Source: “Misunderstanding Investment in the United States and China” by R. Stephen Brent, American Affairs Journal, Winter 2020, Volume IV, Number 4.
Date: Winter 2020
This article discusses the different approaches to investment and economic growth taken by the United States and China, and how these approaches have led to different outcomes. It also examines the arguments of Mathew Klein and Michael Pettis, as well as Clayton Christensen, to challenge the prevailing market fundamentalist views on investment and growth.
Key Differences in Investment Approaches
- United States: The U.S. believes in shareholder value, where companies invest in activities with high rates of return to maximize productivity and growth. The government’s role is to stay out of the way.
- China: China prioritizes national market share over rates of return. The government actively intervenes to provide cheap capital for high investment.
Critiques of Market Fundamentalism
- Market fundamentalists argue that the U.S. system is superior, but China’s approach of “force-fed” investment has been effective, with China’s GDP growing by 250% since 2001 compared to the U.S.’s 35%.
Klein and Pettis Arguments
- They argue that investment is limited by insufficient consumption and demand, not the availability of capital
- They point to Germany’s Hartz reforms, which lowered wages and reduced demand, leading to decreased investment despite increased savings
- They also note that stagnant wages in the U.S. have limited demand and investment
- High savings by the wealthy are less conducive to investment as they tend to go towards financial assets rather than the real economy
Clay Christensen’s Critique
- Criticizes the use of financial metrics like internal rates of return (IRR) and return on net assets (RONA)
- Argues that the focus on maximizing shareholder returns leads to short-term thinking and discourages long-term investments
- Distinguishes between “sustaining” innovations (incremental improvements) and “disruptive” innovations (new products/services that create new markets)
- RONA can incentivize companies to cut jobs, lower wages, or offshore, rather than invest for the future
- Notes that the focus on short-term returns results in what he calls the capitalist’s dilemma, where doing what is right for long-term prosperity is the wrong thing for most investors
Consequences of U.S. Market Fundamentalism
- The U.S. has experienced a manufacturing slowdown due to corporate unwillingness to make large capital investments and the pursuit of reducing physical assets
- Slow wage growth and decline for less-educated workers are linked to offshoring and limited disruptive innovations
- Low investment is a consequence of stagnant incomes for the bottom 50% and lower spending by the top 10%
- Slowing productivity gains are a result of low investment and reluctance to invest in disruptive innovations
- The financial sector does not support real investment. Instead, it often prioritizes financial engineering and stock buybacks
- Public investment in R&D, infrastructure, and education has also suffered
China’s High-Investment Model
- China’s approach involves government-led investment in infrastructure and manufacturing, following a model similar to Japan and the Asian Tigers
- The Chinese government sets the level of investment, directs state-owned banks to provide capital, and keeps capital artificially cheap by paying negative real interest rates
- This approach prioritizes market share expansion over profits, involves low labor costs, and benefits from large-scale manufacturing and industrial clusters
- This has allowed China to dominate global manufacturing, especially when combined with favorable conditions such as the one-child policy, a shift of workers from farms to factories, and Western companies boosting its technology
- However, China’s high-investment methods have resulted in suppressed wages and a low share of GDP in consumption
Hidden Costs of the China Model
- While China’s growth has reduced poverty, it has come at the expense of Western workers who have faced wage suppression
- China’s competitive exports have forced other nations to cut costs, creating a self-reinforcing cycle that has hurt global demand and growth
- The United States has been particularly affected due to market fundamentalist policies and the influence of RONA on companies
Potential for the U.S.
- While China has experienced a period of rapid growth, the U.S. has the potential to improve through changes in its policies
- By prioritizing public and private investment, as well as raising wages through productivity improvements, the U.S. could see substantial gains
- However, these changes face opposition from corporate and financial elites
Conclusion
The article argues that market fundamentalism has failed to deliver on its promises of increased investment, faster productivity gains, and rising wages. Instead, it has led to stagnant wages, low investment, and slow growth in the U.S. The author suggests that a shift towards policies that prioritize equality and investment is needed to reverse these trends.