Crackdown or Startup w border

 Henry “Hank” Paulson — former Chairman of Goldman Sachs, former Secretary of the U.S. Treasury and creator of the U.S.-China Strategic & Economic Dialogue — was in Philadelphia last Wednesday.  He came to publicize his new book Dealing With China: An Insider Unmasks the New Economic Superpower.

The media frame for the talk and Q&A which he gave to the World Affairs Council of Greater Philadelphia was:  ‘Hank, you’re a real patriot. Why are you helping China?”

In response, Hank Paulson was very clear that his interest in promoting a better understanding of China is rooted in his desire to do what is best for America.

You can read the full article here but, for the purposes of this post, I’m going to focus on one small, but important, piece of the big contemporary China puzzle:  Is Xi’s ongoing crackdown (on corruption but also on foreign businesses, NGOs, press freedoms, social media, connectivity to the global knowledge-pool, etc) flashing green, yellow or red for China’s paramount challenge of rebooting its economy on a more sustainable basis?

China’s ‘old software version’ of infrastructure build-out, inbound investment and export of cheap stuff is clearly no longer operating smoothly on the new global hardware system.  China’s future – and Xi Jinping’s for that matter – depends on a smooth updating to a ‘new software version’ of consumer-led spending, outbound investment and innovation up the product value-chain.   Under any circumstances, that’s a tall-order to pull off in just a few years.  For those of us who believe that helping China matters to America’s future, the key question is whether the crackdown on political thought in China is – or is not — inimical to the desperately needed surge of commercial innovation needed to upgrade China’s economy to version 2.0.

It is perhaps not entirely a coincidence that, in the same week that Hank Paulson was wrestling with this question in Philadelphia, so were two other leading experts on the trajectory of China’s globalization elsewhere:  Shaun Rein and Tom Friedman in respective articles.  If Hank Paulson occupies the pivot point as a U.S. patriot committed to helping China, Shaun Rein is a self-acknowledged China booster and Tom Friedman a “color me dubious” observer of China’s steep road ahead to globalization.

Here’s what each of them has had to say over the past week on the ‘sword of Damocles’ question facing Xi and China:  crackdown or start-up?  (Click on the name below in order to source the original publication from which the following excerpts are taken):

Hank Paulson

Paulson

“Paulson believes the Communist Party has reached a simple accord with the Chinese people: prosperity in return for continued state control. The question, of course, is whether China can have it both ways – economic freedom without cultural freedom, a subject I raised with Paulson at the World Affairs Council.

‘In today’s information economy, I don’t know how economies can innovate and do the sorts of things they do to stay on top without having a free flow of ideas and information,” Paulson replied. “I’ve run a global company, and, boy, you need to be connected. You can’t have an Internet that’s not connected. You need to know what’s going on politically, regulatory systems, economically, in terms of ideas all over the world.’

He added: ‘But understand what’s going on right now. Xi Jinping . . . is focusing on the things that the people care about the most. So, corruption. He recognizes the party won’t survive unless he curbs corruption. So he’s focused on corruption, the environment, dirty air, and water.’

“So . . . managing China, just think what it’s like because they have to deal with the kinds of issues that afflict developed countries at the same time they have to deal with issues that developing countries are dealing with because a big part of the country is still poor. It would be like, . . . looking at Europe, Germany and Slovenia. They are both European, vastly different stages of development, they need different economic policies. So think about managing both of those in a single country under one party, and I mean that’s sort of the challenge.’”

 Shaun Rein

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“China´s much needed anti-corruption drive has now put the country into a lock-down mode, and new projects have halted,” tells business analyst Shaun Rein at CNBC.  “The cut in the reserve ratio ratio (RRR) this weekend is one way for a kickstart, although nobody know what will really work.”

 China Herald:  “What does the Chinese market need to stimulate the economy and if this growth continues to disappoint then would you expect an additional benchmark rate cut in the next couple of quarters, something that many experts are now talking about?”

Rein:  “I think what we need to look at is not gross domestic product (GDP) growth but we need to take a look at unemployment and the second reason why I am more concerned about the economy is in the last month urban unemployment has been hovering around 5 percent – that’s really a problem. So the unemployment rate in areas of manufacturing are still fairly strong and you can easily stimulate that by forcing state owned enterprises to do heavy investment; train construction, airport construction and you can get jobs there but the issue is urban unemployment is weak and there aren’t a lot of easy remedies. The government is trying to switch from manufacturing oriented economy more towards one of technology and innovation as I outlined in my new book ‘The End of Copycat China’ but it is not easy to do that. You cannot get companies that are producing things all a sudden to become innovators, so there is definitely going to be some weakness, some problems in the economy over the next three-four months and frankly there are no easy answers on how they stimulate the economy.”

Tom Friedman

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“Americans … are asking of President Xi: “What’s up with you?” Xi’s anti-corruption campaign is clearly aimed at stifling the biggest threat to any one-party system: losing its legitimacy because of rampant corruption. But he also seems to be taking out potential political rivals as well. Xi has assumed more control over the military, economic and political levers of power in China than any leader since Mao. But to what end — to reform or to stay the same?

“Xi is “amassing power to maintain the Communist Party’s supremacy,” argued Willy Wo-Lap Lam, author of “Chinese Politics in the Era of Xi Jinping: Renaissance, Reform or Retrogression?” Xi “believes one reason behind the Soviet Union’s collapse is that the party lost control of the army and the economy.” But Xi seems to be more focused on how the Soviet Union collapsed than how America succeeded, and that is not good. His crackdown has not only been on corruption, which is freezing a lot of officials from making any big decisions, but on even the mildest forms of dissent. Foreign textbooks used by universities are being censored, and blogging and searching on China’s main Internet sites have never been more controlled. Don’t even think about using Google there or reading Western newspapers online.

“But, at the same time, Xi has begun a huge push for “innovation,” for transforming China’s economy from manufacturing and assembly to more knowledge-intensive work, so this one-child generation will be able to afford to take care of two retiring parents in a country with an inadequate social-safety net.

“Alas, crackdowns don’t tend to produce start-ups.

“As Antoine van Agtmael, the investor who coined the term “emerging markets,” said to me: China is making it harder to innovate in China precisely when rising labor costs in China and rising innovation in America are spurring more companies to build their next plant in the United States, not China. The combination of cheap energy in America and more flexible, open innovation — where universities and start-ups share brainpower with companies to spin off discoveries; where manufacturers use a new generation of robots and 3-D printers that allow more production to go local; and where new products integrate wirelessly connected sensors with new materials to become smarter, faster than ever — is making America, says van Agtmael, “the next great emerging market.”

“It’s a paradigm shift,” he added. “The last 25 years was all about who could make things cheapest, and the next 25 years will be about who can make things smartest.”

President Xi seems to be betting that China is big enough and smart enough to curb the Internet and political speech just enough to prevent dissent but not enough to choke off innovation. This is the biggest bet in the world today. And if he’s wrong (and color me dubious) we’re all going to feel it.”