Saturday, March 28, 2009

When China is no. 1

By Andrew J. Nathan, for For McKinsey and Company’s What Matters site, 26 February 2009

Of the many factors that will shape the world economy in the coming decades, none is bigger than the rise of China. Today, China is the world’s fourth-largest economy in dollar terms. By most projections, China will be number one sometime within the next 30 to 40 years.

But historically speaking, China will be a very new kind of number one. China’s dominance will be based neither on technological supremacy nor on an ability to colonize other nations. Rather, it mainly will be based on demography: China will be the biggest economy because it will have the biggest population. On a per capita basis, China will still be poor relative to other economic powers for the foreseeable future.

This picture may be at odds with the conventional perception of China as the rising juggernaut. But let’s first put its economy in perspective. It is true China has achieved decades of breathtaking growth. It now ranks at or near the top in terms of foreign-exchange holdings, trade volume, and inflows of foreign direct investment. But even at number four, China accounts for only 6 percent of the global economy, equal to about two Californias. On a per capita basis, China sinks further. It is 49th in foreign-exchange reserves per person. It is 92nd in exports plus imports per person, and 106th in GDP per person. Lacking a reserve currency, like the US dollar, China cannot set the parameters for commodity prices, inflation, interest rates, or stock prices around the world. Nor can it call the shots in the World Bank or International Monetary Fund.

Indeed, given its size, China’s most important contribution to the rest of the world now and into the future will be to take care of itself. Its ability to satisfy most of its own needs—in energy, grain, and cotton—is crucial to world price stability. The gradual growth of its economy helps the rest of the world remain stable. Economic growth helps keep China politically at peace, avoiding a breakdown that could saddle the rest of the world with refugees, public health problems, and transborder crime problems spilling out of China into neighboring countries. In a sense, then, big as it is, China remains a supporting player on the global economic stage.

China’s ascension could be derailed by domestic instability or global economic shocks, but assuming that it does become number one, what will it mean for China’s place in the world?

Unlike other number ones in history, China is not likely to be the world’s leader in technology. To be sure, its economy has advanced technologically. Its high-tech and military industries are continually improving, its export industries are moving up the value chain, and China’s national research institutes are reaching for the global lead in biotechnology, particle physics, and other fields. But unless the other high-tech nations stop competing, China will not surge ahead of them in a wide range of fields to become the global fountainhead of technology like 19th-century England or the 20th-century United States, because while China advances, other nations will advance and keep the lead in many fields.

Nor will it dominate militarily. Although China’s economic size will give it an ever-growing appetite for oil and other raw materials, it will not be able to gain energy or commodity security through conquest the way the colonial powers did in the 18th and 19th centuries, or through indirect neocolonial control as the United States did in the 20th century. Barring the collapse of other strong powers, there will be no power vacuum to expand into, nor will China in the foreseeable future have the kind of military lead to force its way to supremacy. Neither conquest nor domination is an option. China will have to get hold of the resources that it needs through economic means.

That means that China’s prosperity will remain interdependent with the prosperity of its global rivals such as Japan and the United States. A large part of China’s wealth will still come from selling labor power through manufacturing, and this will require trade both to import energy, materials, and components and to export finished products. China will not get ahead if its rivals do not. The decline or destruction of other countries will not help China. This is all the more so as globalization has intensified interdependence around such issues as climate change and public health. Clearly a richer China will have a growing stake in a peaceful world. To be sure, disorder around its borders could tempt a Chinese military response, but from China’s point of view intervening militarily will be a distant second-best to trading peacefully with its major sources and markets.

Still, top status will confer special influence on China as it has on other economic leaders in history. China’s way of doing business is already having an influence around the world, including the emphasis on personal relationships rather than contracts (often shading over into corruption) and the role of government in managing the market and favoring chosen enterprises. As China regulates its domestic market—whether it’s in health standards, packaging, M&A, or rules for stock offerings—companies around the globe will find it efficient to accommodate operations to those standards. As the “Beijing consensus” evolves, world businesses will evolve to keep up with it.

Less tangibly, we should expect to see a Sinicization of global culture through the influence of Chinese consumers’ tastes. Clothing styles, food flavors, the design and packaging of global brands, music, sports, and entertainment will respond to the draw of the Chinese market. More and more, we should expect to see our youngsters studying Chinese from elementary school. Moving to Shanghai or Beijing to start a career will no longer be an exotic adventure.

What about the longer term? Will China sustain its status as number one? If so, can it eventually gain technological and military leadership and seize superpower status? That is very far in the future, but one should be wary of straight-line predictions. China’s rate of growth is liable to level off as it becomes a mature economy, so the current disparity in growth rates will not continue forever. Besides, technological and military power are relational. China will only forge ahead of others if the United States and its allies do not continue their own technological and military growth. China will almost certainly become the world’s largest economy, but number one status won’t confer as much power as it did in the past.