Globalization And Rise of China's Economy Part Three, A Strong Government

   I am not afraid of an army of lions led by a sheep, I am afraid of an army of sheep led by a lion.

                                                                                    --- Alexander the Great

We in the West are skeptical of the power of the government. At least, that is the position of a significant portion of our citizens. However, when we look at all the third world countries that rose to be developed nations, not only were they a very small number, they all started with strong authoritarian rules. If we remove the nations that were part of Western Europe which participated in and benefited from the original industrial revolution led by England, and remove the resource countries like Saudi Arabia, we are left with Japan, South Korea, Taiwan, Singapore and Hong Kong. All of these were ruled by strong authoritarian governments during their initial ascend. While Japan was nominally a democracy, the same party had ruled the country for fifty years. Taiwan was not a democracy until it was developed. Ironically, Taiwanese economic development stopped after it transitioned into a democracy. South Korea was run by strongmen during its initial development. Lee Kuan Yew ruled with an iron fist in Singapore. Even in Hong Kong, the locals simply did not get much of a say on how things were run. Until shortly before it was returned to China, Hong Kong was run by the British without much consultation of the locals.

This is not a coincidence. During the initial transition from a third world economy to a developed country, a strong government plays an important role.

Internally, a strong government is needed to provide infrastructure. A strong government is needed to maintain law and order. A strong government is needed to ensures a virtuous investment environment and a single accessible domestic market place. Gorbachev, with the Goldman Sachs advisers, failed to turn the Soviet economy around precisely because they did not strengthen the government. Privatization of the Soviet companies allowed the private individuals to loot the country without requiring these companies to maintain being viable and also shoulder social responsibility of the economic transition. While a fully developed economy is guided by competition, an economy in transition must be guided by a strong hand to overcome its internal contradictions and provide the public good needed for the economy to thrive. In this context, Western economic theories are inadequate to guide and explain the economy in transition. One simply cannot transplant a matured Western economic model to an economy in transition. Instead, experimentation, pragmatism and continue reforms are needed to transition the economy of a developing nation. A small government, as George W. Bush envisioned, is a luxury of the matured Western economy that a developing nation simply cannot afford.

Many people now blamed Bill Clinton for letting the Chinese into the WTO. This is easy to say in the rear view mirror. America, the strongest economic power after World War II, set up the liberal trading order not out of charity to the other nations, but out of the believe that such a system favors the American corporations. At the time of the Chinese entry into the WTO, it was fully expected that the American corporations, the lean, mean killing machines that they were, would crush the Chinese state own enterprises and occupy the high end of the value chain. The Chinese would be relegated to making textile, toys and shoes. The WTO and Most Favored Nation status that the Chinese got came with very strict strings attached. Out of the multitude of nations granted this status, only a handful of East Asian nations with the high IQ populations and strong governments made it past the mid income status. Given the decrepit state of the state own enterprises for China, that the Chinese can work within the confines of the strict terms set out for WTO entry and still beat the West was something that was not anticipated by Bill Clinton and the others in charge at the time. A strong Chinese government played a pivotal role in making the Chinese corporations competitive. By leveraging the Chinese market to trade for technology, by organizing and create companies with the critical mass to win against Western multinational behemoths and by taking the loss needed to climb the learning curve, the Chinese government had enabled the domestic companies to rise up and able to compete against the strongest from the West. By setting up barriers of outside companies until their industries are competitive, the government bought time for the domestic companies to get their acts together. Unlike their Soviet counterparts, the Chinese used the principle of the markets but did not copy the Western system wholesale. They pragmatically choose what works and took the gradual approach to their reforms. To a lesser extend, the Korean and the Japanese government did the same. To produce companies that are competitive, the Korean government actually told some of the less competitive Chaebols to exit certain businesses to make room for the more competitive Chaebols to take over, something that would be unthinkable for the United States or Europe.

The Chinese government did something else. They were able to maintain an independent foreign policy. This is hugely important for the economic and political revival of China. Something I will discuss in my next post.

Globalization And Rise of China's Economy, Part Two, Intellectual Elite

Two qualities are indispensable: first, an intellect that, even in the darkest hour, retains some glimmerings of the inner light which leads to truth; and second, the courage to follow this faint light wherever it may lead.
                                                                                       ---Carl von Clausewitz

The reason the Western Pundits failed to provide a convincing explanation as to why the world failed to converge economically is because they had blinders on. There are things that seem very obvious but no one wanted to talk about them because they are politically incorrect or is offensive to certain countries or continents. I am sure I will have my own blinders and limitations, but hopefully, my blinders are different from the other Western Pundits such that a grain of truth could be uncovered. Here, I have listed the factors that made the United States such a economic power house, from the most important to the least.

1. Sizable and high quality Intellectual Elite.
2. A strong government
3. An independent foreign policy
4. The rule of law
5. A solid financial system
6. Social trust and cohesion
7. A strong education system
8. Industrious and driven population
9. Can do start up culture

In the next few posts, I will explore each of these topics. In this post, I would like to explore the first one. How does the size and quality of a country's intellectual elite impact its economy?

Of all the qualities of a nation, this one is hands down the most important for a country's economic development. Countries with enough bright people could overcome years of terrible indoctrination and bad government. Countries without an intellectual elite will fail to develop in spite of being endowed with good natural resources such as oil or having good government as a legacy of colonial rule. Yet, due to the politically correct Western Culture, This is the least appreciated factor of national development. I define intellectual elite as the portion of the population that has an IQ of over 130. In the United States, as is with the rest of the world, the intellectual elite runs virtually all the corporations, makes virtually all the discoveries and provide most of the driving force to push the boundary of our civilization forward. From the invention of the 30 year mortgage to the assembly line of Henry Ford to space travel, most of these have been achieved by our intellectual elite. Having an intellectual elite is the first prerequisite for economic development. Further, to sustain economic development, it is also important to have a large fraction of the population that are not quite but near our intellectual elite level. Any machine shop owner will tell you that having a couple of master machinists (IQ 120 or so) makes the entire crew much more productive.

When viewed in this light, many of the conundrums so puzzling to the Western pundits are no longer very mysterious. The Middle Income Trap, can now be considered as a sort of IQ ceiling. As we see that all the countries that made it past the mid income trap like Japan and South Korea belong to East Asian nations with 100+ average national IQ. The remainder of the third world countries that are stuck at the middle income level typically have a national average IQ in the eighties. Failure of globalization to make vast majority of the developing countries more economically advanced could at least be partially attributed to the lack of such an intellectual elite in these countries. African countries that failed to even make their first step in economic development have average national IQ in the seventies.

 Due to the anti-elite streak in our culture, the United States have not taken much extra effort to develop our own intellectual elite in our primary education. Bright people are mostly left to find their own ways. Past high school, the United States has generally done a good job at recruiting the brightest to our best colleges, affirmative action not withstanding. As with the rest of the population, the good life has degraded the drive for our intellectual elite. There is the observation that compared to previous generation, the current crop of the students at our ivy league schools read fewer books and know less. However, we are able to attract the brightest people from the world over and are able to make very good use of their talent. The United States still provide the best opportunity in the Western World for bright people. Unencumbered by an ancient culture, we are open to learn from the best the world has to offer. We also have the most freedom and support for people pursuing ideas. When something of value is created, the creator gets to keep the fruits of his labor. As a result, bright people like Andy Grove come from world over to create world class corporations like Intel. They made the United States world's biggest power house in research and development. They also create new industries like drugs and the digital revolution that even most of the industrialized world failed to keep pace.

China, with 1.4 billion people with average 100+ IQ, has a large group of intellectual elite and near elite. They generally do a good job of filtering these intellectual elites into the best colleges based on their Gaokao score, which is a good proxy to their IQ. Unfortunately, the path to Gaokao was littered with the corpses of Chinese misspent youth. Youth driven with a singular purpose, to score the highest score during Gaokao. This produces good workers that can handle a lot of pressure, but lack initiative and the sense of wonder that allow that person to go down an unfamiliar path to blaze new trails. Today, the damage of this kind of unenlightened competition has done is still manageable, as China is still in a sort of catch up mode. Soon enough, we will see the limitation of this approach. As China moves from manufacturing to higher value added industries and more sophisticated research and development, they will need more people that can follow their own drum beats. As the Koreans and the Taiwanese have shown, one can get pretty far with this type of culture, but long before they reach parity with American level of productivity, they would run out of steam.

Like the United States, the smart fraction in China are put to good use. In spite of restrictions the government places on the internet and other media, the Chinese seems to be very up to date with what is happening in the world. They are still eager to learn from the best in the world. The brightest people are recruited to join the government. They ran the corporations, many of which are world class. They staffed the military industrial complex, which is rapidly catching up to the United States. They manned the increasingly sophisticated R & D activities, which are beginning to yield results.

On balance, I expect the Mainland Chinese to keep the juggernaut going for a lot further then the Taiwanese and the South Koreans. The biggest reason is the sheer size of the Chinese intellectual elite and the number of uber genius that is produced due to the size of the Chinese population. I will expand on this a bit more in an upcoming post about the Chinese start up culture.

Having a high IQ is a prerequisite but not the whole story. The Europeans have essentially the same people as Americans, but failed to converge to the same level of productivity. The Koreans and the Taiwanese have 100+ IQ but are stuck at even lower per capita GDP compared to their European counterpart. The Russians have a pretty high IQ, but failed to developed their economy beyond resource extraction and military. In the next few posts, we will explore other aspects that makes America such an economic power house.

Globalization And Rise of China's Economy, Part One, What Went Wrong With Globalization

To rule a country of a thousand chariots, there must be reverent attention to business, and sincerity; economy in expenditure, and love for men; and the employment of the people at the proper seasons.

                                                                                    --- Confucius

A strong economy is a prerequisite for a country to achieve greatness. China certainly have come a long ways after Deng took over in the seventies. The question is, will they continue and how far would they go?

Regarding the future development of China's economy, there are two schools of thought. The optimists point to the big discrepancy between the per capita Chinese GDP and the West in general and United States in particular and say that there will be more convergence. The pessimists, exemplified by Peter Thiel, say that globalization has run its course and the Chinese will have a harder time converging with the West. Who is right?

To go down that rabbit hole, I would like to explore a different but related topic. Today, the U.S. GDP per capita is at $57000, one of the highest for any normal economy. By normal economy, I am excluding a few city states like Singapore and Luxembourg since their status as wealth heaven or as a port city/financial hub cannot be replicated by a normal country without this unique niche to exploit. What we are talking about here is economic development as opposed to pure economic growth. Economic development refers to the production of ever more sophisticated goods in increasing quantity. So the Saudis, after they discover oil, had a lot of economic growth, but very little economic development. There is no secret to how we achieve this level of GDP. All the practices of the United States are opened to all countries that wish to study and emulate it. Globalization was supposed to spread these best practices of the world from the developed world to the rest. So one would expect that the developing world to converge to the productivity and living standard of the leader, the United States.

The problem, to paraphrase Greg Cochran, is that this convergence did not bother to take the trouble of actually happening. In the developed world, all the major economies like France, Germany, Japan only achieve some 70% of the American per capita GDP after all these decades. In case you retort that they will catch up in the future, their GDP growth have lagged behind that of the United States for decades now and show no sign of catching up. The next tier down, the Koreans and the Taiwanese, are similarly stuck, but at a lower level. These are the lucky ones. You would think a country like Ethiopia, which produce $600 worth of GDP per capita on currency exchange bases, would be able to produce something of value. The knowledge to make, say, a bicycle, could be downloaded from the internet for free. Capital flows across the world to where money could be made, yet these countries failed to make the most basics of industrial goods long after the knowledge of the industrialization has spread to other parts of the globe.

There are many who come up with arguments for why this is the case, but no one has come up with a satisfactory explanation. Some argued that exports, such as the ones associated with the Four Tigers is what lead to economic development and growth. Indeed, for a desperately poor nation, exporting their labor is the first step in joining the world economic order. Many nations today like South Korea and Germany are still heavily reliant on export for their economy. On the other hand, there are many nations that, while at one point or another, relied on exports, have relatively small proportion of their economies as exports during most of their development. The U. S. is a case in point. we were never an export powerhouse before WWII. We shot up in the fifties as an export nation after Europe was exhausted from the war. Today, export is merely 13% of the U.S. economy. On this count, with exports accounting for only 19% of the economy, China is actually closer to the United States than to South Korea. The point is, export is not needed to sustain high economic development. Exports are nevertheless very crucial to the initial development of a nation that started out desperately poor. In the process of exploiting the cheap labor of the country, outsiders, motivated by profit, have brought in the latest technology and best practices. Indeed, this is how all the East Asian countries such as Japan, South Korea and China started their economic ascend.

Since various countries are stuck at different points in their economic development, we must conclude that it is not enough to just learn about the production of widgets, or even the best practices of corporations. To become as productive as the United States, a country must have other qualities that the United States possesses. In the next post, I will outline what I believe to be the most important factors contributing to the success of the United States. I will also compare how the Chinese stack up on these factors.