Thursday, October 8, 2009

All governments intervene. It's only a question of how.

Yesterday, the Wall Street Journal's "China Journal" published a short interview with Justin Yifu Lin, the World Bank's Chief Economist. The interview itself is interesting, and you should read the whole thing, but here is what I believe to be the key revelation.

Lin says: "Common people put their money into the financial system and their earnings from it are relatively low. So they are subsidizing big corporations. That’s the reason why big corporations have such high profit. They are subsidized through lower wages and lower capital costs."

In very simple terms, Lin explains why China's big corporations have not been hit as hard as those of the West during this economic downturn. Due to a lot of the uncertainties of life in China, Chinese save a lot. These savings are kept in banks where they earn an abysmally low rate of interest. Because interest rates on savings are so low, banks can afford to funnel cheap loans to state-owned corporations at a below-market cost of capital.

Granted, there are some problems with this scenario too. It would be nice if a lot of the uncertainties of life in China were better addressed by the government (through social safety nets) so that people would feel comfortable spending more of their incomes. And it would be nice if the government would allow the banks to make market-driven, rather than politically-driven, lending decisions so that capital could find its way to the most efficient uses.

On the other hand, unlike the United States, China seems to get the fact that big corporations are huge drivers of economic activity. While the United States, particularly Congressional Democrats, seem, bent on punishing corporations for their very existence with even higher taxes, China seems to understand the necessary role corporations play in generating employment. While the United States, along with its labor unions, seems determined to fight a losing battle of keeping wages high while manufacturing flees to lower cost regions, China keeps wages depressed, further subsidizing the corporations and attracting foreign investment.

Though this may seem overly-critical of the United States, my point is that, in the cases of both China and the US, our economic systems are determined by government intervention. People in the US who accuse China of excessive government intervention need to take a look in the mirror.

Both of our systems are what they are due to decisions made by political leaders. The question isn't whether governments intervene. Rather, it's how they intervene.

Which one seems to have performed better in recent years?