Spatial scales of inflation and deflation

Isabella Weber’s book is a prodigious contribution to the political economy of Chinese development. It crafts a convincing historical narrative, combining a command of economic statistics and original interviews with major players in the reform period with close readings of the works of key contemporary political and economic figures. One of the text’s most valuable contributions is its identification of the consistently anti-inflationary stance of CCP policy. Its coverage of debates surrounding price stability and liberalisation during the shifts away from the plan in the late 1980s is particularly valuable. This emphasis also gives it a serendipitous relevance to contemporary debates about inflation – so it is no surprise that Weber has since been at the forefront of such discussions. ¹

The focus of my remarks is the question of inflation, which since 2021 has dramatically appeared on the agenda for the first time in the professional lives of many political economists and geographers in the global north. ² The book provides valuable, fine-grained evidence from contemporary Chinese policymakers (above all through a reading of Zhao Ziyang’s writings) to make the case that the inflationary pressures experienced in China as the government experimented with reforming the planned economy during the late 1980s were not principally monetary phenomena – nor were they understood as such by contemporary actors. This marks an important advance on previous contributions to inflation in reform period China, such as studies by Huang (1996) and Shih (2008), which conceptualised it as an outcome of tension between austere central-state managers and profligate local authorities, or factional balances within the leadership and their desire to reward patronage bases (Brandt and Zhu, 2000).

In such accounts, inflation itself exists as an automatic outcome of credit expansion and/ or money creation: either directly generating ‘too much money chasing too few goods’ (monetary indiscipline), or indirectly by a cost-push induced by tight labour markets (Philips curve). In either case, the typical response is to tighten financial conditions to balance the economy by draining demand. But these ‘general’ accounts of inflation have come under intense scrutiny in recent years. As Feygin (2021) has recently argued, although ‘expanding the money supply seems to be a necessary condition for uncontrolled inflation to occur, it is not sufficient: increases of the monetary base have occurred without any inflationary episodes, and inflationary episodes have happened with only very small increases in the monetary base’. This is because, all else being equal, greater demand should feed through into capacity and productivity-enhancing investments enabling greater supply at reduced cost, rendering inflation inherently transitory – an effect Vague (2016) has recently evidenced is typically borne out empirically. For this reason, as Grahame Thompson (1981: 40) argued during the early days of monetarism, because ‘prices are always formed under particular circumstances and constraints; there is no “general theory of inflation”’. If this is the case, then a key task of political economists would be identifying the historically-specific impediments to capacity-building and productivity-enhancing investments (Saad-Filho, 2000). These might be exogenous (e.g. the current COVID-19 induced disruptions) or endogenous (e.g. weak profitability inhibiting upstream investments in plant; overinvestment in redundant capital, etc.). ³

Weber argues that the CCP has from its inception been an anti-inflationary party, due to the history surrounding its formation in stabilising prices in the aftermath of the civil war. But she also observes that this hostility to inflation has not usually translated into a deflationary monetarist impulse aimed at sucking demand out of the economy to stabilise the value of the currency. Instead, during the revolutionary period, figures like Xue Muqiao and Chen Yun worked to stabilise the hyperinflation experienced under the late days of the Nationalist guomindang government – drawing in part on their experience of managing areas already under Communist control during the 1940s. Critical to this effort was the party’s imposition of an extensive and interventionist system of economic management of key commodities – such as coal, cotton and perhaps most importantly a grain management system. In turn this was used as a stable backing for the newly issued renminbi, accompanied by a list pricing system guaranteeing confidence and price stability. Indeed – consciously or otherwise – this mirrored millennia of Chinese economic statecraft which persisted through the republican era, captured in ancient texts such as the Guanzi and the Salt and Iron Discourses. Weber argues that this ‘bureaucratic market participation’ through national ownership, supply-side controls, or large-scale open market demand stimulus, represent a novel toolkit for economic management designed to ensure markets (not necessarily capitalist markets) can function effectively throughout business cycles. Elsewhere, Weber and Hao (2022) refer to this phenomenon as a ‘state-constituted market economy’.

Within this framework, Weber contrasts the contemporary explanations for the inflations of 1986 and 1988. One the one side, emergent opportunities for rent-seeking by state firms able to exploit the differential between set and open market prices were blamed, while subsidies to urban workers ran goods prices hot. On the other, the supply-side ‘triple shock’ taking place in the agricultural sector was held responsible. As rural communes were dissolved, compulsory purchase was wound down and surplus food was sold on open markets, farmers diversified into cash crops and light industry (TVEs) or began migrating to the cities to work in the private sector. This process drove grain prices sharply higher. Weber argues, both accounts were true – the excess demand generated by new light consumer goods industries and subsidies provided to urban workers outran supplies of upstream capital goods, raw materials and food supplies (supplied by the sluggish state sector, disconnected from international technology transfer and financing). And the dual-track pricing system inhibited price pressures from forcing a more rapid adjustment in these sectors. So while the effect is the same (‘too much money chasing too few goods’), the cause is neither principally monetary nor fiscal, but rather technological and (geo-)political. Reform debates centred on whether to return to the security of the plan, accelerate full-blown liberalisation to demolish vested interests, or to steer a middle-path influenced by the history of ‘bureaucratic market participation’.

While conservatives appeared to win out initially (price controls for 383 goods were reintroduced in 1988 as policymakers retreated sharply from marketisation), it was the gradualist course which China ultimately charted in the years after 1992, when reform restarted. Crucially, though, in choosing this option of gradual and experimental reform, Weber also observes how reformists shattered the methodologically nationalist conceptual framework of the plan through the turn towards full-blown export-oriented industrialisation. She cites Zhao Ziyang’s response to the 1988 inflationary pressure as further encouraging the still-nascent export processing trade. FDI flows into private-sector SMEs engaged in exports of light manufactures would ‘free up funds that could be invested into technology-intensive upstream industries’, while at the same time ‘[r]evenues from light industry exports could also finance the import of industrial inputs and further ease the pressure on prices’ (Weber, 2021: 238). During the subsequent decades, Zhao would watch from house arrest as this mechanism for containing inflation while maintaining growth – despite his observations of its success in the Asian Tiger economies – took off in ways he likely never thought possible.

After a brief boom predicated upon price liberalisation and agricultural reform in the 1980s, productivity growth ground to a halt towards the end of the decade. Ultimately, it was the failure of productivity-enhancing innovations in upstream industries and agriculture which led the boom in downstream light consumer goods manufacturing sectors (alongside credit-financed infrastructure and construction) to manifest as rapid inflation. Unlike Japan and Korea (and to a lesser extent Taiwan), then, domestic resources could not be sufficiently marshalled to drive catchup growth. Why couldn’t domestically-driven broad-based productivity growth take place? International geopolitical isolation, capital constraints and fear of foreign loans (validated by the Asian crisis of 1997–1998) meant China struggled to acquire foreign technology and expertise sufficient to update its antiquated state-owned production system (where it was also highly reluctant to allow any significant FDI and wished to retain substantial control).

After export-oriented industrialisation was set in motion, breakneck export-driven growth led to persistent year-on-year productivity increases during the 1990s and 2000s, which far outran the nonetheless substantial wage gains of workers (Lim, 2014: 13). The sizeable surpluses thus generated in the real economy were split between the new, private SMEs driving growth (which reinvested them in plant, equipment, and technology required for moving up manufacturing value chains and capturing further world market export share) and state banks, where dollar export earnings were inevitably deposited. In turn, state banks recycled ‘good’ dollars into largely unprofitable SOEs deemed critical to Chinese economic statecraft via cheap loans and soft budget constraints (Shih, 2019). Because bank credit and the domestic money supply expanded largely in line with real dollar earnings predicated upon winning greater world market share (Rolf, 2021), unproductive credit provision to SOEs via patronage networks did not spark substantial inflation. Instead, the state owned industrial giants were gradually rationalised, corporatised and streamlined – if not fully in line with profit motives, then at least significantly so (Walter and Howie, 2012). What did foreigners invest in? The period of national growth strategies predicated upon vertical integration was over. Foreign direct investment (FDI) mainly flowed into small and medium enterprises conducting export manufacturing. The shift from industrial sectors to production stages (cars to car components) driven in substantial part by FDI enabled ‘thin integration’ into global production networks (Kaplinsky and Morris, 2016). Processing exports – which even today account for nearly half of China’s total export value – nullified inflationary pressure on upstream SOE producers as they overwhelmingly used imported parts and components for production.

The other side to this domestic picture is then what we might call the global political economy of deflation. Export-led industrialisation was driven by macro-economic uneven development, which enabled catchup development through the replication of existing plant combined with cheaper skilled labour (Brenner and Seong-jin, 2009). This cycle had already been completed at least twice. First in the German and Japanese case in the 1950s and 1960s, and then again in subsequent decades as ‘South Korean and Taiwanese producers – and their East Asian successors – exacerbated the problem of international over-supply by duplicating rather than complementing already-existing production and seizing market share at the expense of their competitors in the advanced capitalist economies’ (Brenner, 2006: 270). In the third iteration of this process, cheap Chinese manufactured goods ensured persistent deflationary pricing in the advanced economies (Eickmeier and Kühnlenz, 2018), while the ‘China shock’ devastated advanced economy manufacturing jobs, indirectly sucking further demand out of the economy (Autor et al., 2022). Moreover, China played a critical part in sustaining low real interest rates in the United States and the world economy more generally through its vast purchases of US financial assets. By directing its savings into financial assets like Treasury bonds and real estate, they rose in price while the real economy existed in a near-deflationary deep freeze for two decades.

The final element of this deflationary story is the political economy of migration. The 270 million peasants who have left their land to labour in urban China have acted as a lead weight on global inflationary pressures for two decades, as part of a ‘great doubling’ of the global labour force (Freeman, 2007). Perhaps, as Goodhart and Pradhan (2020) argue, China will play no small part in global inflationary pressure over coming years as its majority migrant manufacturing workforce declines and becomes more expensive due to the exhaustion of the social reproduction bargain underpinning this migrant labour regime.

Weber’s book amounts to a celebration of China’s ‘gradualism’ in the face of the imposition of the ‘real abstractions’ of monetarist economic models (Mann, 2018). It is unquestionably true and of great historical consequence that China mostly avoided overnight policy changes and favoured experimentation and tinkering (with a particular focus on local initiatives). But it is also worth lingering over this emphasis on gradualism. Had the book continued until the 1992 14th party congress where Deng won out against the conservatives and engendered mass privatisation of industry and, subsequently, land-use rights and housing, this emphasis might have been more questionable. To the hundreds of millions of rural-urban migrants, those living in China’s burgeoning megacities, or experiencing the intense discipline of the factory foreman or the delivery-app algorithm, there is nothing gradual about the changes which have taken place in China since the late 1980s. To mix metaphors, you cannot cross the same river twice by grasping for the stones. China’s economy is being swept along by the currents of the global dynamics of competitive accumulation over which it cannot possibly hope to control (despite its remarkable contemporary attempts in areas like digital regulation and zero-COVID). During this process of turbulent change, something new is quite evidently emerging. Weber’s careful study of economic policymaking provides an indispensable guide to how Chinese state managers have acted in the past, and how they might proceed in facing today’s very different set of challenges.