China’s Economics Are All About Its Politics

China Economy Politics

China’s troubled economy has been in the news this summer for all the wrong reasons. First, there was its floundering stock market and the government’s heavy-handed attempts to right it. Then, last weekend came word that Chinese exports fell short of expectations. And in a surprise move on Tuesday, the country’s central bank devalued its currency, the renminbi, in what would be a three-day fall of 4.4% when all was said and done.

You can also add to that list of troubles a second quarter growth rate of 7% that, while in line with official targets, is sharply lower than historical levels. All of this has officials concerned about where the Chinese economy is heading.

That’s especially true because of Beijing’s overriding desire to maintain control. Many countries’ politics and economies are intertwined, in ways that are usually difficult to disentangle, but China’s economy is defined by its politics. And right now those politics are unusually turbulent. Xi Jinping has centralized his power to an unprecedented degree since becoming president in 2012, pursuing a robust anti-corruption campaign and encouraged a cult of personality not seen since the days of Mao five decades ago.

Why the economy spooks Chinese officials

Given that, it’s not too hard to understand why this year’s economic turbulence is spurring such a strong government response. Xi has built much of his legitimacy on an image of untouchable competence and the promise of the “Chinese Dream,” which is as much economic as it is nationalistic. The stock market collapse earlier this summer posed an acute threat to this project, as Beijing had encouraged investments by individuals who really had no business playing in the market. The worry was that those many small investors, incurring losses despite the government’s rosy predictions, might start to think the emperor had no clothes.

And while on the surface it looks as if Xi is consolidating his power and strengthening his position, he is also surely making enemies in the process. But thanks to his efforts to present a bulletproof image, and the already opaque nature of much of China’s politics, those tensions are less than obvious. That point was driven home by The Economist this month in a report on officials’ preparations for a new five year plan, which could be wrought by unease over economic conditions. But while China’s Communist Party has a long history of power struggles, it’s hard to tell if that dynamic exists in quite the same way under Xi.

Regardless of what political tensions existed behind the scenes before, they could become far more obvious if the economy doesn’t improve.

So what’s this devaluation about?

In a move as politically-motivated as it is economic, the People’s Bank of China announced on Tuesday that the renminbi would be valued at 6.2298 per dollar, which was a 1.9 percent dip from Monday. It then cut the rate for the next two days as well, reaching 6.4010 yuan per 1 US dollar on Thursday. (By the way, “yuan” is an alternate name for China’s currency. You’ve probably seen it used interchangeably, but it more specifically references the denomination while renminbi is a more general term that translates to “people’s currency.” Since the latter is the official term, I’m primarily using it here.)

China no longer pegs its currency directly to the dollar, as it did prior to 2005, but it is still very tightly regulated. Before Tuesday, the biggest change in the renminbi’s value had been 0.16 percent, according to the New York Times’ Neil Irwin.

Tuesday’s move has consequences for world markets, particularly the United States. A weak currency means China’s exports become cheaper and thus more attractive to consumers, hurting American goods. So, unsurprisingly, the devaluation sparked no small amount of political criticism in the U.S., with leading Republican presidential candidate Donald Trump saying it would “be devastating for us.”

The renminbi is also still closely tied to the dollar and that has hurt China’s play for a larger role in the global economy. Beijing wants its currency to earn the same “reserve” status enjoyed by the dollar and euro, a goal that would require submitting the renminbi to market forces in a way it hasn’t. That has been a demand of the International Monetary Fund, which said it won’t raise the renminbi to reserve status unless that becomes the case. The U.S. has actually long called for the same thing, under the theory that China should be subject to the same market forces as everybody else. Of course, the timing of the devaluation this week was less than helpful to the American economy, itself struggling to expand growth and wages.

Chinese officials insist they are only trying to meet the expectations of the global market. Others are less convinced, and think the devaluation was done specifically to boost a flagging export market and help arrest the economic downturn.

There might be some truth to both explanations but it’s also very much about the country’s politics.

Economics before politics or vice versa?

Those politics are driven by the often conflicting impulses toward domestic control and international standing. China’s leaders want to maintain a strong grip on what happens within their country while also asserting what they consider their rightful place as an influential part of the global economy. The different priorities have shifted in importance during Xi’s tenure.

Arthur Kroeber, managing director of GraveKal Dragonomics, told Foreign Policy that “putting political goals so explicitly ahead of economic ones differentiates Xi from his predecessors, all of whom stressed the primacy of economic development.” That prioritization, and Xi’s apparent desire to avoid economic distractions through heavy-handed government action, could have significant effects not only on China’s economy but also global trade and geopolitics.

One complicating factor in all of this is the question of where China’s growth rate really is. Many analysts don’t buy the official line of 7% growth – the indicators just don’t seem to match that relatively rosy number.

“To be honest, no one has a clue where the economy is, and I don’t think that it’s properly measured,” Viktor Szabo, an investment manager at Aberdeen Asset Management, told the New York Times this week.

That mismatch is one example of how politics drives Beijing’s economic policy. If 7% is the target, it isn’t altogether surprising that the leadership makes sure the country hits that target, just like it did everything it could to right the stock market this summer. Setting goals is only one part of China’s strategy of control – reaching those goals is the other, nonnegotiable part.

But it isn’t just a question of maintaining legitimacy as a planned economy. China’s leaders want the renminbi to become a global reserve currency, and the IMF has been adamant that the only way that can happen is by allowing the currency’s value to fluctuate based on market forces. Beijing, of course, is wary of doing that since it would mean diminishing control. But it is also eager to achieve its goal of reserve status and the status that would unlock in the world economy.

Those competing aims converged this week. By allowing the renminbi to weaken, China made its exports cheaper and helped give its industries a needed boost while also meeting the demands of the IMF and others who have long called for a market valuation.

Yes, a weaker renminbi does help China’s exports at the expense of other countries like the United States. But it would be wrong to see this move as anti-American. From Beijing’s perspective, the twin goals of propping up the Chinese economy and enhancing its standing globally are far higher priorities thank poking America in the eye.

Of course, improving its own position against that of a major economic rival is a side benefit not to be taken lightly. But it isn’t the priority.

China’s soft power abroad

One of the other notable trends of the Xi era has been a concerted effort to project soft power abroad. That is, Beijing wants to curry favor with other countries and their people. China scholar David Shambaugh provides an excellent overview of these efforts in the current issue of Foreign Affairs, pointing to investments in foreign countries, Chinese students in colleges abroad, and the growth of Confucius Institutes to bring Chinese language and culture to the rest of the world.

“We should increase China’s soft power, give a good Chinese narrative, and better communicate China’s messages to the world,” Xi said last year.

Economically, this soft power push has included talk of a modern-day “Silk Road” and trade pacts with other Asia Pacific countries. As Shambaugh describes it, “China is meticulously constructing an alternative architecture to the postwar Western order.” This is, in part, why the Obama administration has been so insistent on completing the Trans-Pacific Partnership and ensuring the United States’ involvement. Despite much controversy at home, Obama has (rightly) argued that the TPP’s failure would deliver to China its dream of Asia-Pacific economic hegemony.

But all of this work – which Xi has prioritized since becoming president – is endangered by the domestic economy’s troubles.

What happens next

The future of China’s economic policy will almost certainly look a lot like its recent past, with a focus on using it as a political tool. To borrow Prussian military theorist Carl von Clausewitz’s dictum about war, for China, economics is politics by other means.

But while domestic politics drives much of how Beijing’s leadership sees the economy, the decisions it reaches will have a profound effect outside its borders.

As of Friday, the renminbi had slid 4.4 percent compared to the dollar for the week. That sudden fall has sparked fears of a currency war, something China denies but which could be the result regardless of intention. If countries like the U.S. begin to see a real threat arising from China’s currency moves – and any other policy actions it might take in the near-term – then protectionism could become quite popular in other capitals.

The most immediate consequence could be on the Federal Reserve’s upcoming decision to raise interest rates, which have been at zero for seven years. While the economy has been on the upswing, wages and inflation have not really budged. Add a new threat from a weaker renminbi, and its potential effects on U.S. production and labor, and the Fed just might forego its expected rate increase next month.

Written by Gene Giannotta

Gene Giannotta is a writer based in Washington, D.C. He reports on economic policy, finance and business news.