¡¯s economy won¡¯t be ready in that period. So we have
to do something.
My proposal would be the SDR rate. There is a special
drawing rate because when the world had the same problem in the 1960s,
they created this special drawing rate¡ªa kind of international reserve
asset¡ªprecisely to take the burden off the dollar. It didn¡¯t work
because it was too little and too late for it to work. But the SDR is
there; what we need to do now is add to this now. I think you could take
part of the pound and we have to add RMB into this basket. We have put
the Chinese yuan into the basket and use that as the platform on which
we build a global currency¡ªa five-currency basket. We are using this and
every country has the IMF Board of Governors ratify this. Quotas in IMF
have to be modified because they are up sided. We have to correct that
and each country has shares in the global basket, equally quoted with
quotas reflecting the sizes of their economies. And with this, all those
countries could anchor their currencies to that global currency¡ªI call
this Intor; all these countries will have interchangeable currencies.
Countries can keep their own currencies but every currency will be
substitutable easily into each other. And the global currency, the Intor,
will be one currency badly needed in the 21st Century.
(Announcement: This article was dictated from the
speech delivered by Prof. Robert Mundell on April 26, 2007, at Zhengzhou
University without his own examination.)
Dictated by Wu Junchao, Zhang Xiaohui, Qi Lin, and Mao
Pengfei
Examined by Zhang Shuxiang, Wang Shengli, and Liu Wei
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