REPORT FROM THE SEMINAR ON
CHALLENGES AND THEIR IMPLICATIONS FOR REGIONAL STABILITY
FEBRUARY 25, 2000 HONOLULU, HAWAII
is facing a myriad of internal challenges and problems as it moves into the
twenty-first century. China’s
ability to successfully solve these problems and manage these challenges will
directly influence China’s internal stability, the continuation of its
“reform and opening up” policies, and the security of the region.
In turn, China’s internal stability, economic and political
liberalization, and leadership will affect regional security.
A partial list of the difficulties confronting China’s leadership today
- SOE divestiture
- Rising unemployment in rural and urban areas
- Massive internal migration
- Shrinking foreign direct investment (FDI)
- Shifting of power from the center to the provinces
- Poor regulation of the banking and financial systems
- Bad debt currently held by SOEs
- Growing political dissent
- A host of environmental challenges
- Ethnic tensions
- Muslim separatism
Dismantling of the old social security network
To explore these complex issues the Asia-Pacific Center for Security Studies (APCSS) held a one day seminar on February 25, 2000 entitled “China’s Internal Challenges and Implication for Regional Security”. The purposes of the seminar were three-fold:
· To determine which of China’s internal challenges have implications for the security of the Asia-Pacific region;
· To assess China’s chances of successfully managing these challenges; and
· To explore the possibilities for other countries to cooperate with China in meeting these challenges.
The seminar also explored the linkages between and
connections among these challenges.
The seminar was divided into four sessions:
(1) China’s Economic Challenges: Implications for the Future; (2)
China’s Future Challenges: Energy and the Environment; (3) Social and
Political Consequences of China’s Economic Restructuring; (4) The PLA: Social
and Political Implications of Restructuring.
This agenda allowed the participants to move from a general assessment of
China’s macro-economic situation to a review of the specific challenges
engendered by China’s economic restructuring.
The Chinese economy has performed admirably since reforms commenced with the decisions of the Eleventh Party Congress in 1978. The successful effects of the reforms were clearly evident through the mid-eighties to the early nineties, as reflected in the nation’s double digit GDP growth. In contrast to the experience in neighboring India, China has also succeeded in its efforts to reduce poverty during the period between 1978 and 1988. Over that ten year period China reduced the number of people living below the official poverty line from 570 million to 220 million while India’s figure remained at 400 million. Why did the Chinese economy perform as well as it did throughout the early stages of reform as compared to India? A major factor may be that foreign-direct investment (FDI) over this period in China amounted to 261 billion dollars (20 times the FDI directed towards India). China’s accumulated FDI in 1998 represented 25% of GDP. However, FDI is currently shrinking and not expanding in China. China’s economy is slowing down and the reasons for this trend are unclear.
One explanation may be that China accomplished the easier economic reforms during the early 1980s. During this period, China opened up its economy to FDI and promoted export led growth. In more recent years, however, Beijing has been forced to deal with the more difficult challenges posed by price deflation, a troubled banking system, falling corporate profits, shrinking export growth and declining FDI. That China’s economic planners have to deal with some very daunting tasks is reflected in the following statistics:
- Export growth during 1998 was almost 0% in contrast to the 1997 figure of 21%. This was the worst trade performance in fifteen years.
- Two-thirds of China’s export surplus disappeared during the first half of 1999, although third quarter data show exports starting to rise.
- During China’s dramatic period of growth, the trade front provided fuel for the economic engine. This situation no longer holds true.
For years Beijing has tried to ignore market forces and command economic growth through Soviet-style central planning. It urged state owned enterprises to produce goods without regard to whether they were marketable or not—and often they were not. In February 1999 Beijing announced that two thirds of its key manufactured foods were in oversupply. In addition to the difficulties mentioned previously, China is now facing rising unemployment and social unrest. Beijing’s fears over social unrest stalled attempts at deepening economic reforms during most of 1999. The leadership is on the horns of a dilemma. It must slow down any economic reform that radically worsens unemployment. Yet if it slows down economic growth the leadership may be destroying one of the pillars of its own legitimacy.
Seven percent GDP growth may not be high enough when viewed in the Chinese context to keep the lid on the pot of China’s boiling economic and social difficulties. China needs at least an eight percent growth rate to outpace population growth and ensure positive per capita growth. China’s real GDP growth has fallen from 13% in 1994 to about 6% in 1999. Another reason for this reduction in growth is the shortfall in aggregate demand. Consumers are reluctant to spend due to fear of losing their jobs and are saving money to offset the reduction in state subsidies.
The government has initiated a number of steps to deal with these looming problems. It has increased government spending to offset consumer demand shortfalls. This short-term fix is probably not sustainable. It is uncertain how long the government can invest in “make work” programs when money is also required to service the debt, re-capitalize insolvent state banks and establish a new pension system to replace the one that is dissolving as the state divests itself of SOEs. Consequently the pressure for devaluation is increasing. Beijing will likely determine that preventing excessive or disruptive unemployment is its highest priority. Social stability and availability of jobs are far more critical to Beijing’s hold on power than any other factors. How should the leadership deal with its revenue shortfall? Certainly it could raise taxes, but this no doubt would worsen aggregate demand. Perhaps China’s best course of action is to scrap Central Bank control of capital markets and opt for a Western style long- term bond market. Moreover, entry to the WTO may boost aggregate demand, foster free competition, pave the way for further economic reforms, and reduce capital flight.
Any degree of fragmentation or instability in China caused by economic difficulties will affect the region. It is in the interests of China’s neighbors to provide the capital and expertise as well as lend any cooperation they can as China finally begins to tackle its fundamental economic challenges.
State-Owned Enterprises (SOEs)
The reform of SOEs is perhaps the key to the overall reform program. Not only do they represent a significant portion of the Chinese economy, but successful reform of this sector will result in ameliorating some of China’s other significant problems such as corruption, rising unemployment and collapse of the old social security net. In 1998 SOEs employed 90 million persons, 43.8% of the total of employed persons in China. SOEs have been responsible for the housing, medical insurance, pension, and child education of their employees and their families.
Despite the key position that SOEs occupy in the economy and the important social welfare functions they perform, SOEs have been producing at below 50% of their capacity. Most SOEs are confronted with capital shortage, debt, overstaffing, and outdated technology. The government has made some progress in SOE reform. For example, in Shanghai, “by the end of 1998 some 1028 state firms had been annexed or had gone bankrupt. The total number of SOEs has been lowered to 30% of the city’s total of 70% in 1990.” According to official figures, in 1997 39.1% of SOEs operated at a loss. In 1998 the figure was reduced to 22.4%. As the state divests itself of unprofitable SOEs, the number of unemployed has concomitantly grown. The number of the unemployed in urban areas alone is estimated at 16 million and a further 12 million may be laid off in the year 2000. The South China Morning Post reports that although official unemployment is listed at 3%, the real figure is probably 10%. The leadership is unwilling to exacerbate unemployment any further and has therefore readjusted its target date for the completion of SOE reform to 2010.
Over the next ten years the government hopes to continue the reform of SOEs at a slower pace by using debt-to-equity swaps with state banks along with the help of financial asset management firms, the introduction of modern corporate management systems, and introduction of a shareholding system. Whether the central government is successful in accomplishing its goals remains to be seen. In the face of growing regionalism in China, the center must contend with the attitude that “the higher authorities have their policies, the localities have their countermeasures.” The situation in China’s western provinces is even more pronounced. Already suffering from a wealth gap when compared with China’s coastal provinces, local authorities in the west may be even more loathe to move on SOE reform because of the dominant role SOEs play in their local economies. However, if SOE reform is unsuccessful in the west it will further widen the income gap in comparison with the coastal provinces and may possibly exacerbate ethnic and religious tensions that have already surfaced in those areas.
In the long term, China’s entry into the WTO will serve as a catalyst for SOE reform by forcing China’s SOEs to speed up reform for their survival in market competition. In the short term, however, WTO entry may be more harmful than helpful in that many SOEs will be unable to compete against high quality foreign products. This will likely result in additional bankruptcies and even more unemployment. One estimate projects that if imports increase by 10% without commensurate export growth, 50 million more employees would lose their jobs.
China’s security is closely bound up with the security of the region. An insecure and unstable China would have a profound impact on the security of the region. As the presenter for this session of the seminar clearly pointed out, China has made significant contributions to regional security by playing a positive role in maintaining peace on the Korean peninsula, preventing regional nuclear proliferation, and establishing confidence-building measures (CBM’S). China could also have major negative effects on the security of the region through massive migration, a rise in drug trafficking and increased pollution. The degree of domestic stability or instability is directly linked with these negative factors. “If China’s SOE reform does not succeed, further workers will be laid off, regionalism (in China) would rise, and separatist movements in some areas would escalate. Thus the success or failure of SOE reform is an important factor in affecting the domestic stability and Asian-Pacific security.”
This session closed with some possible suggestions for cooperation with China on SOE reform:
- Increased foreign investment in SOEs as allowed by new regulations
- Sharing modern management techniques to establish SOEs along corporate lines
- Assistance in the establishment of a new social security net in China.
As China develops its economy, it requires ever greater supplies of energy. Many observers believe that energy will be one of the most serious challenges for China in the 21st century. Currently, China relies heavily on fossil fuels for its energy supplies, with coal serving a primary role. Other sources of energy include oil and natural gas. Despite its possession of vast energy supplies—especially coal—China is expected to experience energy shortfalls in the next few decades. The gap between energy demand and supply may be as large as 140 million tons of coal. For China, the most obvious solution is to rely even more extensively on coal. However, in the long term, questions are arising about whether such a strategy is sustainable. Coal contributes substantially to China’s air pollution. It also contributes to acid rain, a problem that is regional and not simply limited to China. Finally, greater use of coal will ensure that China will be responsible for a greater proportion of the world’s carbon emissions, a factor linked to global warming and climate change. Given these challenges, the question that emerges is: is there an alternative?
One way that China could meet its growing energy demand is by emphasizing efficient use of energy. Although efficiency has improved in the past several decades, it lags behind advanced industrialized countries substantially and thus the margin for improvement is substantial. Another alternative might be greater reliance on natural gas which is a much cleaner form of alternative energy. China has about 33 trillion cubic meters of natural gas of which only 3 trillion cubic meters have been prospected thus far.
Another possible clean energy alternative for China is nuclear energy. China’s nuclear industry relies on both indigenously-developed technology as well as imported technology from France, Canada and Russia. In 1991, China first produced electricity from nuclear energy; today China has more than 3 nuclear power reactors in operation. China is currently building eight new reactors in four stations. Although nuclear energy in China is promising, there are a number of limitations. First, it is not realistic that enough nuclear power plants could be constructed to substantially lessen China’s reliance on other forms of energy, such as coal and oil. Secondly, there is the long-term problem of nuclear waste, a problem that would only worsen as more plants are constructed.
China’s energy needs have at least two implications for regional security. First, as China seeks to develop nuclear energy, there is an opportunity for further U.S.-Chinese cooperation in this area (including on the issue of nuclear safety). When President Clinton visited China in 1998, he noted that nuclear energy was a “win-win-win” victory for his China engagement policy (i.e. it mitigates China’s environmental problems, promotes American business and advances nuclear non-proliferation). Secondly, to the extent that China must turn to external energy sources (i.e. oil), its foreign policy will have to be adjusted to reflect this reality. The Middle East will continue to be China’s key oil supplier well into the foreseeable future. China is fully cognizant of this reality and will cultivate relations with major powers in this region, even to the extent that it contravenes the interests of other Asian countries, Europe and the United States. China will also seek to maintain stability in Tibet and Xinjiang to ensure access to oil.
One of the major challenges to China’s drive toward modernization is environmental degradation and its related problems. The presenter for this session noted that almost from the beginning of the establishment of the People’s Republic, Chinese officials have emphasized economic development over environmental protection. In recent years, officials have begun to realize the flaws of such policies. In its 1999 State of the Environment Report, the government noted several dismaying trends. First, the environment had not improved from previous years despite a growing awareness of its importance to national development and human health. Second, many problems described in earlier reports had further deteriorated; for example, illegal logging was accelerating deforestation and encroaching on agricultural land; five of the world’s most polluted cities were in China (Beijing, Shanghai, Xian, Shenyang, and Guangzhou); the problem of acid rain was getting worse; loss of arable land was accelerating to the point that total farmland declined by 20 percent; water pollution was worsening as municipalities and factories continued to dump human and industrial waste into the nation’s rivers, among many others.
Environmental degradation in China is not only a blight to the aesthetic beauty of the country, it also has far-reaching economic and social implications. For one, it was noted that total air and water pollution in China costs the nation $54 billion (or about 8% of the nation’s GDP), a figure that includes health and productivity losses. Environmental degradation in China is also contributing to mass internal migration in China, a trend that has generally been attributed to only economic factors. For instance, there are reports that up to 25 million people in inner Mongolia have migrated to other parts of the region in search of scarce water supplies. Moreover, environmental pollution is also sparking violent conflict in some cases. There were 830 such incidents in 1993, attributed to popular anger about environmental issues. In some cases, a polluting factory will spark a mass protest, especially when it is revealed (as is often the case) that official corruption is partly to blame for the presence of pollution.
Despite the nation’s vast environmental challenges,
Beijing’s response has continually emphasized economic growth first,
environmental protection second. The
government has various laws that address environmental pollution, but they are
either not enforced, or have too little teeth.
For example, many factories would prefer to pay the fines associated with
their pollution, rather than making the costly improvements that would reduce
pollution levels. China’s own environmental protection agency, with a staff
of 600, was recently forced to endure a massive restructuring that resulted in a
loss of 50% of the staff. Thus, it
is clear that environmental protection will likely remain a low priority for
China for the foreseeable future.
Sustained environmental degradation in China portends a bleak future for the Asia-Pacific region. Transboundary pollution is likely to grow as a political problem between China and Japan. Moreover, to the extent that environmental problems in China induce migration, many neighboring Asian states may need to prepare for an influx of “environmental refugees” from neighboring China. China is also a major contributor of carbon emissions, which in turn exacerbates global warming and climate change trends.
Session three focused on the political and social implications of China’s economic reforms, and likely scenarios for the next two decades. The first presenter focused on problems in China’s agricultural sector. She noted that the growing fissures in China’s economic and political system also reflect contradictions in China’s agricultural sector. China’s population can be divided into roughly three parts: farmers (about 700-800 million), rural migrants (150-250 million) and urban residents (250-350 million). Demographically and politically, China’s rural sector is the most important, it was argued. Moreover, the Chinese Communist Party owes its initial success to rural residents; Mao Zedong depended heavily on soldiers from rural areas in his battles against both the Chinese Nationalists (Kuomintang) and invading Japanese soliders.
Nevertheless, the CCP continues to pursue an “anti-rural bias” in its domestic policies, according to the presenter. This trend can be traced to the period when the CCP came to power in 1949. At that time, the CCP adopted the Soviet Union-style planned economy. Urban development would receive the highest priority, while farmers would participate in a support role. Under this arrangement, rural residents were unable to gain access to state welfare (such as medical care, housing, food rationing, education, etc.). The adoption of the urban hukou system (a system which required urban residents to be registered in order to gain access to various welfare benefits) stifled rural-to-urban migration and thus limited one avenue in which rural residents could have improved their lives. Additionally, rural residents were also saddled with the task of ensuring China’s food security, primarily due to a number of arrangements that required rural farmers to sell their grain to the state at artificially low prices.
The second presenter focused on the future of Chinese economic growth and its implications for internal domestic stability. First, he offered three basic scenarios for China—one in which China will become the world’s second largest economy by the year 2020, another in which China experiences a slowdown over the next two decades, which in turns causes a loss of legitimacy for the CCP and possibly leads to disorder, and finally a scenario of economic stagnation. The presenter noted that the high-growth scenario that is often touted in the popular press is probably not realistic; if it were likely, China’s gross domestic product (GDP) would have to reach $11.2 trillion in the year 2020 (compared with the U.S. at $15.4 trillion and Japan at $9.4 trillion).
Four major factors are barriers to high economic growth in China. First, there is the problem of low productivity growth. The presenter asserted that China’s productivity growth is much less than is commonly believed and that it is difficult to convert China’s high savings rate into useful capital that can then fuel additional productivity. Secondly, there is the problem of “animosity, bureaucracy and corruption”. Animosity refers to growing internal ethnic cleavages in China—such as the Uyghur separatist movement in China’s western region. The impediment that bureaucracy presents is related to the “local-central” divide that persists between local governments and Beijing. Local governments often pursue policies that circumvent national directives. Corruption makes the problem worse. China is increasingly recognized as one of the most corrupt countries in the world.
A third factor is reliance on exports to fuel economic growth. Much of the enthusiasm about China’s economic growth is rooted in the fact that exports have played such a prominent role. From 1987 to 1995, the real rate of Chinese export growth was 18.1% a year, which was significantly higher than the overall growth of the economy. Yet continued export growth at this rate is not realistic. If China’s exports to the United States, for example, were to continue at their present growth rate, they would constitute almost 80% of U.S. imports and the U.S. would likely have a trade deficit of 48% of GDP, an unlikely scenario. A similar dilemma involves foreign direct investment (FDI). Since 1980, foreign investment in China has grown at a rate of 35% a year; in 1995, moreover, foreign direct investment totaled about $35 billion. However, current evidence suggests that this trend is reversing. Investors are realizing that China is not as profitable as they once believed. Moreover, continued FDI at past rates is not realistic: “With 35% annual growth, China’s receipts of foreign capital will exceed all of Japan’s foreign investment in two years and in ten years China would have to receive all of the international capital invested in the whole world.”
Other constraints to economic growth in China include energy demand and environmental degradation. Regarding energy, China is already the world’s largest energy consumer in the world, consuming 850 million metric tons of oil equivalent. China’s energy demand is expected to jump significantly over the next 25 years. To satisfy its growing energy needs, China will most likely increase its dependence on imported energy. In fact, China will likely become the world’s largest energy importer by 2010, with most imports coming from the Persian Gulf and Siberian Russia. Growing energy demand and consumption portends massive environmental consequences. Roughly 300,000 Chinese citizens in urban areas annually suffer premature deaths due to outdoor or indoor pollution. If environmental standards continued to be ignored by Beijing, the “cumulative effect of deteriorating air and water quality will sharply reduce both the country’s productive capacity and the living standards of the Chinese people.”
Overall, the presenter proposed three scenarios for the future of Chinese economic growth: the “medium growth” scenario, the “low growth” scenario, and the “economic stagnation” scenario. The presenter argued that the “low growth” scenario was the most likely. Under this scenario, China’s real growth would average about 4% a year and by 2020 China’s GDP would likely total about $2.6 trillion. This GDP would make China the fifth largest economy, placing it squarely between Korea ($3.2 trillion) and France ($2.4 trillion). The presenter noted that if the “low growth” scenario actually takes place, it could be devastating for the Chinese Communist Party which, as a substitute for its loss of ideological legitimacy, has maintained a bargain with the Chinese people “to deliver the goods.” If the CCP is not able to improve the material welfare of the Chinese people, it will likely face opposition to its rule—most likely from provincial governments—and this could in turn lead to political instability.
Most of the analysts who follow the People’s Liberation Army (PLA) focus on China’s military purchases from Russia and the PLA’s threat to Taiwan while ignoring the volatility of the internal security problem in China. Members of the PLA are facing the same economic difficulties that other segments of the Chinese population are facing. The demographics of an aging population leave a smaller manpower pool available for military service, a problem exacerbated by the one-child policy. If the government cannot provide the expected social and health safety net for the elderly, leaving the burden on families, the incentive for a young person to serve in the military is lower. Military pay is barely sufficient to sustain the soldier, let alone a family, and military service takes the child away from the family. Because pay is so low in the security organs of China, whether it be the PLA, People’s Armed Police (PAP), or the Public Security Bureau, the incentive to engage in corruption is quite high. In short the leadership cannot isolate the members of its security organs from some of the same problems caused by economic re-structuring that members of the population at large are facing. If any of the difficulties mentioned earlier grow to the point where the intervention of any of China’s security branches is required, the loyalty of those branches in a crisis may be suspect.
Low pay and outside opportunities have created both recruiting and retention problems for the PAP and the PLA. If a family member leaves the farm, he or she tends to migrate to the urban labor market and thereby avoids military or paramilitary service. The disincentives to join the military and the incentives to avoid conscription are higher now than they ever have been in China for four reasons.
- With the high losses incurred against the attack on Vietnam, it became clear that it was dangerous to send a child into military service.
- Sending a son or daughter into military service is a poor economic choice.
- Due to the actions of the PLA in 1989, entering the military is a distasteful political option.
- As the Party slowly loses its mantle of legitimacy, doing anything for the Party or state organs of power increasingly becomes a meaningless political choice.
The degree of loyalty to the party within the PAP may be more highly suspect than that of the PLA. Following basic training, PAP troops are generally not isolated from the general population as are the troops of the PLA. Because they are not confined to the barracks, they have opportunities to mingle with the populace. They generally enjoy close relationships with the local families and children where they work. Generally speaking, because of this familiarity, the PAP was reluctant or failed to use force against the population in Beijing in 1989. That is why the PLA was tapped to restore order. To avoid using the PLA in the future, the Central Military Commission has increased the numbers of the PAP by converting whole divisions of the PLA to the PAP. Thus the Party’s leadership hopes that if it again becomes necessary to suppress large segments of the total population, they can depend on the new PAP units.
In addition to suspect loyalty, there is another internal security problem looming in the background. The PLA has demobilized thousands of soldiers who have received basic military training. Moreover, workers in the countryside and in the cities have either served in the military or have received militia training. China now has a large group of people who know how to use violence and manage force in an organized way. Many people in this large pool are disgruntled due to the economic and social problems mentioned earlier. The problem is further compounded by the previously mentioned state of affairs in the SOEs. The potential for labor unrest in the SOEs is high. The one million-plus officers and soldiers in the reserve forces of the PLA are primarily located in the state or collectively owned enterprises of one form or another. The presenter ended this session with the following questions:
“In the past, the CCP has always been able to call on the PLA to suppress unrest when it was ordered to do so. And in the near term, it can probably count on the PLA again. But if the PLA faces parts of the PAP and its own reserve divisions, will it act resolutely? Or will things devolve into a general breakdown of the government? This is the dilemma that China’s leaders face, and they are riding a tiger they are having difficulty controlling as they liberalize the economy.”
Throughout the seminar, two themes remained constant: Because China faces so many internal problems and many nations in the region have experience in managing similar problems, there is ample opportunity for other countries to share their expertise with China. Such cooperation may create an atmosphere that could be extended to more sensitive realms of security as nuclear non-proliferation and border disputes. Secondly, all participants agreed that China is still far away from a Soviet style collapse; however, should China be unable to solve one or more of the many challenges it faces, the result will be some decrease in the internal stability of China. Restructuring the economy has created a degree of fragmentation in China. Fragmentation can be a destabilizing factor for any regime. The leadership will react but how? Will it become more strict or perhaps even more intolerant of opposition? Will it divert attention away from internal problems by whipping up an already nascent nationalism? The very scale of China (large population, geographic size and location, etc.) implies that any degree of instability in China will likely affect the region as a whole. Hence there is even more incentive for China’s neighbors to work with China on cooperative solutions to the challenges that China faces.
China has often been described as a country full of contradictions. The Chinese themselves often use the term “maodun” or contradiction. What struck all participants was the degree of contradictions that the Chinese leadership faces as it manages many of the challenges discussed in the seminar. Some of these contradictions:
- How will China reduce the number of SOEs and not increase the number of unemployed?
- How can China divest itself of SOEs without concurrently creating a new social security net?
- How can China’s leadership guarantee the future loyalty of its security organs when it cannot shield them from the same economic problems faced by the population at large?
- How long can China continue the development of the urban sector at the expense of the rural sector?
The manner in which Beijing manages these problems will determine whether China is a beacon of progress and stability within the East Asia, or a source of instability and chaos that would almost certainly hemorrhage outward beyond the country’s borders and thus create grave security consequences for the entire Asia-Pacific region.This report was authored by Col. Robert Forte, Chairman, Dept of Transnational Studies, and Paul J. Smith, Research Fellow, of the Asia-Pacific Center for Security Studies. For more information, please contact them at 808-971-8976 .
ABOUT THE ASIA-PACIFIC CENTERThe Asia-Pacific Center (APC) is a regional study, conference and research center funded by the U.S. Department of Defense. The Centers mission is to foster understanding, cooperation, and study of security-related issues among civilian and military representatives of the United States and other Asia-Pacific nations. The Center provides a focal point where national officials, decision makers, and policy experts can gather to exchange ideas, explore pressing issues and achieve a greater understanding of the challenges that that shape the security environment of the Asia-Pacific region. APC occasionally publishes articles on Asia policy issues written by APC research, staff, and fellows. The views expressed here are those of the author and do not necessarily represent those of the Asia-Pacific Center, the Department of Defense, or the United States government.