No scenario for escalation inevitable incentives for conflict minimization

Chinese democratization is inevitable -- multiple trends.

Behind the political stagnation on the surface, signs abound that a fundamental political transformation is taking place in China. In the fall of 2011, an unusually large group of independent citizens launched very vocal campaigns to compete for seats in various local congresses. Around the same time, groups of ‘‘netizens’’ went to a small village in Shandong province to try to visit Chen Guangcheng, a human right activist under house arrest, despite repeated reports about visitors being beaten. In July 2011, a train crash near the city of Wenzhou caused a storm of criticism against the government on ‘‘weibo,’’ micro-blog sites in China that claim nearly 200 million readers. Although these are just three pieces of evidence, they represent a rising independent civil society and illustrate that China’s political regime is increasingly being challenged. Over the last decade, terms typically used by Western academics to describe Chinese politics have included ‘‘authoritarian resilience,’’ ‘‘illiberal adaption,’’ and ‘‘rightful resistance,’’ indicating a pessimistic view of China’s democratic future.1 However, reality sometimes changes faster than scholars can reckon. China is moving closer to vindicating classical modernization theory, which states that economic development eventually leads to democratization. We argue that there is good reason to be optimistic that China will become a democracy, and forecast that China will embark on democratization around 2020 or so, although how it will happen, how long the process will take, and even whether it is desirable are issues beyond the scope of this article. Our relative optimism stems from four interlinked mega-trends: economic development, cultural change, political leadership trends, and the global environment.

More ev -- democratization process has momentum.

Econ

Chinese economic collapse is inevitable -- multiple indicators.

Moss, 7-2-12

[Trefor, Hong Kong-based journalist and a former Asia-Pacific editor at Jane's Defence Weekly, “5 Signs of the Chinese Economic Apocalypse,” http://www.foreignpolicy.com/articles/2012/07/02/5_signs_of_the_chinese_economic_apocalypse?page=full]

The lights are flickering in the world's economic powerhouse. Although China's outlook may still be positive by, say, European standards, the numbers show that the country's storied growth engine has slipped out of gear. Businesses are taking fewer loans. Manufacturing output has tanked. Interest rates have unexpectedly been cut. Imports are flat. GDP growth projections are down, with some arguing that China might already be in recession. In March, Premier Wen Jiabao put the 2012 growth target at 7.5 percent; then seen as conservative, it's now viewed as prescient. If realized, it would be China's lowest annual growth rate since 1990, when the country faced international isolation after the 1989 Tiananmen Square massacre. What are the concrete indications that China is experiencing something more than just a spreadsheet slowdown? Here are five real-world signs of China's economic malaise. 1. BYE-BYE BMW The $586 billion stimulus package that enabled China to sail through the 2009 global downturn only deferred the pain for local governments. Now they're being asked to repay their debts, and that means some serious belt-tightening at City Hall. The fleets of flashy cars that local officials indulgently amassed during the boom years will be among the first things to go. The city of Wenzhou is planning to auction off 80 percent of its vehicles this year -- that's 1,300 cars -- with similar fire sales occurring nationwide. Even Ferrari is sounding nervous about the Chinese downturn, and not only because Bo Guagua is seemingly off its list of potential customers. Part of the headache for municipal governments is that land sales have dried up thanks to a central government initiative to cool China's overheating property market, as well as a shortage of cash and confidence among potential buyers. In June, the average housing price for 100 major Chinese cities rose for the first time in nine months, but prices are still down 1.9 percent from last year. Some government premises could be next on the block, once those official cars have been driven away by their new, private owners. Then the extreme economizing begins: China's elaborate official banquets could become a lot more prosaic. 2. RIOT IN GUANGDONG Senior government officials have warned for decades that economic slowdown could spell social unrest, and with few exceptions, China's modern growth rate has been impressive enough to keep most people happy most of the time. But as GDP growth dips below 8 percent for the first time in years, China's social fabric could come under strain, especially as thousands, if not millions, of migrant workers find their jobs under threat. "It's clear the slowdown of export growth as a result of weakness in Europe and the U.S. continues to weigh on the Chinese economy," Lu Ting, an economist at Bank of America Corp. in Hong Kong recently told Bloomberg Businessweek. Exporters are going bust, and some factories that remain open have switched from three shifts to just one. Migrant workers have always supplied the elbow grease that enables China's growth engine to purr. But it's critical to China's stability that those workers feel they are sharing in the rewards. Their disaffection has the potential to be China's undoing, as the southern manufacturing town of Shaxi in Guangdong came to realize last week when it became the scene of China's most recent large "mass incident." That incident appears to have been contained, but the authorities can only cope with so many Shaxis at once. 3. VANISHING RICH PEOPLE When the going gets tough, the rich head to the airport. Luxury goods sales, which have been booming in China, began to slow earlier this year. But that doesn't mean that rich Chinese people have stopped spending. They've just stopped spending in China. Late last year, it became apparent that many wealthy Chinese were losing confidence in the domestic market, as they began investing in convertible assets, like foreign currency, rather than in fixed assets, such as real estate. Now they are increasingly looking overseas to invest in high-end property, partly because of domestic restrictions and bargains overseas, but also as a hedge against political and economic uncertainty at home. This dovetails with the revelation in late 2011 that over half of China's millionaires are thinking about skipping the country and setting up permanently abroad. Chinese prosecutors have said that close to 19,000 officials have been caught in the last 12 years while trying to flee overseas with money earned illegally; they use the term "naked official" for one who has squirreled away an illicit fortune in some overseas bolt-hole, has already safely installed his family there, and is now waiting for the opportune moment to jump China's listing ship. China's wealthy and politically powerful are often members of the same family, and if China really does go into recession, a lot of rich people may decide to cut and run. 4. A LONG, HOT SUMMER Electricity consumption usually spikes over the summer, as people turn on their air-conditioners to cope with the seasonal heat. But this year, many Chinese appear to be braving the high temperatures to economize. China's ports are piled high with coal that should be roaring in the country's power plants. Lower manufacturing output is also to blame. Only last year, Beijing talked about amassing an emergency coal stockpile to prevent the stuff from running out. Now it looks as if China has imported more fuel than it needs, as hard-pressed citizens, businesses, and factories cut their electricity consumption in order to reduce their bills. The national price of coal has already dropped 10 percent since late last year. This drop could further dent the global economy, which would in turn cool demand for Chinese exports even more. That's globalization for you: A Chinese person turns off the air-conditioning, and the world economy catches a cold. 5. HOG RATIOS AND "ROCKET EGGS" As China consumes ever larger quantities of meat, the prices of pork and beef have risen, fueled by the relentless demand. This has made inflation a preoccupation of Chinese policymakers. By 2007, China was eating 1.7 million pigs every day; in 2011 the country's National Bureau of Statistics said pork prices had risen 57 percent year on year. But over the last four months, demand for pork has dipped. The resultant oversupply has caused the all-important hog-to-corn price ratio to fall below the point where rearing pigs becomes profitable, and the Chinese government had to step in and buy up pork to stabilize prices. Even as the pork price has dropped, the price of eggs has shot up -- so quickly that shoppers have started to use the term "rocket eggs." Furthermore, Chinese consumers, their confidence shaken not only by the faltering economy but by a long string of food safety scandals, are increasingly opting to grow their own fruit and vegetables so that they a) won't be ripped off, and b) won't be eating cucumbers pumped full of things that no cucumber should ever be subjected to. Vice President Xi Jinping is expected to assume China's presidency in a once-in-a-decade leadership transition this fall. As the cracks appear in his country's economic foundations, you have to wonder whether he still fancies the job.
Chinese econ collapse is inevitable -- failing monetary and fiscal policies.

STRATFOR 2011 (Think Tank, “Monetary Policy Tools Fooling No One in China”, http://www.stratfor.com/other_voices/20110413-monetary-policy-tools-fooling-no-one-china)

The central government has embarked on a monetary tightening program to slow the nation’s growth rate and fight inflation, using credit rationing as its main tool. It’s a policy that’s compounding the nation’s inefficient allocation of capital. It’s also contributing to slower growth potential in China at a time when the nation’s inflation rate is surging. Nominal GDP in China has been increasing at a 20 percent rate, and much of that is tied to inflation. Inflation expectations have been rising even as policymakers raise interest rates: The People’s Bank of China in early April raised the interest rate 25 bps. It was the fourth rate hike in the current tightening cycle. But the aggregate increase for interest rates has been small. A 25 bps rate hike hardly makes a dent in what’s actually a negative interest rate for the real economy. Indeed, at this point, China’s monetary policymakers are too far behind the curve. Inflation is entering crisis territory, as consumer prices for many products and services rise at double-digit rates. Signs of panic have appeared along with hoarding which, when it spreads, could trigger a social crisis. Yet something else is happening. By shifting capital to inefficient users against the backdrop of negative real interest rates, China’s economy is being pushed toward stagflation. Meanwhile, the public is afraid that the government wants to inflate away the value of their money. What’s prevented a full-blown crisis so far is a belief that the yuan will appreciate. If not for this assumption, capital flight from China would be rampant. To change course, policy tightening must shift away from credit rationing and toward market mechanisms. Moreover, the interest rate must be lifted out of the negative column: It should be raised at least three percentage points to allay public fears. These changes are needed as soon as possible. No One’s Fool Too many people in China’s officialdom believe in the power of psychology, particularly in its ability to fight inflation. But inflation is not a psychological phenomenon; it’s a monetary phenomenon. Excessive money supply leads to inflation. To contain inflation is to contain money supply at a growth rate in line with production. Even when psychology succeeds by, for example, convincing people that there’s no inflation when in fact there is, the impact of these mind games does not last long. No one can fool all of the people all of the time. Indeed, psychological tricks can backfire. People who suddenly realize they’ve been fooled can stop believing in other things. Hence, they might refuse to believe their eyes if inflation starts to cool. Policymakers would then have to react with monetary tightening that overshoots goals to calm public fears. An unavoidable consequence of interest rate overshooting is a recession, which is certainly not a desirable outcome. Neither will administrative power cure inflation. Even the most powerful government is not more powerful than the market. Yet administrative power worship is pervasive in China, so many think the government can fight inflation by forcing businesses and merchants to hold down prices. There have been recent examples of such price intervention. But forcing businesses to hold down prices is only a temporary fix. Input costs are rising 20 percent per annum for some businesses, and these companies will not survive unless they raise prices. Businesses pressured by the government to hold down prices might have to halt production or find other ways to increase revenues. For example, they might shrink portions or repackage old products, selling them as new. State-owned enterprises can use subsidies and borrowing to slow price increases. For example, bank loans have been covering losses posted by thermal power plant companies, which have been forced to depress prices. Virtually every power company in China is losing money but survives on loans, basically shifting the inflation burden to banks. This tactic has many side effects, including human health damage. Power companies limit costs by burning low-quality coal or switching off smokestack scrubbers, forcing people to breathe harmful coal smoke. True, the administrative approach to power company price control keeps headline inflation rates in check, but is this good policy for the country overall? Administrative control worship is likewise manifest by credit rationing, which has been resurrected with a vengeance. Few private companies can get any credit from banks these days, forcing them to turn to the gray market for financing at interest rates often above 20 percent. Many, if not most, will not survive if these high financing costs continue. Optimistically, most private company borrowers think the current credit situation is temporary. However, if inflation persists and the government’s credit tightening approach remains unchanged, the private sector will see an increasing number of bankruptcies. China’s capital allocation mechanism is likewise working against the private sector, with increasing bias toward state-owned enterprises. Banks have been lending to underperforming SOEs simply because they’re owned by the government. Most funds raised on the Hong Kong and Shanghai stock markets are for SOEs. Local governments have been raising massive amounts of money by auctioning land and taxing property purchases. As a result, government expenditures have risen as a share of GDP. Indeed, government and SOE expenditures may have reached half of GDP. This is by far the highest in the world. And China does not follow the model common in Europe, where sizeable levels of government revenue are redistributed. History shows that government and SOE spending tends toward inefficiency. There’s plenty of evidence of this in China, where image projects have been sprouting across the country like bamboo shoots in spring. Inflation is a byproduct of inefficiency. Money spent on activities with low productivity levels lack products or services to absorb the money, leading to inflation. Credit rationing is making the situation worse. While the public sector wastes money and fuels inflation, efficient small- and medium-sized enterprises are being starved of cash. Stagflation Risk As capital efficiency declines in a climate of persistent negative real interest rates, stagflation emerges. Stagflation eventually leads to currency devaluation, and devaluations in emerging economies in the past led to financial crises. But the forces that favor low interest rates are powerful. For example, China’s local governments are so indebted – with debts now averaging three times revenues, and some extended by 10 times revenues – that they could not possibly survive positive real interest rates. Their survival hopes rest with sales of land at high prices, and higher interest rates would burst the real estate price bubble. State-owned enterprises are in similar shape and thus favor low interest rates. They reported 2 trillion yuan in combined profits last year but were still cash-flow negative. The SOE sector has never been cash-positive, and last year’s negative cash flow was the worst in years. Accounting for profits is always difficult, and it’s doubly so in China with its vast SOE sector. Government companies are so cash-flow negative and so leveraged that one cannot help worrying about financial health issues. Big problems could be impossible to hide if interest rates turn positive. The force is with credit rationing and negative real interest rates, even though this combination of policy tools makes stagflation inevitable. But is stagflation really so bad? Many would love an economic equilibrium that lasts a few years because it would effectively wipe away debt for those unable to repay. Indeed, stagflation benefits debtors. At the same time, however, savers pay a high price. No one expects savers to sit idly by while their savings are wiped away. Thus, stagflation never creates a stable equilibrium but instead breeds social instability. In an emerging economy, serious stagflation always leads to currency devaluation, which always triggers a financial crisis. China has vast foreign exchange reserves and capital control. Devaluation risks are still low, but not zero. China’s money supply is about four times its foreign exchange reserves. And the effective money supply may be much larger. A massive amount of credit has been extended outside the official system. The nation’s vast trust sector, for example, is effectively arbitraging related interest rates, with a risk profile and thin capitalization that pose a risk to financial stability. Changing Speed To control the money supply, China’s policymakers need to move away from credit rationing and focus on interest rates. Each interest rate hike should double to 50 bps at minimum to signal a new approach. In this way, the interest rate should rise three percentage points as soon as possible. To move away from credit rationing, lending rates should be liberalized further. For example, the band for lending rate flexibility around the official rate can be widened. At present, banks charge fees to increase the effective lending rate, but this system is neither transparent nor efficient. Imbalance is no longer an issue just for the macroeconomy, since it’s affecting microeconomic efficiency, which in turn is leading to a macro consequence – inflation. China’s economic difficulties are caused by problems in the system. Unless the root causes are addressed, these difficulties cannot be resolved. At the root of China’s problems is the rising level of inefficient public sector spending. The system is biased toward supporting public sector income growth. And as public sector demand for funding exceeds what the economy can bear, money-printing is inevitable. Tools for shifting money to the public sector are taxes and land sales. Unless these fall, all the talk about economic rebalancing will be no more than talk. So China should cut taxes, as soon as possible, to signal a new approach to economic growth. The top personal income tax rate should be slashed to 25 percent and the value-added tax reduced to 12 percent. Until that happens, China’s growth model will be suppressing the middle class. A successful white collar who has worked 10 years in a first-tier city cannot afford to buy an average piece of property in China. Suppressing middle class growth is not in the country’s interest, since social stability in modern society is linked to a large, content middle class. Many local governments have come out with property price targets that seem to limit price appreciation but ignore what are now unaffordable levels. The system seems to have become incapable of addressing the public’s fundamental concerns. The average price for a square meter of property in a city should be less than two months of average, after-tax wages. China’s prices are already high by international standards, and already take into consideration the high cost of building a city from scratch. Actually, current price levels are two to three times higher than this cost and can only be sustained by speculative demand. No wonder property sales collapsed after local governments started restricting multiple-property owners and non-resident buyers. A turnaround for real interest rates is not only necessary for containing inflation but vital if China is going to shift its growth model to household spending from government spending and speculation. Savers who lose wealth to inflation are unlikely to be strong consumers but, instead, may speculate to recoup losses, trapping the economy in an inflation, speculation cycle. China’s economic difficulties are interlinked and cannot be addressed separately. The root cause is the political economy that gives public spending the leading role in driving economic growth. A fundamental solution must involve limiting the government’s means for raising funds. Containing inflation and controlling bubbles must be viewed in this context, as the current growth model is pushing the economy toward stagflation and currency devaluation risks loom large. China could see a devaluation-triggered financial crisis similar to what the United States has already experienced. The difference, however, is that China’s system is not robust enough to maintain stability during such a crisis. It’s easy to see why fundamental economic reforms are urgently needed.’

Doesn’t cause war -- Chinese military depends on the economy -- proves they’ll turn inward.

New York Post 6/1/99 http://www.papillonsartpalace.com/chinaspy.htm

How are we to make China pay for its wanton act of aggression? The obvious way is to kill its application to join the World Trade Organization and to revoke Most Favored Nation status when it comes up for renewal. We learned from Ronald Reagan's successful fight against the Soviet Union that the soft underbelly of a Communist system is its economy. China could not afford to keep the military establishment it has if it could not count on regular, huge trade deficits with the United States. The Chinese Army is as much an economic as a military institution. Weaken Beijing's economy and you weaken its military.

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