In the 1980's the United States and the Soviet Union were still vying for global dominance. Although the USSR would eventually collapse under its own weight, it is hard to ignore the implications that attempting to maintain military parity with the United States had on pressuring and further destabilizing its command economy. This is well documented and I won't go over it in detail but for the benefit of readers (whatever few I have) that are not familiar with the topic the United States forced the USSR to undertake an expensive arms build-up: from 1980 to 1989 American defense spending almost doubled from U$134 to U$253 billion, or roughly 7% of its GDP (by comparison the DOD's budget for 2012 is U$707 billion or 4.7% of GDP). Due to the dynamics of Soviet-American competition this pushed the smaller Soviet economy to increase its defense expenditures from 22% to 27% with disastrous consequences.
Now, I am not claiming that 21st century China is anything like the USSR of the 80's, but I do believe that we are now entering a new era of geopolitical rivalry between two competing powers with underlying mechanisms similar to that of the Cold War. I am furthermore convinced that the dynamics of the (domestic) security and military rivalry between these two powers will have an adverse effect on the proper development of the Chinese economy. I base this assertion on the following four points:
Each of the above points could be discussed, detailed and dissected for hours but it is not my intention to embark on an extensive exposé at the moment. I would however like to focus on the first three points primarily from an economic perspective. I have yet to crunch the numbers in detail, and anybody familiar with the matter knows that the PRC's defense budget can be as opaque to understand as a Party congress speech given after a bottle of moutai. That being said, China will officially spend ￥607 billion (U$97billion at today's exchange rate), representing 1.2% of its GDP. More importantly however, is the fact that the YoY increases for the PLA have been substantially higher than the GDP growth rate, meaning that expenditures for the military are increasing faster than for other sectors and consuming a larger part of national wealth. From 2011 to 2012 military expenditures increased by 11% while they grew by 16.2% a year from 1998 to 2009. Given points 1 and 2 above, the rate of expenditure increase for the military is likely to remain above that of GDP growth until parity is reached with the United States. This tendency is likely to remain so despite growth rates falling far under the magic 8% figure.
In addition, the internal security apparatus necessary to maintain control over the country has now outstripped the military budget for the second year in a row: internal security represents a budget item of ￥701billion (U$112 billion at today's exchange rate) or 1.6% of GDP. Just like for PLA expenditures the growth rate has been higher than that of the economy. Ensuring domestic stability is seen as a key pillar to the sustainability of growth; there are substantial fears (whether these are grounded or not is not for me to discuss) that any relaxation of domestic controls will jeopardize national unity and governance and thus lead to a drastic slowdown of economic expansion. Any substantial slowdown of the Chinese economy is meant to foster unrest in key areas, leading to a further increase in relative spending all within a context of slowing growth. In addition, vested interests within the security apparatus itself would certainly make it very difficult to roll back this trend.
Therefore by combining these two trends, we can see that the overall cost evolution of the Chinese security and defense apparatus will have a substantial impact on the government's bottom line. This is of particular interest since as mentioned in Point 4 the PRC desperately needs to devote increased governmental resources to foster a change in its economic structure, primarily through increased government spending vis-a-vis so called safety nets. There is almost universal agreement, even it seems within the CCP, that without reform Chinese economic expansion will likely run out of steam within this decade and become increasingly unstable (and back to Point 3). Even without this reform, Chinese welfare costs are set to escalate quickly by 2020 and beyond as the PRC faces the greatest retirement wave ever seen, placing further strain on the national budget. According to the official statistics and The Economist debt clock, public debt as percentage of GDP is only 16.5%. This is however due to "different" accounting practices: it is estimated that the actual debt as percentage of GDP is closer to 45% and growing rapidly. It is only to be expected that the drastic increase in retirees and ageing population will further exacerbate this trend. It is ironic that we can actually see the effects that high military spending combined with expensive (albeit inefficient) social welfare programs can have on a nation's budget and economic prospects by looking at the United States; but the USA is a far more mature economy and society with an expanding population.
I do not believe that the situation I am describing for the PRC bares a resemblance to that of the late Soviet Union, but the comparison does give us some insights as to the implications of pursuing an expansionary security policy while forgoing social (and ultimately economic) advancement. I do not mean to advance that the PLA and the PSB are about to bankrupt the nation, but I do contend that within this case and given limited budgetary resources, it is the defense and security forces that will be given preference to the detriment of economic and social development. The long-term implications for this, as noted above, would not only be a sub-par development of the population's welfare but a drastic slowdown in Chinese growth rates below the 7%-8% that many economists are still predicting will take place during this decade.
One obvious solution that would enable the PRC to maintain high rates of military and security expenditure growth while achieving the financing for the enactment of the expensive social reforms needed, is a substantial increase in the level of public debt - and if that were to be the case, I believe that China could very well be in the same dire straits that Japan or Western Europe are nowadays within the next 20 to 30 years.
Now, I am not claiming that 21st century China is anything like the USSR of the 80's, but I do believe that we are now entering a new era of geopolitical rivalry between two competing powers with underlying mechanisms similar to that of the Cold War. I am furthermore convinced that the dynamics of the (domestic) security and military rivalry between these two powers will have an adverse effect on the proper development of the Chinese economy. I base this assertion on the following four points:
- The People's Republic of China will want to assert its dominance in the Asia-Pacific region, which will require additional (and costly) development of its military muscle and power projection capabilities primarily through the expensive deployment of carrier strike groups and stealth technology.
- The People's Liberation Army will want to achieve military parity with the United States sometime in the 2030's.
- There is unlikely to be any form of political reform in the foreseeable future and the CCP will need to maintain a large security apparatus to retain control of power and stability within the country. The corollary to this is that any decrease in domestic policing will lead to temporary instability and a drastic reduction of economic growth.
- China desperately needs to reform its economy from an export driven economy to one based on domestic consumption. In order for this to happen there needs to be a drastic transfer of wealth to the households primarily through increased governmental spending to its social safety net, retirement pensions and health-care system.
Each of the above points could be discussed, detailed and dissected for hours but it is not my intention to embark on an extensive exposé at the moment. I would however like to focus on the first three points primarily from an economic perspective. I have yet to crunch the numbers in detail, and anybody familiar with the matter knows that the PRC's defense budget can be as opaque to understand as a Party congress speech given after a bottle of moutai. That being said, China will officially spend ￥607 billion (U$97billion at today's exchange rate), representing 1.2% of its GDP. More importantly however, is the fact that the YoY increases for the PLA have been substantially higher than the GDP growth rate, meaning that expenditures for the military are increasing faster than for other sectors and consuming a larger part of national wealth. From 2011 to 2012 military expenditures increased by 11% while they grew by 16.2% a year from 1998 to 2009. Given points 1 and 2 above, the rate of expenditure increase for the military is likely to remain above that of GDP growth until parity is reached with the United States. This tendency is likely to remain so despite growth rates falling far under the magic 8% figure.
In addition, the internal security apparatus necessary to maintain control over the country has now outstripped the military budget for the second year in a row: internal security represents a budget item of ￥701billion (U$112 billion at today's exchange rate) or 1.6% of GDP. Just like for PLA expenditures the growth rate has been higher than that of the economy. Ensuring domestic stability is seen as a key pillar to the sustainability of growth; there are substantial fears (whether these are grounded or not is not for me to discuss) that any relaxation of domestic controls will jeopardize national unity and governance and thus lead to a drastic slowdown of economic expansion. Any substantial slowdown of the Chinese economy is meant to foster unrest in key areas, leading to a further increase in relative spending all within a context of slowing growth. In addition, vested interests within the security apparatus itself would certainly make it very difficult to roll back this trend.
Therefore by combining these two trends, we can see that the overall cost evolution of the Chinese security and defense apparatus will have a substantial impact on the government's bottom line. This is of particular interest since as mentioned in Point 4 the PRC desperately needs to devote increased governmental resources to foster a change in its economic structure, primarily through increased government spending vis-a-vis so called safety nets. There is almost universal agreement, even it seems within the CCP, that without reform Chinese economic expansion will likely run out of steam within this decade and become increasingly unstable (and back to Point 3). Even without this reform, Chinese welfare costs are set to escalate quickly by 2020 and beyond as the PRC faces the greatest retirement wave ever seen, placing further strain on the national budget. According to the official statistics and The Economist debt clock, public debt as percentage of GDP is only 16.5%. This is however due to "different" accounting practices: it is estimated that the actual debt as percentage of GDP is closer to 45% and growing rapidly. It is only to be expected that the drastic increase in retirees and ageing population will further exacerbate this trend. It is ironic that we can actually see the effects that high military spending combined with expensive (albeit inefficient) social welfare programs can have on a nation's budget and economic prospects by looking at the United States; but the USA is a far more mature economy and society with an expanding population.
I do not believe that the situation I am describing for the PRC bares a resemblance to that of the late Soviet Union, but the comparison does give us some insights as to the implications of pursuing an expansionary security policy while forgoing social (and ultimately economic) advancement. I do not mean to advance that the PLA and the PSB are about to bankrupt the nation, but I do contend that within this case and given limited budgetary resources, it is the defense and security forces that will be given preference to the detriment of economic and social development. The long-term implications for this, as noted above, would not only be a sub-par development of the population's welfare but a drastic slowdown in Chinese growth rates below the 7%-8% that many economists are still predicting will take place during this decade.
One obvious solution that would enable the PRC to maintain high rates of military and security expenditure growth while achieving the financing for the enactment of the expensive social reforms needed, is a substantial increase in the level of public debt - and if that were to be the case, I believe that China could very well be in the same dire straits that Japan or Western Europe are nowadays within the next 20 to 30 years.
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