Nov 11

Posted in: Geopolitics Posted by: P S Billimoria

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Free Trade and Globalisation

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It is argued that the Chinese economic juggernaut, was already on a roll before China’s membership of the W.T.O. It’s GDP, trade gaps and foreign investment numbers right from the mid-seventies till the end of the last century, amply demonstrates this truism. The bilateral trade deficit of the U.S. with China had already exceeded that with Japan. Mr. Clinton and his Western allies cannot therefore be faulted for thinking that the way to close or narrow the ever-increasing trade gaps was to bring China into the fold, enabling freer access to its large domestic market. Indeed, the protocol commitments which China made were far more stringent than ever before, especially after the Uruguay round of talks, which went beyond trade to include agriculture and intellectual property.
It was believed that China agreed to the protocol commitments only because of the imperative of transitioning to a market economy, so as to increase the living standards of its people. China convinced global leaders that this was the case, and the world turned a blind eye to the excesses of a one-party regime, in the hope that a market economy, would inevitably foster democratic values. What was not apparent, nor deliberated, is the reason why this transition would assuredly take place. As it turns out, China to-day is neither a market economy nor anywhere near a democracy.
While Indian planners discounted the possibility of harnessing water resources as a source for electricity, owing to the social upheaval which would arise from diverting rivers and submerging large tracts of land, China built a dam visible from space. China’s heavy-handed approach to what the communist party believed to be in its national interest was winked at and even justified as the reason for its rapid development. Astonishing double standards for countries which otherwise were keen on exporting democratic values.
Even now, while calling out its ‘wolf warrior’ diplomacy, there are still many in the West who would love to wish away the fact that it has created a new evil empire, far worse than the Soviet Union could ever be. The world is ready to overlook its misplaced belief that free trade would inevitably result in a market economy, which would in turn foster a democracy. There is no explanation for how this transition was hoped to be achieved and if there is one, it is at best fallacious, at worst delusionary.
The view that free trade would somehow persuade China to adopt a more open form of Government failed to recognise that totalitarian communist regimes march to the beat of a different drummer. The ideals and interests of such a regime are very different from that of the West. Moreover, trading or doing business, is not the same thing as being a market economy. State-owned enterprises, or States themselves, do both. A State controlled economy differs from a market economy not in the identity of its constituents, but rather the extent of influence and control exercised by the State. Why does it take a pandemic of dubious origin and an increasingly aggressive foreign policy to realise that Chinese companies are owned and controlled by senior functionaries of the communist party? Or that the People’s Liberation Army owes allegiance to the party and not the country.
In over two decades and some, what started as a labour arbitrage for easy to manufacture components, has culminated into an estimated 30% of the world’s supply chain being dependent on China’s manufacturing sector and the trade deficit of the U.S. as well as the rest of the world has burgeoned into unmanageable proportions. A large part of this may be attributed to China’s clever tightrope walk of the W.T.O.’s flawed enforcement mechanism, allowing foreign investment in
industries on the condition of transfer of technology and building in subsidies to local units. Although, direct subsidies such as tax exemptions have been documented, there are other covert, incentive-based methods, such as affording exporters preferential or cheaper access to land or finance. Another commonplace strategy is “dumping”, where quite simply Chinese exports flood the markets with far cheaper products, ruining local manufacturers. This is a predatory practise, which comes with a cost which is then recouped in higher prices.
While these practices which are quite visible, were tolerated due to an inherent vested interest of the Western economies, what many missed is the one singular flaw in the W.T.O. mechanism, which is that there is nothing to prevent currency manipulation. There can be no free trade leave alone a free market, in that case. The problem here was also that many who cried foul did not fully understand the mechanics of foreign exchange markets and how a country manipulates the value of its currency to keep it artificially low relative to the dollar.
The impact of currency manipulation can best be explained by an illustration. Suppose the intrinsic value of 1 kg of wheat equals that of 1 kg of ginseng. One could either barter the goods with the U.S. shipping the wheat to China and taking ginseng in exchange, or else payment would be made, exchanging (say) $1 for Y1. If this was the only trade between the countries, there would be exchange rate parity.
However, if the U.S. consumed more ginseng than China consumed wheat, the increased demand for Yuan (to import the Ginseng) would make it dearer, resulting in the price of Ginseng to also rise. This would continue until the increased price results in the demand for Ginseng to fall, consequently lowering the trade gap in the hypothetical case. This is the reason why no trade gap can increase steadily – trade equilibrium would result, unless of course, either the price of the goods is cheaper (because of hidden subsidies) or the value of the currency falls (because of currency manipulation). China has cleverly used a combination of both. Frequent market interventions and flooding the currency markets and the U.S. reserves with yuan by buying up U.S. bonds, leads to a relatively lower currency value. The inevitable result is a vicious cycle where Americans invest in China, and purchase their goods, while China buys US debt and property.
Whether the American multinationals were complicit in the creation of this monster or not, there has been a collective failure to recognise that this situation is unsustainable. Now that the chickens have come home to roost, one may well ask – what lies ahead?

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