In a message to Chinese aerospace engineers and researchers on the occasion of Youth Day, President Xi Jinping shared his ambitions for the sector in early May. Young workers, he said, should advance the cause of Chinese self-reliance by following in the footsteps of their predecessors, who developed the atomic bomb, an intercontinental missile and an artificial satellite, with little outside help thanks to a campaign in the Mao Zedong era. called Two Bombs, One Satellite.
At first glance, this is a strange message coming from the country that has benefited most from the latest wave of globalization. In 2000, China was only the largest trading partner for a small number of countries. Today it is more than 60. Between 1985 and 2015, Chinese exports of goods to the United States grew 125-fold. Partly as a result of the associated manufacturing boom, Chinese per capita GDP growth averaged more than 8% a year between 2001 and 2020.
Yet the Chinese government has never been entirely comfortable with globalization, whatever its benefits. The "reform and opening up" process initiated by Deng Xiaoping in the 1970s, through which China liberalized production and trade, was always piecemeal and partial. The Communist Party has no intention of giving up exercising a hegemonic role in the economy. He is concerned about the penetration of Western ideas. Foreign capital and knowledge have therefore been courted and rewarded, but also restricted and often resented.
Xi's call for self-reliance reflects his vision for a shift in the balance between the risks and benefits of globalization. Xi believes that China has become too dependent on liberal democracies: on Europe and Japan, but above all on the United States. One risk is that the West experiences a new economic contraction similar to the 2007-2009 financial crisis, which could weaken demand for Chinese goods and services. Another risk, much clearer as a consequence of the sanctions imposed on Russia after the invasion of Ukraine, is that Western countries use their economic power with the aim of weakening China.
To avoid those dangers, Xi wants to change China's position in the world economy. Put simply, there are two interrelated elements to what Xi calls "getting stronger." The first is to achieve a dominant position in sectors that the government considers strategic (technology and energy, above all) so that no one can thwart China's economic rise. China knows that playing a crucial role in global supply chains helps keep its autocratic system safe from foreign attack. The second goal is for China to be less dependent on potentially hostile Western partners for trade and finance, and to develop new and better ones that are less distant. The Belt Initiative
China has had some success with strategic industries. According to research published by Goldman Sachs in 2020, Chinese self-sufficiency in high-tech products was vastly improving (see chart 1). In many sectors, domestic production has caught up with domestic demand, which means that China needs fewer products from abroad. In fact, after reaching an all-time high in 2004-2006, China's imports of goods and services have fallen sharply relative to its GDP (see Figure 2).
In few sectors has the drive for self-sufficiency been more fruitful than in the field of solar energy. China is responsible for more than 70% of the production of the raw materials used in the manufacture of solar cells, but also of the cells themselves and the modules in which they are assembled. Dan Wang, an analyst at the research firm Gavekal Dragonomics, points out that China's hegemonic position in solar technology is probably irreversible. The same goes for batteries for the burgeoning electric vehicle sector. Wind power is also going from strength to strength. In 2021 alone, China added more offshore wind capacity than the rest of the world in the previous five years combined.
In fact, China has come to dominate many businesses that way. The Economist has examined export data for some 120 global manufacturing sectors. We estimate that in 2005 China was gaining dominance (defined as a share of global exports greater than a quarter) in 42% of them. In 2019 it reached 67%, a record. The proportion of export markets dominated by China (which we define as greater than half a market share) tripled over the same period, to a third.
In many important respects, however, China's drive toward self-sufficiency has disappointed. While Xi has lowered the global import bill (relative to GDP), he has struggled to reduce reliance on foreign components used to make high-tech products. When it came to power in 2012, China spent 2.7% of GDP on imported components for electronic equipment; in 2020, the percentage was 2.6%. The global bill for imports that require large amounts of research and development has been reduced only slightly.
Furthermore, to source those goods, China relies heavily on its geopolitical rivals, including Taiwan and Western democracies. In the case of the aerospace sector (to which Xi's call for self-sufficiency was directed), the democratic world continues to supply 98% of imported components.
China is also increasingly dependent on foreign knowledge. The vast majority of Chinese patent applications are domestic, but the proportion of foreign ones has grown from 4.8% to 5.9% since 2012. Scientists from the European Union, Japan and the United States are increasingly partners of Chinese inventors, even though Western companies and universities talk about disassociating themselves from China to try to curb industrial espionage. In 2020, China was responsible for 8.4% of all cross-border payments for the use of intellectual property, an all-time high.
In Xi's second major objective (finding better trade and investment partners) there are also positive and negative elements. It happens, for example, with trade. China has enthusiastically forged friendships with Russia, a country rejected by the West. It has also adopted the Regional Comprehensive Economic Partnership, a shallow but comprehensive trade agreement signed by 15 Asian countries that account for nearly a third of global GDP. It has applied to join the Trans-Pacific Partnership, an ambitious trade deal conceived by the United States but from which that country eventually withdrew.
In a survey of Southeast Asian policymakers, businessmen and others released earlier this year, 77% of respondents named China the most influential economic power in the region. "I see East and Southeast Asia increasingly drawn into the sphere of the gravitational pull of the Chinese economy. It's inevitable," says Henry Gao of the Singapore Business University.
Still, the big Western economies continue to exert their pull on China. The Economist has compiled data on stocks of foreign direct investment (FDI: company acquisitions and factory construction), portfolio investment (purchase of stocks, bonds and the like), and international trade for nearly 120 countries. For each indicator, we ranked each country based on the strength of its bilateral relationship with China, and then combined the rankings.
The countries with which China maintains the closest economic relations remain all Western or Western-oriented: the United States, South Korea, Singapore, Germany, and Japan. And during Xi's tenure, most Western economies have forged closer ties with the Chinese economy. For example, German investment in China has more than doubled. Long-term Chinese investors have doubled their gross exposure to Australia, despite invective from politicians in both countries. At the same time, China's ties to countries that might be expected to come into its sphere of influence, such as Indonesia and Russia, have weakened.
Chinese export sectors also remain highly dependent on Western demand for their products. In the decade before Xi came to power, the percentage of Chinese goods exports destined for the European Union, Japan and the United States fell from 50% to 39% (see figure 3). However, since then no further progress has been made. The countries with which China would like to develop closer trade relations are too small to replace the huge markets of the United States, Europe and Japan. It is difficult to produce more high-tech goods and services and at the same time expect that the proportion of these sold will increase in poor countries rather than in rich ones. No matter how hot Xi and Vladimir Putin shake hands, Russia only buys 2% of Chinese exports.
In recent years, China has tried to strengthen financial ties with countries that it considers compatible with its objectives. That includes an attempt to promote the international use of its currency. The idea is to reduce dependence on the dollar, and thus be less vulnerable to US financial sanctions. To this end, China has gradually opened its bond market to foreign investors. In the early 2010s, the central bank began signing yuan-denominated swap agreements (ie emergency lines of credit) with other central banks. It has also gone to great lengths to develop a digital yuan, which aims to make trading in that currency faster and easier to control. This year, Chinese companies have paid for Russian commodity imports in yuan, helping Russia lessen the impact of Western sanctions while raising the yuan's international profile.
Still, China's financial links with its closest neighbors remain weak. This is the case, for example, of the bond market. A new article by four economists, Christopher Clayton, Amanda Dos Santos, Matteo Maggiori and Jesse Schreger, examines private investors' holdings of yuan-denominated bonds. In recent years, the vast majority of inflows into these assets have come from the United States, the euro area and Japan. A study published in 2018 by Camilo Tovar and Tania Mohd-Nor of the IMF analyzed the importance of the yuan for other currencies (that is, how much it influences them). The researchers found "no evidence that the [yuan] is the dominant currency in Asia, and influences exchange rates in the region or through Asian supply chains."
In short, China's drive toward a more self-sufficient economy has not been a success on its own terms. Moreover, the attempt to establish self-sufficiency has given rise to a series of contradictions. The desire to promote the use of the yuan abroad, for example, clashes with efforts to shield China from global financial swings. The resulting turmoil has not allowed China to be a force in global finance or to remain in the dark as markets move beyond its control. The Chinese currency's share of cross-border payments recorded by SWIFT, the global financial messaging network, hovers around 2% most months, as it has for much of the past five years. Even that figure overstates the currency's reach, since most transactions involving the yuan outside of mainland China take place in Hong Kong, which is part of China but uses a different currency.
On a global scale, the yuan is a "pillar" for a handful of currencies (see chart 4). The number of new yuan-denominated swaps agreed by the central bank has fallen sharply. According to a study published last year by Michael Perks, Yudong Rao, Jongsoon Shin and Kiichi Tokuoka, all of whom are from the IMF, the Chinese banking system continues to play a minuscule role in global finance compared to the US (see chart 5). . According to recent work by Yi Fang of the Central University of Finance and Economics in Beijing and other researchers, Chinese markets "are more influenced by the financial markets of the G-7 economies than the other way around." When America sneezes, the rest of the world catches a cold. When China sneezes, most countries ignore it.
Another tension in China's drive toward self-sufficiency has to do with productivity. Total factor productivity (i.e. the amount of output per unit of labor and capital) has barely grown under Xi, a marked slowdown from before the financial crisis (see chart 6) . The government believes that the goal of self-sufficiency in high-tech sectors will encourage innovation and thus boost productivity. In reality, the opposite is more likely to happen. In its efforts to promote national giants and stimulate trade with friendly countries, the government will probably end up granting advantages to companies that are not the most capable or efficient suppliers of a given product, which will affect productivity. This is a worrying prospect, given that increased productivity is the only lasting way to raise living standards.
On their own, any one of Xi's ambitions — be it fortifying China against economic and technological vulnerabilities or finding a more reliable set of partners for trade and investment — is a huge undertaking. Together, they are already generating contradictions, and new ones are likely to emerge. Trade and investment create mutual benefits but, by their very nature, also mutual vulnerabilities. Chinese leaders are right to believe that reliance on Western technology, markets and financial fabric leaves them exposed, but they are wrong to imagine that they can escape this situation. The only alternative to interdependence is impoverishment, whatever Xi says to Chinese aerospace scientists.
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Translation: Juan Gabriel López Guix
