June 25, 2019
We’re subsidizing sports stadiums - they’re subsidizing the manufacturing of semiconductors. We take eons to fill up potholes, they build high speed rail networks covering more ground than the rest of the world combined. Our dunces have to pander to every special interest group to get elected, their political leaders rise to the top through merit. They have a hundred year horizon (at a minimum) - we barely have a horizon at all.
You hear that last one a lot, even from very smart people who’ve been dealing with China for a very long time. Ray Dalio’s recent comments come to mind.
It’s easy to fetishize a technocracy. If only our leaders were the smartest and most capable our country had to offer; able to make decisions for the good of the country in the long term and not only interested in getting re-elected every couple of years. Send your best and brightest to manage provinces and pick the best performers to run the whole country. So how have the Chinese managed?
I’ve picked three different examples to paint some kind of a picture. Not a complete one, nor a very colorful or detailed one, but perhaps a starting point. Some shapes on a canvas.
Let’s start with average PISA scores for math and science from 2015. China is represented by the provinces of Beijing, Shanghai, Jiangsu and Guangdong here.
Singapore, 1st; Hong Kong, 2nd; Macau, 3rd; Taiwan, 4th; Japan, 5th; China, 6th.
Singapore, 1st; Japan, 2nd; Estonia, 3rd; Taiwan, 4th; Finland, 5th. Macau 6th, Hong Kong and China at 9th and 10th places, respectively.
The provinces representing mainland China tend to lag behind the other territories and countries filled with Chinese people, but they’re still beating almost everybody else at the table. After some digging, it doesn’t look like the results from these provinces can be taken as representative of China as a whole.
If we borrow this nifty map from the Economist, you might notice something that all of these provinces share. They’re all well-developed coastal areas. That doesn’t represent the whole of China very well, but it may represent the future of China even less. And there are questions of how selectively students attended the tests within these provinces.
I haven’t been able to find very reliable numbers, but Scott Rozelle from Stanford claims that three out of every four children in China grow up in rural areas. What kind of an education are they getting? Rozelle established the Rural Education Action Program to find out what kinds of problems they’re facing and to come up with policy ideas to help. All of these numbers are from their research: 27% of children were anemic, 37% had intestinal worms, 20% had myopia. Over 60% of children were inflicted with at least one of these woes. The researchers then offered vitamins, deworming and glasses. Scores went up. The Chinese government proceeded to implement a school lunch program for almost 30 million rural kids. And they started handing out some vitamins.
If we look at the middle-income countries of the 1960s that had made it to high-income status by 2008, they had an average of 72% high-school graduation rate for their labor force. For the middle-income countries that have stayed middle-income, only 32% of their labor force had completed high school. In 2010, China had the worst performance out of all the middle-income countries, at just 24% of its labor force having completed high school. They’ve made a lot of progress since then, but they’re nowhere near where the graduates (countries that made it out of the “middle-income trap”) were.
But, this is the labor force, not the children. The children are going to high school. Almost 90% of them, in fact. The urban kids have been going to high school for a long time (93%), but the rural kids are only now starting to catch up (almost 70%). In 2005, only 40% of rural kids between 15 and 17 years were going to high school. So they’re making progress, but whether the rural kids are learning anything in high school is another matter. The rural vocational high schools don’t hold up well, even by official statistics. Then again, China is a huge country with no dearth of talent, even if a lot of potential is wasted.
On a more positive note, here’s what Tim Cook had to say quite recently while in China:
“The vocational expertise is very very deep here, and I give the education system a lot of credit for continuing to push on that even when others were de-emphasizing vocational. Now I think many countries in the world have woke up and said this is a key thing and we’ve got to correct that. China called that right from the beginning.” - Tim Cook, CEO of Apple.
The problems are massive, but the Chinese government is taking actions and effecting change. Even with a competent bureaucracy, it’s not a walk in the park.
June 11, Bloomberg:
China will ease restrictions on how local governments can spend money raised through sales of so-called special bonds, in a move analysts said was aimed at stemming the economic slowdown. The Ministry of Finance will allow local authorities to use some of the proceeds from special bond sales as part of the capital for qualified major projects, and encourage banks to offer loans to projects funded by the instruments, according to a statement Monday. The bonds are intended to allow local authorities to invest outside of their regular budgets and are to be repaid using the proceeds of the projects.
Some of these numbers are a few years out of date, but the direction has not been very encouraging. In less than ten years, China’s banking system grew from under $3 trillion in assets to almost $35 trillion. There’s an expectation of things being big and happening fast in China, but this big and this fast? For some context, the United States had slightly over $16 trillion in banking system assets right before the 2008 financial crisis. That was approximately 100% of its GDP. China’s banking system assets as a percentage of GDP? Over 350%.
For years Chinese leaders have talked about getting a handle on the debt problem. Especially the growth in local government debt (provincial, prefectural/municipal. county, village/township). Yet every year the debt keeps piling on. It’s hard to cut services and pension obligations when you need to get re-elected. It’s hard to cut jobs at SOEs (state-owned enterprise) and to halt new construction projects when you’re not elected, but believe you have a mandate from the people for the good job you’re doing running the economy.
Most of the borrowing happens through LGFVs, or local government financing vehicles. They’re companies owned and operated by local governments whose sole purpose is to borrow money. The financials of these things are quite murky. A lot of land is transferred to these vehicles that is then to be used as a collateral for borrowing. China has a lot of land, but not an infinite supply. How much is a piece of desert worth, unless they find some oil under it?
There are huge incentives for local government officials to borrow and spend. If you get promoted based on economic performance, you’re going to want to maximize economic performance. And economic performance means jobs and growth.
This not only leads to bad investments, but outright lying - if you count China’s GDP by summing its provincial GDPs (as reported by local governments), you’ll get a GDP number that is significantly higher than China’s central government is claiming. This is a consistent discrepancy, year after year.
It’s hard to get good numbers, but most estimates have the local government debt burdens at around 50% of GDP. By contrast, the worst performers on this metric in the United States (state debt) are at around 20%. Most do much better.
This is a hazy area and if you want to get even a cursory view of the situation you’ll have to start reading research papers, as the numbers are just not out there. Then there’s the debate about how comparable these numbers are between countries, as some prefer to finance through equity and some through debt. In fact, a restructuring is what most financial organisations are foreseeing for Chinese local debt and something China seems to be doing - and has already done in the past.
It doesn’t look particularly good, but most big names who have bet against China’s currency due to its banking and financial situation have not fared well thus far. Still, if one is to believe some of the analysts on the true percentage of non-performing loans, a reckoning surely must be coming.
TFR (total fertility rate).
I think we’ve now gotten to the part that is most damning to China’s technocrats. Old people are expensive, and they don’t tend to work much. It doesn’t take a genius to tell you that you’re going to have economic troubles if there’s only one worker for every two retirees. And it certainly shouldn’t take until 2015 to realize it. How will the economy develop with a decresing workforce? A decreasing population? These are questions that China has already had to start grappling with.
China’s total fertility rate stands at about 1.6 - officially. There’s some variation around the estimates, but none of them put the figure at or above the replacement level of 2.1 children. In fact, most of the figures I’ve come across put it at closer to 1.4, but it’s not that much off.
The one-child policy certainly didn’t help, but none of the developed East Asian nations are doing well, so I doubt it has done as much damage as some suggest. Taiwan’s TFR is around 1.2, Singapore’s around 1.1, at least for the Chinese population.
What’s striking is how long it took for the Chinese authorities to remove the ban (2016) and how quickly their attitudes have changed. They’re now having conferences on how to get women to bear more children! Might help to have more women, too. The ratio of women to men is 118 to 100 in mainland China.
Reversing the one-child policy - now in effect a two-child policy - had essentially no effect on birthrates. There was a modest bump the next year, but it leveled off quickly. It appears that many officials were stumped by the lackluster effect it had, and are now scrambling to come up with remedies to produce more babies.
Not only that, but Chinese officials have consistently overestimated the growth in population. The Five Year Plans contain predictions for population growth, and we can now compare past Five Year Plans to reality.
Here’s Bloomberg in May, 2018:
China is planning to scrap all limits on the number of children a family can have, according to people familiar with the matter, in what would be a historic end to a policy that spurred countless human-rights abuses and left the world’s second-largest economy short of workers. The State Council, China’s cabinet, has commissioned research on the repercussions of ending the country’s roughly four-decade-old policy and intends to enact the change nationwide, said the people, who asked not to be named while discussing government deliberations. The leadership wants to reduce the pace of aging in China’s population and remove a source of international criticism, one of the people said.
Some final thoughts on democracies.
Every once in a while, democracies get a mandate from the people to do painful reforms. Those governments tend to always get ousted in the next elections, but often the policies remain in place. Will the Chinese government have a mandate from the people to do painful reforms? Would they keep pumping the economy with debt if they believed they did?
What if the policies implemented turn out to do more harm than good? It would be easy for another party to campaign against those policies, but can the same people who implemented them now reverse course?
Certainly regime change seems to be handled much better in democracies. I believe Nassim Taleb has talked about this before, and offered up two countries for comparison - let’s say Saudi Arabia and Australia - which one is more stable? Australia seems to change prime ministers every other week, kings tend to rule for a long time. Would you bet on Saudi Arabia’s stability? Maybe if the bet had to be placed on specific rulers, but if it’s about the stability of the government - the actual governing structure, and not just a party - then probably not.
Not all kings have died peacefully, deep into their old age.
Comments coming soon.