The next geo-financial battle: Is China a market economy?

2015 was the year of China's global financial 'coronation'. The authorities achieved several major strategic breakthroughs: the formation of the AIIB; the designation of the yuan currency to the IMF's special drawing rights (SDR) basket (earning 'reserve currency' status in Beijing’s view); and they pressed the IMF itself into long-overdue voting reforms.

In all these cases Europe was more supportive of China's goals than the US (and Japan less so). Beijing has long wanted a 'greater voice in global finance' and now, its wishes granted, China’s manic capital markets hold the world spellbound. Even America’s mighty Federal Reserve gives them cautious due.

In 2016 a new test of geo-economic and diplomatic power looms. On 11 December (15 years after its accession to WTO) Beijing expects to be granted market economy status (MES). Today China is still classified by most counterparts as a non-market economy (NME).

WTO dumping tribunals calculate reference 'analogue' prices for NMEs assuming that an NME's prices are not market-determined but arise from intensive state control. Under MES however, Chinese domestic prices would be deemed to be free and 'real.' Chinese companies could then only be dumping overseas when they do so below such prices, a transparent and stringent condition (and a higher burden of proof for complaints).

So while SDR status was big on hype but lacking meaning, MES could be the opposite: an obscure trade technicality with real consequences. China already runs a colossal current account surplus; this could get even bigger if its exporters have a freer hand. [fold]

This issue is fundamental: is China a market economy? Technically this is tricky to answer. Despite plenty of competition at the street-level, important upstream 'factors' — energy, land, capital —are still regulated. China remains a mixed economy. Even a casual visitor can observe hefty state-owned enterprises alongside millions of thriving private businesses. Foreign brands appear to be prospering too. Yet these multinationals are keenly aware that in China 'the state still looms large, controlling financial flows and acting as gatekeeper for virtually all important decisions, from land deals to mergers'. This is a state where, (in the words of one respected reformer), 'even a low-level bureaucrat can decide the life or death of a company'. These multinationals are on the frontlines of the MES tussle because they have so much at stake in China.

Predictably these international firms — driven by the usual mix of greed and fear — are not saying publicly what they really think. Their various industry chambers are furiously lobbying for and against China’s MES approval. Some free-marketeers think the NME/MES distinction is inherently protectionist. Trade lawyers cannot agree on what was agreed; the original legalese around China's automatic 'graduation' is fiercely disputed. And even if China is granted MES, rivals can, and will, wield other safeguards to prevent a tsunami of Chinese goods.

More predictably still, some European governments eagerly support China's quest. George Osborne, China’s best friend in the West, is enthusiastic. Angela Merkel is 'in principle, positive' though her ambassador warns of remaining hurdles. France and Italy, both vulnerable to Chinese industrial competition, are said to be opposed. Reporting on Merkel’s October visit to Hefei, the Financial Times recounts how Beijing has gleefully exploited European divisions and 'laid bare the EU’s tortured position' on the matter.

The leaders on both sides know this is not a done deal. EU commissioners want to push approval quickly in March but expect to meet resistance from a cynical European parliament. Reportedly, Beijing already tried to secure Europe’s acquiescence on MES with textile restraints in 2005 but this truce lapsed as the thunderclouds of the Global Financial Crisis gathered.

Washington looks on with sullen dismay at the European concessions and warns the EU of 'unilaterally disarming' important defenses against mercantilism. Washington wants China to make its case for MES directly at the WTO. Charitably speaking, it is encouraging Beijing to further liberalise its economy. But a darker sentiment informs US policy; the same anxiety behind its refusal to join the AIIB. American policymakers fear that China is bending global economic trade norms towards a state-distorted perversion of capitalism. In their view MES is a crown unbefitting China.

Actually, the mood in Europe is not so very different. Parliamentarians, academics, unionists and industrialists alike agree that China falls short of key MES criteria, but most grudgingly admit that this is a symbolic gesture to ingratiate Beijing.

As Kerry Brown puts it 'this is a political, not an economic decision' and 'it will show [that] the EU can defy the demands of Washington and act unilaterally toward Beijing.' In other words, the whole MES debate speaks not so much to Chinese motives (which are deliberate, clear and rational) but to the addled strategic neuroses of the West.

Photo courtesy of Flickr user Tauno Tõhk / ??.

Julian Snelder