In my opinion they should be doing a lot more to reform the financial and fiscal systems and improve market regulation, to enable core dynamism and private-sector activity, and boost productivity across the board.

But when the Chinese leadership talks about reform, they mean something different. They believe they are doing a lot of reform in the sense of changing forms of organisation, regulatory systems, and the way that capital flows around the economy with the objective of sustaining economic growth and accelerating the pace of technological change.

Then almost immediately after that, it says the state will continue to have a dominant or leading role in the economy.

This reflected the fact that the document was somewhat political, it was trying to placate a wide range of different constituencies within the government – the pro-market people and the pro-state people.

It also reflects a pretty fundamental perspective that has been true throughout Chinese economic history of the last 40 or 50 years, that they do see a large role for markets but also a very large role for the state.

They are not aiming for an American-style or European-style system. They are aiming for a system which has a lot of market forces in it and a lot of private enterprises, but also has a much larger role for the state in terms of overall direction and coordination.

The case for the advocates of a bigger state role grew in 2015, when there was a big stock market crash. There were a lot of capital outflows, and it took them quite a while to stabilise the financial situation of the country.

They had to impose a lot of regulations in the stock market. They had to impose capital controls. That whole episode made the senior leadership think, “What can we do if we go too far with this market stuff? It will just become destabilising.”

09:12

China’s third plenum: what to expect from the much-delayed policy meeting

China’s third plenum: what to expect from the much-delayed policy meeting

And then you look at the internet companies, they got very big, very powerful and arguably not very accountable. So the government decided they weren’t regulating things tightly enough.

Basically all of the policies of the last five or six years have focused on increasing regulation in the financial sector and the internet sector; and most recently in the property sector. All of these areas were seen as areas of risk that were created by uncontrolled marketisation.

So now the view of the government is we have maintained this anti risk policy, but then we also need to promote new sources of growth, particularly since they’ve had this big crackdown on the property sector, which accounts for about one-fourth of the economy.

You need another growth engine. The idea of new productive forces is basically to mobilise huge technological investments to drive productivity growth in the future.

What we’re likely to see in the third plenum is a restatement and elaboration of this sort of general industrial policy-led growth model, maybe a little bit more colour on exactly how they expect this to work.

China’s trade with the US and the EU have dropped. Is China able to reverse the trend, or is it inevitable that Beijing will have to focus on the developing world?

You don’t want to look at China’s share of total global exports. You want to look at their share of manufactured exports. That’s been quite stable at around a little over 20 per cent for the last several years.

There does not seem to be any indication that it is significantly shrinking. China is so far doing a pretty good job of retaining its competitiveness and maintaining a fairly stable share of global trade and manufacturing.

It is sometimes misleading to look at the headline value of exports. So for example, if you look at the headline numbers, Chinese exports to the United States have taken a big hit.

It used to be that China accounted for about 22 per cent of goods imported to the US, and that’s now down to 14 per cent. So you would say China is losing a lot of market share in the United States. The problem with that is, a lot of that reduction in value is not real.

If today I’m exporting 100 solar panels from China to the US and then tomorrow I’m exporting zero solar panels from China to the US, but 100 from Vietnam to the US, that would show up as a reduction in China’s export share to the US, but in reality the trade was just diverted through a third country.

So Apple has started to move some of its cellphone production out of China. But if you look at those iPhones, where are the components coming from?

In many cases, they’re coming from China, and going to India or Vietnam just for the final assembly. Again, the ability of Chinese producers to sell stuff into the American market is much larger than is shown by headline trade data.

China will continue – for quite a few years – to have a very robust position in global manufactured trade, including in the developed markets.

It looks like China is facing challenges in global supply chain realignment. People are saying China’s status in the global supply chain is hard to replace, but what about the prospects over the long run? Who will be the “next China”, India or Vietnam?

The short answer is that there is no “next China”. There’s no one else.

In China, as they have moved up the value chain and started to be much more successful in machinery, they are still very competitive in these traditional sectors.

They are broadly competitive across low-value sectors and high-value sectors. They have such an enormous labour pool and such effective infrastructure that they are able to be competitive across a wide range of goods.

Supply chains are very sticky. China has a tonne of comparative advantages in terms of size, the productivity of its workforce, the quality of its infrastructure and the industrial ecosystem it has created in many sectors.

If you look at the candidates for who could replace China, they all have problems. India has a big workforce. But it is not as well-educated as China.

Female labour force participation is very low. That’s a big problem, because if you look at a lot of industrial history in East Asia, the female workforce has been a very important part of building up manufacturing systems. Quality of infrastructure is extremely poor.

You look at a country like Vietnam, which in many ways has similar endowments in China in terms of high-quality workforce, and a communist party-led government that is very development-focused. They have a lot of pro-growth policies. But they don’t have the scale.

There are many countries that can replicate some part of the Chinese system, but there’s no one who is even close to being able to do the whole set of things.

China has been robustly developing its artificial intelligence (AI). Do you think China will succeed in levelling up its technology and advanced manufacturing?

The real question about the pace of Chinese AI development is how quickly China will be able to come up with adequate substitutes for the high-powered AI chips that they can no longer source from the United States. Most people think that’s going to be a period of several years, at least, for them to be able to fully replicate those capabilities they’re now being deprived of.

On one hand, China is facing an ageing population. On the other hand, China is putting resources into robotics and automation. Do you think robots will replace manual labour one day? To what extent can it replace the human labour force?

This is a good moment to talk about the Chinese government’s overarching policy framework, which they call “new productive forces”. It’s now been incorporated in a lot of the top-level economic planning, documents and policies.

It’s a new formulation of a comprehensive, technologically driven development strategy which Xi Jinping has been pushing forward for a decade. And part of what they’re talking about is figuring out ways to use industrial automation, whether it’s robots, AI, or some other kind of technology to improve the productivity of existing manufacturing.

What will China do to maintain its status in the supply chain? Is China still investible over the long run?

Fundamentally, the Chinese leadership has been very clear that maintaining a large industrial economy is the goal. They don’t accept the idea that China should just become a pure services and consumer-driven economy.

The basic thing that they are doing is making sure all kinds of sectors stay in China. They have a lot of tools to work with – creating favourable financing conditions for industrial companies, incentive programmes for technological development, and continued investments in infrastructure.

This is not necessarily good for financial investors who are just looking at corporate profits of domestic companies in highly competitive sectors. But for corporate investors who invest in physical production or services in China, it’s a very different story.

China is still a non-optional market for many international companies. It is very large. It’s still a big source of incremental growth. If you look at this whole debate about electric vehicles (EVs), the companies that are most opposed to putting tariffs on Chinese EV imports are the German carmakers.

These are the guys who are going to be most affected by cheap Chinese EVs. Why aren’t they in favour of tariffs? They want to maintain their market access in China. And they’re afraid that if these tariffs get approved, then the retaliation will be government policies that restrict their ability to operate within China.

We’ve seen heightened geopolitical tensions, ideological confrontation and tightened scrutiny over national security in recent years. Will this affect Chinese companies going overseas?

The whole of Southeast Asia, Latin America, increasingly the Middle East. There will be political barriers to Chinese investment in some places, but there will be plenty of opportunities for Chinese companies to invest elsewhere.

It’s important to remember that there’s been very little Chinese private sector investment in the rest of the world relative to the size of China’s economy. China is in the very early stages of its companies going out and figuring out how to operate in other environments.

Questions are still being asked over whether China can achieve its 5 per cent growth target this year, despite Beijing’s repeated pledges to do so. Why the expectation gap?

What President Xi Jinping really wants is for China to become more technologically advanced. So the purpose of economic policy is to promote the creation of a technologically advanced economy.

The growth objective has been downgraded quite substantially from the past. If China grows by only 3 to 4 per cent on average for the next decade but continues to advance technologically at a rapid pace, that will be fine.

Outside China, there’s a very strong tendency for people to go to extreme views. You say either China is going to take over the world tomorrow or is unsustainable and will all collapse. Both those views have been proven wrong.

China has done very well. It hasn’t taken over the world. And it still has a lot of problems and contradictions. There have been many predictions of collapse or crisis that have just not panned out over the years.

07:43

From economic ‘miracle’ to cautionary tale: Japan’s development and recession

From economic ‘miracle’ to cautionary tale: Japan’s development and recession

If you look at financial fragility, China has a lot of debt. There are a lot of problems in the financial sector, but it also has a national savings rate of over 40 per cent of GDP.

The amount of money that exists in the system to fund the financial sector is very large, and capital controls prevent that money from flowing out to the rest of the world.

So if you’re a bank and you own shares in Mitsubishi, then you care a lot about what Mitsubishi’s stock price is. Similarly, Mitsubishi cares a lot about what the bank’s stock price is. If all of the stock prices go down at once, both the financial sector and the real sector will be in trouble.

The other issue was that there was a lot of lending on land. Land prices, property prices were way more extravagant in Japan in 1990 than they have been recently in China. And as those asset prices fell, the combined balance sheet of “Japan, Inc.” took a huge hit.

China does not permit these kinds of cross-shareholdings between banks and companies. So when you look for heavily indebted entities, you can find many. But you can also find plenty of companies, particularly in the industrial sector, that are not particularly leveraged and are unaffected by debt problems that exist elsewhere in the economy.

You have a fragmented balance sheet, and you have asset prices that did not get as crazy as they did in Japan.

There is going to be a problem with the property sector for the rest of this decade. That’s going to be a big drag. Prices still have to fall quite a bit.

But because it is fragmented, there are many other parts of the economy, in the industrial sector and services, that can keep growing relatively well.

We used to think of China as an economy that grew by 10 per cent a year, and then 7 per cent a year until recently. Now maybe it’s around 5 per cent. Those are real growth rates. But the really important thing is the slowdown in nominal growth, which has been much greater. If you look at nominal growth in the first decade of the 2000s, it was almost 20 per cent a year.

Today, nominal growth is only about 4 per cent, less than the real growth rate, which is another way of saying that there’s a lot of deflationary pressure in the economy. Looking ahead over the next several years, China might be growing at 3 or 4 per cent in both real and nominal terms.

The big difference is not about an economy that’s growing in real terms at 3 to 4 per cent instead of 5 per cent. It’s that the economy is growing in nominal terms at 3 to 4 per cent instead of 8 to 10 per cent.

The reduction in nominal growth is what matters for corporate profits.

So that’s where I would have a little bit of a problem with the Chinese way of framing – “Everything’s fine, we’re still going to grow by 5 per cent” – they’re growing at 5 per cent real, but there’s 1 per cent deflation.

Deflation is not a pleasant thing. It creates a lot of problems. China can keep growing, it will keep growing. But it will be slower and more deflationary.

Suspicions exist over China’s official data. Some point out the figures are sometimes inconsistent and overstated. What is your assessment of the issue?

We use the official data a lot because there isn’t that much else out there. So in some sectors – property or automobiles – you have some private sector data sources that are very useful. But for the most part, you have to rely on official data.

If you look at the quality of data in China and then look at the quality of data in India, on average the quality of the Indian data is a bit worse. No one talks about this. The reason is because India is a democratic open system and China is not.

When people say we can’t trust the statistics, they’re not actually making a careful judgment about statistical quality. They are making a judgment about the nature of the political system. And what they’re saying is we don’t trust statements made by the government of China because it’s not democratic.

If the data makes sense over time and triangulates with other data, then it’s probably fine. If it doesn’t make sense, then you start to question it.

Frankly, this is what analysts have to do with any data set, whether it’s China, India, the United States or the European Union. You never take the data at face value. You always ask yourself, “Does this data make sense compared to other things?” If it does, we’ll move on.

If it doesn’t, we need to investigate further. The reality is that we’re able to do a pretty good job of describing what’s going on in China by using the official data.

And there’s some things where we just have to acknowledge the data is really bad and we can’t use it, so that limits our ability to make observations on certain topics.

What you have to do is do the hard work of looking at the data carefully, seeing what makes sense, using the stuff that has proved over time to be consistent and usable and throwing out the stuff that has proved consistently not usable. We do this every day in our work on the Chinese economy.

The final point here is if they were simply making up the numbers, telling false stories about the economy, eventually reality is going to catch up.

Generally speaking, the complaints that you hear about data quality are: I don’t really want to do the work of understanding what’s really going on here. I’m just going to reject the data and make up some story based on some cherry-picked evidence.

I just don’t find that to be analytically very satisfactory, particularly in light of the fact that China has a very long track record of successful growth and is dealing with a wide range of problems.

There are tons and tons of data problems. Some of them are the result of political interference, that is without doubt. And the job of analysts is just to work through that and try to determine the noise.

The Pacific Ocean seems to create an information gap as well as one of physical distance. Some are reluctant to come to China and are losing confidence in the Chinese market, despite Beijing’s pledges to open further. Why does it seem the world’s two largest economies are losing touch with each other?

For essentially three years, China was locked away from the rest of the world. And they’ve been very slow to resume contact. There was a lot of damage done by the three years of Covid isolation. It exacerbated the mistrust between the United States and China.

The Chinese government for the last few years has been very clear that they want to tighten up security across a wide spectrum of things. They’ve been very systematic at increasing security controls of various kinds.

This means a crackdown on various kinds of information-gathering activities. And now the Chinese government wants to regulate them much more tightly.

China’s efforts to reassure people have not been very convincing, because if you look at the way the law and the way the regulations are written, there are severe penalties for various offences that are not clearly specified.

So people want to know what to do to comply. How can they be 100 per cent sure they can comply?

A lot of it has to do with the greater security focus within China, which is reflective of an environment where many countries are doing the same thing.

You could see a similar thing in the United States, where there’s a lot more emphasis on security support. But the concern of foreign companies is that the Chinese system by its nature is less transparent and less predictable.

Will hawkish voices in the US become stronger by using overcapacity to attack China? Is the American government politicising overcapacity?

I have problems with the term “overcapacity”, because I don’t really know what it means. And it doesn’t really have a precise meaning. This is a somewhat politicised discussion.

These countries want to maintain a certain production structure. They want to have their own carmakers.

As a responsible economy, China should be working on both the supply and the demand side. You can’t just have a supply policy and no demand policy.

The Chinese argument is: “We have a very successful manufacturing economy. Why aren’t you happy that we’re making all of this stuff that’s cheaper?”

So now people can buy electric cars for US$10,000 or US$15,000 instead of a conventional vehicle at US$25,000 or US$30,000. This is a benefit for consumers.

If you have unbalanced policies where you are massively increasing supply – so you have the ability to sell goods in other people’s markets – but you are doing very little to increase demand, you’re not making it easier for other people to sell in your market.

People look at that and say that’s not fair. You want more access to our market and you’re not reciprocating by creating a vibrant domestic market.

Both sides need to rethink what’s the best way to come to an accommodation, because the risk that we have right now is that these tensions are growing so large that it is going to create a lot more friction in the global trading system.

You can have a lot more protectionism, more tariffs, more controls on trade and investment. And if that happens, then everyone becomes poorer.

No. China has a very dynamic industrial ecosystem. There’s a lot of really competitive companies. It has a whole range of infrastructure to support it. The government is committed to funding basic research.

I don’t think this will derail China’s technological development. There is a problem in this “high fence, small yard” thing – the yard keeps getting bigger and bigger.

As successive [US] administrations come in, what they’re probably going to do is impose more controls on the definition. And at the end of the day, I don’t think that’s going to throw China off-course, but it is a constant strain on the relationship.

So the China-US relationship will become more adversarial.

Is the US facing a dilemma of inflation, especially if Trump gets re-elected?

Tighter control on immigration would reduce labour supply, which will push up wages. Everything they say they will do would contribute to inflation.

Will they actually do all those things? Trump is very good at reading the mood of the room. At some instinctive level, he might recognise that the inflationary policies he pursued between 2016 and 2020 are much less appropriate in today’s environment.

01:52

US proposes new round of tariffs on China in latest trade war escalation

US proposes new round of tariffs on China in latest trade war escalation

Now, the US economy is clearly inflationary. And if you throw in more inflationary policies, you could have a big problem. Trump might be a sufficiently smart politician to recognise that’s dangerous.

On the broader China question, it’s very uncertain. If Trump is elected, there’s no question that the security side – the defence department, state department – will become more hawkish than under Biden, and will be inclined to be antagonistic towards China.

The final thing is that – if you look at the original Trump presidency, he had some very hawkish people on China. But at the treasury department, in particular, he had people who were trying to be very nuanced and have a constructive relationship with China.

So it’s quite possible that we’ll have a similar dynamic in the second Trump term. There are different people in different parts of the administration that have different views.