It's partly jet lag, I'm sure, but I did experience a mild sense of depression upon returning to the United States last Thursday night from the fastest growing economy in the world. I'd been in Beijing for seven days, with Federal Reserve Governor Wayne Angell, our wives, and Criton Zoakos, editor of our Global 2000 Perspective, who began organizing the trip last spring around an invitation to Angell by the People's Bank of China. The visit was exhilarating, a close-up look at the people behind the Klondike capitalism China is now experiencing, a group of leaders who are more or less making it up as they go along. Our wall-to-wall meetings produced a general sense that these impressive people have the outlines of entrepreneurial capitalism right and are definitely in tune with the masses. They're going to make mistakes, but we came away fairly confident that their philosophical underpinnings would keep them churning at a fast clip in the right general direction.
Angell and I had teamed up on a similar trip to the Soviet Union exactly four years ago, at the invitation of the Gosbank, during the course of which Angell had told our hosts that unless they linked the ruble to gold, they would soon experience galloping inflation and the country would eventually "split into a thousand pieces." At the time, the ruble was six to the dollar on the black market; it's now more than a thousand to one and the USSR has, of course, been splintered, Angell's counsel having been ignored. On our current visit, there were no such dire forecasts, precisely because we found a deeper collective talent and wisdom here than we had encountered in Moscow. This is partly due to the assistance Beijing has had these last 15 years from the overseas Chinese, particularly those in Singapore. There is a grim determination, for example, to keep the currency, the yuan, from devaluing against the dollar. It had slid to almost eleven to the dollar last spring, and the government wrestled it back to 8.8 (the number 8 is lucky in China), after Vice Premier Zhu Rongji stepped in to head the bank. Angell met with Zhu in Guangzhou while Criton Zoakos and I remained in Beijing for a series of meetings with banking and tax officials. Zhu, he told us later, is as impressive a political leader as he has ever encountered, with a surprisingly sure grasp of the key elements of central banking and a mastery of English. On that basis, we surmised he may be destined to lead the 1.2 billion Chinese into the next century.
The highlight of the trip for me was the hour and a half spent with Jin Xin, director of state administration of taxation, who has one of the most important and powerful posts in China. At 62, he is already two years past retirement age for bureaucrats, having been kept on as an exception because of his command of tax policy. I'd asked to meet him after reading a translation of an interview he'd given in August to a Chinese periodical, relating to tax evasion. He'd never seen a "Laffer Curve," which I sketched for him, but his mind is certainly bent to that shape, as the law of diminishing returns figures prominently in his discussion of optimum rates and thresholds. In designing a new tax code, to take effect next year, his position prevailed in setting the lowest income tax bracket of 5% at Y800 per month, not Y200 as others had argued. At the higher threshold, 95% of the population will not have to pay income tax, Jin believing income tax should truly be paid only by the better-off. The top rate of 45% will hit at Y30,000 per month, about $40,000 a year, a princely sum in China, and even so, Jin acknowledged that as real incomes continue to rise, these tax rates will have to be cut to prevent them from smothering incentives. For the same reason, he said foreigners will face lower effective rates. When I asked, with some trepidation, if there were plans to tax capital gains, Jin lectured me with considerable passion on the need to encourage risk-taking, and said the only tax on the exchange of capital assets would be a 0.3% transaction tax!
Jin explained that his focus on tax evasion is forced on him because of the demands on the national budget from state enterprises that plead for funds to modernize, from demands for infrastructure as the booming economy outruns the transportation infrastructure and public utilities, and from demands of individuals wishing to retain earnings to invest as capital in new enterprises. All worthy demands, he says, but where does that leave him? In my discussions with him and with the central bank, I made the point again and again that the only solution was major public indebtedness -- to treat the transition from command economy to market economy as an extraordinary expense, which it is, like a war. The citizenry should not be asked to finance all this out of cash flow. The state has enormous undeveloped assets, which should be capitalized through public bond issuance -- essentially taking the burden of adjustment off the backs of the people and putting it on the state, thus freeing the people to produce like hell until Klondike capitalism has run its course.
The central bank this year aimed at raising Y30 billion, a relatively trivial amount, with public bonds. It could finally unload this amount only after raising interest rates to double digits and requiring workers to buy most of the float. People are too smart to buy bonds when they expect the government will be forced to inflate. I urged them to consider a Y100 billion target in 1994, to take great pressure off the government and the central bank. The transition must be financed, and there are only two ways to do it, I said, via fiscal policy or via monetary policy, i.e., simply printing money. As Angell had advised the Russians in '89, so I advised the Chinese to fix the yuan price of gold at a favorable rate, which would give the creditors a capital gain when held to maturity. The bonds would be snapped up at close to 3%, we suggested, a secondary market would immediately develop, and the People's Bank of China would have a public debt pool it could handle with open market operations to manage the money stock. In this way, a variety of purposes would be served, not the least of which would be the nailing down of the monetary standard, a unit of account fixed in value against which private transactions could also be secured against government monetary error. The economy could then expand as rapidly as productivity permits, without any monetary inflation.
A second recommendation I made involves the housing stock, which for the most part remains in the hands of the state. The state offers the units for sale, but at prices that far exceed the monthly rental rate, which typically runs about Y10 for 30 square meters. Such a unit will cost Y10,000, which translates to Y60 per month at current interest rates! The state should sell the units at only 100 times the monthly rate, offering them interest free if the dweller can't come up with the purchase price. This would not only rationalize the real estate market, but would also put real capital directly into the hands of ordinary people. Instead of doing it piecemeal, the state should do it all at once, just as it did in 1978 in converting the communes to private co-ops. If the state tries to extract market prices from the housing stock on its books, it will be stuck with rent controls forever.
I haven't the slightest idea if any of this will be taken up by the government, but throughout we had the feeling the ideas seemed pleasing to our audience. There obviously has been a great deal of discussion about gold in Beijing in recent months, as every mention of it caused eyes to widen and ears to pick up. In Moscow, most government officials resisted any idea that seemed to put a burden on the state, or any idea that was not part of the conventional IMF/World Bank playbook. For everyone in the Chinese government the whole notion of "shock therapy" is repulsive. Mrs. Wu Xiaoling, deputy director of the Banking Reform department, scoffed at the Russian approach: "You do not burn down your old house until a new one is built," she told us when asked.
At the welcoming banquet, the U.S. Ambassador, J. Stapleton Roy, and his economic attaches attended, as Angell apparently was the highest ranking U.S. official, other than politicians, to visit since Tiananmen Square. We spent considerable time talking with them, especially the U.S. career officers, who uniformly spoke with awe at the transformation of China unfolding before them. One told us he had driven several hundred miles into the interior, and while living standards were much lower than in Beijing, which now resembles a modern skyscraper capital, there was vitality and the spirit of enterprise everywhere, even in the smallest village. We were told that several members of the congressional delegations who trooped through during the summer volunteered that they would now vote for, not against, Most Favored Nation treatment for China, based on the palpable signs of prosperity and well-being among the people.
There must be a million banners and signs in Beijing, in English and Chinese, welcoming the world and inviting the Olympics in the year 2000. The International Olympic Committee votes this week on whether it will be Beijing or Sydney, and, of course, we told our hosts we are rooting like mad for them. And we are. There are plenty of people we know who are "irritated," as The New York Times put it the other day, about a country doing as well as China without overt signs of democracy. But China's way of working from the bottom up is succeeding, and it is exciting indeed. We didn't see all 1.2 billion, but among those we saw, there was not a trace of irritation.