China Financial Markets which is written by Michael Pettis has an intriguing post on the death of the Asian development model.
Here is how Pettis describes the model:
As I see it the Asian development model involves polices that aim directly or indirectly at boosting savings and channeling huge amounts of subsidized resources (usually subsidized by savers, and so constraining consumption) into investment and manufacturing capacity.Some people call this mercantilism, and in many ways it does correspond to certain classic mercantilist policies, but I am wary of defining it this way because “mercantilism” is such a loaded word.
China, Japan, Korea and many other countries have successfully employed this model over the past several decades and have seen their economies grow exponentially. Mr. Pettis is of the opinion that the current fiscal policies in China are pushing the country towards ever greater reliance on the model at the expense of developing domestic consumption.
So why does he think the Asian development model is a goner? His thesis, and it’s pretty obvious, is that without external demand the model doesn’t work since production of goods in a country with an underdeveloped consumer sector either has to export or produce increasing quantities of inventory. Assuming there are foreign takers for their goods, they will run a trade surplus which means someone else has to run a trade deficit.
He goes a bit further and suggests that the entire model was based on the existence of an “importer of last resort.” If you are ahead of me and have already labeled the U.S. as that importer, congratulations. But as Mr. Pettis points out, the danger, largely ignored or considered implausible, was that consumption patterns in America would always remain the same. His belief that indeed those patterns are going to change is the reason that the model is broken.
He cites two reasons for the likely change in consumerism in the U.S. One, the Obama administration is trying to turn the country towards less consumption and towards more savings and two, the high debt accumulated as a result of excess consumption necessitates a change. I agree with his second idea. I also don’t deny the intentions of the Obama administration, I just question their ability to manage the economy that directly.
All of this is a rather lengthy way of getting to a point that I’ve made here often and that Pettis seems to share. Put simply, the Asian countries and China in particular are losing their main customer and there isn’t anyone to step into the breach. That’s bad enough, but like many they proceed on the belief that circumstances will revert to the norm that prevailed prior to the crisis.
One could add that seems to be the general approach of governments around the globe. Witness the attempts on the part of the administration to resurrect the securitization market via TALF and the obsession with bank lending and reinflating consumption. Viewed from that perspective, the idea that the administration truly wants to change the base of the economy is called into question.
Pettis argues as do so many that the only way out for China and others is to grow their domestic economies. Paradoxically, he thinks that the steps that China is taking right now are going to make that a more difficult path to follow once the country comes to the realization that it needs to go that direction.
Briefly, he argues that by pouring so much bank lending into more production geared to the production of goods for the export market they are sowing the seeds of a banking crisis. He expects non-performing loans to rise as the borrowers find few takers for their goods. A compromised financial system then retards the development of a consumer society.
There is a lot of noise about China’s growth exceeding expectations and the potential for that country to help lead the world out of this funk. If Pettis is right, I’m in his corner, it signifies a lot less than one might think. And if he is right, then the next few years are going to be pretty wrenching for everyone.