19 Mar 2008

China and Resources

From the Economist:
Messrs Rosen and Houser contend that the boom in heavy industry is a product mainly of poor regulation rather than of inexorable demographic forces. They believe that China's development is becoming more capital-intensive not so much because labour is getting scarce but because capital is too abundant.

Local officials, keen to register impressive increases in output that might earn them promotion, lean on state-owned banks to lend to state-owned firms for investment in heavy industry. The banks can lend cheaply because the government sets the interest they pay to depositors at a very low rate (in real terms, it is currently negative). The industrial firms, in turn, seldom pay dividends, usually receive land free of charge and often ignore environmental regulations that push up costs. All this makes them much more profitable than less privileged companies, providing further funds for investment.

China's rapid transformation from a big importer of steel to a big exporter suggests that global production is moving there to take advantage of the exceptionally favourable investment climate. In other words, much of China's industrial bonanza exists only thanks to subsidies paid by its frugal households and its long-suffering taxpayers.

If this argument is correct, it is heartening because it suggests a clear remedy: an overhaul of the financial sector.
Bottom Line: The huge increases in resource consumption and pollution in China are partially due to government subsidies to capital-intensive businesses. Just as subsidies to ethanol are wrecking the US (and world) agricultural system, subsidies to industry in China are wrecking their economic development.

End the subsidies! Governments do not know how to manage an economy any more than they know what you want for breakfast!

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