Everything You Know About China Is Wrong

Myth No. 2: THE COMMUNISTS ARE BRILLIANT ECONOMIC MANAGERS.
On the day in September 2008 when Lehman Brothers fell, China began planning the swift rollout of a $600 billion stimulus that would prove to be the largest (as a share of GDP), swiftest, and, many say, most effective in the world. The results—China continues to grow at a world-beating pace, now 8 percent—have confirmed the reputation of the party elders as macro maestros. While most economists agree that Beijing has done a strong job of solving the short-term problem, which was how to keep growth high enough to offset massive unemployment and subsequent political unrest, there is growing unease about how the massive stimulus could distort the economy in the long term. China has become an economy driven almost entirely by state investment, which in the first half of 2009 accounted for 88 percent of GDP growth—a share for which it is hard to find any parallel, in any country, at any time.

The dangers of this lopsided boom are real. The pro-market faction worries that the liberalization of financial markets and the privatization of strategic sectors (which include most of the richest industries such as banking, telecoms, and construction) are being forgotten in favor of "bridge to nowhere"–style projects. Even government officials now admit that 60 percent or more of the stimulus money has ended up in stock and real-estate markets, fueling worries about dangerous new asset bubbles. In some coastal cities, property sales are three times what they were last year; the Shanghai stock market is up over 60 percent this year. "It's just a stopgap measure—all the stimulus has been concentrated in building new infrastructure and reheating the property sector," says Chinese independent economist Andy Xie.

This could spell trouble for Hu and Wen. The Chinese government debt, once negligible, is now officially about 30 percent of GDP, but some Western economists put the real figure as high as 70 percent. While these figures are still low compared with Western nations (the U.S. debt-to-GDP ratio will reach about 100 percent next year), they have Chinese politicians fretting. Last month Wen told a group of VIPs at the World Economic Forum in Dalian that China's rebound was "unstable, unbalanced, and unconsolidated." A week earlier Chi Fulun, a member of the Chinese People's Political Consultative Conference was blunter: "Chinese leaders," he said in an interview, "should rethink the country's reform package."

China bulls would argue that China, where 40 percent of villages still have no paved roads to the nearest market, has a huge demand for more paving projects. Yet bears would ask how much China gains from connecting poor villagers (China's per capita GDP is still only $2,000, and much less in rural areas) to the market. "Take a drive on one of those new rural highways; you won't see many cars," says Ming Huang, a finance professor at Beijing's Cheung Kong business school and Cornell University. "It's going to take a long time for this sort of investment to result in any kind of consumption boost." Meanwhile, the stimulus is like steroids for the dominant state sector, which, according to Hudson Institute fellow John Lee, has received some 95 percent of the stimulus capital so far. If it falters, Hu and Wen will be held to account, not held up as brilliant managers.