A New Type of Great Power Relationship

China's Keenness for A New Type of Great Power Relationship

Chinese leaders seems to have been quite keen to bring up this topic of "Great Power Relationship" in recent meetings with US leaders. The latest example was at Sunnylands. This seems to be indicate a deep-lying desire to cement the structure of a G2 with the US. It reveals not just a desire for greater recognition but more than that it is a demand for full acceptance of  China's Great Power status so that they can start wielding greater weight on the global stage.

A number of experts from both China and US have commented on these latest development which provide help to shed some light on this issue. Stapleton Roy a  a senior retired United States diplomat specializing in Chinese affairs has succinctly described the search for a Great Power Relationship as an effort to reverse the flow towards Strategic Rivalry. Let us cover below some speakers who have been speaking currently on this issue.

Robert Zoellick 

Robert Zoellick the ex-President of the World Bank and a Deputy Secretary of State in the Bush administration (and a Goldman Sachs managing director) has come out with what can be seen as the American response to these Chinese overtures. He has written a long article "US China and Thucydies" in The National Interest dated June 25, 2013, wherein he says he has explored the likely nature of this new type of great-power relationship between China and the United States. But more than that this is a clear articulation of American expectations from the Chinese side.

He begins by clarifying, for increasingly worried readers, that the US is not in decline and that China has not really achieved Developed nation status. He points out that since 1960 out of 101 middle class nations only 13 have reached developed country status. And China is not even really a middle class nation. This seems to be a valiant attempt to bolster US softpower and tackle the attractiveness of the Chinese growth story. Many in the West have begun pointing out to a world over-awed by China, that, despite China's astonishing rise in per capita income over the last three decades, the per capita income of China is still low vis-a-vis the West. However, such analysts quietly forget to mention that for international relations GDP is the more significant indicator - Comprehensive National Power (CNP) is a function of GDP and not per capita GDP. By all indications Chinese GDP should cross the US GDP (in PPP terms) somewhere in the 2017-2020 range when China will become the number one economy in the world. This awareness of a coming era of unequalled Chinese CNP is in itself creating a new climate of international relations. Witness how Australia despite the Asia Pivot has made a radical turn towards China in the Boao Forum this year culminating in a Strategic Partnership between China and Australia and a commitment for annual leaders meetings. (Please click HERE.) And this is a fact which cannot be brushed away by diverting to the relative poverty of a Chinese citizen (low income and a much lower wealth/ asset base of each citizen which will only build up after decades of high per capita income).

He has concentrated mainly on the economic and security issues. He uses arguments made by others to politely but skilfully build a tight argument against the Chinese side. Although diplomatically toned one can read a note of exasperation when he list the numerous things which need to be done to improve things. His quiet frustration becomes evident when one finds that most of the deliverables on these contentious issues are being awaited from the Chinese side. For example he raises the need of a new global service-sector agreement under the auspices of the WTO and greater respect for and adherence to intellectual rights. He also points out the anachronism of the People's Liberation Army (PLA) in the modern world as it reports not to the State but to very high-levels within the Party. The PLA behaves like an autonomous power center which through its independent (sometimes arbitrary) actions has the potential to vitiate diplomacy with China. He adds that in the new monetary system there will perhaps be multiple reserve currencies but for that China will have to move to an open capital account. Like all westerners he tends to proselytize about the need for a greater private sector role to spur innovation and efficiency.

On the whole, through this laundry list of issues, he seems to be demanding a shift in the Chinese governance system from the Chinese towards the Western model. That the Chinese model should give up its distinctiveness and become more like the Western model. No doubt the Chinese model has always tried to "use" the Western model as a guide. But one must remember that this "use" of western institutions and processes and economic policies has simultaneously been accompanied with a fanatic determination to make people-centric or security-centric alterations and then call these as "Chinese characteristics" of the western model. These deliberate and crucial alterations are the essence of the Chinese model despite its clearly western roots. Zoellick perhaps wants to prod the challenger (China) into accepting the leader's (West) model in toto so that the softpower of the Western model stays unchallenged. And that a real End to History can be ensured. A judicious mix of carrots and stick seems to have been adroitly used. One can sense that perhaps the US is regaining confidence and returning back to the driver's seat. That it has not given up abjectly on the Asia Region as Obama had once almost done quite early on in his first term.

At one point he refers to the growing and unbecoming aggressiveness of the Chinese and challenges Chinese motivations quite bluntly: "Have Chinese critics of the current international system considered the costs of, and others’ reactions to, new Chinese aims?" He then lists a number of advantageous points of mutual interest between China and the US but says these can be  overwhelmed by the issues which have risen in the Asian-Pacific region. He is alluding here to the host of South China issues which have embroiled China  lately - with Japan, Philippines, Vietnam, etc. At this stage he clearly goes into warning mode and says that China has few friends and most of them poor and America has lot of prosperous allies who look upto the US as a friend and ally and cautions that China's assertion should not look like a threat otherwise it will lead to counter-reactions. He says should China should make allies with the US allies if it wants to avoid its encirclement. He highlights Japan and these strong protective words by Zoellick should offer considerable reassurance to Japan. Japan like India had been apprehensive about the impact of G2 and specifically of the Sunnylands summit. There had been some talk that the Senkakus dispute had not been raised by the US. This portion of the article referring to the Asian-Pacific security issues must have been worked over and reworked over many times in policy circles. One needs to go over it carefully.

And then he goes on to speak of North Korea at length. He seems to be putting the onus of change in North Korea clearly on the Chinese and not just on the North Koreans. He seems to be saying that just getting the North Koreans to the negotiation table will not be considered enough.

And then he comes to the issue which was to have taken center-stage at Sunnylands but was sidetracked by the personal surveillance and tracking story which arose at the time of the summit. He lists the various aspects of cyber issues like espionage; economic espionage; sabotage; warfare, etc.

He also mentions the issues of human rights and freedom but briefly and only in passing. He avoids going into it, because he says that China is probably deliberating on these issues in its quest for better governance and rule of law. It appears he does not want to use this forum to raise negative issues which are received with hostility and suspicion by the Chinese side. It seems his aim is much bigger. He is looking at the bigger picture and the longer term. He wants to point out the big American concerns in the strongest possible manner without getting sidetracked into diversions and lesser issues.

Probably with an intention to provoke a clear response from the Chinese, he refers to an ongoing debate in the US about whether China’s understanding of International Relations will in the long run allow it to accept only a system where it is the “Middle Kingdom” and it has only accepts tributary relationships. He seems to be dismissively setting aside the current stated Chinese position of multilateralism and quizzing the Chinese quite bluntly about their longer term objectives  in the International Relations arena.

Finally he concludes by saying that the the reality is just the opposite of the perceptions. US though the existing power is not afraid of change. Changes is what it has handled very well since its founding. On the other hand the Chinese, though a rising power have been traditional. Perhaps he might have been itching to  add just good imitator-tinkerers. He says that US-China relations should not fall into the "Thucydides trap". He refers to this concept described  by Prof's Nye and Graham Allison. They have said that Thucydides pointed out to the fear which a rising Athens had created in Sparta. And how this animosity had trapped the two city-states into a downward conflictual spiral. Zoellick says that the challenge which the US and China face is to avoid such a trap which can vitiate the atmosphere and lead to conflict. The mutual destruction is pointed out as a possibility but maybe it is also brought up as a veiled threat.

On the whole one can say that this is a clear and even blunt article which states that the Great Power status needs to be earned and cannot be achieved by reckless, arrogant and destabilizing behaviour. However, at the same he also holds out the hope of a great shared future. He does not fall into the trap of looking at China and the world with rosy eyed spectacles.

Please click here to read the full article.

There are a few other interesting article on the same topic.

David Lampton

First is by a very well-know China expert. Prof David M. Lampton who has written "A New Type of Major-Power Relationship: Seeking a Durable Foundation for U.S.-China Ties" in the latest Asia Policy (July 2013).  Please click here to read.

Jeff Bader at Brookings 

One can find a couple of discussions of this issue at the Brookings website.

First, Jeffrey Bader has analysed the issue while delivering the 2013 Barnett-Oksenberg Lecture on Sino-American Relations on May 14, 2013. Please click here to read.

Bader point out through several examples that the co-existence of a dominant power and a rising contender has been the source of a number of conflicts in history. He says that the US-China relationship also carries the potential for conflict. He qualifies his remarks by saying that there is nothing dialectically inevitable about such conflicts. There is a significant role which is played by leaders and people. Therein lies the potential for developing trust and rising above conflict. However conflict avoidance and trust building is not a small and easy matter. Presently, there is a growing trend within the US-China relationship, towards mutually reinforced suspicions and degenerating perceptions. He says that, "there is a belief on the Chinese side that the U.S. side seeks to contain China ....a belief on the American side that China seeks to supplant the United States and corrode its global influence". Continuing with this theme he refers to a recent essay by leading scholars Kenneth Lieberthal and Wang Jisi, "Addressing U.S.-China Distrust", which ominously forecasts growing distrust unless significant course correction is made.

Finally, Bader goes to the core of what he believes should be the basis of a New Great Power Relationship between the US and China. He identifies four significant areas where they must focus their attention because he feels that is where there is a major potential for cooperation. Or conflict. These areas are:

• Bilateral economic relations - which can include trade imbalances and unbalanced China model. And competition in third country markets - say Africa or Latin America.
• Global problems where China and US are significantly involved - say in climate change, non-proliferation, disease control, counterterrorism, cyberintrusions.
• Competition in the Asia Pacific - with growing Chinese power including naval power (implies aggressiveness) and the American focus in the region
• Handling Third country instability/ Hot spots 

Basically this can be said to be a laundry list of the American side which focuses on American perceptions. The Chinese would of course come up with a similar list of what they expect from the American side as a means of restoring mutual trust and 'harmony'.

Madame Fu Ying

The topic of a new US-China Great Power relationship has also been discussed at the Brookings website in a talk given by Madame Fu Ying, who is currently the the spokesperson for China’s national legislature the National People's Congress and is also the chairperson of the NPC’s Foreign Affairs Committee. She is a career diplomat who has served in various capacities as Ambassador to Australia and United Kingdom and very recently as former vice minister of Foreign Affairs. One can see, she is eminently qualified to provide the Chinese perspective on the topic. Interestingly, she is an ethnic Mongol from and speaks in English. The transcript of her talk at Brookings on June 12, 2013, can be downloaded by clicking here. The mp3 audio link of this talk can be accessed here.

Her talk covers a number of issues including the Great Power relationship issue. It starts with the differences at the terminology level. US side uses the term "Great Powers" for US & China, while China prefers to use "Major Countries". China does not accept that it is a Great Power, though these days many Western people regard China to be a world power or a No. 2 power.

Next she clarifies why China asks for equal treatment. In US analysts ask "Why is China so ambitious to try to be equal to US?" Is it a demonstration of ambition? China believes in equality of countries irrespective of size or power.

She goes on to identify what is the greatest achievement of modern China. She says with certainty that it is the provision of food for 1.3 billion people. Till 1993, Chinese people were distributed food with coupons but now hunger and food shortages are eliminated.

She lists the current set of problems which China faces.

She goes on to describe the leadership's vision of the Future China. In this connection, she specifies two paramount goals which China has set forth for itself at the 18th NPC. First, China intends to double per capita income of 2010, by 2021 the centenary year for the Communist Party of China. China should be able to achieve this goal in the eight years, if it maintains a growth rate of 7%. Therefore, this is a crucial minimum benchmark of GDP growth which the Xi-Li leadership faces. Second, by centenary year of the Communist republic 2049 China plans to develop into a strong, prosperous, democratic and culturally advanced and harmonious socialist society. The leadership is firm on continuing reform and opening up to the outside world. Government functions will be readjusted to allow Market and Society to allow both of them to maximize performance with good regulations. Government will provide framework for competition and looking after the marginalized. The country will strive towards industrialization, informatization, agricultural modernization and urbanization. Urbanization in the near future will be the greatest in the world - 600 million.

A long problem consists of environment pollution, energy security, slowing down of economy. A new model of development is required. Underlying all this improved rule of law. NPC will have to increase its law making capacity - especially in people-centric area's. Law quality, compliance and enforcement needs to improve. US can join in as a partner in this endeavor. There are so many opportunities for all. China cannot achieve its goals unless there is a peaceful world environment. Many developing countries are now growing fast and their share in world economy is expanding and their gap with the developed world is narrowing. But China does not share the view that "World power is shifting to East". In reality power does not seem to be changing hands. World issues are more globalized and due to globalization and internet power is getting diffused and trans-national.

She says that America is at a great peak with the highest end technology, strongest brands

She says that the main trend of the world - shi - towards which all national leaders should lead the is in the direction of peace and development. Asia is on the road to development because of the long period of peace it is enjoying. Deng was able to foresee this and in view of this peace directed China towards development.

China hopes that principles agreed to with ASEAN countries on how to maintain tranquility in disputed areas are respected to maintain peace. The US has long had an influence over Asia which China has respected but questions are being raised in recent years. In the past US has invested in Europe in the Cold War and then in the Middle East against terrorism after 911, but it has now shifted attention to Asia which has been doing well. The countries in the region including China expect that US-China can work to maintain the ongoing trend of peace and development and that this trend is not disturbed. A new model of relationship between US and China is necessary and in process. On global issues like nuclear proliferation, cyber threats, ecological sustainability, etc. all countries are on the same page.

Wang Yi  

Another instance of the Chinese perspective on this issue has been obtained, during a recent talk (June 27, 2013) given by the Chinese Foreign Minister Wang Yi at Tsinghua University at the World Peace Forum. His talk was on a similar topic - Major Power Diplomacy. He covers the recent foreign visits of President Xin Jiping, talking first about his first foreign visit to Russia. Importantly, he pointed out the China-Russia relationship as a model "for major countries to deepen trust and cooperation in the new era". He then goes on to mention the meeting between President Xi Jinping and President  Obama at Sunnylands. While giving a positive spin, he says, that Obama and Xi Jinping,"agreed to build a new model of major-country relations between China and the United States. The core elements of this new model are mutual respect, win-win cooperation, no conflict, no confrontation. President Obama stated that the United States welcomes a strong, successful, prosperous and stable China and is willing to work with China as equal partners(!) in dealing with many of the global(!) challenges. President Xi hopes that China and the United States will work together and act as the anchor of stability and propeller of peace in the world." Note the involvement of China by the US at the "global" level! These crucial points need to be verified from the American side. Please click here to read the full speech.

Another article  is related to the topic. "Can U.S.-Chinese Relations Be Saved?" by Michael Auslin, also in The National Interest dated June 12, 2013. Please click here to read.

Another very fascinating secondary International Relations trend is visible to those who are watchful. The American Pivot to Asia despite all the denials of the US government is working in the direction of containing China Rise. But this Pivot to Asia has powerful implications in other regions. It has created huge domestic turmoil within power circles in the US and Israel. The powerful group of "supporters" of Israel in the US government; in the media and in public forums have erupted in anger at this growing America emphasis on Asia. They would like a continued focus on the Middle East to make sure that  the vast US foreign policy and military resources continue to be pumped into the Middle East in support of Israel. They have been unable to tolerate this downgrading of emphasis on the Middle East. This group is extremely powerful and capable and inventive and very good at marketing their own agenda as if it is the American agenda and have been able to divert American resources for decades in support of Israel.

One can make further intelligent deductions based on the above facts. The resolution with which American foreign policy has stuck to its Pivot to Asia in the face of powerful resistance from the dominant actors who support Israel, indicates that a group of patriotic American foreign policy experts have emerged who are very focussed on and alarmed by China Rise. They have realized that things cannot go on as usual. China Rise needs the complete attention of the US and diversions as in earlier days can no longer be tolerated. The very fact that the powerful Israel supporters have been over-ruled is a clear indication of the seriousness and determination with which the China challenge is being viewed in the US foreign policy circles.

The latest and most fascinating example of a US foreign policy experts standing up to the pro-Israel discourse and persisting eloquently with the China Pivot can be seen in a debate between Richard Haas, current President of the Council of Foreign Relations and former Deputy Secretary of State and Jane Harman a powerful former Congresswoman. Please 

Click here to read more....

Dr. Geeta Kochhar on "FROM CHINESE MA LA TO INDIAN MASALA: A Love Story"

          

India and China, the two great nations of Asia, are often talked about in correlation. But what is the relationship and what shape will it take in future is a topic of hot concern. Some view it from the point of rising competition and some analyze the evolving cooperative partnership. There are many more who believe that the normalizing and maturing relationship is superficial and the fundamental differences will burst out sooner than later. With such divergence in opinions and counter-opinions existing in the current literature on India-China relationship, it is imperative to go beyond political realms and see the ground realities as they exist now. It seems more of blossoming relationship than a nearing dead end.

            Almost two decades back, learning Chinese in India was seen as a crazy decision, for the future prospects were too limited. Today, learning Chinese in India is hot in demand with limitation only in finding qualified and recognized places with adequate seats. The rage is not just for knowing the world’s most challenging language, but for establishing interactions with China. One factor underlining this fact is of course the unparallel rise of Chinese economy that open doors for trading with the outside world; however, the other issue lies in linking with the neighbour before connecting to the larger world. This seems to be the bottom line for extensive people-to-people interactions between both nations.

            The ‘Cheenefication’ of India and ‘Indianisation’ of China are the buzzwords within the two nations. Consciously or unconsciously, there is more of one’s culture that is spreading in other’s culture and is accepted in the society with a warm welcome. In many parts of India, the love for Chinese food started with the entry of noodle culture. Gradually Chaomian (炒面 commonly known as Chowmein in India) became a hot favourite dish of the youngsters, albeit with an Indian touch of Masala (spices) added to it. Now we see the Chinese Baozi (包子 commonly known as Momo in India) selling on every next street corner of mega cities in India, flavours added. Though this food has direct relation to the culture of North-East India brought in to the center of Indian mega cities; people in Indian cities are also aware of it being an inseparable part of Chinese food. Alongside, there is expansion of Chinese restaurants claiming to serve authentic Chinese food and a rise in the demand for Chinese green tea.

            In the same manner, we find Chinese have much wider acceptance to Indian Masala tea and Indian curry. There is hardly any Chinese city where one will not find an Indian food outlet; while the love for learning and adopting Yoga (瑜伽) as a part of life is spreading. Latest Indian movies are all easily available on Chinese websites and the Indian soap operas are running on China’s national channels in prime time. Many young Chinese girls are fond of learning Indian style dancing and the fascination for Indian dresses never stops at Pashmina shawls (羊绒围巾).

            The love for China among the people was never a zero sum equation, even after the border conflict that created a rift among the political elite. Indian Bollywood movies were all fascinated by the China and Chineseness in their projection. The late 1950’s had many popular Bollywood songs like “Jana tha Japan, pauch gaye Cheen, samajh gaye na” (Was wanting to go to Japan, but landed in China), “Mera Naam Chin Chin Chu” (My name is Jin Jinzhu ) etc. probably the realization of the blossoming love. Even after the many odds in political relations, Indian movies have all carried the love for Chinese dressing and style at its centre. The not so recent movie “Chandni Chowk to China” is a direct assertion of closeness to China.

            In China, the beauty of Indian Bollywood took roots from Raj Kapoor, but went on to create an image of beautiful Indian women (印度美女) with Aishwarya Rai clinching the Miss World title. From a naïve understanding of every Indian can dance and sing to a mature understanding about India, China has marched a long way in the last three decades. Today, you meet any ordinary Chinese in any city of China; you will be surprised to know how much they can relate to India. Extensive business links is one that has reshaped the inter-linkages and thus one easily finds Indian communities well established in Chinese cities and Chinese presence in almost all parts of India. Besides, there is overwhelming presence of Indian students in China and Chinese students taking up various disciplines in Indian colleges and universities. The current interaction is no way limited to elite and political meetings, but has redesigned the matrix on which the people of both countries want to blend. So, the inter-cultural marriages are on a high rise. A love story created and designed to grow within specific parameters has already broken the boundaries. Love is blossoming among the masses and there is no possible control. People-to-people exchange is working in the right spirit with a deeper understanding, but maturity of the relationship still needs time.   

Dr. Geeta Kochhar

Assistant Professor, Jawaharlal Nehru University

Email: geeta@mail.jnu.ac.in

Painful Reform is Under Way?

Chinese Economy - Reform will be Painful and is under Way?

This report is a continuation of the last report written on 15th June. The previous report was fairly optimistic, that the move to change the 30 year old Chinese Model had begun. But the latest signs (several current reports are analysed below) including a drop in manufacturing activity and extremely high short-term interbank interest rates. These early signs seem to indicate that industrial activity is bound to contract and this could bring pain to millions employed in the industrial sector. But perhaps the managers of the Chinese economy have prepared for this moment. The Social Security net and medical insurance has been expanded to almost the entire population. Free school education (9 years) and unemployment insurance are measures which will considerably alleviate this pain and keep the consumption going. It is obvious that the Chinese leadership will be monitoring the economy and taking appropriate steps to manage this transition successfully. On the one hand the world will be watching whether the thoughtful Chinese leadership come out with a more improved way of handling this Austerity phase. On the other hand, the resoluteness of the Chinese leadership will be tested if the pain becomes deeper. Most economies have to make such painful adjustments when they are in a corner and at the mercy of the global financial institutions. The plus point is that the Chinese have deliberately decided on this painful move when the economy is not in a corner and China has ample financial resources to adjust and modify its decisions as and when required and not be forced into doing anything by compulsion. Till only last week many western reports were pointing Xi Jinping out to be an old-school Maoist who will not bite the reform bullet and take the country leftward. The current initial trends if confirmed indicate on the contrary that Xi Jinping could be in the Zhu Rongji mould (SOE privatisation and retrenchment) of taking tough neo-liberal economic decisions. And like Zhu Rongji he seems to be backing up his touch decisions  with social welfare measures to alleviate the people's pains. 

All of the fascinating news coming out of China seems to be revealing that big changes are under implementation. Although these changes have the potential to shake China up, successfully implemented they will leave China much stronger. This will not be easy and could  lead to lot of pain and turmoil in China. But as of now, China despite having the financial capacity to postpone the problem has decided to tackle the Systemic structural problems of over-investment and over-reliance on exports  and shift to a consumption based economic system. Let us now go straight to the four news reports which have come out today (19-20th June), which seem to indicate that at this point the Chinese leadership is committing itself to strong steps to changing the China Model. These reports also provide some details of how the Chinese leadership's decision to slow down investment is having effect. 

The following is from a Bloomberg Report  of 20th June 2013. Please click here -

China’s seven-day repurchase rate, a gauge of interbank funding availability, touched 12 percent today (while the overnight rate had touched nearly 30%!!), the highest in data going back to May 2006, as the central bank refrained from using reverse-repurchase agreements to inject cash into the financial system. The Finance Ministry separately added 40 billion yuan ($6.5 billion) via an auction of six-month deposits. “If market rates remain at such high levels, the only scenario for the Chinese economy is a hard landing,” said Xu Gao, chief economist with Everbright Securities Co. in Beijing. “That possibility is growing now -- it seems the leadership is deliberately taking a wait-and-see stance to see how low China growth can be.”

So what was a surmise when the previous report (of 15th June) was written now seems to be getting confirmed - that the government is deliberately laying off from injecting cash to desperate corporates. A period of low growth and belt tightening seems to be upon the Chinese economy unless the desired take-off of the consumption sector occurs. The China Model is under stress and it is unsure how whether it will be able to come through successfully out of this current round of problems.

The second report in Businessweek of 19th June says (Please click here) -

The seven-day repurchase rate, rose to the highest since at least 2006 today because slowing economic growth, drying up of foreign funds because Fed has intimated a rise in US interest rates; a crackdown on illegal capital inflows and efforts to rein in shadow banking have contributed to increased borrowing costs.

The State Council meeting yesterday “dashed hopes for any immediate rescue efforts by the central bank to ease the credit crunch,” such as reserve-ratio or interest-rate cuts, Tang Jianwei, a Shanghai-based economist at Bank of Communications Co., said by telephone today. “Between stabilizing economic growth and adjusting the growth model, China’s top policy makers have clearly made the decision to focus on the latter.”

“Beijing’s new approach is to focus on reform, rather than stimulus,” said Qu Hongbin, HSBC Holdings Plc’s Hong Kong-based chief China economist. “In the last three months, we have seen enough evidence that the current generation of leadership is really determined to push forward reform.”

What could be the nature of this reform? China must push forward interest-rate liberalization, encourage corporate overseas investment (OFDI), boost bond issuance and support those seeking to buy their first homes, according to the statement. Bank lending for projects in industries with overcapacity must be banned, the State Council said. This has already been confirmed when Suntech the leading edge solar technology firm was allowed to default on a $500 million loan. China's solar technology industry and even their iron, steel, aluminium industries are having huge over-capacity.

The evidence available to us seems to indicate that the Chinese economy seems is on the road to painful reform and restructuring.

The third report is from The Telegraph (19 June 2013). Please click here.
This again goes into the details and guesses that the People's Bank of China (PBOC) is deliberately holding bank the liquidity and teaching the banks a lesson for indulging in Shadow banking and making things risky. It also expects that when large payments are due next month it will release the liquidity.
One needs to keep in mind that the problem of shadow banking has escalated tremendously only in the last five years when China was responding to the Global Financial Crisis and trying to maintain its growth rate. All the fiscal stimulus could manage just a 7-9% growth rate over the last five years. This government had been ignoring the dubious semi-legal methods which were generating this increased liquidity. But this is becoming increasingly difficult as the quality of investments gets sacrificed when higher investment becomes an end in itself.

The fourth report also from The Telegraph (20 June 2013). Please click here.
This points out how the Manufacturing Activity Index "Purchasing Manager's Index" calculated by HSBC shows a drop to 48.3. Below 50 is considered a contraction. Goldman Sachs says that the HSBC index is tilted in favor of exports and the actual PMI calculated by the government should come in better. It says that "downside risks" are increasing - meaning the possibility of growth slowdown increases. But Goldman Sachs still sticks to its Q2 growth rate forecast of 7.8%. This is strange because Goldman Sachs is considered to be one of the most reliable analysts around and when if are sticking to their original forecast, probably things are not as unstable as one is made to believe by some of the strident reporting. However there seems to be a warning for the Chinese government to go a little slow with its tough reform policy to squeeze liquidity. It just might happen that in the short term reform might end up hurting deeper than expected and trigger a deeper slowdown instead of stabilising it. The Dangers of extensive Austerity are already being discussed in Europe and just might become applicable to China in the coming days.

One of the good coverages of the entire crisis phase is Simon Rabinovitch's coverage in Financial Times of June 21, 2013. Please click here.
He notes that the seven-day bond repurchase rate, which is a key gauge of liquidity, had gone up to a remarkable 10.8 percent a year. He concludes that in China where the state controls the banking system and the credit situation and which is micro-managed  "these financial strains are definitely of the government’s own making." He finds that the small liquidity crisis can cascade and become the cause of a collapse of the arger financial system. But what he fails to mention is that governments taking aggressive steps to rein in renegade banks. That does not seem to happen in the West. Banks even when they collapse are pampered with State funds and the taxpayers have to bear the burden. As regards the power dynamics  between the State and Big Business and Big Banks, the China state still wields greater power and has the edge. It can take decisions which pain the banks for improving the banking system in order to protect the larger interests of the people and society. While in the West the pain has to be borne by the people and society in order to protect the banks. This itself is a stark indicator of the clear distinctness of the China Model - capitalist though it is. Or one can call it Financial Regulation with Chinese characteristics.

Arthur Kroreber one of the most important and respected watchers of the Chinese economy has commented in The Atlantic on 22nd June. He estimates that China will get through this crisis period. But a bigger crisis seems to be building up in the long run. Please click here.

And here is the article which convinces me finally that China was an excellent story but currently it is facing a really huge challenge. Stephen Roach of Morgan Stanley is an experienced hand and has been bullish on China for a long time and his bullishness has been justified as China has weathered each storm. But now in  January end 2013, he has argued (please click here to read "China's Last Soft Landing") that China is facing an uncertain situation and without rebalancing and reforms the possibility of a hard landing is quite real. While says that China has managed a Soft Landing in the 2nd half of 2012, the future options are getting limited. He says “Without rebalancing and reforms, the days of the automatic Chinese soft landing may be over. I have been an optimist about China for 15 years. I still am. But the clock is ticking.” He feels that some of the reform which Chinese authorities must address are - developing services industries, funding the social safety net and altering the hukou-based residential-registration system.
After January he has written in March end that China is finally Walking the walk. After talking for more than 6 years since 2006, he says that, China has finally started taking the actions required for transitioning to a New Model. Please Click here to read China on the Move.

In his latest piece of April 27, "Long Live China's Growth Slowdown", he says that a services and consumption based economy has the advantage of being able to provide higher level of employment per unit of GDP and so employment can be retained at lower growth rates. Even a China which grows at say 6.5% after it has begun transitioning to services should be able to provide similar levels of employment and will not slip towards instability. He says that  China's skeptics have a tendency to exaggerate problems especially the recent one of Shadow banking and an impending credit bubble which gets further exaggerated when combined with longstanding concerns of  China descending into a dreaded “middle-income trap” scenario. This is a growth slowdown which fast growing emerging economies have to face after they reach a certain size of GDP. Please click here.

While he says that it is a possibility. He is confident that, "it is unlikely to occur if China can carry out the services-led pro-consumption rebalancing that remains the core strategic initiative of its current (12th) Five-Year Plan. Invariably, the middle-income trap afflicts those emerging economies that cling to early-stage development models for too long."

June 25, 2013, Nobel Prize winner Robert Engle who teaches finance at NYU has commented on the currently credit-squeezed increasingly risky Chinese economy today. Please click here to read the article in the China Economic Review. He feels that this is a deliberate policy of the govt of reducing credit availability and punish highly leveraged firms - which have high debt and low revenue generation to return it. They will avoid lending to risky private players and stick with safe well-performing State Oriented Enterprises. This he says will be bad for the ambitious and greedy entrepreneurs and so will be bad for the economy.
He says that over-greedy entrepreneurs create risks in the economy by taking so much leverage with the capital that’s available, that they and the banking system exposed when it goes away. He feels that there is a negative feature of State backed guarantees to the state financial system. Banks, SOEs, municipal governments which are effectively guaranteed by the government, the tend to take on more risks as they feel they are safe. As a result the true risks inside the system are not known and could be higher. But one must maintain a perspective and keep in mind that many well-known economists have bet against China over the last 2 decades based on their ideas of classical western economics and ended up burning their fingers.

David Keohane of Financial Times explains that the big State-owned banks will be the least affected. Joint stock banks will be next and the small banks which have high exposure to wealth management products are the most likely to be affected. Please click here. Isabella Kaminski of FT analyzes in detail the role of the PBoC in this crisis phase. Please click here. Kate Mackenzie of FT explains that during normal times an opaque Banking and Media system does a good job of suppressing minor rumors and keeps the financial stable. However, in the case of major crisis, such opaque systems can in fact be more dangerous as investors and customers will believe the worst nightmare rumours which will trigger instability. That is just another theory which will be verified over the coming weeks. Please click here.

One will also find out whether China has acted proactively and implemented reform long before a crisis erupted. But it is clear that they have carefully chosen a reform path which hits the irresponsible bankers who created the crisis with their illegal Wealth Management Products. A path much different from the Western model which protected the banks and punished the people. So we could possibly be witnessing here the robust features of Banking with Chinese characteristics. A banking system where large and powerful banks do not dictate policies to the State but can also be held accountable. If this risky gamble of the PBoC succeeds it could stabilize the Chinese economy for a long period of growth and also add to the attractiveness of the Chinese Model for its proactiveness and for holding the rich and powerful to account.

In the meantime it would also be appropriate to mention that all large Western banks and financial companies like Goldman Sachs, HSBC etc have revised downward there China growth forecasts over Jun 23-25. Most have revised 2013 forecasts down from 7.8 to 7.4% and 2014 forecasts from 8.4 to 8.1%.

A good brief review of Wealth Management Products can also be found here. The Economist has naturally  been investigating these unusual happenings in the Chinese banking system. Links are provided here to a series of useful articles on these topics. The Economist examines the recent spike in Chinese short-term interest rates here and here . The Economist analyzes wealth management products here and it explores why the yuan has been strengthening lately here.

A highly readable explanation of Shadow Banking and its implications, has been published in The Atlantic on June 28, 2013, "Shadow Banking Threatens China's Economy—but What Is It, Exactly?" by Ryan Perkins. Please click here to access.

The Telegraph of UK has come out with a provocatively titled "China may not overtake America this century after all". The confidence is undeniable but then the media always has a tendency to go overboard to make its point. He says that both on Innovation and Demographics , the US outscores China over the long term. Plus the US banking system has been restored and is much more stable than the Chinese banking system currently. He quotes Richard Haas who has said that the US is firmly on topic and that this will be another US century. He ends by saying that nothing is foreordained and has to be worked for. Is he implying  that China is in decline or can it return. Read here.
Read here.

George Mangus of The Globalist has also written in May 2013 that the Chinese growth story can no longer be extrapolated based on its past performance. China has entered a risky new phas. Read here.