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The German-Chinese World

Martin Hutchinson

The Congressional Budget Office’s report Wednesday that the U.S. budget deficit was to run close to 10% of Gross Domestic Product for a third successive year, together with President Obama’s refusal to face the need for major public spending cuts in his State of the Union Address Tuesday night, finally opened the possibility of a lengthy period when the United States’ debt nightmare no longer allowed it to play its customary leading role in the world. The natural heirs to its hegemony will be Germany and China, the two powers that have retained a sense of fiscal responsibility in the 2008-11 economic meltdown. Needless to say, a world dominated by those two powers will have very different characteristics.

A full abdication by the United States, as distinct from its gradual subsidence into a leading position within a “multi-polar” world order, may at first glance seem unlikely. Yet there is a clear precedent for it in the fate suffered by Japan since its market bubble burst in 1990. While the world’s second-largest economy for most of the last two decades, Japan has been traumatized by prolonged recession and spiraling debt, and has gone into its shell, punching consistently below its weight in international negotiations, except for a transitory period under Junichiro Koizumi. Russia, a far poorer country with a GDP one-third the size, riddled with corruption and cruelty, is of much more consequence at the world’s geopolitical top table.

It may be objected that since World War II Japan has kept a low profile, whereas the United States has been used to throwing its weight around and would wish to continue doing so. However in 1989-90 Japan was showing much more assertiveness – the best-seller “The Japan That Can Say No” was published in 1989 by Shintaro Ishihara, now governor of Tokyo, and Akio Morita, the founder of Sony. Two decades of spiraling debt and lackluster growth sap a nation’s ability to take foreign policy initiatives as well as its domestic policy.

Since the CBO’s forecast is for a U.S. debt trajectory deteriorating rather more quickly than Japan’s in the 1990s, and the country’s recent foreign adventures have been met either with failure or at best qualified success, it does not take much imagination to imagine a world in 2020 where the United States has retreated largely to isolationism, cutting off the greater part of its international commitments, slashing its participation in multilateral institutions, retreating into “anti-dumping” protectionism and struggling to bring its fiscal position and economic performance under control.

President Obama’s tendency to waste resources on domestic economic boondoggles and his relative lack of interest in foreign policy will between them take the U.S. a long way toward this future if his Presidential period in office lasts until 2016. It does not take much imagination to foresee his successor having a Jacksonian distrust of foreign entanglements, and undertaking defense and foreign policy rollbacks that “kept America safe” but left her without significant influence in the councils of the world.

I do not claim that this trajectory is certain (events and elections over a ten-year period make certainty impossible in these matters.) However it is very possible, with perhaps a 20-25% probability of occurring. It’s thus worth thinking about what an America-less world order might look like.

The leading powers in such a world will be those major economies that have not wrecked themselves by incurring excessive debt during the Great Recession. They will not include Britain therefore, which is bringing down its public sector deficit achingly slowly, and which has the incubus of a bloated financial services sector and a housing market that is still grossly inflated. They will not include India, which has since 2004 been grossly self-indulgent in its expansion of the public sector, allowing the borrowing requirement to spiral even as the economy was growing at record-breaking rates. They will not include Brazil or Russia, which not only have committed India’s folly but also have corrupt and inadequate styles of government that will cause immense difficulties once the world financial markets tighten and money does not grow on trees. They will not include southern Europe or probably France, which have bloated public sectors and are as protectionist as will be the diminished United States. They might include Japan, but only if it swiftly brings its budget under control and returns to the Koizumi-era policies of public sector restraint and private sector growth.

By a process of elimination therefore, and ignoring well-run but relatively minor economies such as Canada, Chile and Sweden, there will be two great economic titans of a post-America world. One will be the obvious – China – whose massive savings rate and increasingly market-oriented economy will allow it to overcome the inevitable future crisis in its banking system.

The other global leader will be much less obvious to U.S. observers, trained over the last twenty years to regard it as a basket case. However Germany has now overcome the difficulties of reunification and begun to take its natural leading role in the European Union. It avoided the senseless “stimulus” with even its social democrat finance minister referring to the policy as “crass Keynesianism.” Consequently it has emerged from the recession in excellent shape, its wage levels high but competitive and its superb engineering and technological innovation capabilities a match for any competitor in the world, even allowing for the adverse wage cost differential.

Economically, a world dominated by China and Germany will have very different ground rules from the “Washington Consensus” world of 1991-2008. Both countries are nationalist and have no particular commitment to free trade, so the world will be more protectionist. At the same time both countries are economically rational, recognizing that tariffs above a low level and a fortiori non-tariff barriers are seriously damaging to wealth. It’s likely that the world will become organized into trading blocs, with moderate tariffs between different blocs and more or less free trade within each bloc. The EU is already such a bloc; we are seeing informally a China-centric bloc taking form, with Taiwan and several countries of South-East Asia closely connected with China and Korea and Japan more loosely so. Intellectually, China was never subject to the Aristotle/Descartes logic whereby objects were either in or out of a set, so a “fuzzy logic” arrangement of economic relationships, with some countries being both inside and outside its bloc will suit China’s rulers just fine.

The global economy will be reoriented also by the competitive strengths of Germany and China, which are primarily in technology and manufacturing. Financial services will be very heavily regulated and will form a much smaller part of global GDP than at present. Top management remuneration will also be lower and less variable than at present, although the economies will not be un-entrepreneurial – the Chinese diaspora are among the best entrepreneurs in the world. However “transparency” will be considerably lower than at present, reflecting the Chinese system of operating through “guanxi” personal connections and the German tradition of long-standing family-held “mittelstand” about which very little information is publicly available. Global stock markets will thus be somewhat moribund by current standards, as they were in the 1950s, with retail investors using them as pure casinos while institutions lock up major shareholdings for long periods.

The transition to a German-Chinese hegemony may involve a period of heightened geopolitical tension. China has already demonstrated itself an assertive power in the foreign policy sphere and the disappearance of the United States as a major factor would doubtless cause its self-assertion to increase. Germany conversely has been a remarkably unassertive power since the end of World War II, but its rise to hegemony would undoubtedly cause it to reassess its military posture. Its most likely course would perhaps be to develop a subgroup of NATO containing the more militarily capable countries of Europe, in order to provide a balance to Chinese power. Japan and probably South Korea (or a reunited Korea if such existed by that time) would militarily ally themselves with Germany, even though economically their closer relationship would be with China. In such a world order, China would be near hegemony, but would be restrained by opposition from most of the non-Sinocentric world under Germany’s leadership.

A German-Chinese hegemony replacing the U.S. one is not unthinkable, nor would it be a disaster for the world as whole, provided China’s aggressive instincts could be contained. Economically however it would be a very different world order from today’s. Parents had better steer their offspring toward a heavily technological skill set rather than encouraging them to head for Wall Street.


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