China Environmental News Digest

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Friday, October 06, 2006

China Can't Afford the Risk of Turning Japanese:

By William Pesek

Oct. 6 (Bloomberg) -- Overheating. Creaky finances. Social instability. Corruption. Demographics. Pollution. China sure does face a bewildering number of risks.

Yet Asia's No. 2 economy is confronting a new one, and a dangerous risk at that: complacency.

Officials in Beijing haven't scrapped efforts to modernize and open the economy. Rather, the spin is that the world should expect ever greater things from an economy that this year leapfrogged past the U.K. to become the fourth biggest.

A look below the surface suggests something different is afoot. On the one hand, there are signs of reform-fatigue. On the other, the nation's current leaders seem more interested in solidifying power than making tough decisions to engineer China's transition from socialism to capitalism.

Now doesn't all this sound like Japan's experience over the last two decades?

A favorite parlor game among economists is to discuss how China can learn from Japan's bubbles in the 1980s and the deflationary 1990s. Debates tend to focus on how China should avoid a massive currency revaluation of the kind Japan agreed to in the mid-1980s and later regretted. Others say China can learn from Japan's success in tackling its bad-loan crisis.

The lesson may lie in claiming economic victory too soon.

Engineers Needed

Even if China avoids overheating this year, there's still considerable heavy lifting to be done. Chinese President Hu Jintao and Premier Wen Jiabao face a daunting balancing act. They must create millions of jobs to maintain social order, while also slowing the economy. They need to do so without conventional tools such as monetary or fiscal policies, which are underdeveloped in China.

What's troubling is that Chinese leaders appear to view themselves as overseers of rapid economic change rather than engineers of it. Walking China's tightrope will require bold steps forward, not just astute managing. Hu and Wen have dropped few hints that they are doing the former, and all too many that their focus is on the latter.

While it wasn't appreciated at first, turning China's managers into active reformers may be what Henry Paulson had in mind when he shifted the U.S. Treasury Department's focus away from China's currency toward financial liberalization. It's hardly a sexy topic, yet the Treasury secretary may have the right idea here.

Paulson's Campaign

Lawmakers in Washington seeking big increases in the yuan's value to reduce China's trade surplus won't be impressed. Still, Paulson may understand what officials in Beijing know all too well: China isn't ready for the 20 percent or 40 percent revaluation that many U.S. politicians want. As China glosses over its economic cracks, the yuan can strengthen and China's critics will be made happy.

Getting there will require unprecedented efforts in China. One wonders if things are moving in the other direction. Just look at how Chinese officials who once enthusiastically courted foreign investors are growing reluctant to approve fresh deals.

The experience of Germany's Schaeffler AG is but one example of China's changing regulatory environment. Media reports say it may fail in its bid to buy Luoyang Bearing Science & Technology Co. And Washington-based private-equity firm Carlyle Group is still awaiting approval for plans to buy a stake in Xugong Group Construction Machinery Co.

China's heavy-handed efforts to censor the Internet and the media speak more of the Communist Party's weakness than strength. The country has been slow to clamp down on intellectual-property- rights violations, something that hurts China more than it does the multinational companies whose goods are pirated. China won't enjoy a startup-business boom until entrepreneurs can bring their products and ideas to market and make a profit.

Japan-Like Mistake

Perhaps the biggest issue is that China is making the same mistake that Japan did after its bubble burst and plunging asset markets took the economy down, too: It's trying to grow its way out of difficulties.

Untold numbers of bad loans? No problem, we have 11 percent growth, Chinese officials seem to be saying. Raising hundreds of millions out of poverty? Rapid growth will save the day. Stock exchanges that trade more like casinos than markets? Again, we'll grow our way to health. Ditto for other challenges such as cleaning the environment, handling an aging population and addressing corruption that keeps prosperity from getting to those who need it most.

Japan tried to grow its way out of its troubles for more than a decade. Only in the early 2000s did corporate executives and bankers roll up their sleeves to reduce debt, dispose of bad loans, cut costs and increase efficiency. This week, Japan's finance minister, Koji Omi, finally declared victory over deflation. Land prices in the largest Japanese cities rose for the first time in 16 years in the 12 months ended July 1.

Not an Option

Complacency remains a big risk in Japan. Even though it's growing again and companies are adding staff, Japan needs to accelerate efforts to upgrade its economy. Trouble is, Japan is highly skilled at bringing its economy back from the brink of crisis; it's not good at using the good times to fix problems.

China can't afford such complacency. As a uniquely wealthy nation, Japan can survive with a credit rating lower than Botswana's. China, a developing nation facing an ever-growing list of challenges, won't be able to mimic that approach. For China, turning Japanese just isn't an option.

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