A plant start up project in rural China is considering hiring the services of a firm which provides an automated pre-employment screening process.  The process would allow the plant to select evaluated and eligible candidates far faster than conventional recruiting methods currently used in China.  This may indicate a new trend where foreign corporations choose to automate the recruiting and retention process for their facilities in China, particularly for plant relocations and expansions.

Dr. Charles Handler, the president and founder of Rocket-Hire.com, believes that a successful hiring and retention process should include the following heuristic methods and strategies.

Determine the traits required to complete the job and measure the degree to which these exist in potential candidates.
Identify individuals who possess the raw abilities and characteristics required.  Note it may take time to identify abilities and characteristics critical to desired outcomes.
Training and experiences can help to refine raw abilities.  When seeking to do something that has not yet been done, training and hands-on learning are key.
Identify applicants who are creative and possess the proper thinking styles. Ideas are required for continued success.
Assemble persons with backgrounds in different areas and ask them to function together as a team. New innovations and progress require input from those with vastly different backgrounds.
Match work styles and cultural values between members of the team.  Applications allow organizations to measure, model, and optimize fit when creating and aligning work teams.

This HR screening firm incorporates several of these heuristics into its software and supports clients to administer its adaptive, computer-based interviews automatically via telephone and/or web browser, at the applicants’ convenience.

How they will address the localization issues, especially with regard to language and the culturally biased usages of technology, will be most interesting. 

At a minimum all text and audio in the user interface must be translated into Mandarin. Although for positions requiring strong English abilities deploying the interviews, at least partly, in English would be an intelligent screening technique.

As the screening firm is sensitive to cultural differences they are proposing a number of approaches.  Fortunately they have something relatively solid on which to architect their solution: the start up project team believes their phone technology will be useful in the rural areas.

I wonder, however, how comfortable a typical mainland Chinese plant applicant will be in providing clear, informative responses to a machine over the telephone.  While some businesses, like the mineral water delivery companies (i.e. Laoshan), employ automated telephone menus systems, voice mail is used rarely, if at all, in China.  In general the Chinese, therefore, will feel much more comfortable sending an SMS than leaving a voice mail. An automated HR application cannot be implemented in exactly the same way that it would be in the U.S.

The application developers may also need to address differing cultural concepts regarding the cooperative use of language.  The philosopher Paul Grice proposed four conversational maxims that arise from the pragmatics of natural language. The Gricean Maxims are a way to explain the link between statements and what is understood from them. The Maxims are based on his cooperative principle.  The principle describes how effective communication in conversation is achieved in common social situations and is further broken down into the four Maxims of Quality, Quantity, Relevance and Manner.

The Gricean Maxims are only intended to describe the commonly accepted traits of successful cooperative communication.  Due to intercultural differences they cannot be universally applied.  In Chinese culture, speakers are more reluctant to share information and disregard the Maxim of Quantity by evading direct questions and replying in incomplete answers due to the risk of losing face by committing oneself to the truth.

Since text based communication among the Chinese is typically brief and often vague, the Chinese frequently prefer face-to-face interaction over email.  They are liberal users of non verbal communication, as it allows messages to be communicated while simultaneously allowing one to avoid responding to direct questions and over-committing oneself. 

Sometimes the Chinese will also flout the Maxim of Quality too when questioned directly, especially with difficult or sensitive topics.  In a former role as a project manager seeking status, I occasionally had engineers tell me that they had completed an assignment or that everything was fine when in reality they faced serious obstacles.  In these cases I often encountered something which I call the Three Question Rule (* This is a term I coined to illustrate the reluctance of the Chinese to respond "cooperatively").  Sensing responses of excessive brevity accompanied by uncomfortable postures, I would repeat questions with increasing precision and patience.  With each repetition the engineer considered his response with greater care and became increasingly reluctant to respond.  By the third or fourth repetition a “yes” either became a highly nuanced “yes” or in most cases a “no.”  Only in ceremonies, such as company openings, anniversaries, or elaborate drinking rituals have I found the Chinese to err on the side of verbosity.  Although in these situations they too scoff at the Maxims of Quality and Manner.

To compensate for the cultural flouting of these Maxims, the HR screening application will likely need to incorporate a greater degree of query repetition.  Acculturation makes one better adept at interpreting the mocking of these Gricean Maxims and the accompanying non-verbal cues. The need to repeat a question loses necessity as the acculturated individual begins to master a new, localized set of cooperative Maxims.  Nonetheless until the computer-adaptive screening methods can duplicate the intelligence of an  acculturated human resources expert in a face-to-face interview, they will need to rely on query repetition of some kind.

For a foreign firm looking to staff a plant in rural China, the computer-based pre-employment recruitment system has some obvious benefits however.  Instead of the conventional resume vetting process which filters candidates based on minimum requirements, a computer-adaptive screening process could rank candidates instantaneously on how well they would contribute to the success of the mission.

In Asia, and especially in China, hiring managers tend to filter candidates based on resumes and then use face-to-face interviews to judge the candidate on more superficial grounds, such as whether they have a nice presence and could one work with him or her.  Hiring managers rarely ask challenging questions and seek to hire someone not too dissimilar from themselves.  This unfortunately does not facilitate the hiring and retention of creative individuals who possess the ability to generate new ideas and effective thinking styles.  An unbiased software application which could effectively measure traits such as creativity and initiative would greatly benefit China-based enterprises.  Such a system would not only facilitate a time-efficient recruiting process, but would also better match candidate selection to the mission of the enterprise.

HR screening firms aiming to deploy computer-based interviews in the Asia/Pacific region should also begin looking beyond telephone and web browser delivery.  In China, mobile users increasingly outnumber PC users, and 62 percent of all cell phone users regularly receive and reply to messages, or update status and profiles on popular networking sites via mobile phone browsers.  Thus leveraging the mobile phone browser prevalence among the Chinese would certainly increase the likelihood of technical adoption.

Recently having learned that foreign owned enterprises operating in China have a serious need for HR and Compensation professionals to establish effective HR strategies, I began to wonder whether these computer-based screening and retention applications could help to fulfill this need.

How could these software tools be used, if at all, to help an HR professional establish an entire HR strategy, including job classifications, retention programs, reward systems, and annual work schemes for production?

Given that Chinese workers are now more selective in types of work and wages, and compensation schemes are mismatched, can these applications assist employers in setting optimal compensation levels?

How can firms leverage these software tools to attract and retain the proper talent for their mission in a tight labor market?

If someone can provide an adequate response to these questions, they may be looking at a potentially large and lucrative new market to serve.

Years ago many foreign organized business associations were founded in China in large part to gain better information of job classifications and compensation levels. In this current tight job market the need for compensation and retention expertise has only grown.  Not surprisingly foreign-owned enterprises operating in China have a serious need for experienced HR and Compensation professionals to help them establish effective HR strategies.

Despite the global economic crisis, workers are finding it easier to hold out for better opportunities, which the massive stimulus package has created in areas outside manufacturing.  Manufacturers desperately need help managing the balancing the act between the pressure to keep costs down and the need to attract and retain workers.

Last month I had the opportunity to have dinner with an HR and Compensation professional who is considering leaving the U.S. to fulfill his dream of working in China.  He sought my assistance in learning the local market for his skills here in Shandong Province, most notably Qingdao.  And based on a few key contacts throughout China, one of which I was able to make happen, he developed “an idea of what [he needs] to do to pursue [his] expertise ... in China.”

A renewable energy equipment provider operating in Northern China showed some interest in hiring him to establish their entire HR strategy, including job classifications, retention programs, reward systems, and annual work schemes for production.  And he learned, according to a Guangdong contact at Baxter, that there is a definite need for Compensation professionals in China for “no one knows what to pay.” Most companies buy data from the  Internet, which is unreliable, he said.

For an interesting touch of irony this experienced U.S. Compensation professional did not know how to quote his own services in China. Nonetheless, this is to be expected, particularly for specialized consulting services.  By and large compensation levels are determined through trial and error.

In addition to understanding the labor market, human resource and compensation professionals must develop a solid understanding of the new Chinese Labor Contract Law.  The law is enormously complex and completely different from the situation in the U.S., notes Steve Dickinson of the popular China Law Blog.

After a week of research this HR professional discovered the complexity of the Chinese labor laws, and was forced to rethink his approach.  He could not at this time present himself as knowledgeable of the new law, but since he was trying to establish himself in China he was committed to taking the time to learn it.

Steve's colleague, Dan Harris, the founder of the China Law Blog, advises in a recent post that “if you are going to be writing employee manuals and employment contracts in China or giving advice regarding China's labor laws, you absolutely must know how to read and write Mandarin.”

Luckily for this seasoned professional he has two things going for him.  First, he has a good shot at mastering Mandarin, since he already possesses a level of proficiency, and second, he possesses an expertise which China desperately needs.

With today's well-written article titled, “China's rivers of cash flowing wrong way,” John Garnaut, a columnist for The Sydney Morning Herald, joins a growing group of China observers who conclude that the massive stimulus package has been funneled predominantly to state-owned corporations and the government bureaucrats who live off them. Meanwhile fragile household consumers who received none of the largesse have become weaker.

Garnaut references Huang Yasheng, a professor at Massachusetts Institute of Technology and the author of the the recently published book Capitalism with Chinese Characteristics in his article.

Huang Yasheng estimates that government and corporate consumption has likely increased from 10 per cent of retail sales in the '80s to between 25 and 30 per cent since the mid '90s.  Household consumption has fallen correspondingly.

The National Bureau of Statistics reported that China's retail sales growth was 17 per cent after adjusting for falls in prices.

Gordon G. Chang, a weekly columnist for Forbes and author of The Coming Collapse of China disputes this statistic as well as the reported growth figures and argues that chances are high that the government simply bought these “retail items” and either stored them in warehouses or parked them in State parking lots.

---[I]t is unlikely that 3Q expansion was anywhere near the claimed 8.9%. This claim is not consistent with other statistics. The economy, for example, is still dependent on exports: Before the massive government spending, about 38% of GDP was attributable to sales abroad. Yet exports tumbled 23.0% in July, 23.4% in August and 15.2% in September. Another important indication of slowing activity was the third-quarter drop in imports. They fell 14.9% in the first month of the quarter,17.0% in the second and 3.5% in the last.

And what took up the slack? The other two legs of the economy are, of course, investment and consumption. On consumption, retail sales, a crucial indicator of activity at China's shops, zoomed up during the last quarter, increasing by no less than 15.2% in any of the three months of the period.

There are fundamental problems with this key statistic, however. First, Beijing includes government purchases in the number as well as goods shipped from factories but not yet sold to consumers. Because the retail sales figures include these extraneous items, it is no wonder they do not correlate with statistics showing consumer price declines in each month of the July-September period--down 1.8%, 1.2% and 0.8%--plus increases in M2 in all three months. In September this broad measure of money in circulation jumped 29.3% after increasing 28.4% and 28.5% in the two prior months.

Because these numbers are consistent with trends evident throughout the year, we have to ask a simple question: How can a country have robust consumer sales, nagging deflation and rapid monetary expansion all at the same time? One reason is that vast quantities of consumer goods are now sitting in warehouses.

Beijing, in the 1990s, ordered factories to churn out goods in periods of low demand, and there are indications that officials are resorting to this tactic now. While optimistic analysts point to astounding car sales--up 70.5% in July, 94.7% in August and 83.6% in September--there are reports that central government officials have ordered state enterprises to buy fleets of vehicles and that these businesses are storing them in parking lots across the country. These stories are as yet unconfirmed, but they are consistent with statistics showing that gasoline sales have been flat this year--up only 6.4% in August, for instance, and sliding since then from all indications. So here's another question: At a time when economic activity is supposedly rising at a quick pace, how can large increases in passenger vehicle sales not be accompanied by corresponding surges in fuel usage?----

Therefore not only is the reported GDP growth rate of 8.9% for the July to September period suspect, but also the reported retail sales growth of 17% is likely bogus. 

Chang's critique of the figures supports Huang's dismal protrayal of Chinese household consumption.

Between 2000 and 2007 household consumption fell from 47 to 33 per cent of GDP, according to data. That's less than half the household consumption share in the US and Australia and more than 20 percentage points below Japan, Korea, India, Brazil and South Africa.

This year the vulnerable Chinese household consumer has become more so.

Social spending has increased but it has been surpassed by torrents of money being channeled to state-owned companies and their favored construction projects. "China may be wasting their crisis opportunity to engineer needed structural change in the economy," says Huang.

According to Huang since the start of the financial crisis the following has occurred.

households have increased their consumption, but not nearly as fast as government and (mainly government-controlled) corporations.
the state may have increased its consumption by between 30 and 40 per cent.
household consumption has probably fallen to a world-record low of about 30 per cent of GDP.

Huang's conclusion: The economy operates for the benefit of developers and producers and the bureaucrats that feed off them.

What does Huang think China should have done?

----Spend the stimulus package on programs that raise household income http://www.chinamanufacturingblog.com/2009/10/financial-liberalization-would-expand.html and therefore consumption. 

Maybe they should declare a moratorium on production for a year and pay peasants to walk around for a year, exercise, without adding to supply.-----

The result: the state spends an ever-increasing share on what China least needs.
 
----It's all absolutely the same: building absolutely wasteful buildings, more opera houses, more Terminal 3's [Beijing's new airport] and CCTV towers. These buildings would never have been built in the '80s, not because China was poor but because the government was poor. Now the view is that 'anything we do increases GDP, so what's the problem'?-----

This behavior further worsens China's already significant problems of inequality, corruption and economic imbalances.

Huang like many other China watchers comes to think that the political system is incapable of welfare-building reform.  The self-interest of China's bureaucracy and state-controlled monopolies conquers all in Chinese society.  The State has grown in size because in the 90's they only had to make “the bureaucracy and state monopolies happy.”  Now they must “make the local bureaucrats happy.”

Huang conjectures that the strength of the bureaucracy continues to grow because
of 1989 http://www.chinamanufacturingblog.com/2009/10/financial-liberalization-would-expand.html and the fall of the Berlin Wall.  China's political elites learned that political reforms were absolutely disruptive and destabilizing.

-----If you think political reforms are about imposing disciplines on the power of the bureaucracy, then you strengthen them, you give them more money. You give them incentives and the license to benefit on the side.

Now the explicit government salary is higher and the implicit salary is astronomically higher. And the only way to justify this is to increase their power. Urban planning, technology parks, even the administration of social programs. A better way would be to give welfare debit cards directly to peasants, like in Brazil, because that would bypass bureaucrats.

I worry that corruption is getting worse. The amount of money is astronomical. Top-down crackdowns on corruption don't work because they are always tainted by politics. The lesson is not to be not corrupt, but to be corrupt and politically smart about it, with the right people.

It's a fascinating question: why you encourage blatantly dishonest, absolutely corrosive and economically destructive behavior. Is it sustainable? I don't think it is.------

The lives of household consumers are likely to get worse, and the State is likely to get fatter.  But the economic and political house of cards that they are building is not likely to persist indefinitely.  Something has got to give.  When and how remains to be seen.

-----------

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The massive $585 billion fixed-investment weighted stimulus plan was an expedient put in place to maintain high growth rates in order to maintain employment and social stability. It was never meant to restructure the economy.

Prior to the growth figures coming out the country's Premier Wen Jiabao told a Cabinet meeting Wednesday that policy will focus on balancing economic growth while managing inflation. The numbers show that growth is now accelerating. (Although some observers make good arguments that the figures cannot be trusted. Gordon Chang in a Forbes Op-Ed, writes, “China's economy, for all the stimulus it has received in 11 months, is underperforming.”) Regardless it is clear that continuing investment-oriented policies will only exacerbate imbalances and dislocations.

The tremendous investment program has divided critics. Some predict inflation and warn that excessive bank loans are causing sharp rises in share and property prices, while others argue that lending excesses will exacerbate over-capacity and encourage deflation.

Both are likely occurring simultaneously. Most observes, including the Wall Street Journal, who take the numbers at face value, believe that inflationary pressures pose the greatest threat. However, Gordon Chang's contrarian view that lending excesses are creating over-capacity leading to deflation agrees more with observations on the ground in China. Stock and property bubbles are surely forming, but the stimulus has only aggravated the excess production capacity caused by the drop in exports.

The National Development and Reform Commission (NDRC) warns of obvious production overcapacity in six sectors, including: steel, cement, plate glass, coal-chemical industry, polycrystalline silicon and windpower equipment.

Neither the domestic market nor the export market has really returned, and overcapacity, if not checked, will lead to bankruptcy, unemployment and bad bank loans.

To balance growth during the recovery Beijing has indicated a willingness to take the following actions as they become prudent.

1. redress production overcapacity in six sectors.
2. taper out the stimulus package.
3. raise interest rates - tighten monetary policy.
4. increase controls on lending.
5. raise banks' reserve requirements.
6. raise the value of the yuan. (Significant appreciation requires liberalization of rural finance.)
7. broaden social security coverage.

The State Council, China’s cabinet, on Oct. 21 gave its first signal that it was considering a tighter monetary policy. It stated that the policy should focus both on managing inflationary expectations as well as securing stable growth. Geoff Dyer of the London Financial Times noted that this was the first time it has mentioned inflation since the global economic crisis hit China last year. (However, Gordon Chang argues that China is not really that fearful of inflation at this time.)

Bloomberg reports that there have been hints however that increases by the yuan against the dollar are likely to continue as early as the beginning of 2010. Since November 2008 China halted gains by the yuan against the dollar to help exporters.

Barclays Capital analysts even said on Oct. 22 that currency appreciation may play a role in policy tightening next year as the government tries to control inflation.

In a video interview Sebastien Barbe, senior economist at Calyon Corporate & Investment Bank, predicted that China will likely push rates up again next year at a pace similar to before the crisis. He expected an appreciation of 5 to 6% per year.

Zhao Jinping, a researcher with the Development Research Center of the State Council, or Cabinet, nonetheless mentioned the elephant in the room, "Weak domestic consumption is the key problem that makes the foundation for recovery fragile. Expanding domestic consumption will be the focus in restructuring the economy."

A reform package which restructures the economy must include the following.

1. reverse the one-child policy
2. liberalize the labor market
3. liberalize financial services (including rural micro-finance)
4. broaden social security coverage further
5. support small and medium sized private enterprises
6. expand domestic consumption
7. raise the value of the yuan to a reasonable level

The reform package must include the “painful” and “politically difficult” items which remain outside the bounds of the massive stimulus package.

The New York Times believes Chinese consumers have had very good reasons for restraint and neither the slowdown nor the government’s response has done much to address them. They make the all too familiar argument: individuals save at a high rate to meet the need to cover their own health care and retirement needs.

A better reason for the restraint might be that the average Chinese spends 40% of their income on food, and that 700 to 800 million residents, about 60% of the population, has not seen their income growth keep up with the nation's GDP expansion.

China could expand domestic consumption if it promoted financial liberalization particularly in the countryside through microfinance, but the political will to loosen up economic controls appears weak in Beijing.

-----------

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Huang Yasheng of MIT's Sloan School of Business argues in this video lecture that consumption is low for the 700 to 800 million rural residents, because China's economic policies since the beginning of the 1990's have benefited urban residents, and not those living in the countryside. After the political conservatives defeated former Premier Zhao Ziyang and other reformers in 1989, rural income growth has failed to keep pace with GDP.

China's phenomenal growth during the past two decades has largely ignored rural China, approximately 60% of the population. Huang argues that allowing significant Chinese yuan appreciation before liberalizing rural finance would be like putting the cart before the horse. 700 plus million rural residents, particularly the 250 to 300 million who are still living in poverty, would suffer even more under a rapid appreciation of the yuan.

Yam Ki Chan, editor of the Iron Rice Bowl, and a graduate student at Columbia University specializing in China’s banking and microfinance industry, commented on Vikram Akula's recent Op-Ed in the WSJ on the need for China to liberalize microfinance. Yam Ki Chan praised his recognition of the problem, but he was disappointed that Vikram Akula did not describe how China might go about liberalizing the sector. Yam Ki Chan asked, “Allowing foreign investment is definitely one option (which he is, of course, interested in), but what else can China do domestically?”

Both Dr. Tarun Khanna, an expert on China's microcredit sector, and a friend, who has consulted in this area for the last five (5) years, indicate that state-offered microfinance substitutes have been weak historically. Whether this has been due to lack of resources, incompetence or by political design is for the reader to decide. (The editor of the blog would in fact appreciate learning the views of the reader. He invites the reader to add a comment below this post.)

The unfortunate reality is that China is not likely to promote liberalization of rural finance as Huang Yasheng and others advocate.  China has resisted efforts to scale rural microfinance in China as my friend confirms. In this YouTube video lecture, Billions of Entrepreneurs, Dr. Tarun Khanna examines microfinance challenges in India and China, and concludes that there is little chance of scaling operations in China. In China any organization that aggregated to several millions of people would be shut down very quickly. He provides the premier example: Bangladesh has a microfinance organization, the Grameen Bank, currently the largest in the world, which provides microcredit to 8 or 9 million women. The organization and its founder, Muhammad Yunus, were jointly awarded the Nobel Peace Prize in 2006. A private enterprise of this size would be impossible in China, because agglomerations, which scaled microfinance could become, are treated with suspicion by the party-state. Masses of individuals organized for whatever purpose are perceived as a threat to the party fabric.

In addition the prospect of enormous collections of individuals organized financially in these rural areas independent of the central authorities, even if providing only small loans, probably makes the boys in Beijing a bit uncomfortable. China's tremendous size makes it difficult to rule, and large rural areas of China are under the influence of local gangs and thugs, ruling according to private interest. Many village-level areas are lawless, ruled by different groups - and largely out of the reach of the central authorities.

The government reported on their own website that there were 85,000 violent protests on the mainland last year. Dr. Tarun Khanna estimates that the real number is likely closer to 500,000. For the masses of disadvantaged rural residents this urban-centered, export-oriented growth model has not served them well.

China's impressive growth has been fueled primarily by state-sponsored corporatism through state-owned enterprises, which the stimulus regrettably reinforced. The stimulus package mostly ignored the small and medium sized private enterprises. Because of China's recent impressive economic growth much of the world increasingly views China as an economic superpower. But those who really understand China's economy like Huang Yasheng and Dr. Tarun Khanna realize that China is still a developing nation with a very weak domestic economy.

Researchers in the State Council have recently concluded that weak domestic consumption makes the economic recovery fragile.  Zhao Jinping one of the researchers stated that expanding domestic consumption must be at the core of a restructuring of the economy.  How broadenly and how aggressively the party-state intends to restructure the economy remains to be seen.  A loosening up of economic and political control in general, and a liberalization of rural economic policies in particular, would certainly help to boost domestic consumption by increasing the incomes of the majority of the Chinese.  Nevertheless except for a desire to strengthen the economy the party has demonstrated little will to reverse rural policies.  This begs the following question.  Other than broadening social-security support, what policies does the State Council recommend putting forward to expand domestic consumption?

Paul Krugman, the 2008 Nobel Prize recipient for Economics, published an Op-Ed in the New York Times on October 23rd arguing that China's low renminbi value is further hurting the global recovery. 

He argues the following.

America needs a weaker dollar to help reduce its trade deficit.  But the dollar has not been allowed to drop because the Chinese have pegged the yuan to the dollar.

Given a large trade surplus and a rapidly recovering economy, China's currency should naturally be rising in value.  But due to the currency peg, China is effectively devaluing its currency.

China's weak currency policy is taking already inadequate demand from other nations, which is a  particularly bad thing to do when world recovery is very weak.

He makes the following conclusion.  In this global recession, China's policy is actually stealing other peoples' jobs.

Then Krugman asks what can be done, and proposes two actions.

1.Encourage China to sell-off U.S. dollars, thus making U.S. exports more competitive.
2.End the tolerance of beggar thy neighbor policies which seek benefits for one country at the expense of others.

Is it likely that China will adjust the target value of the yuan to a reasonable level early enough to help rebalance and recover the global economy?

Krugman poses a reasonable argument, but he fails to address the serious challenges facing China's economy and society. 

Selling-off U.S. dollars, in effect raising the value of the yuan more aggressively, should be done as one of the later measures of a “painful” and “politically difficult” economic restructuring reform package to solve China's deep-rooted deficiencies.

The massive $585 billion fixed-investment weighted stimulus plan was an expedient put in place to maintain high growth rates in order to maintain employment and social stability.  It was never meant to restructure the economy. 

Prior to the growth figures coming out the country's Premier Wen Jiabao told a Cabinet meeting Wednesday that policy will focus on balancing economic growth while managing inflation.  The numbers show that growth is now accelerating.  (Although some observers make good arguments that the figures cannot be trusted. Gordon Chang in a Forbes Op-Ed, writes, “China's economy, for all the stimulus it has received in 11 months, is underperforming.”)  Regardless it is clear that continuing investment-oriented policies will only exacerbate imbalances and dislocations.

The tremendous investment program has divided critics. Some predict inflation and warn that excessive bank loans are causing sharp rises in share and property prices, while others argue that  lending excesses will exacerbate over-capacity and encourage deflation.

Both are likely occurring simultaneously.  Most observes, including the Wall Street Journal, who take the numbers at face value, believe that inflationary pressures pose the greatest threat.  However, Gordon Chang's contrarian view that lending excesses are creating over-capacity leading to deflation agrees more with observations on the ground in China.  Stock and property bubbles are surely forming, but the stimulus has only aggravated the excess production capacity caused by the drop in exports. 

The National Development and Reform Commission (NDRC) warns of obvious production overcapacity in six sectors, including: steel, cement, plate glass, coal-chemical industry, polycrystalline silicon and windpower equipment.

Neither the domestic market nor the export market has really returned, and overcapacity, if not checked, will lead to bankruptcy, unemployment and bad bank loans.

To balance growth during the recovery Beijing has indicated a willingness to take the following actions as they become prudent.

1.redress production overcapacity in six sectors.
2.taper out the stimulus package.
3.raise interest rates - tighten monetary policy.
4.increase controls on lending.
5.raise banks' reserve requirements.
6.raise the value of the yuan.  (Significant appreciation requires liberalization of rural finance.)
7.broaden social security coverage.

The State Council, China’s cabinet, on Oct. 21 gave its first signal that it was considering a tighter monetary policy. It stated that the policy should focus both on managing inflationary expectations as well as securing stable growth. Geoff Dyer of the London Financial Times noted that this was the first time it has mentioned inflation since the global economic crisis hit China last year.  (However, Gordon Chang argues that China is not really that fearful of inflation at this time.)

Bloomberg reports that there have been hints however that increases by the yuan against the dollar are likely to continue as early as the beginning of 2010.  Since November 2008 China halted gains by the yuan against the dollar to help exporters.

Barclays Capital analysts even said on Oct. 22 that currency appreciation may play a role in policy tightening next year as the government tries to control inflation.

In a video interview Sebastien Barbe, senior economist at Calyon Corporate & Investment Bank, predicted that China will likely push rates up again next year at a pace similar to before the crisis.  He expected an appreciation of 5 to 6% per year.

Zhao Jinping, a researcher with the Development Research Center of the State Council, or Cabinet, nonetheless mentioned the elephant in the room, "Weak domestic consumption is the key problem that makes the foundation for recovery fragile. Expanding domestic consumption will be the focus in restructuring the economy."

A reform package which restructures the economy must include the following.

1.reverse the one-child policy
2.liberalize the labor market
3.liberalize financial services (including rural micro-finance)
4.broaden social security coverage further
5.support small and medium sized private enterprises
6.expand domestic consumption
7.raise the value of the yuan to a reasonable level

The reform package must include the “painful” and “politically difficult” items which remain outside the bounds of the massive stimulus package. 

Chinese consumers have had very good reasons for holding back reports the New York Times, and neither the slowdown nor the government’s response has done much to address them. Because of China’s weak social security system, individuals know they must save at a high rate as a hedge against their need to cover most of their own health care and retirement needs.

Huang Yasheng of MIT's Sloan School of Business argues in this video lecture that consumption is low for the 700 to 800 million rural residents, because China's economic policies since the beginning of the 1990's have benefited urban residents, and not those living in the countryside.  After the political conservatives defeated former Premier Zhao Ziyang and other reformers in 1989, rural income growth has failed to keep pace with GDP.

China's phenomenal growth during the past two decades has largely ignored rural China, approximately 60% of the population. Huang argues that allowing significant Chinese yuan appreciation before liberalizing rural finance would be like putting the cart before the horse.  700 plus million rural residents, particularly the 250 to 300 million who are still living in poverty, would suffer further under a rapid appreciation of the yuan.

Yam Ki Chan, editor of the Iron Rice Bowl, and a graduate student at Columbia University specializing in China’s banking and microfinance industry, commented on Vikram Akula's recent Op-Ed in the WSJ regarding the development of microfinance in China.  Yam Ki Chan praised his recognition of the problem, but he was disappointed that Vikram Akula did not describe how he saw China liberalizing the sector.  Yam Ki Chan asked, “Allowing foreign investment is definitely one option (which he is, of course, interested in), but what else can China do domestically?”
 
Both Dr. Tarun Khanna, an expert on China's microcredit sector, and a friend, who has consulted in this area for the last five (5) years, indicate that state-offered microfinance substitutes have been historically anemic. Whether this has been due to lack of resources, incompetence or by political design is for the reader to decide.  (The editor of the blog would in fact appreciate learning the views of the reader.) 

The unfortunate reality is that China is not likely to promote liberalization of rural finance as Huang Yasheng and others advocate.  Efforts to scale rural microfinance in China are met with fierce resistance as my friend confirms.  In this YouTube video lecture, Billions of Entrepreneurs, Dr. Tarun Khanna examines microfinance challenges in India and China, and concludes that there is little chance of scaling operations in China.  In China any organization that aggregated to several millions of people would be shut down very quickly.  He provides the premier example: Bangladesh has a microfinance organization, the Grameen Bank, currently the largest in the world, which provides microcredit to 8 or 9 million women. The organization and its founder, Muhammad Yunus, were jointly awarded the Nobel Peace Prize in 2006.  A private enterprise of this size would be impossible in China, because agglomerations, which scaled microfinance could become, are treated with suspicion by the party-state.  Masses of individuals organized for whatever purpose are perceived as a threat to the party fabric.

In addition the prospect of enormous collections of individuals organized financially in these rural areas independent of the central authorities, even if providing only small loans, probably makes the boys in Beijing a bit uncomfortable.  China's tremendous size makes it difficult to rule, and large rural areas of China are under the influence of local gangs and thugs, ruling according to private interest. Many village-level areas are lawless, ruled by different groups - and largely out of the reach of the central authorities.  Increasingly the CCP has less control of large areas of the rapidly morphing China. 

The government reported on their own website that there were 85,000 violent protests on the mainland last year.  Dr. Tarun Khanna estimates that the real number is likely closer to 500,000.  For the masses of disadvantaged citizens this coastal, urban-centered, export-oriented growth model has not served them well economically.

China's impressive growth has been fueled primarily by state-sponsored corporatism through state-owned enterprises, which the stimulus regrettably reinforced.  The stimulus package mostly ignored the small and medium sized private enterprises.  Because of China's recent impressive economic growth much of the world increasingly views China as an economic superpower.  But those who really understand China's economy like Huang Yasheng and Dr. Tarun Khanna realize that China is still a developing nation with a very weak domestic economy.

Krugman's ultimate aim is to help America reduce its trade deficit by means of a weaker dollar.  However China will find it very difficult to sell-off mass quantities of U.S. dollars before creating a vibrant domestic economy.  China's 700 to 800 million rural residents would suffer under a rapid appreciation of the RMB.  Domestic consumption will not expand until rural incomes keep catch up with GDP growth, and rural incomes will not increase until rural finance is liberalized.

Liberalization of finance is just one of six (6) “politically difficult” reforms that China must perform if it hopes to balance its growth and be a be a trusted global trade partner who seeks mutual benefit among nations.  The good news is that these political reforms are mutually supportive.  As just one of many examples, expanding domestic consumption not only comfortably allows Beijing to raise the value of the yuan without injuring rural residents, but it also rebalances trade directly by reducing excess production which otherwise would be exported.

China must first push microfinance in the rural areas to increase the economic welfare of the countryside, and then at that point appreciate the yuan aggressively.  Krugman's pleas for China to raise the value of the yuan to a reasonable level would have significantly more gravitas if he were to support researchers of the State Councial like Zhao Jinping who argue for a restructuring of the economy to bolster weak domestic consumption.  Liberalizing the economy, widening social security coverage, and providing support to small and medium sized enterprises all would work in concert with a policy which would appreciate the yuan to a reasonable level.

Regrettably chances are small that the value of the yuan will reach a reasonable level early enough to help rebalance the global trade before the global imbalances grow into a protracted global recession.  Beijing probably will not budge too far on rural microfinance, and so it will be unable to appreciate the yuan much more than 6% per year.  And because the yuan will not appreciate fast enough, the world economy will suffer weak growth for a long time.

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Here follows a smorgasbord of articles on the aftermath and implications of the October 1 parade in Beijing.

A critical look at the festivities
Richard Burger of The Peking Duck on October 2 published an email from a friend, who “has lived in China for about 10 years and never wants to live anywhere else.”  It is a critical look at the party which occurred in Beijing on October 1 from someone who loves China. 

An entertaining satire from a historian: part kitsch, part wankfest
Jeremiah Jenne, a PhD candidate in Chinese history, living and working in Beijing, provides an entertaining and satirical look of the events   from an early morning-after “parade-viewing party,” of “translators, bloggers, and professional snarkers” which is in search of “their second collective bottle of vodka.”  From summarizing the government's festivities as a “bizarre mish-mash of Communist kitsch and Freudian military wankfest,” his biting delivery only gets sharper.

The parade, a message to citizens: “don't be afraid, China is strong”
On September 30 Newsweek gave reasons indicating that “the enormous military parade marking China's 60th anniversary” was all “about impressing the Chinese themselves.”  The regime is insecure and it aims to communicate to its people that, “[Chinese citizens] are safe, because China is strong.”  Beijing is concerned about protect interests and assets of Chinese overseas, and how to protect Han Chinese from racial violence within its borders.  Displays of military hardware and the People's Armed Police aimed primarily to comfort certain segments of the domestic audience.
 
Then (1949) and now (2009): a comparison in statistics
Fast Company created a graphic delineating the statistical differences in a number of areas between China in 1949 and in 2009.

China asks the U.S., “Do you think the first 30 years were a failure?”
The People's Daily cited Secretary of State Hillary Clinton.

---"In the last 30 years, China has undergone an extraordinary economic transformation, lifting millions of people out of poverty. This is truly a historic accomplishment."----

Commenting on a story in Taiwan's Chinatimes (in Chinese), Paul Denlinger tweeted that “sour grapes [have] already started.”
 
----In congratulatory letter to China, US only mentioned 30 years, not 60 years. Chinese asked why?  Did you think the first 30 years we were failure? US State Dept. refused to give clear answer.---

After many missed opportunities and failures during early years, Will Li (aka @blcsfo) tweeted that the turnaround is generally agreed to have begun with the fall of the Gang of Four in 1976, some 33 years ago.

Bear Market Investments provides its summary of the Mao years.

----The Chinese people have stood up,” said Mao, announcing the victory in 1949.

Then, over the next two decades, whenever the Chinese stood up…Mao shot them down himself. Mao’s long march to power was a huge setback for human political progress – if there is any. The man was a thorough scoundrel and a complete incompetent at everything, except getting power and holding onto it. Every program was a disaster. When he set out to ‘liberate’ the masses, they ended up as slaves. When he set out to feed them, they starved. When he proposed to empower them with his “democratic dictatorship,” they ended up with bullets in the back of the head.

But 60 years later, the commies are still in power. China is still red.----

Netizens have seen more than enough of Hu Jintao
China Smack  reports that the CCTV broadcast of the National Day military parade disappointed Chinese netizens.  Netizens preferred the filming of the 1999 military parade, which was done by “an artistic and creative organization, its filming emphasizing artistry, emphasizing aesthetics,” while the 2009 military parade was filmed by CCTV, which did not pay attention to aesthetics.  Netizens complained that if they had wanted to see Hu Jintao they could turn on CCTV on any day.  

As the PRC turns sixty many decide to marry
Many Chinese chose National Day as a wedding day.  Oct.1, the 60th anniversary of the founding of the People's Republic of China, was seen as a uniquely auspicious day to tie the knot by Chinese couples.

The New York Times reports on an omitted period of CCP history
“Changchun was like Hiroshima,” wrote Zhang Zhenglu, a lieutenant colonel in the People’s Liberation Army who documented the siege in “White Snow, Red Blood,” a book that was immediately banned after publication in 1989. “The casualties were about the same. Hiroshima took nine seconds; Changchun took five months.”

China’s Second Leap Forward?
Researchers at the Nomura Institute of Capital Markets Research announced this week that China will pass the U.S. economy sometime between 2026-2039, depending on yuan appreciation.

Ian Mathias is a skeptic. These researchers falsely assume that China can continue to count on American over-consumption.  In a previous post, I make the same argument, showing that China's fast-track revolution is not sustainable. 

Thirty-nine colorful photographs of the celebrations
The Boston Globe collected photographs of the National Day parade in Beijing, and of others commemorating the anniversary elsewhere.

Good links that outline the festivities
Chinabeat organized some good links that outline many of the festivities going on for the big 60th anniversary.

Zhang Yimou and mooncakes
On October 4, “watching 10/1 evening show on CCTV 1,” Paul Denlinger tweeted the following:

---Really envy Zhang Yimou. Imagine saying "I want 200K people for this show" and getting it, no question, no budget, no limits on your idea. Just explain the idea to the right people in government and party and they make it happen.----

Denlinger later added, “According to Phoenix TV, every Hong Konger throws away 1.85 mooncakes every year. That would be about 13 million mooncakes.”

Related China Manufacturing Blog posts:

• October 1 Displayed the Strength and Wealth of the Chinese State, But Not That of its People

• Authoritarian China is Mismatched with an Increasingly Open Society

• Fault Lines That Threaten Chinese State Autocracy: A Project from Above

• Fault Lines That Threaten Chinese State Autocracy: A Fusion of Doctrine and Power

• Fault Lines That Threaten Chinese State Autocracy: A Devaluation of Individuality

• China's State Corporatism Has Failed to Lead the Majority to Prosperity

• The PRC Has Failed to Develop a Vibrant Internal Economy

• Wide Wealth Gaps in China Threaten Both the Internal Economy and the Regime

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October 1 demonstrated the party's success in holding onto power and the strength and wealth of the Chinese state, but not that of its people.  The planned celebrations have been spectacular.  But the power of the state was on show too.  The military parade showcased five types of domestically designed missiles.  A huge contingent of People's Armed Police and People's Liberation Army was there just in case protesters made an appearance.  Snipers lined the tops of buildings along the designated parade path. 

Ordinary Chinese citizens hoping to come onto the streets of Beijing to watch a triumphant military parade to celebrate 60 years of Communist rule were ordered to “stay at home” and watch the event on television.

Here are some reports of the Oct 1st “festivities.”

On the eve of China's 60th-birthday parade, Beijing's harsh security clampdown makes it "more like a city under martial law"

The Beijing crackdown clears the way for stage-managed 60th anniversary gala: Beijing resembled a city at war yesterday.

'Democracy' took a minor role in Thursday's show marking 60 years of the People's Republic of China, upstaged by the ruling Communist Party's invitation-only celebration of its own history, ideology and military prowess.

China took extreme security measures for the parade.  Apartments on the route were evacuated, businesses were forced to close early and transit lines were suspended as China prepared to celebrate its 60th anniversary. 'Are we having fun?' one critic asked.

"Can't you see how much business we're losing," barked the owner of a store selling cigarettes and drinks near Tiananmen Square.  On a subway platform a middle-aged man mumbled angrily to a friend, "This parade is a waste of money and brings grief to people."

Tens of thousands of students in Beijing were told in the spring that they had to "volunteer" for the parade. Participants had to give up most of their summer vacation and attend 12-hour rehearsals that often lasted until 3:30 a.m., flipping colored fans that spell out Communist Party slogans.
"We Chinese torture ourselves for some face and superficial pride," wrote one student on a blog which was quickly taken down by the police. The student said that teachers had insinuated that a refusal to participate could affect their future academic careers. "Forcing people to participate in the parade can become a new Guinness World Record of ridiculousness."

This parade followed the same script as earlier parades.  However even a decade ago, some critics complained that the parade was an anachronism.
The late Li Shenzhi, an intellectual who served as Premier Zhou Enlai's diplomatic secretary, wrote in 1999 that the military parade reminded him of the worst authoritarian regimes in the world.  "There're not so many countries left in this world that want to show off like this. My humble guess would be only North Korea's Kim Jong Il still has a passion for this sort of thing."

Paul Denlinger, who consults on investments with a strong China angle, posted the following on Twitter, "OK, China shows pretty women, neat weapons, new tech, and it makes things which people buy. Kind of hard to compete with, don't you think?"

“Today is the 60th anniversary of the founding of the Republic of China,” blogged Twitter's @chinesepod, who provides a Chinese lesson each day. “People's Republic of China, [let's not] forget the people!”

"Happy 60th abrogation of civil and political rights in mainland China day," wrote Peijin Chen on Twitter.

Related China Manufacturing Blog posts:

• Authoritarian China is Mismatched with an Increasingly Open Society

• Fault Lines That Threaten Chinese State Autocracy: A Project from Above

• Fault Lines That Threaten Chinese State Autocracy: A Fusion of Doctrine and Power

• Fault Lines That Threaten Chinese State Autocracy: A Devaluation of Individuality

• China's State Corporatism Has Failed to Lead the Majority to Prosperity

• The PRC Has Failed to Develop a Vibrant Internal Economy

• Wide Wealth Gaps in China Threaten Both the Internal Economy and the Regime

-----------

Stay Connected to ChinaManufacturingBlog:

Follow on Twitter: @ChinaManufBlog or @DanielRFeldman NOTE: Twitter blocked in China

ChinaManufacturingBlog.com invites you to participate in the upcoming ChinaManufactuingBlog LinkedIn group.

Related China Manufacturing Blog posts:

• Fault Lines That Threaten Chinese State Autocracy: A Project from Above

• Fault Lines That Threaten Chinese State Autocracy: A Fusion of Doctrine and Power

• Fault Lines That Threaten Chinese State Autocracy: A Devaluation of Individuality

• China's State Corporatism Has Failed to Lead the Majority to Prosperity

• The PRC Has Failed to Develop a Vibrant Internal Economy

• Wide Wealth Gaps in China Threaten Both the Internal Economy and the Regime

-----------

Stay Connected to ChinaManufacturingBlog:

Follow on Twitter: @ChinaManufBlog or @DanielRFeldman NOTE: Twitter blocked in China

ChinaManufacturingBlog.com invites you to participate in the upcoming ChinaManufactuingBlog LinkedIn group.