Published in Business Spectator (Melbourne), 9 November 2011

http://www.businessspectator.com.au/bs.nsf/Article/eurozone-debt-crisis-China-EU-bailout-EFSF-trade-s-pd20111108-NDT5Z?opendocument

The assessment of Europe’s state of affairs could have hardly been harsher: “If you look at the troubles which happened in European countries, this is purely because of the accumulated troubles of their worn out welfare societies. I think the labour laws are outdated – the labour laws induce sloth, indolence rather than hard working. The incentive system is totally out of whack.”

If you believe this attack on Europe had come out of a right-wing think tank, an investment bank or a credit ratings agency you could not be more wrong. These are the words of Jin Liqun, chairman of the supervisory board of the China Investment Corporation, the sovereign wealth fund of the People’s Republic. They do not just highlight doubts about a Chinese engagement in the leveraging of Europe’s EFSF rescue fund. They also mark the end of the European social model.

When a business leader from (nominally) communist China tells the Europeans, on Al Jazeera television of all places, that they don’t understand the rules of capitalism, the symbolism could not be stronger. This is not to say that the Chinese play the capitalist game perfectly, let alone by the rules of free-market textbooks. But according to the Heritage Foundation’s Index of Economic Freedom in the categories of government spending and fiscal freedom, the Chinese have now left behind the supposedly more liberal economies of Europe.

In China, the central government spends 20.8 per cent of GDP and its debt is about 30 per cent of GDP. Despite the usual caveat about the reliability of Chinese statistics, both figures are way below European levels. For example, government spending in Greece stands at 46.8 per cent. In the UK, it is slightly higher at 47.3 per cent. And official government net debt is 67.2 per cent of GDP in Britain and over 160 per cent in Greece. At least based on these figures, one would not suspect that out of the three China was run by a communist party.

Little wonder then that the Chinese view Europe’s debt and spending problems with great suspicion, bordering on open contempt. China feels it no longer needs to take Europe all too seriously. Not politically, because Europe notoriously fails to speak with one voice. Not economically either, because for the past two years Europe has demonstrated all too clearly that it is unable to solve its fiscal and monetary crisis.

How likely is a Chinese engagement in Europe under these circumstances? How interested would China be in bankrolling the European rescue activities?

From China’s political perspective, Europe is too weak to matter. Economically it is still an important buyer of Chinese goods. But it is doubtful that this alone would be sufficient to induce the Chinese to gamble with their currency reserves.

China currently has currency reserves of about $US3.2 trillion. As Alan Kohler pointed out, it would be foolish for the Chinese to divert them to the eurozone as that would weaken China’s most important customer, the United States, while strengthening China’s main rival as the world’s top exporter, Germany (Revenge of the golden days, November 7).

The only justification for such a move would be to gain European support in China’s WTO talks on recognition as a ‘market economy’. With a few hundred billion euros, the Chinese could probably also buy an end to the European arms embargo and secure Europe’s silence on human rights issues as well as on their currency manipulations. But there are question marks whether such a deal would be worth the effort for China:

— The longer the European arms embargo lasts, the less it hurts China. That China is increasingly capable to arm itself was demonstrated when the Chinese navy recently launched its first aircraft carrier.

— Europe’s insistence on human rights also fails to impress the Chinese. Beijing’s leadership are now publically and vehemently defying any European lecturing, as China’s Deputy Foreign Secretary Fu Ying did in a most undiplomatic interview with news magazine Der Spiegel in August.

— As for the WTO negotiations, Europe’s economic and political weight has been reduced due to its unresolved debt crisis. This was already visible in the Copenhagen climate change talks in late 2009, and a repeat of such diplomatic humiliations in other areas such as trade could follow. In global negotiations, Europe increasingly looks like an also-ran.

It is doubtful in any case whether China’s money would be sufficient to save Europe. Put simply, Europe needs more money than even China could give – much more money.

Even if China diverted all its currency reserves to the European rescue fund (for which there is a zero probability), it would still not be enough to solve Europe’s debt problems in the long run. China’s $US3.2 trillion would be worth around €2.3 trillion. Although this sounds gigantic, it would only buy a few years’ time.

Italy alone needs to refinance €306.9 billion in 2012. Between 2011 and 2013, Portugal, Italy, Ireland, Spain, Greece and Belgium combined face maturing government bonds worth €1.04 trillion. Should the crisis at some stage spread to France, you would need to add another €455 billion to this sum. Also keep in mind that the total public debt of the eurozone increased from 66.3 per cent of GDP in 2007 to 85.4 per cent last year. If this dynamic continues, the final sums would be even higher. This means that not even China’s impressive currency reserves would be sufficient to build a firewall and end the eurozone crisis.

The Chinese know that any money they dedicate to Europe would be a highly risky engagement. They realise that Europe’s growth inertia, debt dynamics and demographic change are condemning the Europeans to decades of slow decline. And they are fully aware that Europe’s social model is finished.

This is why the Europeans should not expect a white knight in Chinese armour. Cheques from Beijing won’t be received in Europe’s capitals anytime soon.

The best the Europeans could hope for from China are some lessons in how to grow an economy. Perhaps they should ask Jin Liqun for advice.