In October, at the founding ceremony of the National School of Development of Peking University and the International Summit Forum in Honor of the 30th Anniversary of China’s Reform and Opening-Up, Dr. Yifu Lin sat for an interview with China Pictorial. The core subjects addressed were the current global financial crisis and the market reforms at play in China over the past three decades.
According to Lin’s forecast, next year China’s economic growth should range between 8 and 9 percent, and China’s ongoing rapid economic development will substantially contribute to the international effort to remedy current financial ailments.
China Pictorial: The financial crisis is now sweeping across the globe and some scholars have warned that China should not to be excessively open. What are your thoughts as to the relationship between economic opening and security?
Dr. Lin: There is an old Chinese saying that goes: “Never stop eating for fear of choking.” If a country’s problem affects other nations, this is a cost of globalization. But globalization ensures a more complex and specialized international division of labor, and enables all nations to better exploit their respective relative advantages, effectively allocate resources, increase technological exchange, and reduce the costs of industrial upgrades and technological upgrading. So, generally speaking, globalization is more beneficial than detrimental. We must view this phenomenon in just such a way. Wouldn’t it be worse if China had not implemented the policy of reform and opening-up, and still remained a planned economy?
Before the reform, China’s import and export volume accounted for 9.5 percent of the GDP, and without the influx of foreign capital, China was not exposed to any impact from foreign countries. However, back then, the per-capita annual disposable income of the Chinese people was less than $150. Today, thanks to globalization, the import and export volume accounts for 70 percent of the GDP, and the influx of foreign capital has increased. Although this financial crisis to some degree impacts China’s economy, represented by a decrease in export and a slump in stock and real estate markets, our urban per capita disposable income has reached $2,000. Therefore, we should stay the course of globalization.
Of course, there are still some experiences and lessons to be considered. In the process of globalization, we can offer varying preferential policies to direct foreign investment, but we should maintain control over short-term capital flow. To cope with the ongoing financial crisis, China has three lines of defense. Firstly, China holds high foreign exchange reserves; secondly, our capital account is not open, so there will not be phenomenon of capital flight; and thirdly, our fiscal situation remains good, and if export drops, we can shift to expand domestic demand.
China Pictorial: The U.S. subprime lending crisis triggered a global re-evaluation of the free market economic system. In considering the implications of this financial crisis, do you see any problem with the free market system? Do you think China’s market reforms should pause or cease altogether? In the process of economic development, how do we balance the relationship between the market and government?
Dr. Lin: The market and government are equally important. It is not rational to merely emphasize government functions and simply rely on planned orders. On the other hand, informational asymmetry is commonplace in a market economy, especially in finance, and a lack of supervision would result in moral risks. Then, who is in charge of the supervision? That is the government. So, this issue should be considered from a balanced, rational angle. If market works, then leave market to do it; otherwise, the responsibility should go to the government. In fact, this financial crisis is not just a failure of market, but also a failure of the government. While we work to keep improving the market, government also needs improvement.
China Pictorial: What do you foresee for global economic trends after this financial crisis?
Dr. Lin: The survival of financial institutions depends on faith. People are not clear about the risk of bad derivative products, so would immediately become alert when crisis occurs to a few financial institutions. Then, the capital flow of financial institutions will be stagnated. The bankruptcy of one bank may lead to a close of more banks. With people’s confidence gone, banks had to prepare for depositors to withdraw cash at any time. They would be hesitant to lend loans, and investment will drop accordingly.
The burst of the real estate bubble wore away people’s confidence in economy, resulting in sluggish of stock market and shrinkage in consumption. In such a situation, developed countries will inevitably enter an economic winter, and this has been widely acknowledged by private agencies and government institutions. Some scholars forecast a zero or even minus economic growth in 2009 for the U.S., Japan, and European developed nations.
China Pictorial: In your role as the World Bank Chief Economist, what do you see as the core issue in this financial crisis?
Dr. Lin: The current financial crisis is the most serious since 1929. While most of the media and scholars are mainly focused on U.S. and European developed countries, I focus on the object of service of the World Bank — developing countries. The World Bank is an international organization, mainly committed to assisting developing countries in economic development and poverty relief.
China Pictorial: In what fundamental ways do you foresee this crisis impacting developing countries?
Dr. Lin: If the developed countries enter a period of economic depression, developing countries will see a decrease in export and investment. When the financial crisis comes, direct foreign investment will drop, and to survive and prepare for possible future needs, the financial institutions of developed countries will increase their capital adequacy ratio. In this case, the money previously put in developing countries will probably efflux back to developed countries.
As prices for oil and mineral resources fall, resource-based developing countries will see less business and less investment. And the economic depression in developed countries will result in a less demand for labor, and this will reduce the income from labor export of developing countries.
The economic rise of developing countries in the previous decades was largely driven by investment, and now that the foreign investment decreases, the financing chains of many under-construction projects are cut off, and their bank loans will become bad debts; and for those completed projects, because of a decrease in market demand, the products will be hardly sold out, and such a situation will also induce bank crisis.
The economic slowdown and bank crisis will certainly lead to the fading of people’s confidence and a big drop in the stock market. Under such a circumstance, developing countries, especially those countries with less foreign exchange reserves and relying on considerable foreign funds to cover the deficit in current account, what lies ahead may not be simply a slow-down economic growth, but financial crisis, and even the so-called “payment crisis.”
China Pictorial: What can developing countries do to effectively contend with this crisis?
Dr. Lin: The first thing is to prevent financial collapse. Governments should adopt decisive, timely measures to avoid panic withdrawal of deposit and the bankruptcy of banking firms.
And government should try all means to keep the economic growth rate at a comparably high level. Prior to the first half of this year, the prices for petroleum, raw materials, and grain soared, and the primary crisis faced by the world was inflation; thus inflation prevention was the main target of macro economic policy. But now that the prices for petroleum, mineral resources, and grain have dropped, inflation pressure has eased; and facing a probably sluggish economy, the government should adopt loose monetary policies as follows:
Firstly, cut interest rates, reduce deposit reserve rate, increase loanable funds of banks, and support investment in enterprises, especially those sectors with relative advantages and industrial upgrading, so as to drive economic growth with investment.
Secondly, adopt effective fiscal policies. If a nation previously maintained a positive financial situation, it will enjoy a broader functional space of fiscal policies. Developing countries generally have an inadequacy in infrastructural facilities, and after a period of high-speed economic growth, many of the countries are faced with bottlenecks in power and transportation. Since the global economy is now slowing down, those countries can use this time to reinforce their infrastructures. They can also make investment in such departments as social security, education, medical care, and insurance, so as to pave the way for future economic development.
In monetary policies and fiscal policies, developing countries should conduct counter-cycle intervention, so that an economic soft landing can be realized. In case crisis happens in a developing country, the low-income tribe will be disastrously affected. Therefore, we must work to avoid the financial crisis of developed countries to be evolved into a crisis to the subsistence and development of developing countries.
China Pictorial: What should China do?
Dr. Lin: I think the most important thing China should do in this crisis is to maintain its strong financial growth. Some suggest that China should withdraw its foreign exchange reserve of $2 trillion to save the market. But rather than in cash, these $2 trillion are mostly in U.S. treasury bonds. A cash-out at this time would likely trigger another crisis.
We hope that the impact of this financial tsunami will soon be past. Generally speaking, China’s economic development trends are good; the macro situation is good; and varying external accounts are good. So I believe China is capable of weathering this storm and maintaining strong growth.
China has a prescription for financial crisis, and that is stimulating domestic demand. The room for expanding Chinese domestic demand is great, including increasing investment in infrastructure construction, increasing expenditures in public undertakings, like medical care and social security and, more importantly, improving the development environment in rural areas and increasing farmers’ income.
In 2009, consumption expenditure and investment in fixed assets will continue to be the main force driving China’s economic growth. Compared to the two-digit number over the past several years, next year’s growth rate may be readjusted by a margin of 2 to 3 percent to range between 8 and 9 percent. But, China will remain a fast-growing economy and China’s fast economic development will be the largest contribution the nation makes to the global efforts in tackling this financial crisis.
