J. Bradford DeLong's Grasping Reality with a Prehensile Tail

Another Bite at the "Infant Industry" Apple...

J. Bradford DeLong (2008 Draft), "April 25: Long-Run Growth Revisited: Endogenous Growth" http://www.j-bradford-delong.net/2008_pdf/20080424_industrial_policy.pdf

Econ 101b: April 23: The Chinese Economy

April 23: The Chinese Economy

Notes: Slides: http://delong.typepad.com/delongslides/2008/04/econ-101b-april.html; Lecture Audio: http://www.j-bradford-delong.net/2008_mov/20080423_091349.mp3

Readings:

• Barry Eichengreen,"China's Exchange Rate Regime: The Long and Short of It" http://www.econ.berkeley.edu/~eichengr/research/short.pdf
• C. Fred Bergsten, "The Dollar and the Renminbi" http://www.iie.com/publications/papers/paper.cfm?ResearchID=747
• Institute for International Economics, "China: The Balance Sheet" http://www.petersoninstitute.org/publications/chapters_preview/04648/01pa04648.pdf

The European Seaborne Empires I: "To Serve God, to Win Glory for the King, and to Become Rich"

The European Seaborne Empires I: "To Serve God, to Win Glory for the King, and to Become Rich"

From David Abernethy (2000), The Dynamics of Global Dominance: European Overseas Empires 1415-19890 (New Haven: Yale), p. 242 ff:

The multifaceted nature of Europe's assaults is highlighted when contrasted with the overseas activities of the Chinese and the Arabs. The ideal site for comparison would be a place distant from Europe, China, and Arabia, hence unlikely to be controlled by any of them, where people arriving by sea from all three areas were present at about the same time. That such stringent conditions could be met seems highly unlikely. But in fact they do apply to one case: Malacca during roughly the first century of [European imperalism] phase 1. This city, located on the Malayan side of the narrow strait named after it, was founded in the late fourteenth century and rapidly became the principal center for maritime trade among Indian Ocean emporia, the Spice Islands, and China. Malacca benefited from the weather as well as from its location. Because of monsoonal winds, vessels sailing from the Indian Ocean to China (and vice versa) had to lay over for a few months before continuing the journey. An alternative was for ships to unload their wares in Malacca, returning to their respective home ports with goods from the others' ships as well as gold, spices, and precious woods from the offshore islands.

The city and strait of Malacca were extraordinarily cosmopolitan places several centuries ago. A well-placed Portuguese observer wrote in the 1570s: "One may well and truly say that Malacca, in point of fact, and merchant trade, is the most extensive place in the world." The city was visited by Cheng Ho [pinyin Zheng He] on at least two of his voyages and thereafter by many Chinese sailors and traders. The great Arab traveler Ibn Battuta passed through the strait in 1345-6, and several thousand Muslims, including some from Arabia, resided in the city in the early 1500s. Ibn Battuta's Italian conterpart, Marco Polo, passed through the Malacca Strait in 1292 on his return to Europe from China. As noted in chaptert 3, the Portuguese captured Malacca in 1511, holding it until the Dutch replaced them in 1641. Thus people from all three regions converged around the start of [European imperalism] phase 1 on the same small area.

By studying Malacca in 1511 one comes as close as possible to a historical laboratory experiment. Are sectoral features of European countries present as well in China nad in Arab (and, more generally, Muslim) societies? If so, for reasons given in chapter 2 my argument about the importance of sectors is weakened. If not, the argument is strengthened.

The Chinese government's impact on Malacca was far more limited in scope and duration than might be expected given the country's wealth and size. Cheng Ho's armada of hugh junks, with thousands of well-armed soldiers aboard, was designed to ensure attention and respectful deference to China's rulers from elites elsewhere. Presumably Admiral Ho was instructed to urge monarchs to establish symbolic tributary relaions with the Celestial Court. But the admiral was unwilling to use the military might at his disposal to conquer Malacca, there being no plans to administer distant lands as integral parts of the emperor's domains. Moreover, as noted earlier, the impressive voyages undertaken by Cheng Ho ended abruptly in 1433. The emperor politely received the king of Malacca when the king later journeyed to Beijing, bearing tribute. But assertion of China's superior political status was made by the inferior party visiting the Celestial Court, not by the latter reaching out aggressively beyond its borders. The contrast with the European pattern is obvious.

China's private sector had a more substantial and long-lasting impact on Malacca. One indicator was the existence, as of the early 1500s, of a separate section of the city reserved for Chinese merchants. These traders were on their own when residing overseas. This was manifestly the case after 1433 when they could not count on even an intermittent visit of ships to demonstrate the home government's power. If anything, Malacca's Chinese merchants carried on their business despite the imperial court, which launched periodic efforts to restrict economic ties with the outside world. The court controlled government-to-government trade, expressed through the tributary system. Nonofficial trade, which it was unable to regulate, was perceived as an unwelcome challenge to its power and authority. That many Chinese merchants in Malacca were long-term residents did not signify that they were overseas agents of Chinese power. On the contrary, it reflected recognition of obstacles that bureaucrats would have placed in theiur way had they based their international operations on the Chinese mainland. A common pattern for th Chinese in sixteenth-century Malacca and elsewhere in southeast Asia was to conduct clandestine commerce with the home country. Alternatively, they concentrated on trade among ports scattered about the Nanyang (Southern Seas). In both cases they tried to avoid contact with Chinese officials rather than to work with them.

The imperial court disapproved of Chinese settling elsewhere because this meant abandoning the graves of their ancestors. The court took this view to its logical conclusion in 1712 with an edict forbidding its subjects to live or trade in Southeast Asia. Though poorly and inconsistently enforced, the edict nonetheless expressed an attitude toward overseas settlers diametrically opposed to that of western Europe's rulers.

China's public and private profit sectors thus had minimal contact with each other in dealing with Malacca. When cross-sectoral contact did occur it tended to be competitive and conflictual rather than cooperative. The profit-sharing and chartered-company options were ruled out. This stands in sharp contrast to the European pattern of linking the two sectors in mutually beneficial ways.

The Chinese did not carry a missionary religion to Malacca because they had none. As noted in chapter 8, the imperial court's Confucian creed was a civil religion, not available for export or readily separable institutionally from the public sector. Cheng Ho was dispatched as a diplomatic emissary of the court. But he could not have served as a Confucian missionary, had this unlikely possibility ever been considered, because he was Muslim. Chinese merchants in Malacca practiced their own religious faiths but kept to themselves when oing so. No basis existed for an outeward-looking coalition between leading practitioners of China's religions and its rulers or merchants.

Arabs visited Malacca as long-distance merchants, staying in a quarter of the town set aside for Muslims. Unlike the Chinese they did bring a missionary religion. They used their wealth and their external connections to persuade Southeast Asia's political elites to let them build mosques and invite mullahs to lead the Islamic community's religious life. In many instances Muslim merchants pressured local rulers to convert. Malacca's rulers had been Muslim for about a century before the Portuguese arrived. One may thus speak of an alliance between Arab mercantile and religious interests resembling the European pattern.

But Arabs in teh Indian Ocean basin were not like Europeans. First, they were not agents of a polity eager to assert itself overseas. Home bases for the Arab seafareres were port cities--Jiddah, Adan, Muscat--along the periphery of a vast, thinly-populated desert peninsula not effectively governed by anyone. These cities faced outward to the sea. But they were not linked to a densely-populated, economically-productive, politically-controlled hinterland in the way that western Europe's port cities were. They were urban areas on their own, not urban areas embedded in states. Their prospects for profitable trade were most favorable if none of them advanced political calims beyond its immediate domain. Traders and sailors moved on monsoonal winds from one trading center to another, intermediaries among several autonomous units rather than agents of any particular one.

Second, Arabs were not the only--or even the principal--propagators of Islam in southeast Asia. The central role they played in the religion's formation and explosive early spread into the Fertile Crescent and across North Africa was diluted in later centuries. Islam's steady advance eastward by land and sea was due mainly to initiatives by non-Arabs. Its increasingly cosmopolitan character can be seen in Malacca. The Portuguese chronicler Tome Pires reports that shortly aftert the city was founded "some rich Moorish merchants moved from Pase [in Sumatra] to Malacca, Parees, as well as Bengalese and Arabian Moors, for at that time there were a large number of merchants belonging to these three nations.

The successes of traders as proselytizers meant that diffusion of Islam in southeast Asia did not depend on soldiers and administrators brought in from outside. If public-sector support was deemed necessary it was provided on site: once Malacca's ruler converted, Islam become in effect the kingdom's official faith. Further, the spread of Islam did not depend on full-time specialists in conversion recruited, dispatched, and reporting to an institution headquartered in Arabia or any other Muslim country. Islam indigenized itself as it expanded, rather than serving the ambitious designs of a distant state or missionary agency.

To summarize, the Chinese public sector had only a fleeting interst in reaching out to Malacca, no interest in conquering the city, and competitive rather than cooperative relations between itself and private profit sectors; the religious sector had no will or autonomous institutional capacity to assert itself overseas. China's impact on Malacca as of the early sixteenth century was confined to the activities of a single sector functioning on its own. Arabs had two sectors interested in influencing the outside world, hence the potential for a sectoral coalition. But Islam's spread to Malacca and elsewhere in Southeast Asia was not essentially an Arab activity. Neither was it directed by religous agents accountable to their own sectoral institutions, as in the European pattern. Most importantly, the Arabs' mercantile and religious interests were not backed by a state able or anxious to expand overseas. What initially appears as a two-sector alliance turns out to be a phantom alliance because it lacked institutions stretching outward from a territorial base.

The limited, functionally diffuse character of Chinese and Arab/Muslim relations with Malacca posed an isoluble dilemma for the city's sultan when he encountered Europeans. Teh first ship sent out in 1509 from Goa, capital of Portugal's Estada da India, consisted of traders. But Muslim merchants resident in Malacca who came from Gujarat and other Indian ports knew from experience that the Portugese flag accompanied trade and that the Portuguese were Christians implacably hostile to Islam. Warned in effect that the Portuguese constituted a triple threat to his regime, the sultan imprisoned and mistreated serveral members of the trade mission. His actions precipitated the very attack by Portuguese soldiers two years later than he hoped to forestall. But the Muslim merchants could offer only warnings. None of the cities from which they came was in any position to supply military aid, even to coreligionists threatened by Christian infidels.

The only powerful polity to which the sultan could turn was China. But if he was able to contact the Chinese emperor his efforts were in vain. The tributary system binding Malacca to the Celestial Kingdom symbolized superior/inferior relations and did not contain a mutual defense clause. Help was not forthcoming. At a critical moment in world historoyk wehn Europeans first intervened in Southeast Asian affairs, the Chinese court was unwilling to assert its stake in a nearby region. The sultan faced toward Mecca when praying and toward Beijing when oferring tribute. But for quite different reasons he could count on neither to help counter the new foe.

Beijing, in other words, was the capital city of a powerful state lacking both an expansionist foreign policy and an expansionist religion. Mecca was the central city of an expansionist religion but not of a state. Lisbon was the capital city of a state with an expansionist foreign policy and a strong commitment to spread an expansionist religion.

As Muslim merchants predicted, the Portuguese launched a tripole assault on Malacca. The city was captured in 1511 by an armada of ships carrying fifteen hundred soldiers whose commander, Vicery Afonso d'Albuquerque, saw himself as an extension agent of the Portuguese state. That the invaders intended to assert permanent political control soon became cleear. Albuquereue allegedly cried out to his men in the heat of battle that "We [should] build fortress iin this city... and sustain it, and... this land [should] be brought udner the dominion of the Portuguese, and the King D[om] Manuel be styled true king thereof." Construction of a stone fortress was begun as soon as the battle was won, and it was kept well supplied with soldiers and cannon. The city was a Portuguese possession until the Dutch took it in the seventeenth century. Once secured, Malacca became a vital outpost used to establish other Portuguese enclaves in the Moluccas and on the China coast...

This is a sophisticated and powerful rendition of the argument that what mattered most from 1500-1850 was the triple-threat reinforcing nature of European imperialism--the importance of all three parts of the Spanish hidalgo's explanation of why they had left Iberia: "to serve God, to win glory for the king, and to become rich..."

Smog Out of China

Jim Hamilton sends us to a NASA picture of China's smog:

Slouching Towards Utopia: The Economic World of the Twentieth Century: Pre-WWI China §§

I have a problem. Any history of the world economy in the twentieth century needs a section on China at the start of the century to balance the section on China at the end. Yet I am not well-qualified to write such a section. And I don't think the section I have is particularly good.

Any suggestions?

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DRAFT: PRELIMINARY AND INCOMPLETE

When in the second half of the nineteenth century the iron-hulled ocean-going steamships began to call at China's ports of Hong Kong, Canton, Tientsin, and Shanghai, China's government and its more than 300 million people of China were in crisis.

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China's Relative Apogee

In the Tang Dynasty years before and the Sung Dynasty years after the year 1000, China had been the most progressive and innovative civilization in the world: innovative technologically, organizationally, and militarily. Its population--60 million? 80 million? 100 million?--was one of the most rapidly growing and best-fed populations in the world, thanks to the development of strains of rice that could be wet-planted, irrigated, and produce three crops a year in the fertile soil of China from the Yangtze basin south. China then led the world in non-agricultural technologies as well. At the start of the seventeenth century the British savant, politician, and bureaucrat Francis Bacon had marvelled at three inventions that he said had utterly transformed Europe: gunpowder, printing, and the compass. China had developed all three, and had developed all three before 1000.

China had long had the capability of launching its own "voyages of discovery"--and its governments had chosen not to. The one exception came under the early Ming dynasty: the fifteenth-century imperial court funded its own series of voyages of discovery commanded by the politically-powerful eunuch admiral Zeng He. The fleet reached Zanzibar, and touched Africa. Annoyed at their treatment by a Sri Lankan king, they captured him and brought him back to China to make his apology to the emperor. But the political balance in the Ming court changed, the follow-up expeditions were cancelled, and the exploration program abandoned.

China led the world in political organization as well. No other ruler's writ ran a third as far or has even a third as large a chance of being obeyed as that of China's emperor. Tang Dynasty cavalry has skirmished with Persians on the shores of the Aral Sea. The Sung Dynasty river navy was the only military force to even temporarily stymie Ghengis Khan's Mongols before his descendants took to fighting each other rather than expanding the empire. No pre-industrial central government anywhere ever managed to match the reach, extent, and power of the landlord-scholar-bureaucracy mode of domination invented under the Tang and developed under the Sung.

China in the twelfth century at its pre-industrial apogee produced more iron and saw a greater share of agricultural production sold on markets than Britain would produce and market in the eighteenth. Zheng He's mid-fifteenth century voyages of exploration sailed four times as far with twenty times as many sailors as Columbus, and could land ten times as many soldiers at Dar es Salaam and Trincomalee as Cortez would land at Vera Cruz. The Sung Dynasty capital, Hangzhou, was before the Mongol conquest the largest city in the world--larger than Baghdad or Constantinople or Cordova or Delhi--with perhaps half a million inhabitants: the closest thing to an economic, cultural, and political capital the twelfth-century world had.

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China's Relative Stagnation

But by the second half of the nineteenth century China's relative apogee was three-quarters of a millennium past, and the government and the people were in crisis. The people were in crisis because they were more than three times as numerous as their predecessors at the pre-industrial apogee, because they were ruled by a rapacious landed aristocracy, and because progress in agriculture and industry to counterbalance rising population had been nearly absent for most of the second millennium. In 1100 the Chinese people were rich, or at least as rich as pre-industrial peasant societies get. At the start of the second millennium development of new types of crops and new strains of rice had greatly boosted agricultural productivity and triggered the centuries-long spread of China's heartland from the Yellow River to the Yangtze and further south, to Hunan and Guangzhou. But by the second half of the nineteenth century Malthus was having his revenge. China had filled up, with more than 300 million people, which left average farm size less than third of what they had been three quarters of a millennium before, the bulk of peasant families were close to the edge. It is virtually certain that the average Chinese peasant family in the second half of the nineteenth century had less food than its predecessors in the twelfth: think of 1300 calories per person per day as a rough guess.

The technological dynamism and organizational relative edge that China had possessed in the twelfth century was gone as well. Chinese producers still had substantial technological edges in limited industrial segments: high end silk textiles, high-end porcelain, tea. But there had been little internally-driven technological progress in any industry for more than half a millennium. And the bureaucracy that in 1150 had looked efficient and powerful compared to a Europe--a place where no king would even think of asking an Earl of Pembroke to explain anything--by 1870 looked corrupt and incapable.

Why this 750 year relative stagnation is a great mystery. There are many potential suspects to take the blame as the root cause of China's long, long relative stagnation.

Perhaps the root problem was that emperors, grand secretaries, and landlords feared their own generals more than they feared their neighbors' soldiers. European kings, ministers, and landlords sought a strong military to protect them and theirs against the next William the Conqueror or Friedrich II or Francois I or Napoleon. In China there was little to fear from outside the empire as long as the Mongols were kept divided, but a great deal to be feared inside the empire from your own generals--men like the ninth-century An Lu-Shan or the seventeenth-century Three Feudatories. Thus the military-industrial-metallurgy-innovation complex that drove so much of pre-industrial and early-industrial European technological progress was absent.

Perhaps the root problem was that with triple-cropping rice strains the wet-rice fields were too fertile, the governmental bureaucracy too effective, and the avenues of establishment-oriented upward mobility to the striving and aggressive too open. After making a little money the logical next step was to buy some land. Because the land was rich, because labor was plentiful and cheap, and because the empire was (most of the time) strong internally, one could live well after turning one's wealth into land. One could also easily make the important social contacts to pave the way for one's children to advance further. And one's children could do the most important thing needed for upward mobility: study the Confucian classics and do well on the examinations: first the local shengyan, then the regional juren, and then the national jinshi.

Those who had successfully written their eight-legged essays and made proper allusions to and use of the Confucian classics would then join the landlord-scholar-bureaucrat aristocracy that ruled China and profited from the empire. In the process of preparing for the examinations and mastering the material needed to do well on them, they would acquire the habits of thought and values of a Confucian aristocrat landlord-scholar-bureaucrat. Entrepreneurial drive and talent was thus molded into an orthodox Confucian-aristocratic pattern and harnessed to the service of the regime and of the landlord class: good for the rents of the landlords, good for the stability of the government, but possibly very bad indeed for the long-run development of technology and organization. Carlson (1957) quotes an imperial edict of 1724 condemning mining as a potential source of disorder and treason:

[M]iners are easy to recruit but hard to disband. If mining is left to the initiative of merchants there wil be danger of crowds assembling and harboring treachery...

Perhaps the root problem was the absence of a new world rich in resources to exploit and helpless because of technological backwardness, or the lesser weight attached to instrumental rationality as a mode of thought, or the absence of dissenting hidey-holes for ideological unconformity, or the fact that the merchants and hand-manufacturers of China's cities were governed by landlords appointed by the central government rather than governing themselves, or that large muscled animals like oxen and horses turned out to be powerful productive multipliers for temperate rain-irrigated wheat-based agricultural but not for sub-tropical paddy-irrigated rice-based agriculture, or some combination of these, or any of a host of other possibilities over which historians will struggle inconclusively (but thoughtfully and fruitfully) for the rest of time.

Perhaps there were many root problems.

Whatever the cause, the result was China's extraordinary relative stagnation through much of the second millennium. The country and region that had been the world's leader--culturally, economically, organizationally--in 1200 was poor, economically backward, and organizationally decrepit.

The poverty struck eighteenth-century British moral philosopher Adam Smith hard, for in his view China had been for a long time "the richest... most fertile, best cultivated, most industrious, and most populous" country in which even landless peasants were relatively rich: "the wages of labour had ever been more than sufficient to... enable him to bring up a family." Smith had a theory as to why the China he saw in his day--the late eighteenth century--had become poor. Because China would not trade with outsiders and so learn and adapt their ideas, it was bound to stagnate: "a country which neglects or despises foreign commerce... cannot transact the... business which it might do with different laws and institutions." A stagnant economy, Smith thought, was headed for desperate poverty through a Malthusian population crisis. Population would continue to grow while the economy did not. Without technological progress and with increasing population "competition... would soon reduce [wages] to this lowest rate which is consistent with common humanity." At that lowest rate of wages, children would be so malnourished as to be easy prey to disease and women's body fat levels would be so low that ovulation was hit-or-miss.

By the beginning of the twentieth century it looked like that Malthusian crisis had arrived. The more than 300 million people of late nineteenth-century China had no mechanized farm machinery and no industry-produced nitrogen fertilizers. They were crowded into the wet, arable eastern slice of what is "China" on today's maps, with the median family of 6 farming perhaps 4 acres at a time when the Radical Republicans were still hoping to somehow find 40 acres plus a mule for each family of American ex-slaves. Average adult height was, we think, significantly under five feet. There were enough landless and other desperate peasants that perhaps ten million joined the Taiping Rebellion of Hong Xiuquan--who declared himself the younger brother of Jesus Christ after repeatedly failing the shengyan exam--which burned through the Yangtze valley for nearly fifteen years. Perhaps ten million, 3% of China's population, died in that war alone.

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China's Crisis

Thus the era when the iron-hulled ocean-going steamships began to call on China was in era in which the government and the economy were in crisis for four reasons:

The first reason is that China's government in the late nineteenth century was the ethnically Manchurian Qing Dynasty, and the Qing Dynasty was weak because it had always been weak. It had seized power in the mid-seventeenth century. An ethnic clan of non-proper-Chinese military adventurers from beyond the Great Wall, from Manchuria, struck at the moment when the previous Ming Dynasty was paralyzed by peasant revolts and hamstrung by a run of bad emperors and more-than-usually-corrupt bureaucrats. The Manchu were unified because they were not Han Chinese: what Manchu prince or mercenary could expect to long survive a victory by any alternative faction? The Manchu were weak because they were not Han Chinese: how many of the 300 million Chinese would give how much loyalty to a ruling dynasty in which the top places were reserved for others?

It was the classic problem of colonial rule. The Manchus tried to solve it by (a) presenting themselves as ideal Confucian sage-kings (presenting themselves as more righteous Confucian rulers than Kung-Fu-Tze himself), (b) giving the landlords through which they ruled free rein throughout central and southern China (curbing rapacious landlords in the interest of protecting the Old Hundred names of China was not on the Qing Dynasty agenda, ever), and (c) opposing all change for change threatened to cause instability and the Qing Dynasty knew that it was unstable already.

This worked as a political strategy: the Qing Dynasty had a run of 250 years, and the last Qing emperor still sat a throne--albeit as a puppet of the Japanese army--in 1945. But it meant that the kind of national and nationalist appeals that those who in Japan spoke for the Emperor Meiji or that Mongkut and Chulalongkorn used to try to preserve the independence of Thailand were impossible for China's late nineteenth-century government. You cannot rally a people against foreign colonialists with the slogan "revere the emperor and expel the barbarians!" when for more than 200 years the emperor has defined himself as a barbarian.

Even in the days of its peak strength, the Qing Dynasty found it wise to tolerate dominant currents of thought that viewed its coming to power as a tragedy and its rule as profoundly illegitimate. Jonathan Spence's In Search of Modern China notes the performances at the court of the Kangxi emperor, the first strong and long-lived Qing dynasty emperor, of "The Peach-Blossom Fan" by Kong Shangren--an author still loyal to the previous Ming Dynasty, and hostile to the idea that a scholar-official could win honor by helping the Manchu conquerors rule China: "[A]t the play's end, with the Ming resistance in ruins, the lovers agree to take monastic vows... the surviving virtuous officials retreat deep into the mountains to escape a summons from the Qing that they take up office."

The second reason that China in the late nineteenth century was that Confucian landlord-bureaucrat-scholar aristocracy through which the Qing Dynasty ruled was not only potentially disloyal but trained to be incapable. As long as the Mongols were kept divided through bribes and the ruling dynasty uncorrupt, no Chinese emperor faced any outside existential military threat. Internal disorder was the main worry. So the central government had discouraged military skill among its bureaucrats and notables since the Tang dynasty rebellion of An Lushan, and discouraged any liking for change--a potential cause of disorder--since the first Ming dynasty emperor had expelled the Mongol descendants of Genghis Khan in the fourteenth century.

As Jonathan Spence also points out, seventeenth-century landlord-scholar-bureaucratic notables like Ming loyalist Kong Shangren were well aware of growing European technological developments:

White glass from across the Western Seas
Is imported through Macao:
Fashioned into lenses big as coins,
They encompass the eyes in a double frame.
I put them on--it suddenly becomes clear;
I can see the very tips of things!
And read fine print by the dim-lit window
Just like in my youth.

Yet neither Kong Shangren nor any of his relatives and descendants ever thought that the optical glass business was worth studying or researching or entering or even financing. It was simply not the kind of thing that a Confucian gentleman would do. One consequence of this lamentable uncuriosity was extraordinary ignorance about the outside world. During the first Opium War of 1840 the staff of High Commissioner Lin, the Qing plenipotentiary on the spot in Canton, appears to have debated whether an embargo of ginseng rhubarb exports might be enough all on its own to win the war for China--the British, they had heard somewhere, needed ginseng as a dietary supplement to have regular bowel movements, and would die without it.

The third reason China's government was in crisis was that the people were in crisis. As I noted above, China's population was on the downswing of a Malthusian population cycle. Compared to the aftermath of the great wave of agricultural technological development nearly a millennium before, the threefold growth in population meant that yields per person low, farms small, and peasants poor--hence malnourished, and with relatively little energy. Population growth also meant larger clans of landlords to be fed off the rents. Combined with an alien ruling dynasty that feels weak and threatened by its own upper class and tells its bureaucrats that it is justice when the landlords win, this means that the peasants have very little to lose. Thus peasant revolts--like those that everyone remembered had brought down dynasties before--burned through China in the mid-nineteenth century.

The greatest was the Taiping Rebellion. The Manchu banner-armies proved useless when Hong Xiuquan proclaimed the "Heavenly Kingdom of Great Peace" and promised his followers not only the Kingdom of Heaven in the hereafter (where he would reign alongside his elder brother Jesus Christ) but that land would be equally divided after all the landlords were killed down here--meaning a roughly fifty percent increase in median peasant standards of living. And Hong Xiuquan supplemented his brand of theocratic landlord-free authoritarian communism with anti-Manchu nationalism: "Ever since the Manchus poisoned China... the poison of corruption has defiled the emperor's throne..." 1300 calories per day versus 2000 plus God on your side plus revenge against the oppressive landlords plus the expulsion of the barbarian Manchus.

The fifteen-year march of the Taiping through south-central China and reign from Nanjing had echoes not just of previous peasant rebellions (like the one that had given the Manchus their opening in the 1640s at the end of the Ming dynasty) but of what Mao Zedong and company would do from 1925 to 1945. Move into a village, get the peasants' hands dirty by having them kill a couple of landlords, divide up the land so all the small peasants are much richer, point out that if the landlord-backed authorities return they will all be in big trouble, and ask for volunteers to join the army and come along to the next village.

The Taiping prohibited opium, foot-binding, prostitution, and female servitude. They instituted equal shares for all, vaccination, low taxes, and encouraged tea and silk exports. Hugh Deane quotes American missionary E.C. Bridgeman's report that the Taiping "appear[ed] like a new race of warriors... well-clad, well-fed, and well-provided for... content and in high spirits, as if sure of success," and asserts that twentieth century Communist leaders like Mao Zedong, Zhu Te, and Peng Dehaui drew inspiration from the stories of the Taiping heroes that they had grown up with in Hunan, Sichuan, and Nanjing.

Outside observers like Karl Marx were impressed enough that they thought that the World Revolution was starting in the late 1850s in China, and that the last moments of the Chinese empire had come. But competent local landlords organized pickup militias, some of which grew into competent--but non-Manchu--battalions and brigades. The merchants and bankers of Shanghai and other ports in contact with and profiting from European trade were desperate for help and knew how to draw on European military-technological competence. The thirty year-old Frederick Ward Townsend--with, Deane reports, two years' experience as a military cadet in Norwich, Vermont followed by service as a Texas Ranger, a Mexican army drill instructor, and in the Crimean War--organized an army on the British Indian sepoy model: officers from Europe and America, rifles and carbines and cannon supplied by the British government, high pay, and river mobility through steampower. The Qing court heard such good things about his army from Li Hongzhang, their commander on the spot, that they named Ward's army "The Undefeatables." Ward was killed at Ningbo in 1862, but his successor the British General Charles "Chinese" Gordon's army proved equally capable. The Taiping were crushed in 1864. China's political revolution was postponed for half a century, and the Qing Dynasty continued to rule until 1911.

The fourth reason China's government was in crisis was that it was so weak relative to the forces that first Britain and later other European powers began to project into the western Pacific.

After 1800 British merchants discovered one commodity besides silver that Indian producers could supply and that Chinese consumers were eager to buy: opium. By the end of the 1830s the Chinese government was beginning to worry about the consequences of opium addiction on the country, and the exchange of European silver for Chinese goods had turned around: the bulk of the China trade was the exchange of Chinese silver for Indian-grown opium. The Chinese government attempted to suppress the opium trade and opium smuggling. The result was the 1839-1842 "Opium War," in which the British fleet intervened on the side of free trade, the sale of opium, and drug addiction. The British Empire acquired the then nearly barren island of Hong Kong as a base, European influence was established in a substantial number of "treaty ports" along the Chinese coast, and the division of China not into European colonies but into regions in the "spheres of influence" of different European powers began.

In the mid-1880s the Qing Dynasty, having bought foreign metal-working machinery and built a navy, arsenals, and docks, thought it was strong enough to oppose the French conquest of Vietnam. The fleet was destroyed in an hour. Jonathan Spence reports that the Chinese navy lost 572 dead, while the French lost five. In 1895 the Qing Dynasty thought it was strong enough to oppose the Japanese extension of their sphere of influence to Korea. It was wrong. The Treaty of Shimonoseki added Taiwan, Korea, and southern Manchuria to Japan's sphere of influence. European and American mercenaries, concessionaires, merchants and manufacturers went where they wanted, did what they wanted, and enforced whatever laws they thought were good.

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The Failure of "Self-Strengthening" in China

In the late nineteenth and early twentieth centuries, in the last years of the Qing empire and the first years of the Republic of China, economic growth and development took place around China's coastal fringes in and near foreign enclaves, but not elsewhere. In 1910 China had only a million cotton spindles--one for every 400 people. Contrast that to Britain, that had two spindles per person in 1910. In 1910 China mined 10M tons of coal--that's 40 pounds per person per year. In 1929 China produced 20K tons of steel--less than two ounces per person per year. It produced 400K tons of iron--that's 1.6 pounds per person per year. It mined 27M tons of coal--that's 100 pounds per person per year. Compare this to America's 700 pounds of steel per capita in 1929 or 200 pounds in 1900, or to America's 8000 pounds of coal per capita in 1929 or 5000 pounds of coal per capita in 1900.

China specialists see and can almost touch an alternative history in which late-nineteenth century China managed to match the political and economic achievements of Meiji Japan. They see an alternative in which China stood up economically, politically, and organizationally. Japan, after all, won its short victorious war against Russia in 1905, negotiated as an equal with Britain and the U.S. over warship construction in 1921, and was perhaps the eighth industrial power in the world by 1929. Why couldn't China have done the same?

Jonathan Spence, for example, praises the nineteenth century:

Confucian statesmen [like Li Hongzhang] whose skill, integrity, and tenacity helped suppress the [Taiping and other] rebellions... showed how imaginatively the Chinese could respond to new challenges... managed to develop new structures to handle foreign relations and collect customs dues, to build modern ships and weapons, and to start teaching international law and the rudiments of modern science.... It was true that there remained complex problems... rural militarization... local autonomy over taxation... landlord abuses... bureaucratic corruption... bellicose foreign powers.... But with forceful imperial leadership and a resolute Grand Council, it appeared that the Qing Dynasty might regain some of its former strength...

And laments that:

forceful leadership was not forthcoming... the empress dowager Cixi... coregent for her son Tongzhi from 1861-73... coregent for her nephew Guangxu from 1875-89.... [A]bsolute political authority... while Guangxu [was imprisoned in the palace]... on her orders from 1898-1908.... Cixi had clashed badly in 1869 with Prince Gong.... Zeng Guofan died in 1872... Wenxiang died in 1876... Zuo Zongtang remained preoccupied with the pacification of the Muslims in [Xinjiang].... The grand councilors... worthy... with distinguished careers... lacked the skill or initiative to direct China on a new course. Although self-strengthening programs continued to be implemented... a disproportionate number of them were initiated by one man, Li Hongzhang... governor-general of Hebei... commissioner of trade for the northern ports...

We economists are more skeptical. We note that the "new structures to... collect customs dues" consisted of things like the Qing Imperial Maritime Customs Service build up in the 1860s under Robert Hart--no Chinese officials allowed. We note that the enormous bureaucracies that allegedly managed the Yellow River dike works and the Grand Canal had grown corrupt and incompetent. We note that the Qing could not get their local officials to collect the salt tax. We do not find it satisfactory to attribute China's stagnation through the first decade of the twentieth century to poor choice of ministers by the dowager empress Cixi--even though Spence is following in a long tradition that treats her as the original mold for the figure of the Dragon Lady.

Let's go back to Jonathan Spence's observation that "a disproportionate number" of self-strengthening attempts to adapt and use modern technologies were due to "Li Hongzhang... governor-general of Hebei... commissioner of trade for the northern ports..." Li Hongzhang's achievements were indeed impressive: the 1877 Kaiping coal mine, in 1878 cotton mills in Shanghai, the Tianjin arsenal, the telegraph between Tianjin and Peking, a seven-mile railroad to ship from Kaiping to the river and then downriver to Tianjin, and so forth. And what wasn't undertaken by Li Hongzhang appears likely to have been undertaken by Zhang Zhidong, governor-general of Hunan-Hubei for two decades: the railroad from Hankou to Beijing, the Wuhan Han-Ye-Ping heavy industrial complex. In the last generation of the Qing empire, individual governors-general who made economic development a top priority could make some things happen--elsewhere it didn't, save to some degree in and next to the foreign concessions and treaty ports: Qingdao, Tientsin, Shanghai, Guangdong, Hong Kong.

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Manufacturing Location at the Start of the Twentieth Century

It is understandable that China, India, and the other non-European and non-settler-colony regions of the world did not in the years before World War I produce and export the relatively high-value commodities like wheat and wool exported by temperate settler economies: agricultural productivity was too low, and climate was unfavorable. It is understandable why--with heavy downward pressure put on wages in Malaysia, Kenya, and Colombia by migration and threatened migration from very low-wage China and India--the prices of the export commodities that they did produce were and remained relatively low.

What is more puzzling is why industrialization did not spread much more rapidly in the years before World War I. After all, the example of the industrial core seemed easy to follow. Inventing the technologies of the original industrial revolution--steam power, spinning mills, automatic looms, iron- and steel-making, and railroad-building--had required many independent strokes of genius. But copying the technologies did not, especially when you could buy and cheaply ship industrial capital goods made in the same New and Old England machine shops that supplied the industries of England and of America.

As industries in the industrial core became more and more mechanized--more and more characterized by what would be called "mass production"--they should have become more and more vulnerable to foreign competition from other, lower wage countries. Even at the start of the twentieth century, the U.S. had the highest wage level in the world; inside the U.S., firms devoted immense time, energy, and thought to redesigning their production processes so that lower-skilled, and lower paid, workers could replace highly-skilled craftsmen. One would think that manufacturing would have fled the United States even in the late nineteenth century. If Ford could redesign production immediately after World war I so that semi-skilled assembly line workers could do what highly-skilled craftsmen used to do, why couldn't Ford also--or someone else--redesign production before World War I so that it could be carried out by low wage Peruvians or Poles or Kenyans rather than by Americans, who were extraordinarily expensive labor by world standards eve back then?

Industries do migrate, but they have done so surprisingly slowly in the twentieth century. One reason is added risk: political risk of all kinds tends to make investors wary of committing their money in places where it is easy to imagine political disruptions from the left or the right. Moreover, there are substantial advantages for a firm in keeping production in the industrial core, near to other machines and near other factories making similar products. It is much easier to keep the machines running. A reliable infrastructure is much more likely to be found in the industrial core. And so are the services of specialists needed to fix the many things that can go wrong: minimum efficient scale for an industrial civilization can be far larger than the apparent minimum efficient scale for a plant.

Arthur Lewis hypothesized that barriers to starting up an export-oriented industry were large, that infant industries on the periphery of the world economy had to rely on domestic demand, and that where domestic demand was low because of mass poverty modern industry could not flourish. Thus only a small share of output in what was to become the third world came from the industries of the industrial revolution. But we still understand far too little about why the pace of technological diffusion out of the industrial core was so slow back before World War I: why "peripheral" economies did such a good job at specializing in plantation agriculture for export, and such a bad job at creating modern manufacturing industries.

Gregory Clark at the University of California at Davis has counted the staffing levels--how many operatives for each machine--at textile firms worldwide early in the twentieth cenury, and found enormous differences in how many workers watch, operate, and maintain the same machine across countries and continents. It is not that places where labor is abundant use the same machines more efficiently: it is that it appears to take many times the workforce to achieve the same level of machine performance. Clark argues that in 1910 typical labor productivity in English-speaking countries in cotton spinning was fifteen times that of China, ten times that of Japan, three times that of Mexico or Russia, and twice that of continental northern Europe. Workforces in the industrial core appear to have had an acquaintance with machines and how they work, which was very, very hard to duplicate.

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The Kaiping Coal Mines

Let's take a look at one of these in detail: the first one, the Kaiping coal mine. We are lucky in that we can draw on Ellsworth Carlson's 1957 Harvard east asian monograph to understand how and to what extent Li Hongzhang could midwife modern coal-mining technology in late-nineteenth century China.

In 1877 Li Hongzhang--a senior scholar-landlord-bureaucrat high in the confidence of the Qing court--joined forces with Tang Tingshu--a prominent, experienced, and wealthy treaty port comprador-merchant who had managed Jardine, Matheson's interests along the Yangtze--to establish a modern, industrial, large-scale coal mine in Kaiping, in Chihli. Li Hongzhang and Tang Tingshu faced unusual forms of opposition to their mining plans. Carlson quotes a British cable of 1882 stating that mining work had been stopped because Chi Shihchang, a vice-president of the Board of Civil Offices, had declared that "foreign mining methods angered the earth dragon... [and so] the late empress could not rest quietly in her grave" sixty miles away from Kaiping:

The Governor-General [Li Hongzhang] has been ordered to make inquiry and report... work has partially ceased.... Either he must throw over a company... formed with his direct sanction... [and] a very large quantity of capital, or he must... declare the mines harmless with the knowledge that he will then be considered responsible for any bodily ailment or other ill which may befall the Emperor or his family...

Tang Tingshu had originally proposed to build a steam railway to get the coal from the mines to the port of Tientsin, but dropped that idea and replace it with a proposal for a seven mile mule-drawn tramway to be connected to a twenty-one mile canal. Shen Pao-chen had in 1877 dismantled China's first railway--the Shanghai-Woosung. According to David Pong, Li Hongzhang was furious, blaming the destruction on Shen's narrow-mindedness and his desire to curry favor with anti-foreign elements. Moreover, the Manchu court had just rejected Liu Mingchuan's request for permission to build railways. When the mining began and the tramway started up, however, there were no mules: there was a locomotive--the "Rocket of China" with, engineer Claude Kinder reported, a boiler from "a portable winding engine, the wheels had been purchased as scrap castings, the frames... made of cast iron." Ellsworth Carlson believes that Li Hongzhang and Tang Tingshu were able to get their steam railroad going because of three reasons. First, it was built in a remote and sparsely populated area with no Confucian scholar-landlord-bureaucrats around. Second, Li Hongzhang used all his political skills to keep the existence of the steam railroad. Third, Carlson believes that Li had the blessing of the empress dowager Cixi to proceed--and thus her protection from his superiors on the Grand Council and elsewhere.

Tang Tingshu and Li Hongzhang persevered. Production began with modern machinery in 1881 excavating coal seams about ten feet in diameter 200, 300 and 500 feet down. 200 tons of coal a day were excavated by 1883. By 1889, 3000 workers in three shifts were producing was 700 tons of coal a day, nearly 500 pounds per worker per day, using steam lifts underground coal cars on rails, and pneumatic drills--but still only two pounds a year for every person in China. At the end of 1888 a railway to carry the coal from Kaiping down to Taku was finally opened. But it could not be extended to Tientsin. As chief engineer Claude Kinder wrote:

high officials who detested the railway... foster[ed] trouble with the junk people.... So great was the clamor... that the Viceroy... gave the order for the nearly completed bridge [over the Peiho to Tientsin] to be destroyed, although hundreds of the largest junks had already safely passed through...

Starting in 1889 the company began paying dividends: annual dividends amounted to 10 to 12% on the company's equity capital of 1.5M taels--about £150,000 pounds, or $750,000 dollars of the time. The mine had 3000 workers in 1889, and 9000 in 1900, paid about $6 a month (with the highest-paid Chinese-born technical employees earning some $60). About four miners died each year. As Herbert Hoover reported to his bosses at Bewick, Moreing: "The disregard for human life permits cheap mining by economy in timber [supports].... The aggrieved relatives are amply compensated by... $30 per man.... cases have been proved of suicide for that amount..." Hoover's judgment was that the miners were producing 1/4 to 1/8 of what was expected of miners in America or Australia. By 1912 Kaiping was producing 1.4M tons of coal a year--seven pounds for each person in China--and accounted for perhaps 20% of China's total coal production.

Without the aegis of Li Hongzhang and his position as governor, the enterprise is unlikely to have survived. Ellsworth Carswell quotes Tang Shouchien on the difficulties that merchants and entrepreneurs had outside the coastal foreign concessions: "The officials have rights; the merchants have no rights; their influence does not go beyond the bringing together of capital; and naturally the profits of the merchants are lost to the officials ceaselessly..." Even with his aegis, not everything went smoothly. Carswell quotes the North China Herald of June 24, 2007 as pessimistic about the future of Kaiping as a capitalist economic enterprise: "if a mine is at a promising state, Kaiping to wit, the kinsmen of the Director, Managers, and officials, come in shoals, and without the slightest regard to competence are provided with posts and fatten..." But as long as Li Hongzhang was in control and his attention was focused on making the mine a successful economic enterprise, Tang Tingshu, his team, and his specialist foreign engineers could do their work. Their position, however, was shaky, for the mine was both a public governmental project and a private capitalist enterprise: shang-pan kuan-tu: official supervision and merchant management. This meant that each manager of the mine wore two hats: on the one hand, they were intendants in the Qing administrative bureaucracy with jurisdiction not over a town and its villages but over a mining enterprise, and on the other hand they were employees of the shareholders. Should push come to shove, it would turn out that they worked for the governor of Chihli rather than the shareholders of the company.

Mine director-general Tang Tingshu died in 1892. His successor was a very different man. Tang Tingshu was a merchant. Chang Yenmao was a bannerman--a hereditary retainer of Prince Qun. Tang Tingshu was a merchant who had worked extensively for British bosses. Chang Yenmao was a retainer and fixer. He had little education. In spite of his lack of literary attainment, he somehow acquired official rank, played on his connections with the empress dowager Cixi, and was slotted to become an intendant in Kaingsu when the director-generalship of Kaiping fell vacant. In The Making of Herbert Hoover, Rose Wilder Lane, claims that Chang Yenmao played a key role in Cixi's coup of 1885 when she placed the Gwangxu emperor on the throne.

By 1900 Chang Yenmao--once a poor bannerman and retainer--was one of the wealthiest men in Tientsin. When Herbert Hoover looked at the books of Taiping in 1901, he reported that the 9000-worker payroll had been padded by 6000 names, and that the director of personnel doing the padding and collecting the wages had paid Chang Yenmao $50,000 for the post. Chang Yenmao's company paid £20000--$100000--a year in dividends. After Herbert Hoover took over as director-general in 1901, he was able to pay out £150,000--$750,000--a year.

Herbert Hoover? you say. Yes, Herbert Hoover: at the time a 26 year old mining engineer on the make, later to become the architect of food relief to Europe after World War I to prevent mass starvation, the wonder-working Commerce Secretary during the Roaring Twenties, and president during the slide into the Great Depression.

What happened was this: Herbert Hoover, mining expert, arrived in Tientsin in 1900 just in time to be besieged in the city by the Boxers (a better translation for this grassroots uprising influenced and encouraged but not controlled by the Forbidden City would have been "Fighters United for Justice"). In Tientsin Hoover met Gustav Detring of the China Maritime Customs Service, a friend of Chang Yenmao's. He also met Chang Yenmao. Chang had fled to Tientsin as well, fearing that the Boxers would execute him as a corrupt puppet of the Europeans; in Tientsin, however, the Europeans arrested Chang--fearing, probably correctly, that he was passing intelligence to the besieging Boxer armies as a way of hedging his bets. The British charge d'affaires on the scene later said that Chang "ought to have been shot in 1900."

Somehow Detring and Hoover, probably, got Chang released from prison. Somehow Chang decided to reincorporate the Kaiping mines as a British-flag enterprise incorporated in London in order, he said, to make it easier to raise capital to expand the mines and to provide some political cover: Russian or Japanese proconsuls would love to confiscate a working Chinese-flag industrial property as reparations or indemnities, but would not dare touch a British-flag industrial property. Chang commissioned Detring and then Detring and Chang commissioned Hoover and then Hoover commissioned his boss C. Algernon Moreing back in London to do the deal.

The old company had owned the mine works, had little spare cash, and had owed £250,000--$1.25M--in bonds that paid 12% per year interest. When the dust cleared, the new company owned the mine works, had about £250,000 in free cash, and owed £500,000 in bonds that paid 6% per year interest. When the dust cleared, the shareholders of the old company found that they owned 37.5% of the new company, and that C. Algernon Moreing and his friends owned 62.5% of the new company without having contributed more than a few cents to the enterprise. The old company had been controlled completely by Chang Yenmao in his dual status as director-general both elected by the shareholders and appointed by the governor of Chihli. The new company was controlled completely by Herbert Hoover as the representative on the spot of the London majority shareholders. The old company had a management and advanced technical staff of 620 Chinese managers and 10 foreign-born engineers and foremen. The new company had a management and advanced technical staff of 170: 120 from china and 50 from abroad. The new company also had a Europeans-only club.

Charge d'affaires Townley was disgusted. He wrote to Britain's foreign secretary, Lord Salisbury, recommending against the British government's "giv[ing] its countenance to a financial transaction which had fleeced Chinese shareholders and lined the pockets of an Anglo-Belgian gang.... Moreing and others have made a pretty pile at the expense of the Chinese.... legally the Board of Directors were unassailable... but... morally they were in the wrong." Others were upset as well--especially Detring and Chang Yenmao. Townley's interpretation was that they were "wild... [because] they thought themselves rather smarter... and got themselves fairly had by a Yankee man of straw [Hoover] acting for Moreing..."

We have a pretty good idea of what Algernon Moreing and Herbert Hoover would have said if they could have been gotten to speak truthfully about the transaction. First, they would have said, if we had not done the deal then the Russians would have confiscated the mine in 1901 as reparations: we brought the British flag's protection to the table, and that is easily worth 62.5% of the company. We gave the original-company shareholders 37.5%, while the Russians would have given them zero. Second, they would have said, Chang Yenmao was a corrupt thief stealing from the company and untouchable because of the protection of the governor of Chihli. 6000 extra workers at $50 a year is $300,000 a year, at least, stolen from the company. Third, they would have said, Chang Yenmao is neither a mining engineer nor a merchant. Herbert Hoover is both, and can make the mine run. 37.5% of the $750,000 a year in dividends that the new company paid is about $270,000--almost three times the $100,000 the old company paid. We did the original shareholders three big favors, they would have said, and 62.5% of the company is a bargain for all we have done.

Chang Yenmao was displeased. He had to explain to the new governor of Chihli, the formidable Yuan Shihkai, why the Imperial flag was not being flown over the mine, which meant that he had to admit that he had conspired or western sharpies had tricked him or something had happened by which the Kaiping mines were now the property of a British-Belgian investors' syndicate. Yuan Shihkai was then displeased:

Although Kaiping had sold commercial shares, it was not a private property that could be bought or sold by people like Chang and Hoover. The mines had not been started... [until] Li Hongzhang had... obtained imperial approval... they could not be alienated without imperial approval.... Chang, said Yuan, was a person of humble origins to whom the country had given great favors, but he had not been properly grateful... [had sold] mining land [to foreigners] without authority... deceived the throne... about Chinese-foreign joint management.... If unpunished, Chang's action might become a precedent... losses of the country's mines, the merchant's capital, and the dynasty's ports...

It turned out that in the process of browbeating Chang Yenmao, Herbert Hoover had signed a "Memorandum of Understanding" that the change of corporate form would not alter Chang Yenmao's status: that he would remain director-general of the mine "as before." Chang Yenmao, ordered to recover the mines, went to London and sued. One British judge was shocked at the deception and dishonor, and ruled that the "Memorandum" was a valid instrument that had to be followed by the new company. Other British judges in London ruled that the "Memorandum" was a valid instrument only insofar as the powers granted Chang by the memorandum were legal according to British corporate law, but that those powers weren't. In the end Yuan Shihkai started up another coal company with rights to much more extensive deposits in the area, and the two were amicably merged. Later on, Herbert Hoover scrambled as he launched his political career to buy up and destroy all copies of the trial record containing his testimony--missing the one in Oxford's Bodleian Library.

As Albert Feuerworker summed up the story of Kaiping in the 1959 Journal of Asian Studies:

Despite its pioneering achievements, Kaiping faltered... [like] other kuan-tu shang-pan enterprises in the late nineteenth century. The first was the lack of sufficient capital and the inability to raise more from domestic sources. The second was the unpropitious political environment into which it was born. Little aid could be expected from the tottering Manchu regime either in the form of financial assistance to compensate for the reluctance of private investors, or protection from foreign encroachment such as eventuated in British domination of this enterprise.... [T]he contrast with the history of early industrial efforts in Meiji Japan is a striking one...

Feuerworker sees three things going wrong: no private capital, a poor cash-strapped government that could not contribute public capital, and a weak government that could not protect incipient enterprises against rapacious foreigners. These three were certainly important, yes, but I see three others that were even more important:

• a social-economic structure that could not find and promote executives, but instead replaced Tang Tingshu with a corrupt political fixer like Chang Yenmao
• a political-ritual culture that required that a modernizing governor focus his attention constantly on the enterprise and run interference to protect it from anti-modernizers
• an educational system that continued to turn out literati instead of engineers and thus required foreign technical personnel for everything

The fact is that, outside the charmed circles created by the extraterritorial foreign concessions, and to a slight degree the immediate span of control of the few modernizing governors, modern industries did not develop and modern technologies were simply not applied in late imperial China. The typical Qing bureaucrat was hostile. But the typical Qing bureaucrat was also interested. There was rough equilibrium in how much money Qing bureaucrats were expected to squeeze from landlords (not that much), merchants and traders (significant but limited), and others who needed government action (as much as they could grab). New people doing new things had no customary, social, or countervailing power protections against their overlords. And overlords with limited intelligence, limited types of experience, and limited official tenure could not be expected to nurture economic growth when there were loose assets to be stripped. And, as the shareholders of Kaiping and Chang Yenmao discovered, to flee into the arms of foreign legal systems was to flee from Scylla to Charybdis.

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China's First Revolution: 1911

The loss of the Japanese-Chinese War in 1895 brought matters to a head: was the government going to make a more serious effort to mobilize the country for modernization and progress or not? The Guangxu emperor said yes: he allied himself with reformer Kang Youwei and launched the "hundred days of reform" of 1898. The dowager empress Cixi--who we have seen before as patron and protector of modernizer Li Hongzhang--said no. she imprisoned the emperor inside the palace and encouraged the grassroots "Fighters United for Justice" to see what would happen. The attempt to mobilize anti-European sentiment to support the conservative regime failed, as an all-European expeditionary force relieved the beseiged European embassies in Beijing, exacted indemnities, and wreaked destruction. A tack back to the left was not possible. Kang Youwei's memoranda on such things as the partition of weak-government poland by Russia, Prussia, and Austria and on the successful Meiji reforms in Japan could still be read, but Cixi had executed Kang Youwei's younger brother and other reformers in 1898. And when Sun Yatsen had offered his services to Li Hongzhang in 1894, Li had sent him away.

Sun Yatsen built up a financial and propaganda network among Chinese emigrants beyond the reach of the government. Military politicians like Yuan Shihkai came to the conclusion that working with the Manchu court was useless. And at the beginning of 1912 the last Chinese imperial dynasty fell, as Yuan Shihkai and his peers refused to suppress Sun Yatsen's rebellions. The six-year-old emperor abdicated. But the new Chinese republic's president was military politician Yuan Shihkai. And his authority over his peers and near peers--army commanders, provincial governors, and other would-be warlords--was nil. China descended into near-anarchy. On a provincial scale, order was maintained by "warlords": military politicians with soldiers at their command who chose local gentry notables to maintain order in the countryside and chose mayors and councillors in the cities. They taxed and plundered what they could, and their soldiers taxed and plundered and fought. It would take until the end of the 1920s before China had anything that could be called a functioning government again.

Hoover in China: Yet Another Note

Hugh Deane (1990), Good Deeds and Gunboats: Two Centuries of American-Chinese Encounters (San Francisco/Beijing: China Books and Periodicals/New World Press: 0835123782), pp. 75-6:

In 1920, having gained an international reputation through relief work, and thinking of public office, Hoover began an extraordinary and costly effort to blur and falsify the record of the trial... instructed his London solicitor to "spare no expense or effort" to purchase all existing copies of the trial transcript. Burner's biography indicates that Hoover thought he had succeeded, but in fact his agents were unable to obtain the copy in the Bodleian Library at Oxford. In the early 1930s [John Hamill]... observed... that, trying to check on certain accusation, "At many sources we came only to find that somebody had been there before us, going over the hard-beaten track of Mr. Hoover's past, and taking up, buying up, and otherwise obliterating important records"....

[T]he reality was expressed at the time of the swindle by Britain's charge d'affaires in Beijing, Arthur Townley. With the help of a Yankee [Hoover], he said, an Anglo-Belgian gang had "fleeced" the Chinese, and Moreing and associates had "made pretty pile at their expense"...

A Historical Document: The Kaiping Mines: The Times of London, March 2, 1905, p. 9

The Kaiping Mines: The Times of London, March 2, 1905, p. 9

The remarkable action brought by Chang-Yen-Mao and tried for many days before Mr. Justice Joyce has ended in favor of the plaintiff on all important points. The proceedings were unique and important in several respects. It is rare that a Chinese mandarin seeks justice in our courts; and involved in the dispute between him and the defendants were issues of far-reaching consequence. Had Chang-Yen-Mao lost his action he would probably have fared very badly at the hands of his Government, which had charged him with "fattening" on teh rpoceeds of a fraudulent sale of the property which was the subject-matter in dispute. He has been deprived of the office of Director-General of Mines; his ruin and disgrace, if not worse still, would have followed an adverse decision. It is not too much to add that his failure would have been a misfortune to British interests, and injurious to our good name in the Far East. Chang-Yen-Mao is a representative of the more enlightened of his countrymen, who see that, not hostility to western civilization, but frank recognition of its value is their best policy. With proper guarantees against evils and abuses too common in Oriental countries, European capital might now develop the resources of China in many ways. There are railways to be made, mines to be opened or worked with modern appliances, and all this is to be done only with the cooperation of the better class of officials who have put aside ancient prejudices against the foreigner. Chang-Yen-Mao, who is, as he showed in the witness-box, shrewd and intelligent, seems to have aided not a little the industrial development of his country. He has believed that true patriotism is consistent with the employment of skilled European advisers and the encouragement of European capital. He has suffered not a little for having, in the opinion of the narrow minded, sacrificed Chinese interests to the foreign capitalist. His success in an English court of law will have effects going much beyond the decision of the controversy before Mr. Justice Joyce. His countryment who are suspicious of western finance will know that redress can be had if they are wronged. News of his success will gradually percolate into even remote parts of China, and will inspire confidence in the impartiality of our tribunals. The judgment of yesterday will, perhaps, smooth the way for the entrance of British capital into a country where, given an honest administration, it might be largely employed to the profit of native and western investors.

Stripped of details, the point at issue in the action was simple. Chang-Yen-Mao was director-general of a Chinese company formed in 1882 to work certain mines in the provinces of Chi-li and Johol. Fresh capital was required for the undertaking, and Mr. Detring, a German, who was a Commissioner of Customs in China and also a director of the company, was authorized to take measures to raise the necessary capital. He put himself in communication with the defendants, Moreing and Co., and the result was that by a conveyance of February 19, 1901, all the property of the plaintiff company was transferred to the defendent company. The contention of the plaintiff was that this transfer was executed upon the express condition that a memorandum of even date whould be executed, and should be binding upon the new company. One of the conditions was that the shareholders, Chinese and foreign alike, should have equal votes; that the company should be managed by two boards, English and Chinese; that Chang-Yen-Mao should continue to be director-general; and that the Chinese board should manage the property in China. These provisions, it was said, had not been carried out. The new company refused to recognize them. The Chinese board was powerless; a manager was sent out who said he knew nothing of the memorandum, and the official business of the company was not transacted at Tien-tsin. The plaintiff sought a declaration that the terms of the memorandum were binding upon th ecompany, or that the deed of transfer should be set aside. The defendants did not say that the memorandum was of no effect. Mr. Moreing, in his cross-examination, said that:

some of the directors took the view that the memorandum was not vital, but they still endeavoured to carry it out. It was true that the majority of the board took the view that the memorandum had no legal effect, but witness always dissociated himself from that.

The main point upon which the counsel for the defendants relied was that the memorandum had, according to its reasonable construction, been acted upon, and that the proviso about making Chang director-general "as before" was in direct violation of English law. After a patient hearing the Judge has, in regard to the principal points of the case, decided in favour of the plaintiff. Unless within a reasonable time the terms and conditions of the memorandum are complied with, the Court will do what it can to restore the property, and will take measures by injunction to restrain the defendants from parting with it. What is scarcely less important is the expression of opinion by the Judge that Chang-Yen-Mao had been guilty of no bad faith, whil ethe conduct of some of those concerned in the matter was open to criticism.

Chang-Yen-Mao will go back to China with the esteem of all who heard him give his evidence. He will be able to assure the retrograde party at home that relations with astute British financiers do not necessarily turn out badly. There is no doubt that the events which he disclosed in Court profoundly affected the better class of Chinese, and shook their confidence in British good faith. Justly open to censure, the action of the English company was represented by enemies of this country in the worst colours, and if it had been uncorrected, it would have stood seriously in the way of British enterprise.

Many other lessons are to be deduced from a singularly interesting case. One is the inexpediency of the participation in the affairs of any company by officials at all connected with the Customs administration and the public service which has, under Sir Robert Hart's supervision, gained the confidence of the people of China. Englishmen are jealous of anything that might affect the reputation that he has created for the Imperial Maritme Customs. But the chief reflection which the case suggests is that the victory of Chang-Yen-Mao is also of public importance, and that it will be useful to British capital and enterprise in the struggle now going on against formidable commercial rivals. In restoring his own good name he benefits the credit of this country.

See also:

• Herbert Hoover in China http://delong.typepad.com/sdj/2007/07/herbert-hoover-.html
• A Historical Document: Kaiping Mines Memorandum of Agreement http://delong.typepad.com/sdj/2007/07/kaiping-mines-m.html
• A Historical Document: The Pall Mall Gazette on the Kaiping Mines http://delong.typepad.com/delong_economics_only/2007/07/the-pall-mall-g.html

New Graduate Student Orientation: Li Hungchang and "Self-Strengthening", and Other Topics

Few things are more mortifying than going to the new graduate student orientation, talking to three students fresh from China, and trying to say the name of the late nineteenth-century Qing statesman "Li Hungchang." There was animated discussion as to what I was trying to say--I suppose I sounded as though I was speaking half-Cantonese, half-duck.

And Chiang Kai-Shek--Jieng Jieshi--don't try to go there. Just don't.

The most interesting thing I learned is that there is as much horror inside as outside the Brookings building that Ken Pollack is still the public face of Brookings Institution foreign policy studies.

Herbert Hoover's Story on the Kaiping Mines

Herbert Hoover's story on the Kaiping mines appears to have been that he was lied to by his bosses--with whom he remained on excellent terms, however.

From Walter Liggett (1932), The Rise of Herbert Hoover (New York: H.K. Fly), p. 111 ff.:

The action between Chang Yen-mao and the Chinese Engineering and Mining Company of Tientsin, plaintiffs, versus Charles Algernon Moreing, Bewick, Moreing, and Company, and the Chinese Engineering and Mining Company, Limited, of London, defendants, was brought to trial on January 18, 1905, before Justice Joyce in the Chancery Division.... On March 1, 1905, Justice Joyce delivered from the bench a long verbal decision in favor of the plaintiffs....

[...]

Chang [Yen-mao] described the circumstances under which he signed the deed.... He said he repeatedly refused to sign... its terms did not agree... with his agreement with [Herbert] Hoover. Upon being told by Hoover that the deed was merely meant for the purpose of registration in England, and that the memorandum would be the ruling instrument, he eventually signed... with reluctance....

Chang told in detail of... threats... by Hoover... that the mines would be confiscated by the [European] Allied governments and that he and the Chinese stockholders would get nothing [if he did not agree to the terms]....

[...]

In opening the defense, Counsellor Hughes made a long speech in which he protested against charges of fraud or misrepresentation.... Hughes defended the issuance of 625,000 shares of promoters' stock and added, "Mr. Moreing did not profess to go to China as a philanthropist."...

Mr. Hoover took the stand.... He said that Detring told him that the deed of July 30, 1900, had been approved by Chang. (Both Detring and Chang denied this.)... Hoover declared he had always considered the memorandum binding, and always had insisted that it be carried out. On cross-examination he said that he did not know... that the memorandum's provisions had not been incorporated into the articles of association. He also disclaimed knowledge of the financing.... Under cross-examination he said that he had told Chang and Detring that the provisions of the memorandum were incorporated in the articles of association, and that he had not known differently until he returned to London. He admitted the whole of his negotiations with Chang and Detring when he returned to China had been on an "incorrect basis."...

Counsellor Levitt produced a letter written by Hoover... [in which] he had said that "the China board would have in itself the entire management of the company's property in China, and that H[is] E[xcellency] Chang would be director-general [of the mines] for life." Hoover admitted the statements were not true, but explained that when he wrote the letter he thought them true. Hoover said he... had tried to carry out the terms of the memorandum and as long as he was in China thought he had succeeded. Then he was shown a letter... by himself.. which stated that the changes which he had inaugurated... [were to give] the new manager "complete control immediately upon arrival" in order that "the future administration [of the mine] might be preserved from any interference by the Chinese board."...

[Hoover] admitted reading a letter which de Wouters had written to the board of directors in London.... Hoover admitted that he had not asked de Wouters to alter the letter, or not to send it, but insisted nevertheless tht he was not in accord with de Wouters on this point and that the letter did not correctly represent the situation...

The Memorandum. The Pall Mall Gazette, February 2, 1903

Kaiping Mines: Memorandum of Agreement Between Chang Yen-Mao and Herbert Hoover

A historical document:

February 19, 1901: Memorandum Relating to the Reorganization of the Chinese Engineering and Mining Company:

In consequence of the disturbances of last summer [1900] and the state of hostilities thereby created, serious danger arose... [the possibility of] the confiscation of the [company's] property on account of the company's semi-official character in connection with the Chinese government... [or] the cession by compulsion of the company's property.... [I]t was thought in the interest of the Imperial government and the company's shareholders to convert the company into an Anglo-Chinese company registered under English laws and protection[s].

Another motive was... [to raise] additional capital by gaining foreign shareholders for the undertaking....

H[is] E[xcellency] Chang [Yen-Mao], Director General of the company, accordingly appointed Mr. Gustav Detring to make the necessary arrangements... with Mr. H.C. Hoover, acting on behalf of Mr. C.A. Moreing... [to draw up] a deed of sale... [so] Mr. Moreing... [could] take the necessary steps with regard to the raising of capital in Europe and registering the company under British laws....

[I]t has today been settled and decided that the company shall in the future be constituted and managed as follows:

(1) The share capital of the company to be one million pounds sterling.
(2) The Chinese shareholders [of the old company] to receive twenty-five shares of one pound each for each original share of one hundred taels each [i.e., total par value of £375,000].
(3) The bona-fide liabilities of the Chinese Engineering and Mining Company... shall be taken over by the new company....
(4) It is especially agreed to honor and repay the loans obtained from the Imperial government. 200,000 taels is to be paid out of the first funds and balance as quickly as possible [i.e., £35,000].
(5) The stockholders whether Chinese or foreign shall have equal votes at all meetings of the shareholders....
(6) The management of the company shall be conducted by two boards of directors, one in China and one in London.
(7) H[is] E[xcellency] Chang [Yen-Mao] will be Director General resident in China as before in general charge of affairs, and as such will have equal powers with foreign directors in China.
(8) The management of the property of the company in China will be in the China Board.
(9) The London Board will be elected by all the shareholders, Chinese and foreign.
(10) ... "limited" means that the shareholders are in no case responsible for more than the nominal amount of their shares.
(11) ... all the legal taxes and duties payable to the Chinese government will be paid by the company as before.
(12) ... the Director General will be the channel of all communication between the Imperial Authorities and the company.
(13) ... the company will be managed... to make Chinese and foreign interests harmonize on a fair basis of equality... [to] enrich the government and the people.
(14) All the unsettled accounts of the company and questions relating to land tenure will be adjusted equitably by mutual consultation.

Herbert C. Hoover
Chev. de Wouters
Chang Yen-Mao
Gustav Detring

The Pall Mall Gazette on the Kaiping Mines in 1903

A historical document: From the Pall Mall Gazette, February 2, 1903:

Chinese Engineering and Mining Company: An Interesting Story from Tientsin: Some Facts that Await Explanation:

The report of the meeting of Chinese shareholders in the great Chinese Engineering and Mining Company... is very interesting reading indeed. To all appearances, the European directors owe the Chinese shareholders... a tardy explanation of their apparent failure to comply with the terms of the memorandum....

Excellency Chang Yen-Mao sketched the events of 1900... thought advisable to register the company under British laws for the dual purpose of protecting the property and opening the doors for... European capital....

The next speaker was Mr. Detring... consulted [in 1900] by his Excellency... as to the best means of securing the property from aggression. It was ultimately decided to admit foreign capital and register the concern as an English company.... Mr. Hoover, as representative and adviser of Messrs. Bewick, Moreing, and Co... undertook a mission to London, where he formed a company of £1,000,000, out of which the Chinese script should rank as £375,000; of the balance, £100,000 was to be called up at once, and the remainder as required....

[N]ow a crowd of employees arrived from Europe without the slightest knowledge of the China board that they were coming.... Two months previously news had casually come to Mr. Detring's notice of a [London company] debenture issue of £500,000 at 6 percent. The debentures carried a bonus of £250,000 in shares standing at 70 to 100 percent premium at the date of issue. "So the reason for the issue," as Mr. Detring truly goes on to say, "was not apparent."

Nothing satisfactory by way of explanation of these strange happenings could be gained....

The Chinese board contend that the £625,000 [in par value of stock] allotted to the promoters is excessive.... [O]n the face of it, a very strong indictment indeed is made out against the European heads of this remarkable company...

If I understand the transaction correctly, the old shareholders of the company received 37.5% of the stock, the promoters--Bewick, Moreing, and Company--took 37.5% of the stock for themselves in return for a capital contribution of £100,000, and a bunch of bond buyers not otherwise identified received 25% of the stock and bonds of £500,000 principal value with coupons of £30,000 per year in exchange for their contribution of £500,000. At the moment of the bond issue, Detring claims, 25% of the stock had a then-current market value of between £425,000 and £500,000.

As I said, Herbert Hoover's testimon at the London Chancery trial appears to have been that he negotiated with Chang Yen-Mao in good faith but that his bosses at Bewick, Moreing misinformed him--but Hoover appears to have remained on excellent terms with them even so.

More on the Kaiping Mines: Jonathan Spence's Asides, and Albert Feuerwerker's Review of Ellsworth Carlson

China specialists see and can almost touch an alternative history in which late-nineteenth century China managed to match the political and economic achievements of Meiji Japan, and in which China stood up economically, politically, and organizationally at the same pace of the Japan that won its short victorious war against Russia in 1905, negotiated as an equal with Britain and the U.S. over warship construction in 1921, and was perhaps the eighth industrial power in the world by 1929. In his In Search of Modern China, for example, Jonathan Spence praises the nineteenth century:

Confucian statesmen whose skill, integrity, and tenacity helped suppress the rebellions... showed how imaginatively the Chinese could respond to new challenges... managed to develop new structures to handle foreign relations and collect customs dues, to build modern ships and weapons, and to start teaching international law and the rudiments of modern science.... It was true that there remained complex problems... rural militarization... local autonomy over taxation... landlord abuses... bureaucratic corruption... bellicose foreign powers.... But with forceful imperial leadership and a resolute Grand Council, it appeared that the Qing Dynasty might regain some of its former strength...

And Spence laments that:

forceful leadership was not forthcoming... the empress dowager Cixi... coregent for her son Tongzhi from 1861-73... coregent for her nephew Guangxu from 1875-89.... [A]bsolute political authority... while Guangxu [was imprisoned in the palace]... on her orders from 1898-1908.... Cixi had clashed badly in 1869 with Prince Gong.... Zeng Guofan died in 1872... Wenxiang died in 1876... Zuo Zongtang remained preoccupied with the pacification of the Muslims in [Xinjiang].... The grand councilors... worthy... with distinguished careers... lacked the skill or initiative to direct China on a new course. Although self-strengthening programs continued to be implemented... a disproportionate number of them were initiated by one man, Li Hongzhang... governor-general of Hebei... commissioner of trade for the northern ports...

Li Hongzhang's achievements were indeed impressive: the 1872 China Merchant Steamship Navigation Company, the 1877 Kaiping coals mines, in 1878 cotton mills in Shanghai, the Tianjin arsenal, the telegraph between Tianjin and Peking, a seven-mile railroad to ship from Kaiping to the river and then downriver to Tianjin, and so forth. What was not undertaken by Li Hongzhang appears likely to have been undertaken by Zhang Zhidong, eighteen years governor-general of Hunan-Hubei: the railroad from Hankou to Beijing, the Han-Ye-Ping heavy industrial complex, and so forth. But what impresses me most is how little even the most active, energetic, and skillful of statesmen could accomplish in the prevailing institutional and political climate--how those attempting to modernize China in the late nineteenth century were trying to roll boulders uphill.

And so I find it interesting to note:

Albert Feuerwerker, Review of Ellsworth Carlson (1957), The Kaiping Mines 1877-1912 (Cambridge: Harvard University Press), in the 1959 Journal of Asian Studies: Professor Carlson's monograph is a welcome addition to the all too sparse literature on the problem of China's economic development. His subject, China's first modern coal-mining enterprise, is a particularly good one for the study of the format in which Western-style enterprises were introduced into China at the end of the Ch'ing dynasty. Thus the discussion of the characteristics of the system of "official supervision and merchant management" (kuan-tu shang-pan) in Chapter 2, while necessarily brief, is to the point and illuminating.

The Kaiping Mines, like a good many others of China's first modern industries, were inaugurated under the aegis of the Chihli governor-general, Li Hung-chang. The enterprise formed a part of Li's satrapy, and probably owed its origin to a desire to furnish bunker coal and return cargo from Tientsin for the steamers of the China Merchants' Steam Navigation Company, which Li also controlled. Its first manager, T'ang Ching-hsing (Tong King-sing), was also until 1884 an official of the shipping company. Under T'ang's direction, capital was raised from Chinese sources including the C.M.S.N Co., and digging begun: production averaged approximately 250,000 tons annually in the early 1890's. But under Chang Yen-mao, who headed the company from 1892 to 1900, heavy borrowing in order to expand production gradually brought Kaiping under the control of its foreign creditors--interestingly enough, a process in which Herbert Hoover, then a young mining engineer, played an important role. Carlson describes these developments in detail and concludes with an account of Chinese efforts to recover the mines, which resulted in the formation of the Sino-British Kailan Mining Administration in 1912.

Despite its pioneering achievements, Kaiping faltered in the face of two obstacles which it confronted in common with other kuan-tu shang-pan enterprises in the late nineteenth century. The first was the lack of sufficient capital and the inability to raise more from domestic sources. The second was the unpropitious political environment into which it was born. Little aid could be expected from the tottering Manchu regime either in the form of financial assistance to compensate for the reluctance of private investors, or protection from foreign encroachment such as eventuated in British domination of this enterprise. While Carlson does not explicitly make the comparison, the contrast with the history of early industrial efforts in Meiji Japan is a striking one, and invites us to examine more closely the bases of the widely differing experiences of China and Japan in the process of economic modernization.

This is not business history, strictly speaking, although some attention is given to the technical achievements of the Kaiping Mines. It is unfortunate that the available source materials did not permit the author to examine Kaiping more closely as a business enterprise per se. But this is not a shortcoming peculiar to Carlson's study alone; it is a problem that everyone dealing with China's economic history faces.

Herbert Hoover in China: A Story I Had Never Heard Before

Now to figure out how much of it is true:

China Matters: Herbert Hoover: Made in China: China Matters jumps into the wayback machine, sets the controls for Tianjin 1900—-the Boxer Rebellion--and revisits one of the great political coverups in 20th century US political history: Herbert Hoover’s suppression of his pivotal and deplorable role in the alienation of China’s Kaiping Coal Mines from Chinese ownership.... To the general public, Hoover is a punchline in jokes about the Great Depression. But for serious students of Hoover, the emphasis has always been on taking the moral measure of the financier and humanitarian who achieved remarkable wealth, power, and worldwide recognition long before he ascended to the Presidency. Was he a ruthless, unscrupulous profiteer or a misunderstood apostle of rational business administration, economic efficiency, and benevolent progressivism?

Remarkably, the best documented and most accurate picture of Hoover can be found at the beginning of his career, in China, in the case of the alienation of the vast Kaiping Coal Mines from Chinese control. Thanks to a notorious court case-—and Hoover’s determined attempts to obscure and distort revelations that reflected badly upon him-—we can form a relatively unambiguous judgment of the man and his methods. The story, briefly, is this:

Herbert Hoover came to China in 1899, a young man of 24, with a reputation earned in the Australian gold fields as a shrewd, capable, and energetic mine manager—-and as an ambitious, Machiavellian manipulator who had schemed unsuccessfully to supplant his boss. He was sent to China by the London mine management firm of Bewick, Moreing & Company, to expand a relationship it had developed with the Kaiping Coal Mines and their manager, Chang Yan-mao. Kaiping was one of the crown jewels of Li Hung-chang’s self-strengthening movement. Located above an immense coal reserve near the present-day city of Tangshan, the mines had flourished under the administration and financial management of Tang Ting-shu, an able comprador, and were producing almost 500,000 tons per annum by the turn of the century.

However, the general manager position passed to an apparently less capable individual: Manchu bannerman and court insider Chang Yan-mao, who was unable to introduce needed capital for the mine from either domestic private or government sources....[After] 1895... Chang began an awkward flirtation with Bewick, Moreing to gain capital and some measure of security for the enterprise.... Hoover was dispatched to China in furtherance of this strategy.... [T]he Boxer Rebellion in 1900. Chang Yan-mao and Hoover were both in Tianjin during the siege.... Russian troops occupied the Kaiping fields, creating anxiety in Chang’s mind that the mines might be confiscated without compensation as a war reparation.

Chang decided that the enterprise had to be placed under the protection of a benign foreign power, namely Great Britain... Bewick, Moreing & Co.... would ensure that the interests of the existing stockholders and, not least of all, Chang Yan-mao himself, would be protected. Therefore, Chang hurriedly deeded over the entire enterprise to Hoover as trustee, contingent that the enterprise be recapitalized with an additional 1,000,000 pounds and reconstituted as a joint Sino-British enterprise.

If the story ended here, Hoover would have probably received a well-earned attaboy from history for realizing this once-in-a-lifetime opportunity so perspicaciously and resolutely.... The agreement that Hoover took to London defined him as trustee for a Kaiping enterprise whose assets and ownership should be converted directly into the new Sino-British company. This left no provision for “promotional fees”, the distribution of shares without compensation to middlemen such as the Bewick, Moreing partners, their friends, and associates in return for their efforts in midwifing the new corporation.

Hoover was thereupon sent back to obtain a revised agreement which listed Hoover as the agent of Bewick, Moreing lead principal C.A. Moreing, thereby freeing Hoover from sole and explicit duty as trustee to protect the interests of Kaiping, and allowing the transaction to be structured to include benefits for Moreing and other promoters. To obtain Chang’s agreement to this significant revision, Hoover concluded a side agreement with Chang defining the new company as a joint Sino-British enterprise with equal say in management, a China board and a London board. Again, this could be regarded as an understandable, if awkward measure to ensure that Bewick, Moreing (or at least its partners) received the incentive and reward necessary for lining up the financing for this new venture.

However, Hoover spent the next seven months in China... placing his people in key positions inside the enterprise and... consolidating foreign control of Kaiping in violation of the agreement. The fatal piece of overreach by Bewick, Moreing, however, was its disregard of the requirement that the enterprise be recapitalized.... Bewick, Moreing did not arrange any significant new equity for Kaiping. Instead, it burdened the new enterprise with new debt, in the form of 500,000 pounds of debentures bearing 6% interest. By 1902, widespread dissatisfaction among the original shareholders of Kaiping (who now included many foreigners) was reported.

Then... in November 1902, local Chinese managers raised the dragon flag... to honor the empress dowager’s birthday... foreign management... took down the Chinese flag.... This incident concentrated the baleful attention of Yuan Shih-kai, the major power not only in North China but in the empire by virtue of his command of the Beiyang Army and his position as commissioner for Chihli and Jehol.... Chang Yan-mao had tardily and incompletely memorialized the throne on the deal, the details of which, when they became known to Yuan Shih-kai, incensed him. Yuan demanded that Chang recover the properties for the empire. Remarkably, the throne accepted that the case be argued in the British courts.

The case went to trial in London in 1905 and apparently caused quite a sensation.... The trial revealed that the reconstitution of the company had left it gutted. Only 375,000 shares remained in the hands of the original shareholders. Most if not all of the balance of 625,000 shares had been distributed without compensation as promotional fees or as bonuses for the buyers of the new debentures.... The corporation, instead of being recapitalized, was encumbered with new debt. Little if any of the money from the debenture issue had actually reached Kaiping. On top of this, Hoover’s activities in violation of the joint management agreement he had concluded were fully aired, including some indiscreet remarks denigrating the China board.

Bewick, Moreing lost the case and was subjected to some pointed words from the bench. Hoover, both as partner in Bewick, Moreing and as the individual executing the skullduggery firsthand, was undeniably culpable.... Although the judge felt there were clear grounds for pursuing a criminal case against the individuals involved, in a piece of good news for Bewick, Moreing and Hoover, the Chinese government apparently had had enough of Western litigation....

For Hoover and Bewick, Moreing, the deleterious effects of the Kaiping debacle were minimal. Hoover left China, aged 27, as a partner in Bewick, Moreing, purportedly already wealthy, with a pocketful of Kaiping shares, and his career launched as a global financier involved in virtually every resource industry from tin to gold to petroleum. During the First World War he burnished his image as a benevolent, progressive, and supremely capable and honest captain of industry by orchestrating Belgian relief and the postwar food program....

When he entered political life, he employed sophisticated public relations efforts to achieve favorable coverage in the press. When he learned that anti-Hoover books were in preparation, Hoover did not limit himself to outraged rebuttals. He unleashed the FBI to perform background checks on the authors. His secretary, Lewis Strauss (later the spearhead in efforts to revoke Robert Oppenheimer’s security clearance) organized a burglary of one author’s office.... [Hoover's] agent went to England to secure all copies of the trial transcript to deny its contents to his enemies (at least one copy survives, in the library at Oxford). He concocted a story in which he himself was the protector of Chang Yanmao and Kaiping appearing in the case as a neutral witness, while in truth he had been instrumental in efforts to sideline Chang and the Chinese management, and had provided information useful to the prosecution only under cross-examination....

Last but not least, a campaign of denigration was launched against the spate of anti-Hoover books published in the early 1930s, which included The Rise of Herbert Hoover by Walter Liggett and The Strange Career of Mr. Hoover by John Hamill. These books are significant for how much they got right in the Kaiping case.... The case itself was mindnumbingly complex... addressed commercial matters and corporate obligations more than individual liability, [and] did not provide an easily identifiable "smoking gun"....

I came across The Rise of Herbert Hoover, by pioneering muckraker Walter Liggett, in a New England inn, courtesy of an interior decorator who bought used books by the case in order to give the lobby the look of a cozy library.... [Ellsworth] Carlson’s Harvard monograph, The Kaiping Mines (1877-1912), describes the events in detail, unravels the twisted financial machinations as much as possible, and concludes that “the greed and bad faith of Moreing and his associates in 1901 and 1902 [were] indisputable”. Nash... was recruited by the Herbert Hoover Presidential Library.... In a four-page footnote(pp. 656-9) in his “The Life of Herbert Hoover: The Engineer 1874-1914, Nash details Hoover’s efforts to secure all copies of the trial transcript and elicit testimonials.... Nash remarks that:

Hoover’s later explanations of his conduct in China often diverged from the account provided by the trial transcript and by documents entered in evidence at the trial.... Hoover’s role... was scarcely a peripheral or ‘accidental’ one.... As a key participant in the 1900-1901 transfer negotiations, his conduct was under severe scrutiny at the trial.... Nor did Hoover’s testimony really win the case for Chang Yen-mao.... Hoover’s later defenses also contained significant omissions.... In the 1920s... [t]he effort to block [Hoover's presidential] aspirations by ‘exposing’ his past is a largely untold story that came to involve some prominent members of both political parties. Under the circumstances it is not surprising that Hoover and his associates devised a defense that fit the requirements of political survival...

To the library!

Let Us Now Praise Famous Men

Alex Tabarrok directs our attention to the farmeres of Xiaogang:

Marginal Revolution: China and Industrial Policy: Brad goes over the top for Deng Xiaoping.... Without denying Deng's importance, I would say that China's great leap forward came with the death of Mao Zedong. Once Mao - quite possibly the greatest human killer of the twentieth century - was dead, China could almost not help but improve.... [T]he Chinese people, especially the peasant farmers, deserve a huge amount of credit.  Here's a couple of paragraphs I wrote recently:

The Great Leap Forward was a great leap backward - agricultural land was less productive in 1978 than it had been in 1949 when the communists took over.  In 1978, however, farmers in the village of Xiaogang held a secret meeting.  The farmers agreed to divide the communal land and assign it to individuals – each farmer had to produce a quota for the government but anything he or she produced in excess of the quota they would keep.  The agreement violated government policy and as a result the farmers also pledged that if any of them were to be jailed the others would raise their children.

The change from collective property rights to something closer to private property rights had an immediate effect, investment, work effort and productivity increased.  “You can’t be lazy when you work for your family and yourself,” said one of the farmers.

Word of the secret agreement leaked out and local bureaucrats cut off Xiaogang from fertilizer, seeds and pesticides.  But amazingly, before Xiaogang could be stopped, farmers in other villages also began to abandon collective property.

Deng and others in the central leadership are to be credited with recognizing a good thing when they saw it but it was the farmers in villages like Xiaogang that began China's second revolution.

Addendum: For the story of Xiaogang I draw on John McMillan's very good book, Reinventing the Bazaar.

Posted by Alex Tabarrok

Being Administrator of China's FDA Can Be Hazardous to Your Health

Kill the chicken to scare the monkey. Justin Rohrlich reports:

Minyanville - NEWS & VIEWS-Article: The Speedy Execution of Zheng Xiaoyu: China "proves" to the world that they’re serious about product safety. The Beijing No. 1 Intermediate People’s Court carried out the execution of Zheng Xiaoyu, the former head of China’s State Food and Drug Administration, yesterday. He was sentenced to death for taking $832,000 in bribes to approve drugs that led to at least ten deaths. 

China Daily said: “Zheng’s death sentence was unusually heavy, even for China, and likely indicates the leadership’s determination to confront the country’s dire product safety record. The unusually harsh sentence and its prompt enforcement reflect the resolve of Beijing to fight against corruption and ensure consumer (sic).” With the recent spate of recalled Chinese goods further tarnishing the export market upon which the country’s growing economy largely depends (China’s exports in June rose 27.1% year-on-year to $103.27 bln), the government set out to “prove” that they’re serious about product safety. The state-run Xinhua news agency estimates that more than 330 tons of fruit and vegetables, 131 tons of meat, 82 tons of seafood, 21 tons of cheese and 3 million bottles of beverages will be consumed during the 2008 Olympics in Beijing, and officials are desperate to stave off a quality-related disaster.

Though Zheng’s sentence was described as “unusually heavy,” China carries out more court-ordered executions than the rest of the world combined. The Globe and Mail of Canada quoted Chinese legal expert Liu Renwen as saying that China is executing about 8,000 people each year...

But who, exactly, is the monkey here? Is this for foreign consumption, or the beginning of a drive to seriously alter the incentives of domestic regulators? And how would this be accomplished--independent testing laboratories and grassroots riots in response to adulteration would not seem to be the direction that China's State Council would choose.

Bad News: Clinton and Obama Back China Crackdown

Eoin Callan of the Financial Times reports:

FT.com / In depth - Clinton and Obama back China crackdown: Hillary Clinton and Barack Obama, the frontrunners for the Democratic presidential nomination, have agreed to co-sponsor legislation that would levy punitive duties on Chinese goods to cajole Beijing into revaluing its currency, according to aides. The endorsement is a sign that trade with China is emerging as a hot political issue in the upcoming ­election and increases the prospect of the legislation passing with a veto-proof majority, analysts said.

The bipartisan legislation has been spurred by claims that China’s cheap currency makes its exports more attractive and is contributing to the record annual $232.6bn (£115.6bn) US trade deficit with the country. The early pledge to vote for the bill will strengthen the candidates’ claims to be defending US manufacturers against what they argue is unfair competition...

Of course, then the candidates will be attacking US consumers (who will pay higher prices for imports), workers in the construction industry, US borrowers (who will then pay higher interest rates to domestic and foreign creditors), and US homeowners (who will see the higher interest rates push down housing prices and reduce their equity). The net short-run effect is surely a minus--it's not as though we desperately need to swap construction jobs for manufacturing jobs right now, and we surely don't need a more-rapid decline in housing prices right now.

In the long run of three to five years, yes: The renminbi needs to become worth a lot more (primarily for China's sake). Pressure on China to adopt better policies is helpful (provided we don't shoot ourselves in the foot). But this strikes me as a classic threat to shoot ourselves in the foot: it is not a good policy move on either Obama's or Rodham Clinton's part.

Eoin Callan goes on:

A critical stance on US trade policy has become increasingly de rigueur for candidates as the Democratic presidential field tilts towards a populist stance on economic issues. The bill... would permit US companies to seek anti-dumping duties on Chinese imports based on the undervaluation of the currency....

Brian Pomper, a former Democratic adviser, said China was becoming a proxy for US political anxiety about globalisation and that sponsorship of the bill was the most combative position yet taken towards Beijing by the two candidates.Sandra Polaski, a trade analyst at the Carnegie Endowment, said US politicians were making China a scapegoat in the face of widespread economic insecurity among voters. “Opinion polls consistently show the American public has a balanced view of China. It is campaigning politicians who are turning the heat on Beijing,” she said...

China and Economic Growth: Hoisted from the Archives (What I Am Thinking About Right Now Department)

Hoisted from the archives: http://delong.typepad.com/sdj/2006/01/china_and_econo.html:

A somewhat different take on Ben Friedman's Moral Consequences of Economic Growth than the review I wrote for Harvard Magazine. Written for Caijing http://caijing.hexun.com/english/home.aspx:

---

Up until 8000 or so years ago, it was crystal-clear why humans should pursue greater wealth--understood as better spearheads, more knowledge of the local environment, and occupation and control of regions where game was abundant and nourishing plants plentiful. Back when our ancestors were hunter gatherers life was short--high infant mortality plus all the attendant risks of the hunting-and-gathering ecological niche--and quite brutish: low technological levels and being always on the move meant that levels of comfort were low, and the absence of literacy meant that the cultural depth and historical memory of the band could not grow very deep. Life before agriculture was not especially nasty: our hunter-gatherer ancestors were for the most part healthy, well-nourished, alert, and engaged for their short lives. But greater wealth for the band and the individual had very clear benefits: fewer of your babies died, you had a greater chance of living through the next winter, and you had a greater share of what comfort was attainable.

For all of the past 8000 years since the invention of agriculture, the benefits of pursuing greater wealth have been much, much greater than back in the hunter-gatherer days. For the vast majority of the human race, agriculture has been a poisoned cup. Malthusian population pressures have--until the last century or so--kept our numbers high enough relative to our technological expertise that the overwhelmingly large majority of humans have been close to the edge of starvation and well over the edge of malnutrition. If the typical adult male hunter-gatherer human grew to be 5'8", the typical adult male peasant-farmer human over the past several millennia has only grown to be 5'2"--or less. Here too the benefits of increasing wealth for the individual and the group are obvious: richer people have more food and a better diet; their children aren't as protein-deprived and so grow taller, stronger, and smarter; their ability to engage in conspicuous consumption via something as simple as having meat on the table gives them status and social power; plus they have access to the amazing depth of riches of human culture. The rich have enough food that they aren't hungry (and good-enough quality food that their brains and bodies can grow, and their immune systems remain strong), enough clothing that they aren't cold even in the winter, enough shelter that they are not wet, and enough literacy and access to culture that they are not bored.

We are still in the agricultural age, or, rather, many of us are still in the agricultural age, or--perhaps and we hope--we are about to exit from the agricultural age. Perhaps one billion humans today have lives that are effectively equivalent to those of our pre-industrial ancestors. Perhaps two billion have lives better than those of our pre-industrial ancestors, but not better enough: they are still, sometimes, hungry and malnourished; they are still, sometimes, cold; they are still, sometimes, wet; and they are often bored. But there are three billion of us whose children have life expectancies greater than seventy or more years, who are well-fed, who are warm, who are dry, and who if we are bored it is largely our own fault. We three billion vary enormously in wealth, from Bill Gates down to farmers growing watermelons under plastic sheets outside of Shanghai. We are all able to do the important things: live a healthy life, fall in love, make plans for the future, watch our children grow, and play status games with each other--status games in which everyone (except Bill Gates) is both a winner and a loser, for as one journalist who covers Silicon Valley's "post-economic" says, they quickly find that the problem with owning a Gulfstream 4 as your personal jet is that you start meeting people who own a Gulfstream 5.

Why then are we still focusing so much on economic growth--on making more and more things, and becoming richer and richer--when at least the most prosperous three billion of us have what we need? More than two centuries ago Adam Smith--in his first book, The Theory of Moral Sentiments--mused on the puzzle of the prosperous merchant who drives himself mercilessly and ruins his eyesight pouring over his accounts all so that he can sit in the sun at leisure in his old age. John Maynard Keynes thought that at least the most prosperous of countries were on the verge of a cultural transformation: he thought that his peers' great-grandchildren would pursue not wealth and accumulation but rather human excellence and the cultivation of mental and aesthetic faculties. Yet the pursuit of wealth continues.

One reason that we still pursue wealth is that we are, collectively, not yet wealthy enough. Half the human race is still desperately poor. But give it another century, and the whole world may well be rich enough to strike any of our agricultural-age ancestors as being a total material utopia. Will we still accumulate and strive to be richer then? The answer is that we will because we will be playing the relative-status games of conspicuous consumption: I am richer than you. But should we?

My old Harvard professor Benjamin Friedman has just written a book, The Moral Consequences of Economic Growth (New York: Knopf), which implies that we should still strive for economic growth and increasing wealth. He argues that the wiring of our brains is such that the process of becoming richer relative to the reference point provided by our parents and their peers has a large number of beneficial moral as well as material effects. First, there is the effect of wealth on whatever upper class a society happens to develop. It was John Maynard Keynes who wrote that it is a much better idea for somebody to tyrannize over his bank balance than over his neighbors. Adam Smith wrote in the Wealth of Nations about how the growing wealth of London made it attractive for the British aristocracy to abandon their feudal armies and private wars and move to London to take up positions in society and at court. A society that is growing richer will have an upper class that focuses on gaining stutus by demonstrating its wealth as power-over-nature, rather than demonstrating its power as power-over-people). Adam Smith wrote about how wealth. The senior cadres in the days of Mao Zedong's dotage struggled not to display their wealth and cultivation to each other but rather to display their power to move people around as if they were counters on some giant game board, to China's immense cost.

Friedman makes a powerful argument that—-politically and sociologically-—modern societies are like bicycles. As we all know, the laws of physics (specifically the conservation of angular momentum) make a bicycle extremely stable as long as its wheels are spinning fast and it is moving forward rapidly, but extremely unstable as it slows to a halt. Friedman argues that whenever the wheels of economic growth stop—-in the sense not even of a depression but just of stagnation--political democracy, individual liberty, and social tolerance are greatly at risk even in countries where they are well established, and even in countries where by any standard the absolute level of material prosperity remains high. If you want all kinds of non-economic good things, Friedman says--like openness of opportunity, tolerance, economic and social mobility, fairness, and political democracy--rapid economic growth makes it much, much easier to get them.

Consider, for example the case of Japan during the Great Depression in the 1930s. Rising unemployment and declining incomes in Japan in the 1930s certainly played a major role in the assassinations and coups by which that country, which was a functioning constitutional monarchy with representative institutions and a government focused on economic development in 1930, to a fascist military dictatorship by 1937--a dictatorship that could be dragged into a major attack on China by the initiative of relatively low-ranking military officers in the region of China that they had occupied and called the puppet state of Manchukuo. In western Europe the calculus is equally simple: had there been no Great Depression in Germany in the 1930s, there would have been no Adolf Hitler in power, no Nazi dictatorship, and forty million fewer Europeans would have murdered in the 1940s. The saddest book on my shelf is a 1928 volume called Republican Germany: An Economic and Political Survey, the thesis of which is that after a decade of post-World War I political turmoil, Germany had finally become a stable, legitimate, democratic republic. And only the fact that the Great Depression came and offered Hitler his opportunity made it wrong.

We are all very fortunate that we live in a world in which the great powers of 1940 took action--even if their action was much too long delayed and much to hesistant--to destroy the German Nazi and Japanese Fascist-Militarist regimes. Winston Churchill's pushing British Prime Minister Neville Chamberlain and French Premier Edouard Daladier to declare war on Nazi Germany in 1939, and Franklin Delano Roosevelt's ultimatum to Japan to withdraw its military from China or face a complete embargo on exports of oil from the United States, the Middle East, and Indonesia were acts of great statesmanship in pursuit of world peace. But would World War II have taken place in the absence of the Great Depression? Probably not?

Even in the United States--where we Americans believe that our political democracy and obedience to the order of law are unshakeable--the 1930s were a politically tumultuous decade. The story of Huey Long in Louisiana (fictionalized in Robert Penn Warren's brilliant novel All the Kings Men, crypto-fascist radio broadcasters like Father Coughlin over the airwaves, California's treatment of Depression-era migrants from other states that we read about today only in The Grapes of Wrath, and the white-hot hatred for Roosevelt as a class traitor--up until his dying day, my grandfather who lived to be 98 would still say the country was lucky to have survived Roosevelt.

And, of course, I draw powerful lessons from Friedman's argument. I consider that there are some today in Washington who look forward to a future in which China is in some sense America's "enemy" and that "national greatness" requires that the United States fight a new Cold War in Asia. There are those who work for Vice President Cheney's office who think that trade with China is a bad idea: it creates a pro-China lobby that will stop any attempts by the United States to slow down China's growth and acquisition of technology. Better, they think, to try to keep China as poor and barefoot as possible for as long as possible.

From my perspective, this is totally insane. In all likelihood, China a century from now will be a full-fledged post-industrial superpower whatever the policies of the United States. The national interest of the United Staets is to maximize the likelihood that that superpower will have a representative government presiding over a prosperous, open, and free society? The China policy of the Clinton administration was to try to do whatever we could to speed China's growth in the expectation that rapid economic growth would have greatly beneficial moral, sociological, and political consequences for the evolution of China. As sociologist Barrington Moore wrote two generations ago, those countries that crossed the bridge from agrarian to industrial civilization most easily and peaceully were those with a rapidly growing, prosperous middle class will be interested in liberty and opportunity. Such a rapidly-growing Chinese middle class would be a much more powerful force for prosperity, opportunity, freedom of thought, and representative government in China than a battalion of lecturing neoconservative think-tankers in Washington D.C. or a host of remotely-guided cruise missiles on U.S. warships based in Pearl Harbor.

Let's all try to keep the bicycle that is modern China moving forward as fast as we can.

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Triggered by http://www.thomaspmbarnett.com/weblog/2007/07/neocons_chinese_target_old_new.html and http://jamesfallows.theatlantic.com/archives/2007/07/gary_hart_lynne_cheney_and_war.php

What Is the China Policy of "Team Bush"?

Daniel Drezner praises "Team Bush."

danieldrezner.com :: Daniel W. Drezner :: A post I knew I'd have to write sometime before January 2009: Here are ten policies that team Bush implemented that I would qualify as a) important; b) constructive; c) not simply a continuation of prior policies; and d) not guaranteed to persist in their current form or at current funding levels past 2009....

(2) The Strategic Economic Dialogue with China...

(8) Trying to cut China and India into existing global institutions....

None of this outweighs the screw-ups in Iraq or New Orleans. But they are policies that suggest Hiatt has a small point. Reflexively rejecting a Bush policy only because Bush proposed it is as stupid as... as.... rejecting Bill Clinton's policies because Clinton favored them (which is pretty much what the Bushies did when they took office in 2001).

The problem, of course, is that constructive engagement with China is not the policy of "Team Bush" but rather the policy of "Team Paulson" or "Team State Department" or "Team Reality-Based Interest Groups." The China policy of "Team Bush" was and is Cold War followed by Hot War--but fortunately they got distracted by other things:

James Fallows Anecdote of the day (from Gary Hart, at Aspen): I don’t know any other major political figure who has been as right about as many national-security matters, as consistently, and as early, as Gary Hart has been. I’m thinking about his role in creating and leading the Congressional “military reform caucus” in the 1980s. But I know that the most famous illustration in most people’s minds is his role as co-chair of the “U.S. Commission on National Security in the 21st Century,” aka the Hart-Rudman Commission.

Early in 2001, the commission presented a report to the incoming G.W. Bush administration warning that terrorism would be the nation’s greatest national security problem, and saying that unless the United States took proper protective measures a terrorist attack was likely within its borders. Neither the president nor the vice president nor any other senior official from the new administration took time to meet with the commission members or hear about their findings....

Hart told me that in the first few meetings, commission members would go around the room and volunteer their ideas about the nation’s greatest vulnerabilities, most urgent needs, and so on. At the first meeting, one Republican woman on the commission said that the overwhelming threat was from China. Sooner or later the U.S. would end up in a military showdown with the Chinese Communists. There was no avoiding it, and we would only make ourselves weaker by waiting. No one else spoke up in support.

The same thing happened at the second meeting — discussion from other commissioners about terrorism, nuclear proliferation, anarchy of failed states, etc, and then this one woman warning about the looming Chinese menace. And the third meeting too. Perhaps more.

Finally, in frustration, this woman left the commission.

“Her name was Lynne Cheney,” Hart said. “I am convinced that if it had not been for 9/11, we would be in a military showdown with China today.” Not because of what China was doing, threatening, or intending, he made clear, but because of the assumptions the Administration brought with it when taking office. (My impression is that Chinese leaders know this too, which is why there are relatively few complaints from China about the Iraq war. They know that it got the U.S. off China’s back!)

Lee Hamilton, who had also been on the commission, was sitting at the same lunch table and backed up Hart’s story. Another chapter in the annals of missed opportunities in recent years.

The Undervaluation of the RMB

Brad Setser:

RGE - The Economist still isn't convinced the RMB is undervalued ...:Half a trillion dollars apparently doesn't get the respect it used to. Neither the author of last week’s Economics Focus column nor Morgan Stanley’s Stephen Jen think that the Chinese yuan (or RMB) is undervalued, despite annual reserve growth that would have been around $350b last year but for $100b or so of debt purchased by Chinese state institutions and that could approach $500b this year. The Economist, for all its free market barnstorming, apparently doesn’t mind massive government intervention in the foreign exchange market – intervention that necessarily means governments will be big players in a host of asset markets.

Indeed, it often seems that the larger China’s current account surplus (it looks set to rise above 12% of China’s 2006 GDP), the faster China’s reserve growth, the faster Chinese exports growth (30% y/y in the latest data) and the more net exports contribute to growth (2-3% of GDP in q1, about the same as in 2006), the more the Economist (and, to be fair, some economists) insists that China’s exchange rate isn’t truly undervalued. 

The Economist includes many different voices. This week's leader on the lessons from the 1997 crisis includes a welcome call for China to let its exchange rate move more.  But I think it is fair to argue that its main editorial line consistently has emphasized that the RMB isn’t obviously undervalued even as China's trade surplus soars -- while suggesting that other currencies (the Saudi riyal, the Japanese yen) are....

[R]ather than encouraging China to mark the RMB to market, the last week's Economist argues we should all mark the RMB to a model, and specifically to a behavioral equilibrium exchange rate model.   Fair enough.  But marking-to-model poses its own risks, not the least the challenge of picking the right model.  I cannot quite figure out what a behavioral equilibrium exchange model tells us about the currency of a country that manages its exchange rate as heavily as China.   Movements in China’s real exchange rate clearly have been shaped more by central bank policy – notably the dollar peg – rather anything else. 

The behavioral equilibrium exchange rate approach – at least as I understand – says that it is impossible to determine whether an exchange rate is under or over-valued based on macroeconomic fundamentals, so it is better to instead to try to find variables that help explain how the country’s real exchange rate has moved in the past:  "This [approach] does not attempt to define long-term economic equilibrium. Instead it analyses which economic variables, such as productivity growth, net foreign assets and the terms of trade, seem to have determined an exchange rate in the past, and then uses the current values of those variables to estimate a currency's correct value."

Given China’s policy decision to peg to the dollar, though, the variable that will appear to drive movements in China’s real exchange rate will be the variable that moves when the dollar moves. If a weaker dollar leads to higher net foreign asset growth (because it produces a weaker RMB), the model might argue that the even higher foreign asset growth implies an even weaker RMB....

I do not doubt that determining whether or not a currency is misaligned is difficult – and different models produce different results.  But some cases are easier than others.  $500b [a year] in intervention does provide a bit of a clue...

Does China's Exchange-Rate Policy Matter?

Over at the Wall Street Journal's op-ed page, Matthew Slaughter says that Americans should not care about the magnitude of reserve asset purchases by the People's Bank of China or about the level of the PBoC's peg of the yuan to the dollar. These policy actions, Slaughter says, are not connected with the large and growing American goods-and-services trade deficit vis-a-vis China: "Economic theory and data are very clear.... [This] has no long-run effect on real economic outcoems such as output and trade flows."

Yuan Worries: Fact 1: China runs a large and growing trade surplus with the United States. In 2006, the goods-trade surplus exceeded $232 billion. This was an increase from 2005 of $31 billion, an amount larger than the entire deficit just 12 years ago. Fact 2: China focuses its monetary policy on fixing the exchange value of its currency, the yuan, relative to the U.S. dollar.

Many policymakers and pundits connect these two facts by asserting that an unfairly low value of the dollar-yuan peg is causing the massive bilateral trade imbalance. The 109th Congress introduced 27 pieces of anti-China trade legislation. The current Congress already has over a dozen such bills, many aiming to force an overhaul of China's exchange-rate regime. And late last week dozens of House members were poised to file a Section 301 petition, asking the U.S. Trade Representative to investigate undervaluation of the Chinese yuan.

These misgivings about the dollar-yuan peg are misplaced. Economic theory and data are very clear here on two critical points. Controlling a nominal exchange rate is a form of sovereign monetary policy. And monetary policy, in turn, has no long-run effect on real economic outcomes such as output and trade flows...

And Greg Mankiw applauds Slaughter:

Greg Mankiw's Blog: Slaughter on the Yuan: The dollar-yuan exchange rate is an economic fetish of many people unschooled in basic economics (a topic previously discussed here.) In today's Wall Street Journal (subscription required), Dartmouth economist Matthew Slaughter, fresh from a stint at the CEA, tries to bring some rationality to the issue...

This sends both Milton Friedman and John Maynard Keynes spinning in their graves: Uncle Milton because the thing he disliked most about his successors at Chicago was their claim of "policy irrelevance"--that as long as monetary (including exchange rate) policy was predictable, it didn't matter what it was: production and employment and saving would be the same--which is the claim that Matthew Slaughter is making here. And Uncle Maynard for the same substantive reasons, although he put it more strongly because he was a more forceful debater than Milton Friedman:

Keynes: Tract on Monetary Reform: Now "in the long run" this is probably true. If, after the American Civil War, the American dollar had been stabilized... ten per cent below its present value... [the American money stock today] and [the American price level today] would now be just ten per cent greater than they actually are [with no effect on production and empo.... But this long run is a misleading guide to current affairs. In the long run we are all dead. Economists set themselves too easy, too useless a task if in tempestuous seasons they can only tell us that when the storm is long past the ocean is flat again.

In actual experience, a[ny] change in [monetary or exchange rate policy] is liable to have a reaction both on [the velocity of money] and on [production and employment]...

For the details, because I have been slow in weblogging today I can simply turn the microphone over to the mysterious and vowelless knzn:

Economics and...: Aaaargh!!! (Slaughter on China): Why do economists writing about China pretend not to know the difference between sterilized and non-sterilized [foreign exchange] intervention [policy]? We've been through this before, but the latest case in point is Matthew Slaughter, writing in the Wall Street Journal (and cited uncritically by Greg Mankiw and Mark Thoma).... [I]f the central bank is truly trying to "control one nominal price" with "sovereign monetary policy" the level of [foreign exchange] reserves should not show a dramatic trend over time. As its level of foreign reserves increases, the central bank should recognize the increased demand for money and satisfy that demand by adding domestic reserves to the banking system. That's the way "monetary policy" works.

What the People's Bank of China is doing is something quite different. Even as it maintains its effective dollar peg, it is attempting to cool the economy by raising interest rates. It is not controlling "one nominal price"; rather, it is attempting (with limited success) to control two things at once. It is trying to keep exports strong by keeping the currency weak, and at the same time, it is trying to reduce domestic demand by tightening domestic monetary policy. As a result, it is accumulating a huge, huge, huge quantity of dollar-denominated assets, and this rate of accumulation is clear evidence of a policy conflict...

This policy conflict could end in one of several ways:

1. A sudden large burst of inflation in China, as the PBoC finds that it can no longer maintain both the current exchange-rate peg and a stable effective money stock, and sacrifices the second to the first.
2. A sudden large rise in the value of the yuan, as the PBoC finds that it can no longer maintain both the current exchange-rate peg and a stable effective money stock, and sacrifices the first to the second.
3. Slow and gradual versions of (1) and (2) as holders of nominal yuan assets in the first case and nominal dollar assets in the second let their wealth be gradually but substantially be eroded without ever taking steps to cut their losses.
4. Something more unpleasant.

It's frustrating: Matthew Slaughter's assertions are based on his assumption that full long-run monetary and price-level adjustment has already taken place, yet the pace and magnitude of Chiana's reserve accumulation (and Japan's) are very strong signs that the PBoC and the BoJ are blocking monetary and price-level adjustment--and that is the problem. To state that if we assume that the problem doesn't exist then we conclude we don't have a problem is just not very helpful. And not one in a hundred readers of the WSJ op-ed page will be able to diagnose just how Slaughter's piece is a misleading tautology.

Thomas P.M. Barnett Is Unhappy with the Fearmongers

He writes, apropos of those who seek to embroil the United States in a new Cold War with China:

An overwrought, ideologically myopic argument (Thomas P.M. Barnett :: Weblog): "THE CHINA CHALLENGE: A Shining Model of Wealth Without Liberty," By James Mann.... An overwrought argument from Mann, who specializes in them. China is no "new" model or threat. It follows the model of Singapore, and before that South Korea, and before that Japan: a single-party state that bases almost all of its legitimacy on rising income and development through export-driven growth. It is a self-liquidating model: eventually the society wants more political freedom to go with that wealth. China's just so fricking huge and so poor that this process isn't going fast enough for Mann--hence the inevitable "threat."

Mann recognizes neither those past examples nor the significant economic and personal freedoms unleashed inside China over the past quarter century. His Z not having been reached fast enough, he discounts all movement from A since the bizarre depths of Mao's cultural revolution, which is no more distant politically than our Vietnam.... As for our take on it, we should logically welcome any so-called model that promotes external economic connectivity, because we know where that goes historically (i.e., where Japan and South Korea finally ended up: creating political freedoms that match their system's potential--something that took us a while to achieve as well).... China's path is but a steppingstone to outcomes we naturally seek. I mean, crawling might be described as an alternative to walking, but only until you're able to walk, then it suddenly seems like a passing phase.

China's "model"... is about transforming a hugely rural, impoverished, disconnected society (one-sixth of humanity) into an urban, consumeristic, connected one. Once achieved, and China is nowhere near that at this time, with well over half its population still living in very Gap-like conditions, then its model self-liquidates that all before it. China's future leaders know this, so do our smart observers. Mann ain't one of the them...

Peace and Order Reign on the River

One of the greatest surviving artworks from 900 years ago. At wikipedia: http://upload.wikimedia.org/wikipedia/commons/thumb/3/32/Along_the_River_7-119-3.jpg/15000px-Along_the_River_7-119-3.jpg:

Wikipedia: Qīngmíng Shànghé Tú: [G]enerally attributed to the Song Dynasty artist, Zhang Zeduan (1085-1145) [Chang Tse-tuan]. The painting captures the daily life of people from the Song period at the capital, Bianjing (near today's Kaifeng)... painted in handscroll format and the content reveals the lifestyle of all levels of the society (from rich to poor) as well as different economic activities in rural areas and the city. It offers glimpse of the clothing and architecture during the period. As an artistic creation, the piece has been revered, and court artists of subsequent dynasties have made several reproductions.

Yingyi Qian, eight doors north along the west side of the 6th floor of Evans, showed this to the Group of 30 Consultative Group on International Economic and Monetary Affairs when he flew to Hangzhou for the weekend to address them. Hangzhou is lovely this time of year--850 years ago it was the biggest city in the world, with a population of perhaps a million, exhibiting what was then the world's most advanced techologies (silk manufacture, high-quality dyes, triple-cropped rice, printing, gunpowder, the compass, advanced cast and wrought iron), perched next to the geoengineering project that is West Lake. But they gave him only ten minutes.

He talked about how 900 years ago China was the most technologically-advanced and politically-well-organized region in the world, producing as much iron then as Britain did in 1750, having as large a share of production traded and marketed as Britain did in 1750, and producing ten times as much food and timber as Britain did in 1750. He talked about how Chinese living standards at the end of the Cultural Revolution were no higher, we guess, than in 1107. He talked how between the Mongol invasions of the early thirteenth century and 1975 China developed little technology, and was very slow to adopt technologies from outside.

And he talked about East Asian industrialization: How Japan, Korea, Taiwan, Malaysia, Thailand, China, and Vietnam look very much as though they are walking the same road, the principal difference being that each started at a different moment: Korea in 1960, China in 1978.

James Galbraith Pleads for a Reality-Based Left-Wing Trade Policy

He writes, in the American Prospect:

Why Populists Need to Re-think Trade | The American Prospect: Senators Byron Dorgan and Sherrod Brown articulated a trade policy that typifies the consensus view of the party's labor-liberal wing. They criticize "free trade," call for strong labor and environmental standards in future trade agreements, and argue for aggressive policies to open foreign markets to American goods. Their critique reflects a genuine anger, and the concerns their piece embodies deserve to be met. Their program is populist, nationalist, muscular, and in tune with the mood of the Democratic base.

But it is not reality-based. As policy, it would not achieve the senators' basic objective -- namely, more jobs at higher wages in the United States. As politics, the danger is not that it will fail but that it might succeed. And then, progressives in power will repeat the pattern that conservatives set in 1981, pushing a program based on high expectations and illusions that ends in confusion, reversals, defeats, and an eventual lapse into incoherence and disrepute....

Dorgan and Brown open their essay with a reference to "job-killing trade agreements," such as NAFTA and CAFTA. But these, as they quickly argue, are not really the issue. The larger problem is globalization itself:

The new mobility of capital and technology, coupled with the revolution in information technology, makes production of goods possible throughout much of the world. But much of the world at the beginning of the 21st century looks a lot like the United States did 100 years ago: Workers are grossly underpaid, exploited and abused, and they have virtually no rights. Many, including children, work 10, 12, 14 hours a day, six or seven days a week, for only a few dollars a day. The result has been a global race to the bottom as corporations troll the world for the cheapest labor, the fewest health, safety and environmental regulations, and the governments most unfriendly to labor rights.

This grim portrait is basically true to life, as a description of "much of the world." But it is not a description of America's main trading partners. And therefore, it is not of much use in discussing policies related to trade. Three of our five largest trading partners are Canada, Japan, and the European Union (Germany, France and the UK are all individually in the top ten). All have average wages nearly as high as ours, and higher in some cases. All have stronger unions, higher labor standards, and better job protections, than we do. All have universal health insurance. All have reasonably strong environmental policies. The Dorgan-Brown critique doesn't apply to them.

Mexico is another large partner, with lower wages, vast slums, and severe environmental problems. But U.S. corporations do not "troll the world" before deciding to produce in Mexico. They go there because it's the low-wage country that happens to be right next door. There is nothing any trade policy can do about that; Mexico exists, and isn't going to move.

Of our five largest trading partners, only China qualifies as a place where manufacturing labor is readily available for "a few dollars a day" and whose status as our trading partner appears to depend on that fact. So it is at China -- perhaps alongside minor trading partners such as India and those in the Caribbean Basin -- that the Dorgan-Brown argument is basically aimed.

So let's look closely at China, the target of so much hostility in the trade debates. There are two questions to ask. First, do we have a "China trade problem?" And second, would tough new standards, applied to China, make any difference to the wages, jobs, or well-being of American workers?... China is a vast country.... [M]illions migrate to the cities to escape rural poverty. Working conditions... are dirty and dangerous. Pollution is severe. And China has a large prison population, which is obliged to labor.

But... remote regions do not participate in the export trade.... Exports of goods made in prisons have been banned, by mutual agreement, since the early 1990s. Chinese exporters are located, mainly, in the major cities and along the coast: Guangdong, Shanghai, Zhejiang, Fuzhou... Shenzen (near Hong Kong) and Zhuhai (near Macau). When we speak of working conditions in China, it is conditions there, and not in the countryside or out in the West, that matter.... [E]ven in these regions, the dollar cost of hiring workers in China is very low. But the implication almost always drawn from the fact of low dollar wages -- that Chinese workers live lives of abject misery -- is false. For the dollar cost of hiring a worker tells very little about the conditions of life. Wages in urban China are indeed low, but living costs are incredibly low. Food, clothing, basic shelter, and utilities cost very little, with the result that people are largely housed, clothed, and fed. Children are mostly in school. Cars are still rare -- but they are also unnecessary for most people. Small luxuries, on the other hand, are common. (The country has over 400 million cell phones; what does that tell you?)

All in all -- speaking as someone who spent six weeks living there late last year, with two daughters attending the public schools -- living standards in urban and coastal China, the trading region, are higher, not lower, than in "much of the [developing] world."... Moreover, most people in Chinese cities are not manufacturing workers... are better paid than workers in manufacturing.... Well then, is China's urban prosperity built on its rural poverty? Yes, to a degree. But this is the way of the world. We're no exception: We rape our land, strip-mine our coal, and buy oil from desperately poor countries where life never seems to improve. Should we refuse to import from China because coal is mined there dangerously? Perhaps, but then we shouldn't import oil from Nigeria, either, or from Ecuador. Wisely, Dorgan and Brown don't make that argument. Instead, they focus on the working conditions of those workers who produce, more or less directly, the goods we purchase.

The populist remedy for low-wage competition is to impose standards -- labor standards and environmental standards -- on the companies who employ them. Though Brown and Dorgan are not specific on the point, their emphasis on pay suggests they would favor standards for pay -- not based on U.S. wage levels, surely, but on some relevant measure of abuse and exploitation in the trading partner. As noted, such a policy would have no effect on Canada, Japan, or Europe, and therefore none on half or more of our total trade. But it could hit hard on trade with China, and one has to presume that is the intent....

[H]here's the hard question: Leaving aside whether standards work as advertised, are they good tools for "getting the job done?" Would, in other words, it be a good idea to impede or block Chinese exports to the United States -- whether through labor or environmental standards or some other trick? Should we support Senator Chuck Schumer, in his demand that China either revalue its currency sharply or face a prohibitive tariff on its textiles? In short, is the China trade something that is bad for America and American workers, and that we should be looking to reduce?...

Here are three reasons why not:

First, blocking trade with China would... cause Japan, or Taiwan, or Korea, or American multinationals to shift their out-sourcing from China to some other low-wage country, such as Vietnam.... Second, if blocking Chinese exports to the United States really did cut into our imports overall, that would raise prices and lower real wages here, especially for the lowest-wage Americans who rely most on cheap imports to meet their budgets. The higher prices would show up as inflation, prompting higher interest rates from Ben Bernanke's Federal Reserve. Blocking inexpensive imports creates a transfer, in other words, from low-wage Americans working to bankers and investors. Is this what populists want?

Third, there would be retaliation. China is an enormous market, especially for advanced U.S. products such as aircraft. Those sales could, and very likely would, shift to Europe....

China's dominance of the world market for low-wage manufactured exports is a problem. But it is a problem for Malaysia, Thailand, the Philippines, and other low-wage countries. It is not a problem whose solution would help American workers. And wage standards, in any form, are not a solution to competition from China. If they are not a solution to the China problem, and hardly apply to any trade woes we may have with Europe, Canada, and Japan -- what's the point?

Where did the emphasis on standards in trade agreements come from? Of course it's an outgrowth of the NAFTA debate twelve years ago. So it's to NAFTA we should turn now.... NAFTA was never a pro-worker deal. As Dorgan and Brown correctly say in their December op-ed, the intent was to open Mexico to U.S. finance and insurance as well as farm, pharmaceutical, machinery exports, and to protect the rights of investors. In return, Mexican elites wanted, and got, closer financial cooperation from the U.S. Treasury in times of crisis. Overall, the effect on Mexican factory workers was hard and the effect on Mexican farmers was even harder.

But NAFTA was not a "job-killer" for Americans.... NAFTA made almost no difference to the tariff treatment of Mexican goods entering the United States. Tariff rates on Mexican exports to the U.S. averaged around three percent, and many goods (under the old maquiladora program) entered duty free. Manufactures trade from Mexico to the United States took off in the wake of the debt crisis, and was already booming before NAFTA.

Did jobs leave the United States to take advantage of cheaper Mexican labor? Of course, some did. Were American workers pressured to cut wages, because of Mexican competition? Of course, some were. But that happened because of Mexico, not because of NAFTA. Mexico would not disappear if NAFTA did. From the standpoint of American workers, NAFTA and its successors are just scapegoats. The fact is, China has since passed Mexico as the prime out-sourcing threat, even though we have no "free trade" agreement with China.

NAFTA will continue to have big effects on farmers. Mexico used to have a strongly protected population of maize farmers; NAFTA put an end to that and opened Mexican markets to U.S. corn. The result was predictable: as the food moved South, the people who used to produce it moved North. If any single point of NAFTA should be reconsidered, it's whether we really want to force Mexico's farm market completely open. But these are migration and farm policy issues, which have nothing to do with the fate of industrial employment in the United States.

As for CAFTA -- the Central American Free Trade Agreement -- that agreement contains numerous predatory provisions, abusing the power of North American monopolies (especially in drugs) to maintain and extend their patent protections in these small and low-income markets. It contains the same disruptive provisions in agriculture: More exports from the United States, more immigrants coming back. CAFTA is, in short, a bad idea. Central Americans only accepted it because otherwise they might have lost the trade access to U.S. markets they presently enjoy. But the manufacturing provisions are trivial, and the same is true of trade deals with Singapore, Bahrain, Jordan, and other actual or proposed FTAs.

In short, populists need to... move beyond the lines of argument established in that [NAFTA] debate.... Some of the successor agreements should still be resisted, on grounds directly related to their actual provisions, which are rapacious and predatory. But these have little or nothing to do with the future of employment and wages in the United States....

China's trade surplus with us... China buys food and fuel [and intermediate goods] from other countries.... It [usually] runs a surplus with us... to pay for these imports [from other countries].... [W]hat about the overall U.S. trade deficit -- now running, as Dorgan and Brown state, at a staggering $800 billion per year? Many economists believe this figure is unsustainable per se. I respect their view, and they could be right. But they also could be wrong.... [O]ther countries, for reasons of their own, have wanted to anchor their financial portfolios in U.S. Treasury bonds. Those bonds are costly to hold. They represent a real use of resources that could otherwise be put to buying imports and helping developing economies to grow. But the decision to hold them is the decision of other countries, not ours. There is just about nothing that we can do about it. And there isn't much we should want to do about it, either. In short, our trade deficit is what it is, not because of our material weakness, but because of our financial strength.

Is the system risky? Yes, it is. Could our bond holders, notably China, panic? Could they act to cut us off for political reasons, such as a crisis over Taiwan? Or even Iran? Yes, they could. Could our currency collapse? Yes, those things are possible. The system, hugely favorable to us though it is, is fragile and dangerous. But those are financial risks. They have nothing to do with trade agreements. No trade policy aimed at any one country or at the trade deficit itself is going to reduce the financial risks. A policy aimed at hurting China could, on the other hand, increase them. Buying euros and dumping dollars is an easy Chinese reply to a decision, on our part, to squeeze their exports to us....

The populist objective is to raise American wages, create American jobs, and increase the fairness and security of our economic system. In that sense, I am, and have always been, a populist’s populist. The best way to achieve these things, let me suggest, is to do them -- directly. Nothing in our trading system prevents this. In fact, our privileged financial position ought to make it comparatively easy. Seen in this light, the Chinese willingness to supply us with cheap goods is a magnificent gift. It means we can truly have full employment without inflation....

Suppose that instead of building a trade policy to help with wages, we built a wages policy to help with trade. Does that sound far-fetched? It isn't. If you did that, you would have what economists call the Scandinavian Model. The Scandinavian countries are egalitarian. They have universal unions, high minimum wages, and a strong welfare state. But they also are highly open. They practice free trade. Business there is free to import, export, and outsource. Business there is free to hire and fire. And yet the Scandinavians enjoy, most of the time, the lowest unemployment rates in Europe.

The secret is in the wages. If you are a business in Sweden or Norway, there is one thing you are not free to do. You are not free to cut your wages. You are not free to compete by going after cut-rate workers, either native or immigrant. You are not free to undercut the union rate. Successful businesses must, therefore, find other ways to compete. They do it by keeping productivity high. This means that advanced industries thrive in Scandinavia, while backward ones die out. (And that progressive businessmen prosper, while reactionaries fade away.) As a result, the economies stay competitive. The tax and welfare systems then make sure that everyone has enough to live on.

We are not Sweden or Norway -- we are much larger and will always be much more diverse -- but the economic principles are exactly the same. And we have, in fact, applied them in the past... through unions, laws, regulations and, yes, standards. But the standards weren't imposed on other people. They were imposed at home, where they can be enforced -- and the rest of the world adjusted to what we did here. The problem, in short, is not foreigners and trade. The big problem is simply that unions, laws, regulations, and standards have been undercut by conservative policymakers, right here at home.... This is a reality-based populism. Our goal should be shared prosperity through egalitarian growth, based on our own efforts and imagination. Let's therefore stop scapegoating the Mexicans and the Chinese, and accept that they must have their role, which they will largely determine by their own actions, in the world in which we all live. Let's also stop talking obsessively about trade agreements with tiny countries that don't really matter much. Let's concentrate, instead, on getting things right for workers right here. Let's raise wages, create jobs, support unions, deliver services -- and especially, let's cut the inequalities in our structure of pay...

Brad Setser on Continued Increased Foreign Central Bank Demand for Dollar Assets

Foreign central banks continue to raise their bets on the future strength of the dollar. Brad Setser reports:

RGE - Still going strong (Bretton Woods 2): I watch the data on global reserve growth rather closely. But I was still surprised to see (via Global Liquidity Blog) the scale of the growth in the Fed's custodial holdings so far in the first quarter. Since December 27, the securities the Fed holds on behalf of foreign central banks have increased by $123.8b.... Annualized, it works out to a stronger increase than in 2004, back when Japan seemed to be buying every Treasury note the US government issued. And the Fed data just covers the securities -- the safe securities -- held by the Fed. Central banks also hold Treasuries and Agencies through private custodians. They have dollars on deposit in the US. They have dollars on deposit outside of the US. They hold "private" mortgage backed securities (especially the PBoC). They hold corporate bonds (though not very many) and so on.

Stephen Jen puts global reserve growth at $75-80b a month, which seems about right to me.... That is roughly a $1 trillion annual pace, nearly all from the emerging world. There shouldn't be much doubt left over who finances the US current account deficit.

Mohammed El-Erian and Michael Spence... argue that the rise in US consumption is a natural consequence of the rapid increase in the value of US assets over the past few years -- along with the emerging world's willingness to finance the resulting US deficit. The uphill flow of capital, in turn, explains most recent asset market conundrums (“excessive compression in risk spreads, the unusual collapse in market volatility, the inverted shape of the U.S. yield curve”).

I basically agree. But I am not sure, though, that the story really starts with an increase in the value of US housing stock, which in turn leads US households to naturally want to consume more.... [M]y telling of the story would put a bit more emphasis on exchange rates – and how the impact of dollar pegs on emerging economies changed when the Fed cut US policy rates and the dollars started to tumble in 2002. Asian currencies -- as Jon Anderson has demonstrated -- still track the dollar closely. So the change in the dollar's trajectory against Europe had a big impact on Asia, not just on the US...

Back when Jeff Sachs, Rudi Dornbusch, and Charlie Kindleberger taught me this stuff, they told me that processes like this couldn't go on for very long because the country whose reserves were being accumulated would be increasingly viewed as likely to be unstable, and no central banker would want to have to explain to his or her political masters just why their foreign exchange reserve portfolio had lost half of its value. Yet this doesn't seem to be something that is worrying the BoJ or the PBoC right now.

It's a remarkable mystery.

The Monetary Economics of China

Guesses:

Rough Orders of Magnitude:

• China's money stock (M2) is equal to 200% of annual marketed GDP--close to $4 trillion, RMB 30 trillion--and is expanding at about 17% per year...
• China's monetary base is roughly 20% of annual marketed GDP--close to $400 billion, RMB 3 trillion--and is expanding at about 17% per year...
• China's annual marketed GDP is currently about $2 trillion, RMB 16 trillion--and is growing at about 10% per year...
• China's liquid foreign assets are roughly 60% of annual marketed GDP--$1.2 trillion, RMB 10 trillion--and are growing at $400 billilon, RMB 3 trillion a year...

The current configuration appears to be that China's exporters pile up a net trade surplus of RMB 3 trillion a year in foreign currency, which the central bank buys for RMB in order to maintain the exchange rate value it wishes. The exporters than deposit this cash RMB 3 trillion a year in the banks of Shanghai. The People's Bank of China then buys RMB 2.5 trillion of this cash for 3% not-very-tradeable bonds plus a promise of future capital injections should the banks get into trouble as long as they play ball, leaving RMB 500 billion to increase the monetary base and so support the growth of M2...

What Does the Banking Sector Look Like?

• Liabilities (deposits) of RMB 30 trillion...
• Assets
  • Reserves of RMB 3 trillion
  • Non-marketable low-interest state bonds of RMB 10 trillion
  • RMB 17 trillion in loans and private bonds...