The Anxiety Behind China's Swagger

I spent a few days in Beijing earlier this month to attend the annual China Development Forum (CDF). The elaborate two-day affair bringing together scholars, business people, and officials from China, the United States, and Europe exuded confidence about China’s economic prospects, internal stability, and global position. Coming on the eve of the 70th anniversary of the People’s Republic of China, this bravado was not surprising. But behind the outer show, I sensed a deeper anxiety in the Chinese elite. This has important implications for U.S. interests.
 
Overt signs of confidence ran throughout the CDF event. Panel titles included “The Resilience of the Chinese Economy and its High-Quality Development” and “The Belt and Road Initiative: Ensuring Steady and Sustainable Development.” Several others lauded China’s innovative capacity and progress in opening up and reforming its economy. Speaker after speaker placed the blame for U.S.-China trade tensions squarely on the Trump administration’s shoulders and emphasized Beijing’s resolve and ability to withstand U.S. pressure.
 
The bravado was understandable. A visitor to Beijing sees little visible evidence that China’s huge economy is buckling under the pressure of the trade war with the United States, as President Trump seems to believe. City streets are congested, there is no shortage of conspicuous consumption, and technology is more advanced than the United States in many areas (as anyone who tries to pay cash for a taxi ride in Beijing can attest). Moreover, it was clear from the hallway conversations at CDF that Beijing had the crowd with it on who is to blame for the trade war.
 
But other conversations during my trip suggested deeper anxieties. China’s slowing economic growth, which fell to the weakest pace on record last quarter, is clearly one source of concern. In the latest troubling sign, industrial production growth slowed to a 17-year low in August. Anecdotal evidence suggests ordinary Chinese are feeling the pinch of slower wage growth and higher prices, especially for pork. While not as damaging as the Trump administration thinks, U.S. tariffs and Chinese retaliatory duties are clearly slowing both China’s exports and imports, and the uncertainty caused by the trade war is constraining business investment.
 
Government efforts to spur growth in the face of these headwinds are less and less effective—and are fueling concerns about financial stress. As a respected Chinese economist said at CDF, the marginal efficiency of capital, measured by the incremental capital-output ratio (ICOR), is declining sharply as it takes more and more units of investment to generate one additional unit of growth. Meanwhile, monetary stimulus and suspension of earlier efforts at “deleveraging” (debt reduction) are feeding concerns about the soundness of the financial system. One economist I met with flagged burgeoning non-performing loans held by small local banks. These institutions are heavily reliant on interbank lending from larger regional banks, which in turn finance local government spending. And the legal resolution structure to deal with this potential house of cards is inadequate, he admitted.
 
In the longer term, one gets the sense that anxious Chinese policymakers know they are in a race against time to generate sustainable growth that serves the needs of an aging population. Another respected Chinese economist who spoke at CDF predicted that growth was likely to drop to between 2.7 percent and 4.5 percent by the end of the next decade. This will not be a problem, he claimed, if China is an advanced country by then, enjoying growth that is more environmentally sustainable, more dependent on consumption and services, and less burdened by debt. Blue skies throughout my stay in Beijing indicated progress on the environmental front, but it is less clear how well China’s other structural challenges are being tackled.   
 
Beyond economics, other signs of Chinese insecurity permeated the CDF event. Even before they arrived, foreign speakers received this gentle reminder from the organizers: “Please make sure that all the maps of China include Taiwan and the South China Sea.” Sensitivity about Chinese sovereignty is nothing new, of course, but even weathered China hands were struck by the lengths to which the conference organizers went to control messaging in this regard. When a U.S. speaker not known as a fire-breathing critic of China issued a mild rebuke to Beijing for its actions in Xinjiang and Hong Kong, the American sitting next to me in the audience who had been listening to the Chinese interpretation nudged me and said, “The interpreters just went silent.”
 
Even private conversations with Chinese scholars and officials revealed a sense of defensiveness and victimhood that is striking for a country as ostensibly secure and successful as China. No one was willing to acknowledge any Chinese responsibility for the parlous state of U.S.-China relations; a blameless China was simply under attack from an unreasonable Washington. A prominent retired diplomat took umbrage at the U.S. accusation of Chinese “theft” of intellectual property: “It offends the Chinese people to be called thieves and reminds them of the ‘century of humiliation’.” At a private dinner, eight respected Chinese scholars—with no dissenters—asserted their firm belief that the United States was responsible for the protests in Hong Kong.
 
The combination of bravado and defensiveness I saw at CDF has at least three immediate implications for the United States. First, it suggests that Beijing is unlikely to make major concessions in the bilateral trade war. Yes, the dispute is complicating Beijing’s economic management and may even be causing political problems for Xi Jinping at home. For these reasons, a “mini-deal” over the next few months—say, Chinese soybean purchases and lifting of some investment restrictions in exchange for a deferral of some tariff hikes by the Trump administration and forbearance on Huawei—is possible. But it was clear to me that China is more dug-in than ever on U.S. structural concerns such as subsidies and preferences for state-owned enterprises.
 
Second, Beijing is likely to move ahead with tighter controls at home. In the latest troubling example, the National Development and Reform Commission this month took another step toward putting in place a social credit scoring system that will assess companies—whether Chinese- or foreign-owned—based on their product quality, tax records, regulatory compliance, and other metrics. Foreign executives warn that these controls will likely negate any benefits from the lifting of equity caps or notional banning of forced technology transfer under the new Foreign Investment Law.
 
Third, a more defensive China could be a more dangerous one. Amped-up nationalism and a sense that China is under siege are likely to feed more assertive policies at home and abroad. How Beijing acts on the continued unrest in Hong Kong is the most immediate source of concern.
 
A few months ago, I wrote about the importance of self-confidence in U.S. foreign policy. I came away from my recent trip to Beijing feeling validated in that view. China is not as weakened by the trade war as some in Washington would like to imagine, but neither is it as strong as some fear. By protecting our technological edge, enforcing global rules, winning others over to our side, and investing in our own competitiveness, the United States can confidently meet the challenge of a swaggering yet still-anxious China.   
 
Reprinted with permission from CSIS. Matthew P. Goodman is senior vice president and holds the Simon Chair in Political Economy at the Center for Strategic and International Studies in Washington, D.C.