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Red Letter Day

September 11 may turn out to have been very bad for Communist China.

Nov 26, 2001, Vol. 7, No. 11 • By GORDON G. CHANG
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WILL THE People's Republic of China prove to be one more victim of September 11? Today, the Chinese state may look like an inadvertent beneficiary of the terrorists' crime, but on closer inspection, it could turn out that China's economic, social, and political institutions are about to be tested as never before.

In the aftermath of the suicide attacks, China's leaders believed that their past links to rogue states and terrorist organizations, once an embarrassment, would be a definite plus. As Washington prosecutes the worldwide war against terrorism, it wants access to secrets kept in unmarked drawers in the Chinese capital.

Beijing might still get something in return for such information, but it looks as if it won't get much. In September, the Chinese Foreign Ministry tried to set a price for China's assistance, indicating that Washington would have to cooperate with China's attempts to subdue the "separatists"--the Taiwanese, the Tibetans, and the Uighurs. Washington, however, has signaled that it won't play Beijing's game. In Shanghai in October, President Bush said the fight against terrorists "must never be an excuse to persecute minorities."

China needs all the help it can get. Its state-owned enterprises, the backbone of its heavy industry, are still ailing after 25 years of reform. The central government has tinkered with their structure, but they are still uncompetitive. The Communist party avoids the one change that could save them: loosening the control of the party itself. Until it takes that step, these enterprises cannot adapt to market conditions in time to meet competitive challenges. The world's favorite Communist leader, Premier Zhu Rongji, says he has "basically solved" the problems of the state enterprises, but that's nonsense. These enterprises are unprofitable and essentially unreformable.

The story is much the same for the state-owned banks, which include some of the weakest financial institutions in the world. Insolvent and backward, they are kept afloat by the central government, which cannot afford to let them fail.

Chinese agriculture, too, in the past few years has been failing, and the central government's policies have left hundreds of millions of peasants without a decent income. Experts predict that domestic rice soon will be unable to compete with foreign brands in Chinese stores.

Even the gleaming parts of the economy, such as the financial center of Shanghai and the new information technology zones, have yet to become self-sustaining. They are all products of centrally directed development and never-ending subsidies, the strategies that landed China in a huge mess in the first place.

In fact, the only thing keeping the economy going is massive fiscal stimulus. This means that China has more highways, dams, and railroads, but also ever-increasing budget deficits. Government spending is inefficient, and it has failed to jump-start the economy. What the planners have created instead is a new problem: The economy is addicted to central government funding. Many of China's own economists say pump-priming must end soon, for the country's financial condition is deteriorating-- especially if Beijing's hidden obligations, such as indirect loans and unfunded pensions, are added to the books. The technocrats are running out of money and time. They have perhaps five years to right the economy.

This is because peasants and workers are impatient. They're not about to wait decades more to see if centrally directed policies will finally work. And so we are seeing the unrest that always precedes the end of a regime. In 1998 there were about 60,000 protests, according to China's Ministry of Public Security; in 1999 there were 100,000. We don't have any statistics for 2000, but we know anecdotally that the demonstrations have gotten larger. Twenty thousand mine workers and several thousand relatives rioted in Liaoning Province in February 2000. Twenty thousand peasants tore down the homes of corrupt officials in Jiangxi Province the following August. The most frightening aspect of recent demonstrations, however, is the desperation of the protesters. These days, peasants and workers battle the security forces barehanded even when those forces are armed.

The top leaders of the Communist party think that accession to the World Trade Organization can solve their economic and social problems. The hope is that increased exports and more foreign investment will save the People's Republic. That hope is misplaced, however, and Beijing, in the first decade of the 21st century, has finally run out of luck.

This summer it was clear that economies in North America, Western Europe, and even Asia were headed into recession. Nonetheless, most economists predicted only a brief disruption to economic growth. Since September 11, however, we've seen perhaps the worst downturn since the Great Depression. In October, China's leader, Jiang Zemin, said, "All this has made an already grave economic situation worse." Beijing's assessments of its economic prospects are getting steadily gloomier.

With the People's Republic entering the global trading body, multinationals will work hard to penetrate its markets. Around the world, consumers are consuming less. So these businesses will have to make up the shortfall somewhere, and the planet's only new source of buyers is China. Although multinationals may talk about increasing their foreign investment in the People's Republic, the reality is that they will use their idle capacity around the world to export to China. WTO accession makes that strategy feasible because tariffs will drop and internal barriers to trade will be eliminated.

On the other side of the equation, China's exports will continue to slump. WTO rules will prevent the People's Republic from offering all the generous subsidies that previously kept the export machine going. Meanwhile, as consumers pull back around the world, China's markets will dry up. Until now the People's Republic has done well with one-way trade, exporting much and importing relatively little. Now we will see if Beijing's political leadership can handle the effects of two-way trade in a rapidly worsening economic environment.

At the same time, the next few years will witness a major political transition. Beginning next year and continuing into 2003, almost all the top posts in the Communist party and the central government are supposed to change hands. Neither of the two prior transitions in Communist China's history went according to plan, and there's no indication that this one will be smoother. So when the challenges to China are greatest, the regime will be weakest.

In short, the coming years will witness the most difficult period in the history of the People's Republic. In the WTO era, many in China will hold the central government responsible for letting foreign businesses put Chinese out of work. When the economy fails, senior leaders in Beijing will be tempted to raise the flag of nationalism even higher to keep themselves in power, and that could mean acting even more belligerently toward Taiwan and maybe Japan. At the same time, the aggressive People's Liberation Army, a large power bloc within the Communist party, may well have more say than usual over China's foreign relations.

Beijing's leaders could miscalculate. They might reason that the United States, diverted by events in Central Asia, is in no position to counter a move by China on its borders. Hostilities would be over before Americans could arrive on the scene, they might think. That assessment would underestimate Washington's resolve and the will of the Taiwanese and Japanese populations to resist.

Already, even before China's economic failure has become manifest, General Zhang Wannian, a top PLA leader, said that war would be inevitable during the five-year period ending in 2005. He may mean what he says. Besides, whenever the economy does finally fail, war will be a tempting option for Beijing.

It would be difficult for China to win any conflict with Taiwan or Japan, even if America were distracted. Losing a war would surely spell the end for the People's Republic. September 11's biggest victim? Five years from now, it could well be China.

Gordon G. Chang is the author of The Coming Collapse of China (Random House).

November 26, 2001 - Volume 7, Number 11