GTBT - Is Xi's China the New Soviet Union?

: Hubert Walas; Created: 21 November 2024

Xi Jinping's China increasingly red

We have all seen hundreds of videos like this. Showing swarms of drones animating amazing graphics in space, or machines autonomously doing road work, or photos comparing the skyline of Shanghai over the past 20 years, or electric cars straight out of the future. What they all have in common is that they depict China's impressive development and are by no means out-of-context, singular achievements. One only needs to go to the centre of Shanghai or Shenzhen to get a glimpse of the future compared to American or European cities.

Why, then, looking at these pictures, do we make a seemingly absurd claim in the title? To compare such a modern state to a sluggish, communist machine that failed to keep up with the Western world and eventually collapsed under its own weight? All the more so given that quite recently the Chinese stock market has experienced a substantial strengthening. And yet, the last few years have shown signs that the images we see on the screen can be more of a facade of an inefficient system whose obsession with central control leads the economy astray. This is very evident today.

This year marks 46 years since the Chinese Communist Party introduced unprecedented economic reforms, under the leadership of Deng Xiaoping. This period has seen one of the most spectacular growths in human history. The policy of opening up to the world, the shift of the Chinese economy from an eminently centrally controlled to a economy of market characteristics, and the allowing of private property, unleashed an incredible amount of energy that found an outlet in perhaps the most amazing economic growth in the history of the world. We are all familiar with these charts and they continue to look incredible. China has experienced an average of 10% GDP growth year-on-year for nearly 40 years.

However, looking at this IMF chart, GDP growth over the last 15 years, and looking at the forecast for the next few years, one can see the problem. Since 2007, when China achieved an astronomical 14% GDP growth in one year, the trend is clear - a decline and a rather drastic one. It’s about to drop to 3% GDP growth in a year or two. And, as we shall see later, these figures too may be overly optimistic.

Of course, someone will say - you can't keep growing at 10% year on year forever. Yes, but in per capita terms China still remains an essentially poor country. Even in PPP terms (which are more favourable for China), both the IMF and the World Bank place China about the 80th place of the richest world nations. And let’s keep in mind the huge inequality in the Middle Kingdom. The Gini index, which monitors this relationship, has doubled in China over the past 40 years. This means that the rich East Coast is driving up the wealth statistics of the Chinese people. The agricultural and rural interior of the country is still very, very poor.

To sum up, an economic slowdown in China was to be expected, but only when China could be considered relatively wealthy in per capita terms, but the Chinese are still far from reaching that level. So that forecasts of 3% growth pose an existential problem for the Chinese Communist Party, which derives its legitimacy, so to speak, from statistics.

There are many signs that China's socio-economic model of the past 40 years is running out of steam. Meanwhile, the party has no idea for a new one. The cure for China's economy is simple, but it means losing control of society, so Beijing closes its eyes to it. As a result, for the time being, the response of the party's top leadership, led by Xi Jinping, is closer to the fashion presented some time ago by the Soviet Union.

Polar Star of Investments

Consumption, investment, production - these are the three, key words for the Chinese economy in the middle of the third decade of the 21st century.

Ever since Deng Xiaoping took the helm in the Middle Kingdom, he has imposed a fundamental goal on the country's economy: investment in industry. Especially since the reforms of the 1970s, China has begun to devote an incredibly large proportion of its domestic product to investment. Over the past 20 years, it has been almost equal or above 40% of GDP.

As Zongyuan Zoe Liu, to whom we will frequently refer in this material, writes in his excellent article for Foreign Affairs entitled 'China's Real Economics Crisis', this industrialist policy was outlined by China's great reformer:

“China’s sixth five-year plan (1981–85) was the first to be instituted after Chinese leader Deng Xiaoping opened up the Chinese economy. Although the document ran to more than 100 pages, nearly all of it was devoted to developing China’s industrial sector, expanding international trade, and advancing technology; only a single page was given to the topic of increasing income and consumption.“

In other words, for 40 years, the Chinese have spent alamost 40 per cent of their income on new industrial investment - such as factories; infrastructure - apartment blocks, highways or railways; and technology - subsidising research and development and providing financing for companies.

A massive influx of foreign investment reinforced this process. Low wages attracted global, especially Western, companies, the growing skills and industriousness of the workforce, and the improving state of China's infrastructure, which is now a global benchmark.

And this is where the problems begin. As Nobel laureate Paul Krugman points out, while this level of investment was justified for 30 years, when China had a rapidly growing labour force moving from rural areas and high productivity gains, but now this model is starting to become unsustainable. Or, to put it another way, this level of investment as a percentage of GDP is achiveable, but investment is no longer effective.

When we invest in something, we want that investment to pay for itself and to be efficient. When we buy a car, it improves our travel comfort and commuting time. A company that builds a factory expands its business or improves production. A country building a motorway, for example, improves connectivity and internal productivity. China continues to invest a lot, but often these investments do not make sense.

The problem is that it is difficult to invest so much money without seeing serious diminishing returns. In short, this is not a country that can productively invest 40% of GDP. The crowning example is known to anyone who follows the global media. That’s obviously the real estate bubble, which was exposed in 2021 with the collapse of the world's largest property developer, Evergrande.

What level of inefficiency are we talking about?

He Keng, 81 year old, former deputy head of the National Bureau of Statistics, puts it this way: "Every expert gives a completely different figure, with the most extreme believing that the current number of empty houses is enough for 3 billion people!", but he adds that this is probably an upward estimate. Yet conceding that there are certainly enough empty houses to accommodate China's entire population of 1.4 billion. Other estimates put the number of 'surplus' homes at 600 million. In other words, we are talking about a staggering amount of waste, since many, perhaps most, of these dwellings will never be occupied. First, China's population is already shrinking and will continue to do so at an accelerating rate. Estimates for the year 2100 range from 800 million to as low as 400 million. Second, these blocks have often been built in random locations with no connection to market demand.

The thesis in the title disappeared from view for a while, but we are beginning to see it, right? Let's add that this highly inefficient property sector may account for up to 30% of China's GDP! However, the real estate sector is not the only bad apple in the basket.

China's Communist Party is pushing for investment, economic growth and increased production, not just in housing. The same is true for industry, with China producing far more than it can consume. As Zoe Liu writes: 'As a result, the Chinese economy risks falling into a cycle of falling prices, bankruptcies, factory closures and, ultimately, job losses. '

In other words, Chinese manufacturers are caught in a downward spiral of squeezing margins and fighting each other on price to the death. However, the companies that survive are not necessarily those that are the most efficient or profitable. More often, it is those with the best access to state subsidies and cheap financing.

The rotten idea of consumerism

So what is it? Why is China doing this to itself? To get the full picture, we need to add a second factor to Chinese policy: the maximum restriction of consumption.

For decades, Beijing has set ambitious targets for investment and growth while ignoring the issue of its citizens' consumption. This is not an oversight, but a deliberate objective of the Chinese Communist Party. There are several reasons for this, but the most important is one: the control of the population.

Let us take the example of one particular mechanism. In the free market countries, the aim of those in power is to create favourable conditions for their citizens to feel confident enough to spend their money. We they do feel save, they spend their money, drive the economy, new jobs are created, while at the same time the government collects more money in taxes, which can be reinvested in infrastructure, public facilities or health care. These facilities, in turn, improve the optimism of consumers who are not worried about running out of money to survive in the event of 'bad weather', and so spend their money again, driving economic growth.

Meanwhile, in China, the whole system is designed to dampen the optimism of Chinese consumers. Why?

There are many reasons why the average Chinese watches every yuan spent so carefully, but many of them revolve around the generally very poor quality of public services. The Chinese state does not provide many of the services that Western citizens can count on, forcing the Chinese to save massively. This includes health care, the (often high) cost of which is borne by citizens. The education system also forces parents to spend heavily on education, including private tuition. The elephant in the room is also the pension system, which does not provide adequate benefits in old age, especially in rural areas. Then there is the aforementioned property bubble, in which millions of Chinese have invested their savings, and the unstable labour market, which particularly affects the young.

In short, the average Chinese is forced to save heavily for a rainy day. He puts his savings in a bank. A bank that is controlled by the state, in other words, the party.

Companies, seeing low domestic consumption, are forced sell their products mainly abroad. The creditors of these companies are state actors, so the private sector also ends up in the pockets of the Chinese Communist Party. This leads to a general conclusion. In the West, whoever owns capital has the power. In China, it is the other way round: those with power own the capital. And the ultimate power, the 'mandate from heaven', is held by the party, with Xi at the top.

The party concludes that it cannot pursue a policy in which consumers are happy to spend their money, because it would lose control over the flow of capital. So today the mechanism is as follows. The party has a monopoly of power. Power gives it the ability to construct appropriate domestic policies. Emphasising investment and ignoring consumption leads to the accumulation of capital in state-owned banks. On the one hand, through the debt of the private sector and, on the other, through the high savings of the citizens.

The money in the hands of the party gives it the ability to control the elites: both locally, in the state administrative structures, and in the economy, by controlling to whom the money is distributed. The elites in the hands of the party, in turn, keep society under their control. The hierarchical nature of the whole system is clear.

Let us not forget the ideology. Consumption is seen as an individualistic distraction that takes people away from the Party's collective goal of improving the industrial base. Individual prosperity can even provoke criminal thoughts such as individual rights, civil liberties or the right to privacy.

And this is the crux of the problem. Beijing was able to maintain such a policy for 40 years because the start-up base was very low, the country was backward, and international investors were eager to locate their businesses in China. Today, however, the situation is different.

Not only is Chinese overproduction beginning to irritate other countries, but the imposition of shackles on Chinese exports has recently become one of the overarching economic policies of the world's other two economic poles: the European Union and the United States. Today, these two centres are fiercely fighting Chinese exports with trade tariffs. They consider Chinese actions to be unfair trade practices. The Chinese are trying to circumvent these blockades by third countries while also increasing their exports to the global South, but the trend towards containment of Beijing's trade expansionism is clearly visible.

Countries are now coming to the conclusion that Beijing is trying to drive local producers out of the market by subsidising e.g. the electric car sector or green technology in general. The Chinese are doing this by exporting their products at minimal margins or even below the cost of production - because that is what China's centrally controlled economic policy leads to. The world, albeit mainly the Western world for the time being, is slowly beginning to build a wall.

Negative feedback loop

Overproduction, combined with low consumption and the gradual rise of global protectionism, is leading to a 'price squeeze' in the Chinese market. This is leading to near-zero inflation or even deflation, which is a deadly phenomenon.

Deflation is an economic phenomenon in which prices in an economy fall instead of rising. It sounds great, but only in theory. Falling prices further discourage consumers from spending (because they wait for products to be even cheaper), which further cools the economy, leading to business failures, higher unemployment and so on.

This negative feedback loop is amplified by another mechanism of Chinese central management - local debt.

It is important to remember that when China's top leadership sets out its strategy for the country, it incentivises local governments to invest in the party's priority sectors and to meet certain targets. As a result, there is enormous pressure on local leaders to (a) drive local GDP growth and (b) carry out the directives of the party leadership, regardless of whether the moves are realistically profitable or not.

Interestingly, however, Beijing often does not provide central funding: instead, it gives local officials a great deal of freedom to organise off-balance-sheet investment vehicles with the help of regional banks to finance projects in priority sectors. Up to 30% of China's infrastructure has been built with the help of funding from these 'off-book financial constructs'.

The result? The WSJ reports that this unofficial local government debt is as high as $11 trillion, twice the size of the central government's debt. As much as $800 billion of this debt is at high risk of default. Moody's Investors Service and Fitch Ratings have downgraded China's credit rating outlook from stable to negative, mainly because of doubts about the ability of local governments to adequately service their debt.

Regional debt, we should remember, is part of the control mechanism in which Beijing is immersed. Just as the private sector remains hostage to the party, so too do local elites. The regions are forced to meet the Party's ambitious targets, but at the same time they have to finance themselves. In the end, the local budget lacks funds for public services - not without reason, as we have already mentioned. As a result, the central government's debt is a relatively low 45%, but if we add the local debt, we get a level of over 300% of GDP. The leaders in terms of total public debt are Japan and Luxembourg with over 400%. At over 300%, countries such as France, Belgium, Canada and Sweden are eating into this level. In other words, countries that are much more developed than China.

The Middle Kingdom is the most indebted country of the underdeveloped economies.

All right, but someone will say that China has its problems, but it remains a centre of innovation and new technology. The problem is that, yes, Beijing is loudly supporting key sectors with e.g. Made in China 2025 agenda, but at the same time the whole system is somehow torpedoing innovation.

It is true that China provides funding for the development of key technologies through its policies. But the mania for 'meeting targets' encourages companies to invest and develop in mature technologies that will deliver results here and now. One example is robotics.

China has overtaken Japan as the biggest power in the industrial robotics sector. By 2017, there were more than 800 robotics companies and 40 technology parks spread across 20 Chinese provinces. The problem was that local decision-makers were funding projects that offered the quickest returns in the here and now, projects that could be scaled up quickly.

As a result, as Zou writes: ‘Currently, China has a large overcapacity in low-end robotics, but still lacks sufficient capacity in high-end autonomous robotics, which requires indigenous intellectual property.’

The situation is somewhat similar in the Artificial Intelligence industry. AI research is widely funded, but the quality of AI research, especially in the field of generative AI, is hampered by government censorship and lack of indigenous intellectual property. Many Chinese AI start-ups rely on products and models developed in the West to prove results in the here and now, to show banks and other financial entities the rationale for their existence.

As a result, in China, instead of a revolution, there is a phenomenon of ‘involution’. This means that Chinese companies, fighting in a bloodthirsty internal market, instead of differentiating their products and creating new ones, try to beat their rivals by ‘overproducing them from the market’. - here again we return to the issue of oversupply and exports. As a result, Chinese companies, despite their hype, have no incentive to be innovative, but they have big incentives to scale up and produce. A lot.

The end result is the following vicious cycle as Zoe Liu notes:

“firms backed by bank loans and local government support must produce nonstop to maintain their cash flow. A production halt means no cash flow, prompting creditors to demand their money back. But as firms produce more, excess inventory grows and consumer prices drop further, causing firms to lose more money and require even more financial support from local governments and banks. And as companies go more deeply into debt, it becomes harder for them to pay it off, compounding the chance that they become “zombie companies,” essentially insolvent but able to generate just enough cash flow to meet their credit obligations. As China’s economy has stalled, the government has reduced the taxes and fees levied on firms as a way to spur growth—but that has reduced local government revenue, even as social-services expenditures and debt payments rise.”

Matthew C. Klein and Michael Pettis, in their book “Trade Wars are Class Wars”, describe the Chinese dilemma as follows: “The PRC authorities face a huge risk of GDP collapse and soaring unemployment, which can be avoided by reducing the economy's reliance on investment spending and increasing domestic consumption. This means radically changing the distribution of wealth and income so that Chinese households can afford what they produce. What has been taken away from Chinese workers and pensioners must be given back.”

The whole 'negative feedback' mechanism has one source - central control mania. Beijing is trying to have its cake - to control the elites and society, and eat it too - to maintain economic growth and its own legitimacy. Now it is simply getting harder and harder to do this, and more skeletons are in the closet, weighing on the increasingly stunted GDP growth.

In 2004, just as the Chinese economy was becoming a global force, a group of researchers began conducting nationwide surveys asking Chinese people whether they were better off financially than they had been five years earlier. The percentage of people who said they were better off peaked in 2014, when 77% of respondents said they were. Last year, when respondents were asked the same question, this figure fell to 39%.

And what do autocrats do when domestic sentiment deteriorates? They tighten the screws even more. More and more criminal cases are opened, including against Apple's main partner, the Taiwanese company Foxconn. There are more disappearances of high-profile businessmen, travel bans on people loosely connected to suspected criminals, and arrests of social media operators.

The dictatorial mood has not gone unnoticed by foreign investors, who are the quickest to spot such trends - after all, they have their money there. As the Financial Times reports, China's venture capital and start-up sector collapsed almost overnight.

The graveyard of start-ups

As we can see from this chart, in 2018, more than 50,000 new startups were founded in China, and the entrepreneurial spirit was buzzing on the streets of Shenzhen or Shanghai. Just six years later, there is no trace of this movement. In 2023, 1,200 startups were founded; in the current year, only 260 were founded, heralding an even worse outcome.

Similarly, the amount of capital raised has shrunk from 125 billion yuan in 2017 to 5 (!) in 2024.
'The whole industry has just died in front of our eyes,' one Beijing-based company executive told the FT. 'The spirit of entrepreneurship has died.' It's very sad. He added.

“Now VC firms have to explain to the state why their companies failed and why they lost state money.” - added another manager quoted by the FT. “The party has stifled the private sector” concluded Desmond Shum, a Hong Kong businessman.

How the party has done this? Among other things, it has throttled technology companies deemed monopolistic or incompatible with the party's values. An anti-corruption crusade was launched against the disobedient. Entrepreneurs, especially successful ones, are closely watched and forbidden to transfer money abroad. All movements are controlled.

In practice, businesses and entrepreneurial capital are subordinate to the Party, the supreme authority. Free market players, sensing the communist spirit, withdraw their funds or stop investing.

When Chinese business sharks get too big, they are quickly reminded of the hierarchy. This happened to Alibaba's Jack Ma and Tencent's Pony Ma. Both were once seen as the Eastern version of Elon Musk or Jeff Bezos. The former, at the height of his fame, began to criticise China's banking system and regulations, calling them outdated. The result?

The IPO of Ant Group, an Alibaba company, was blocked by the party and Ma himself disappeared from public life for several months, presumably detained by the authorities and interrogated by the security service. In addition, the Party smashed Alibaba's empire on monopoly charges and fined it US$2.8 billion.

Tencent's Pony Ma was treated more leniently, but also resigned from public appearances under pressure. Tencent itself, however, has been subject to similar monopoly investigations and restrictions in the financial sector, where the state has a monopoly. There has also been increased censorship and control of content on platforms such as WeChat.

The central grip of the state is also evident in the chart of the share of the largest companies in the Middle Kingdom. China started from a level of dominance by state-owned enterprises. As recently as 2010, they accounted for 80% of the capitalisation of the country's 100 largest companies. But within a decade, this ratio fell dramatically to around 30%, reflecting the strengthening of the private sector. Since then, however, the trend has reversed. According to the Peterson Institute, state-owned companies already account for 50% of market value, and as much as 70% if mixed ownership is taken into account. By contrast, three different venture capital directors estimated that state funds now account for around 80% of the capital in the market, reports the FT.

The death of the venture capital sector is accompanied by the equally sudden death of the inflow of foreign direct investment - a pillar of the country's development, as one should remember. FDI provided not only capital, but above all know-how, which flooded the Middle Kingdom and created fertile ground for the creation of a domestic market of companies in many sectors. Meanwhile, FDI inflows into China have fallen from US$344 billion in 2021 to an annual level of US$15 billion in 2023! And 2024 could be even worse. According to the People's Bank of China, this is the lowest level in 40 years. Since the third quarter of 2023, China has officially recorded a negative FDI rate - a situation that has been completely unprecedented in recent years.

The Soviet model (which never went away)?

The socio-economic model of the Soviet Union was based on the ideology of Marxism-Leninism. Its guiding principle is the control of the means of production for 'just' redistribution. These means include: land, capital, labour, energy or raw materials. Mao adhered faithfully to these principles, while many hoped that Deng's opening-up reforms represented at least a partial break with them. While it can be argued that the Chinese Communist Party allowed a degree of private property to stimulate economic development, it never relinquished full control over it.

Control over the means of production is precisely what Xi Jinping's China practises over domestic enterprises, or society more broadly. China has tried to maintain the Soviet model of social control while rejecting an inefficient economic system. For a time, it succeeded, but time is running out. While for many years the dividends of a low base, abject poverty, underdevelopment, inflows of foreign investment and knowledge, and a strong demographic and work ethic drove growth, many of these key attributes have now disappeared.

Infrastructure backwardness has been reversed. China has built millions of kilometres of roads, highways, bridges, railways and so on. Each successive investment runs the risk of diminishing returns or even outright waste, as in the housing sector. Xi Jinping's 'closure' policy, in contrast to Deng's open one, is driving foreign investment out of the country and causing foreign business angels to abandon plans to invest in Chinese companies. The demographic dividend is also coming to an end, also stifled by a centrist, even inhumane, one-child policy and a widespread campaign of abortion, especially of unborn girls. Poverty has been partially eradicated, but only for part of the population, and in a strictly controlled way to limit the possibility of the infiltration of dangerous ideologies, and civil liberties, which may happen with the rise of consumerism.

Add to this an increasingly controlled private sector, which the Party is trying to drive centrally and stimulate innovation while pushing for growth. Only the latter takes over this combination, and often in an unproductive way. This situation is a stark reminder that technological revolutions and innovation cannot be forced. Control is the opposite of innovation, for innovation feeds not on control but on the disruption of control, the breaking of existing paradigms, the natural death of inferior ideas. A truly free capital market is an ideal breeding ground for this, offering investors the hope of unparalleled returns if they invest correctly. There is no such hope in China; the Party will never allow anyone to grow beyond acceptable standards. Moreover, the obsession with statistics excludes the other component of innovation - time. Sometimes the development of a disruptive technology requires years of unprofitability, as the examples of Tesla or OpenAI show. In the West, investors who believe in the leaders and their idea are able to accept this uncertainty and give a product time to develop. In China, with its GDP mania, this patience is often lacking.

Speaking of GDP, all this is starting to have an impact on China's growth forecasts. Although the Party still hopes to achieve its target of 5% GDP growth in 2024, there are several problems with the indicator itself.

Firstly, recent reports suggest that China will not even reach this level. Second, an aspect that we have highlighted several times - inefficiency. As much as 30% of GDP, or about 1.5% of GDP growth assuming a 5% target, depends on the real estate sector, which, let us remember, is extremely inefficient and uncorrelated with market demand. Moreover, the inefficiency itself is not only due to housing. Third, as Krugman points out, are these statistics even reliable? We don't know, but what we do know is that there is a strong incentive to inflate them, especially when it becomes increasingly difficult to maintain them at satisfactory levels. Krugman points to a study showing that autocratic governments tend to inflate growth by as much as 35% relative to democracies. As far back as 2007, Li Keqiang, then Communist Party chief of the northeastern province of Liaoning and later China's prime minister, suggested on tape that GDP indicators were "just for information". - he was supposed to say with a smile. Does this mean that China's GDP is overstated by 35%? Probably not, but the fact that statistics are controlled, combined with inefficiencies in investment, makes the official figures highly suspect.

If, on the other hand, there is no room for manoeuvre, the Chinese party takes the path of: 'don't like the view? break the mirror'. In 2023, youth unemployment peaked at 21%, and in rural areas at 40%, or even 50% if part-time work is taken into account. Faced with problems... Beijing blocked access to the statistics to ‘verify the methodology'. After 6 months, the statistics reappeared, and miraculously, they fell below 15%.

The mania for GDP growth and the suppression of inconvenient statistics has an obvious basis. These indicators legitimise the power of the Chinese Communist Party. They give people hope that if not me, then at least my child will be better off than me. This promise drove hundreds of millions of Chinese to work strenuously for many decades and brought relative improvements in welfare. Today, however, this promise is much harder to keep, because China has reached a level where all the signs in heaven and earth point to the end of this model, which cries out for one thing: unleashing consumption.

That would mean providing a high level of public services to the people: health care, pensions, education, boosting fertility with social programmes, in other words, it would require a transfer of capital from the state to the people. And China has the resources to do that. Consumer sentiment would then improve, boosting domestic demand and providing a powerful growth stimulus to the private sector, which would skyrocket. But this would mean a break with the doctrine of Marxism-Leninism, no control over flows, no control over the means of production, no control over the population that would be exposed to the dangerous ideas. In other words, it is not going to happen.

Of course, Beijing is trying to respond, and we saw one such move in early October. Beijing cut interest rates on existing loans by 0.5%. It loosened the rules on home purchases and injected $71bn into the stock market, which temporarily shot up. After a few days, however, there was a sharp downtrend that took the Shanghai stock exchange back to its May highs. This shows that the change has been rather cosmetic, while structural problems remain.

In early Novermber, Beijing announced another, even larger package. China announced a US$1.4 trillion aid plan to bail out local governments and support the faltering economy. All this in anticipation of increased trade tensions with the US under Donald Trump. Yet ‘There is a sense of disappointment in the markets’. - Mitul Kotecha, head of macroeconomic strategy for emerging markets in Asia at Barclays, told the Financial Times. Investors had expected more support for faltering household consumption.

Instead of freeing up consumption, we see a strengthening of the apparatus of control and coercion. A tightening of the screws that is well associated with the Soviet-Stalinist, or, not looking that far, Maoist model. New examples spring up like mushrooms after the rain almost every day. To the suffocation of the entrepreneurial spirit exemplified by the VC market and the people of Jack Ma and Pony Ma, we can add the totalitarian drive for civic control straight out of Orwell's books; the collection of teachers' passports to prevent them from seeing how life is lived in free countries; the meticulous censorship of the Internet; and the classic forms of labour camps in Xinjiang. There is also an anti-corruption campaign to remove those who are inconvenient to the Party leadership and further centralisation. It is a campaign that more and more people are calling outright: a purge. Particularly puzzling is the aforementioned death of prime minister Li Keqiang, the country's number two at the time, who suffered a heart attack while swimming in a pool. In the minds of many Chinese, 'heart attack in a swimming pool' has the same connotation as 'falling out of a window' for Russian apparatchiks who annoy or offend Vladimir Putin.

Xi has been returning to the 'fundamentals of the system' at least since the 19th Congress of the Chinese People's Party in 2017, when China's neo-emperor proclaimed a 'new era' in which the party would correct the ideological and political 'imbalances' left by his predecessors. The 20th Congress in 2022 only confirmed this direction, when Xi broke the “two-term rule” and began removing market-oriented figures from the leadership.

The spiral of central obsession

Xi Jinping's China is thus falling not only into a spiral of economic problems, but also into a spiral of inefficiency of the entire state model. By reversing a decades-long policy of partial liberalisation of the flow of information, China will find it harder to realise its ambition to restructure its economy around new industries. Like the Soviet Union, it risks becoming an example of how autocratic governments are not only illiberal but also inefficient.

As we read in the article 'Bad information is a grave threat to China's economy' in The Economist:

“Witnessing the totalitarianism of the 1930s and 1940s, liberal thinkers such as Karl Popper and Friedrich Hayek argued that political freedom and economic success go hand in hand: decentralised power and information prevent tyranny and allow millions of firms and consumers to make better decisions and live better lives. The collapse of the Soviet Union proved them right. In order to maintain political dominance, its rulers ruthlessly controlled information. But that required brutal repression, starved the economy of price signals and created an edifice of lies. By the end, even the Soviet leadership was deprived of an accurate picture.” Who today will have the courage to tell Xi Jinping that he is wrong? - the authors ask rhetorically.

Comparisons with the Soviet Union and the Stalinist period can also be drawn in the area of industrial policy. Although the two cases are different, Stalin also had a mania for investing in heavy industry - recall the five-year plans to develop the steel, coal or engineering sectors. At the same time, he radically curtailed consumption or, to put it bluntly, starved the population by allocating a far too small percentage of the budget to food production and through measures such as collectivisation. Between 1928 and 1940, consumption fell by 24%, and let's face it, pre-1928 Russia was no Eldorado either. What China is doing is a mild version of similar machanism, only without the Holodomor and with impressive swarms of drones showing economic development.

Frank Dikötter, a professor at the University of Hong Kong and an expert on China, recalls an anecdote in Time magazine:

“In 1987, China’s then-Premier Zhao Ziyang met the 75-year-old Erich Honecker in Berlin. The party leader of East Germany expressed his earnest concern over the nature of China’s “Reform and Opening Up.” Zhao explained that the policy was temporary only: in the future, once its living standards had been raised, the population would acknowledge the superiority of socialism, at which point the “scope for liberalization will be reduced further and further.” A few months later, at the Party Congress in Beijing, he explained that “we will never copy the separation of powers and the multi-party system of the West.”. This incredible prophecy is materialising during Xi Jinping's reign.

None of this is to say that China is on the eve of a spectacular collapse like that of the Soviet Union. The fact is that China continues to grow and will continue to do so for the foreseeable future. Its civilisational development has brought it into the 21st century and created very solid pillars of the system. A large part of the population, especially in the cities, still has fresh memories of this incredible leap, which has given them a new lease of life. The fact is that China still has a lot to offer investors. As we read in the Centre of Eastern Studies, these include a very large market, extensive supplier networks, a large pool of well-educated, relatively cheap labour, world-class infrastructure, relatively low energy prices or a weak currency.

But more and more analysts are concluding that a certain model of civilisation has run its course, and this episode is evidence of that. Beijing is looking for a new one, but so far its actions look more like digging up old ideas of Marx and implementation of Lenin or Stalin. Xi Jinping may have the sincerest intentions to improve China's status, and at first glance his decisions, such as investing in the development of AI or semiconductors, look good, but the whole system is becoming increasingly dysfunctional, stifling effective capital investment and innovation. Then there is the growing social terror.

This situation is more reminiscent of the phenomenon described by the German economist Rüdiger Dornbusch: "Crises take longer to arrive than you can possibly imagine, but when they do come, they happen faster you can possibly imagine”

There is another fundamental aspect to this problem. When an autocratic country descends into stagnation and internal problems pile up, the temptation to divert attention, for example through armed conflict, grows. In China's case, the target is obvious - Taiwan. China's weakening could therefore be a problem for the whole world.

China is reaching a similar dilemma to the Soviets, whose aim was both to keep pace with the Americans (which, as we can see, is becoming increasingly difficult), while controlling its citizens. Meanwhile, as author Jacob Dreyer noted, referring to China's Great Three Gorges Dam: ‘Can the flow of people — their desires and fears — be tamed to generate economic growth in the way a river can be dammed to generate electricity (while controlling people in every aspect of their lives)? It seems doubtful, but that never stopped anyone from trying.’ - Xi Jinping's China is no different. But the dam is getting higher and higher and the tide pushing against it is getting stronger. The question remains: will Xi and his successors manage to tame it so well, as they did over the past 30 years?

Sources:

Hubert Walas

Founder of Good Times Bad Times, author.

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Is Xi's China the New Soviet Union?

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