If there is one thing we can count on, it is the annual warning that China is on the verge of collapsing. Don’t believe me? Here are articles from 2012, 2013, 2014, 2015, 2016, 2017, 2018, 2019, 2020, 2021, 2022, 2023, and 2024. And here is another article with citations going back to 1990, all warning about the same thing: that China’s economy will crash and it will crash hard. 

　　Remarkably, we also routinely hear the tale that China is poised to become the world’s next economic superpower. And while China’s economic output is impressive in raw terms, once we realize that China has a greater population than the combined populations of eight of the other nine top-ten manufacturing superpowers, it becomes clear that their impressive manufacturing output is entirely driven by their population, not their economic viability. On a per-capita basis, they certainly do not qualify as a “superpower.”

　　Despite these contradictory warnings, China has not collapsed or become a bona fide economic superpower. So, what gives? How can a country simultaneously be on the verge of disaster and greatness?

　　The answer lies in understanding China’s economic system (party-state capitalism) and the difference between economic problems and technical problems. Party-state capitalism can be an effective way to solve technical problems for a short while, but the system’s inability to solve economic problems dooms the system and the people who live under it.

　　Economic problems are those that are present when there are multiple, mutually conflicting ends present, which necessitates choice among them. This is the source of opportunity cost reasoning. For matters of economic problems, there is always an opportunity cost—an option that must be forgone—in order to make any decision. For example, in the summertime, I am often faced with a choice: should I go play golf today or should I sit down and write? These choices are mutually conflicting for me: I cannot play golf and write at the same time; thus “writing” has an opportunity cost of “playing golf” and “playing golf” has an opportunity cost of “writing.”

　　Technical problems refer to efficiency. They compare inputs and outputs. Given a specific and identifiable goal, what is the best way to achieve it? For example, once I have decided to go play golf instead of writing, there is an objectively best way to do so: use the correct club for the upcoming shot and execute a proper swing. Error happens (and when I play, there are a lot of errors), but there is still an objectively best way to achieve the primary goal of golf: take as few strokes as possible and thus, to play as little golf as one can.

　　So how does this relate to party-state capitalism? Pearson et al state it best when they write that party-state capitalism is a system where “the political survival of the Communist Party trumps developmental goals. Its tools for managing the economy include not only state ownership and market interventions, but also increasing use of party-state power to discipline private capital. China’s entrepreneurs are now expected to adhere to the party line.”

　　In other words, party-state capitalism is an economic system that allows far more political control over the nation’s resources than, e.g., the capitalism found in the United States. It allows the Communist Party to direct the nation’s resources toward politically determined ends and, in doing so, achieve them with tremendous technical efficiency in much the same way that communist countries can. Unfortunately, like their communist counterparts, this only works in the short- to medium-term.

　　We saw this in the late 1950s and early 1960s with the space race. Given that the Soviet Union was a command-and-control economy, they were able to marshal an incredible portion of their nation’s resources toward the specific and identifiable goal of putting a man in space and bringing him back to Earth. Despite this, the Soviet Union would collapse under its own weight a mere 30 years later. As it turns out, the Soviets had focused a tremendous amount of their nation’s resources on “winning the space race” but had done so at the cost of, among other things, properly feeding the nation.

　　In a similar vein, China has a storied history of politically determining ends. Over the past 30 years or so, the Chinese economy has prioritized manufacturing and, specifically, manufacturing for export. This has intuitive appeal. Manufacturing jobs often do not require advanced educational attainment and are, in countries such as the United States, highly paid. In some ways, they are the perfect sector for political leaders to focus their efforts.

　　Without serious, market-based reforms in China, they will run out of other people’s money.What happens at that point is anyone’s guess.

　　To encourage manufacturing for export, the Chinese government heavily subsidized specific firms and industries. This can only be done by taxing the citizens and workers in other industries so that additional government money can be allocated to the politically preferred industries. This carries with it two deleterious effects.

　　First concerns the question of which industries and firms will be the beneficiaries of the government subsidies. This opens the door to cronyism, where those who are politically well-connected but less competitive are more likely to receive benefits.

　　Second, it cannibalizes the base from which the resources used to provide the benefits are being expropriated. Without this base, the Chinese government finds itself without the resources necessary to provide the benefits, the firms who have been planning on receiving these benefits quickly run out of funds, and the threat of the Chinese economy’s collapse returns.

　　To get around this, the Chinese government has used every trick in the book. First, they send corporate spies to steal intellectual property from, e.g., American companies.This allows their firms to skip the costly research and development phase and jump straight into the low-cost manufacturing phase. This allows them to undercut the prices of firms in other countries, which must be higher to offset the cost of research and development.In doing so, the hope is that Chinese manufacturing firms will have a competitive advantage. However, we should note that there is tremendous tacit knowledge in the failures during the research and development phase.Because Chinese firms are only using the knowledge of the successes, they cannot know what did not work, thus their attempts at imitation are no facsimiles, but are instead cheaper, lower-quality knockoffs.

　　Second, they have manipulated the value of their currency in an attempt to secure more favorable exchange rates and encourage other countries to purchase Chinese-made products. In doing so, Chinese products become relatively cheaper on the world stage for non-Chinese buyers. This is clearly an attempt to reinvigorate their economy through boosting net exports. This strategy might work in the short term, and indeed it does look like it is, as China has recently recorded a $1 trillion trade surplus. However, to call this a victory confuses an accounting identity with an economic one. Trade surpluses do not reflect increased wealth, they simply reflect changing patterns of consumption. To think otherwise is to embody the pre-Adam Smith notion of European-style mercantilism. In the long term, currency manipulation is little more than a hidden tax on the people who use the Chinese currency, i.e. the citizens of China.

　　Finally, they have engaged in what can only be described as massive and persistent expansionary fiscal policy. The most recent of which is a $1.4 trillion debt package, revealed in early November. The hope from this measure is to replace what Beijing calls “hidden debt” with “official debt,” which comes with lower interest rates given that the Chinese government effectively owns the banking system. In doing so, Beijing hopes to save about $83 billion in interest payments over the next five years.

　　All of this belies the simple truth: China is hoping to paper over the inability of governments to solve economic problems with increasingly costly technical solutions. This can work for a while—decades even—but the inevitable result of such a plan is the same: collapse.

　　All of this is particularly remarkable for a country like China. The simple fact is that China has an abundance of land and resources, incredible infrastructure, a container port system that outperforms all others in the world, and a famously massive (and cheap) labor force. These give China the ability to achieve tremendous levels of short- and medium-term success economically. Unfortunately, their economic system of party-state capitalism is fundamentally incompatible with long-term, sustained economic progress.

　　The Chinese economy will continue to fluctuate between soaring heights and crushing lows for the foreseeable future. However, like all economic systems that are not based on market principles, this will only last so long as there are resources from the non-government sectors available to expropriate and give to the politically well-connected industries. Once that dries up, the Chinese government will quickly find themselves without resources to prop up their otherwise doomed industries. As Margaret Thatcher once said, “Socialist governments traditionally do make a financial mess. They always run out of other people’s money.” While China may not be socialist per se, its party-state capitalist system contains within it many socialist undertones.

　　Without serious, market-based reforms in China, they will run out of other people’s money.What happens at that point is anyone’s guess.