Interesting Times: How China Transformed Itself

This text is a supplement to Interesting Times: China, America, and the Shifting Balance of Prestige, by Chas W. Freeman, Jr., published by Just World Books in January 2013. Other texts offered in this series can be accessed here.

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Chas Freeman writes:

History seems likely to judge that the “reform and opening” in China that began to transform it into a modern, prosperous, and powerful state was the most important political event of the last fourth of the twentieth century. China’s return to wealth and power and its integration into the pre-existing world order have begun to transform the global political economy. China is now a full participant in shaping a new and more pluralistic international and regional system. Chapter I explored both the international factors that brought China to this point and the nature of the unique Chinese socioeconomic system that resulted from that change. In many ways, that system took its current shape in the very last years of the last century and the very first years of this one.

This formative period has marked the acceleration of China’s metamorphosis into full-fledged “cadre capitalism”—a market economy driven by a set of vigorous industrial policies. Chinese cities in particular changed rapidly during this time. The snapshots provided here form a “kinetoscope,” a moving picture of fast and dynamic change in China. Most of the evolution that birthed the current Chinese system was either in place or visibly emerging by the first years of the twenty-first century, when the process of reform begun by Deng Xiaoping produced what appeared to be stable and lasting results. The series begins in the late 1990s and ends shortly after the events of September 11, 2001—a date that marked tragedy in the United States and major changes on the world stage, but also a period of great advances and hope for the Chinese.

To read these accounts of how China looked from year to year is to be reminded of several corrections to the conventional wisdom: (1) There has in fact been very substantial political reform in China, even if it doesn’t conform to the teleological view of history as a story of progress toward democracy that American ideology prescribes. (2) The Taiwan issue remains a crucial variable in the U.S.–China relationship or, as the Chinese put it, the crucial obstacle to stable relations between the two countries. (3) China may not be a democracy but it is not a monolith. It has politics too—even if they are sometimes hard for outsiders to understand.

How China Transformed Itself

China in February 1997

Despite the death of Deng Xiaoping, Chinese believe they have much to celebrate in this “Year of the Ox.” Their living standards continue to rise. Their country is politically stable. China’s diplomacy has registered major gains. Even China’s troubled relations with the United States seem to be on the mend. The end of European colonialism in Hong Kong, a 156-year-long humiliation to Chinese patriots, promises to give a major boost to national pride and self-confidence. Things may be going China’s way. But Deng’s successors are well aware that much could still go wrong in 1997. Trends in the Taiwan Strait, in particular, are once again disturbing.

The good news

The Chinese economy continues to grow at about 10 percent. Inflation has been brought under control at about 6 percent. The country entered the year with an unprecedented $105 billion in foreign exchange reserves. Reforms in the national tax system are beginning to yield higher revenues for the central government, giving it added room to maneuver as it contemplates additional economic reforms. The nineteen years following the launch of Deng’s reforms in 1978 have been the longest period of uninterrupted Chinese domestic tranquility and prosperity since the early nineteenth century.

China’s national leadership seems stable and in the process of arranging a smooth succession to itself. The leaders Deng put in place eight years ago have remained broadly deferential to his political legacy. Having established themselves in power in their own right some time ago, they have already begun to stake out their own positions on questions he felt strongly about. (For example, a nuanced reconsideration of Deng’s unforgiving verdict on the Tiananmen incident apparently took place over the past year.)

President Jiang Zemin seems set to consolidate his political dominance of the post-Deng era at the Fifteenth Party Congress of the Chinese Communist Party (CCP) this autumn. That Congress will, it is expected, make Jiang chairman of the CCP, a title previously held only by Mao Zedong. It will also lay the basis for a succession to key parts of the current leadership early in 1998. Li Peng must step down then (probably after being given a largely symbolic appointment as vice chairman of the CCP) and many other senior officials will retire. It is still unclear who will succeed Li as premier, but there are no current indications that the leadership and cabinet reshuffle will be especially fractious.

Meanwhile, two complete election cycles at the village level have allowed China’s 860 million rural inhabitants to replace local Communist bosses with more competent and less corrupt leaders. CCP recruitment of these newly elected officials, many of them non-Communists who defeated Communists at the polls, is rejuvenating the party and reinvigorating its support at the grass roots. The party still has a long way to go to reestablish its moral authority, but its leaders believe that they are making progress.

Over the past year, Chinese diplomacy has registered notable successes. China has gone beyond its original objective of quieting its northern borders by reducing tensions with Russia. Beijing is rapidly forging a broad partnership with Moscow, with which it is increasingly coordinating its foreign policy on issues like Taiwan and NATO expansion. The two countries are expanding trade and technology transfer, including state-of-the-art military equipment and production licenses. Russian technology transfers are now measurably accelerating the modernization of the People’s Liberation Army (PLA). Active courtship of the newly independent central Asian states is establishing Chinese political as well as commercial influence in that strategic region.

President Jiang’s visit to India has resulted in a significant warming of Sino-Indian relations without sacrificing China’s politico-military partnerships with Pakistan and Bangladesh. China’s long-troubled relationship with Vietnam has undergone surprising improvement, as evidenced in the unprecedented presence of senior Chinese leaders at the most recent Vietnamese party congress. China’s relations with south Korea now rival (and perhaps surpass) American relations with that country in warmth and intensity, much to the distress of north Korea, with which China’s relations have cooled.

China’s relations with Japan deteriorated markedly in 1996. Japan reacted to China’s shows of force in the Taiwan Strait. China reacted to the reinvigoration of the U.S.–Japan alliance and to Japanese handling of the fiftieth anniversary of the end of World War II. Both countries reacted to the sudden reemergence of a territorial dispute (over the Senkaku or Diaoyu archipelago) between the two countries last fall. As 1997 began, however, China and Japan seemed to have stabilized their relationship.

At the same time, China’s relations with the United States have begun to improve. The two sides have mapped out an ambitious program of high-level visits, including travel to China by Secretary of State Albright (February), Vice President Gore (March), and Joint Chiefs of Staff Chairman Shalikashvili (May). President Jiang is to visit Washington this fall and President Clinton has announced his intention to visit China soon. (Firm scheduling of Jiang’s visit to the United States has been held up by Clinton’s suggestion that he might travel first to China.) Negotiators from both countries now express optimism that they will be able to resolve their differences over China’s entry into the World Trade Organization (WTO) before long.

Notwithstanding international agitation about China’s rollback of Britain’s sudden moves to democratize Hong Kong just before leaving it, the colony’s usually volatile stock market is up. So are real estate prices, new business registrations, and immigration by expatriates. Chinese emigration from Hong Kong is down. Hong Kong Chinese saw their city prosper without democracy or a bill of rights for 150 years. They do not believe that these recent political innovations by the departing British are essential to the colony’s raison d’être. They think that Hong Kong is a place to make money, not political points. Over time, Hong Kong’s return to Chinese sovereignty will change it, but the market has clearly discounted the effects of such change on Hong Kong’s economic viability.

This is a heady listing of successes for China, a country that has long defined itself as a helpless victim of other great powers—mugged and traumatized by European imperialism, Japanese fascism, American anticommunism, and Soviet hegemonism. It is also a powerful vindication of Deng Xiaoping’s redirection of China. It is unlikely that China will soon depart from the course on which Deng and his successors have taken it.

What could go wrong?

Despite the general optimism, the July 1, 1997, British handover of sovereignty could produce a major short-term setback for Hong Kong, and hence for China. Thousands of foreign journalists and hundreds of camera crews plan to be in Hong Kong that day looking for dramatic news to report. A journalistic version of the Heisenberg effect may be hard to avoid.—that is, observation of an event on such a scale can fundamentally alter the event being observed. Such great demand for an incident to report almost guarantees that someone will produce one. This would be so even if there were not individuals in Hong Kong and beyond it who would like to see China humbled. But there are. Many in Taiwan, in particular, see it as in their interest to discredit the “one country, two systems” experiment in Hong Kong so that China cannot argue for applying it to Taiwan. There are persistent rumors of Taiwan supporting demonstrations and other activities intended to provoke Beijing into counterproductive acts of repression in Hong Kong.

Beyond this, however, the Taiwan issue has reemerged as a central focus of concern to Beijing. Taipei has taken a series of actions that Beijing has interpreted as intended to move the island closer to de jure independence from the rest of China. Last August, after four months of inactivity following the March 1996 crisis in the Taiwan Strait, Taipei resumed the diplomatic offensive. In the fall, Taiwan pushed harder than ever before for its own seat in the United Nations. Beijing’s counter-escalation in the diplomatic war cost Taipei its relations with South Africa. In December, President Lee Teng-hui convened an all-party National Development Conference that recommended, inter alia, amending the constitution to abolish Taiwan’s status as a province and merging the provincial government with the “national” government in Taipei. If implemented, this would destroy the principal point of longstanding agreement between Beijing and Taipei—that Taiwan is a province of “China.” Lee had earlier renounced Taipei’s claim to sovereignty over the China mainland. He insists that the “Republic of China” (now to be equated with Taiwan) is a sovereign state separate from the “People’s Republic of China.” Many in Beijing believe that Lee’s proposed actions amount to a declaration of independence for Taiwan under the name “Republic of China.” Such a move toward independence is the one development that Beijing has always insisted would compel it to use force against Taiwan.

Meanwhile, Lee has moved to curb the trend toward economic interdependence across the Taiwan Strait by slapping restrictions on further Taiwan investment in the mainland. Some in Taipei claim that he agreed to allow direct transshipment of goods to the mainland through Taiwan ports only because he saw that this could divert such business from Hong Kong, damage Hong Kong’s prosperity after July 1, and puncture investor confidence after the colony’s return to Chinese sovereignty. Lee is said to have authorized discussion of cross-Strait air links for the same reasons.

Beijing’s public reaction to Taipei’s moves has so far been remarkably restrained. This reflects China’s leadership’s desire to avoid complicating the Hong Kong transition, upsetting the political process that will culminate in the Fifteenth Party Congress, or curbing the forward movement in Sino-American relations. Privately, however, Chinese leaders have been warning Taipei of dire consequences should it actually carry out the constitutional and policy changes Lee Teng-hui has proposed. Lee seems determined to proceed in the first half of this year—before the Hong Kong reversion, which he probably calculates restricts Beijing’s freedom to maneuver.

There is therefore a real danger that, despite their desire to avoid trouble in the Taiwan Strait, China’s leaders may be pushed into renewed confrontation with Taipei. It is simplistic to imagine that such a confrontation would take the same form as the military shows of force that began in July 1995 and concluded with missile firings (and a Sino-American naval confrontation) in March 1996. Beijing’s purpose in carrying out those shows of force was to deter moves by Taiwan toward independence. If Beijing concludes that Taipei has taken actually a decisive step toward independence, China’s actions could go well beyond mere shows of force. In addition to diplomatic and other moves to isolate Taiwan, they could extend into actual combat in the Taiwan Strait, designed to force a reversal of Lee Teng-hui’s policy initiatives.

The consequences of renewed military confrontation in the Taiwan Strait would be profound. It could queer the Hong Kong reversion, produce renewed antagonism between the United States and China, and bring about a resumption of the now-arrested deterioration in Sino-Japanese relations. It could upset the political equation in China, helping to bring more nationalistic hardliners to power. And it could have severely negative effects on investor confidence not just in China, but from Tokyo to Singapore. This is precisely why China will try hard to avoid such confrontation. The question now is whether events apparently beyond its control will allow it to do so.

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China in October 1997

Chinese president Jiang Zemin has ambitious symbolic and public relations objectives but only modest substantive goals for his October 26–November 2 visit to the United States. His domestic political authority was greatly strengthened by last month’s Party Congress. The dramatic restructuring of the Chinese economy authorized by that Congress promises a continuation of China’s impressive growth well into the coming century. The reforms will not be easy to implement, however, and will force China to confront major problems in its banking and financial sectors with further, painful policy decisions. If China’s reforms succeed, they will remove the key obstacles to its entry into the WTO. Mr. Jiang seems confident that they will succeed.

Mr. Jiang Goes to Washington

In many ways, the most important thing about the Chinese President’s visit to the United States is that is taking place at all. Jiang’s two days in Washington (October 28–29) will mark the establishment of regular high-level dialogue and consultation between China and the United States. (The only visit by a Chinese president to Washington was in 1985. Li Xiannian was, however, a ceremonial figure, not China’s political leader.) Not since 1979, when Deng Xiaoping visited the United States, has China’s most powerful politician met an American president in Washington. This September’s Party Congress in Beijing leaves no doubt of Jiang’s commanding position in Chinese politics.

President Clinton is to pay a return visit to China in the first quarter of 1998. (To avoid a welcoming ceremony involving a politically unpalatable review of People’s Liberation Army troops in Tiananmen Square, Clinton must arrive in Beijing before April 1. Up to that date, winter protocol rules apply, and welcoming ceremonies for visiting heads of state are held indoors.) Both sides plan a regular series of summit meetings in future.

Jiang’s visit caps a six-month effort by China and the United States to build a more stable and consultative relationship. China’s motivation in courting better relations with the United States is closely tied to its desire for international calm as it carries out major internal reform. The past six months have been marked by frequent ministerial-level meetings between the two countries and a resumption of travel by senior members of the U.S. Congress to China, following an eight-year hiatus caused by the June 4, 1989, Tiananmen incident.

Intensified diplomatic exchanges have produced a small number of agreements to be signed during the Sino-American summit. Significant improvements in China’s export control system and policies on nuclear non-proliferation will allow the two sides to implement their 1985 agreement on cooperation in the peaceful uses of nuclear energy. This will open the way for American companies to compete with Europeans, Canadians, and Russians for sales of nuclear power reactors to China. Accords will be concluded on expanded military exchanges, maritime safety measures, procedures to avoid accidents between naval vessels at sea, and the inauguration of a Beijing-Washington hotline. China may agree to end anti-ship cruise-missile sales to Iran, reducing the threat such sales pose to the U.S. Fifth Fleet and mitigating a longstanding irritant in bilateral relations. Beijing will also make some minor gestures to appease American concerns about human rights, including allowing United Nations human rights specialists to visit its prisons and detention centers. A dissident or two may be released, ostensibly for medical reasons. The two sides are likely to announce the intensification of negotiations on terms for Chinese entry into the World Trade Organization.

Finally, the visit has catalyzed some important trade deals, intended by the Chinese to dramatize the importance of their market, to consolidate the strong support of the U.S. business community for good relations with China, and to show China’s willingness to take actions to cut its huge trade surplus with the United States. Most notable among the deals to be announced is China’s purchase of fifty Boeing aircraft for its rapidly expanding airlines. (American officials hope Boeing will get an order for an additional fifty aircraft when President Clinton visits China early next year.)

China’s Continuing Image Problems

Jiang intends for his travels outside Washington—to Honolulu, Williamsburg, Philadelphia, New York, Boston, and Los Angeles—to begin to reverse China’s very negative image in the United States and to lay a basis for a less troubled bilateral relationship. The itinerary Jiang personally chose—against the advice of the U.S. administration (which would like to see him succeed) and many of his own America experts—is, however, unusually risky in public-relations terms.

In almost every location on his itinerary, Jiang will face protesters from a wide range of American interest groups who oppose Chinese policies or seek to use China’s unpopularity to advance broader political agendas. Labor unions will demonstrate to dramatize concerns about the rising U.S. trade deficit with China ($5.2 billion in September alone) and about imports from low-income countries more generally. The Christian Right will take to the streets to protest Chinese abortion practices and restrictions on the free exercise of religion. Human rights, Tibetan, and Taiwan independence advocates will also be out in force, especially in Boston, whose huge student population provides a ready supply of demonstrators, and in Los Angeles, which is home to half a million Taiwanese-Americans. Jiang’s message is likely to be hard to hear amidst all the noisy agitation against his country. The release of three Hollywood movies celebrating Tibet’s struggle for self-determination against China as Jiang arrives in the United States will further undercut his visit’s public-relations impact.

Even if Jiang’s visit achieves its intended result of improving China’s image in the United States, the underlying tension between the Clinton administration and Congress over China policy will not soon go away. Many in Congress seem to suffer from “enemy deprivation,” following the collapse of the Soviet Union, and to view China as a worthy successor to the Evil Empire as a focus for U.S. national security policy. Both the Republican majority and members of the Democratic minority in Congress interested in running for the presidency in the 2000 elections see Clinton’s erratic conduct of relations with China as a handy tool with which to embarrass him and to undermine the presidential candidacy of Vice President Gore. Even absent this factor, given the range of special interests arrayed against China, it will remain a tempting focus on which to build coalitions in Congress.

Mr. Jiang’s Political Ascendancy

Mr. Jiang travels to Washington less than a month after his political triumph at the Fifteenth Party Congress. His paramount authority is now firmly established, though he remains in uneasy partnership with Premier Li Peng. Jiang’s allies, Vice Premier (and former trade minister) Li Lanqing and Beijing Party Secretary Jia Qinglin have moved up in the party pecking order. Other personnel changes in the Politburo established Jiang’s authority over the PLA.

Jiang Zemin and Li Peng succeeded in ousting their main political rival, Qiao Shi, from the Central Committee, while embracing and co-opting Mr. Qiao’s political and law reform agenda. Li, more identified with the brutal repression of the Tiananmen incident than with the rule of law, will apparently succeed Qiao as head of the National People’s Congress (NPC) next spring. As his power base shifts to the NPC, Li Peng is expected, ironically, to demonstrate a heretofore unsuspected commitment to the rule of law—if only because this is what he must do to build a constituency among legislators and because he and Jiang had to steal Qiao’s political reform program to get rid of him.

Vice Premier Zhu Rongji, whose policies have sustained economic growth (currently 10 percent) while bringing inflation under control (currently less than 4 percent) and boosting foreign exchange reserves (to over $130 billion at present), is expected to replace Li as premier next spring. Zhu’s successor as vice premier in charge of the economy is likely to be Shanghai’s dynamic, reform-minded mayor, Xu Kuangdi. The current head of China’s central bank, Dai Xianglong, will likely succeed Xu as mayor of Shanghai, putting Dai on the fast track to a future position in the national political leadership. These leadership changes will put the Chinese government firmly in the hands of Jiang loyalists, technocrats, and reformers.

A Daunting Domestic Agenda

Jiang and his new lieutenants will have their work cut out for them. The decision at the Party Congress to divest the state of nearly 305,000 enterprises now owned by various levels of government in China over the next few years and to transfer their ownership to individual hands will not be easy to implement without threatening political stability. While state-owned enterprises (SOEs) now account for less than 30 percent of GDP, they still employ a hundred million workers. In recent years, SOEs have soaked up three-quarters of available credit, much of it extended without regard to their ability to repay loans. Most SOEs lost money last year. The planned reforms cannot be completed without radical reform of the banking system and financial markets.

In recent months, the SOEs have been cut off from their previous entitlements to unlimited bank loans and told that they must now function on a profit-and-loss basis. In a parallel move to force domestic enterprises to become more efficient, China has reduced its average tariffs to 17 percent (from the previous 23 percent) and stated that further reductions are in store (to no more than 15 percent by the year 2000). Reorganization of management, recapitalization, the introduction of new technologies and ways of doing business, and radical downsizing of workforces will be necessary for most SOEs to survive. There will inevitably be a large number of bankruptcies.

The limited downsizing that has been done to date has already sparked worker unrest, notably in Sichuan and other provinces in the interior which lag in developing private enterprise-generated employment opportunities. Labor problems are likely to be particularly acute in the Chinese northeast (“Manchuria”), given the concentration of heavy industrial SOEs there. The Chinese leadership is nevertheless determined to proceed with what it calls “corporatization” of enterprise. (“Privatization” is a politically unacceptable term in China. “Corporatization” is privatization with Chinese characteristics.)

Details of the reforms are only now beginning to be revealed, but it appears that the state will for now retain outright ownership of only 512 of the largest enterprises in so-called “pillar industries,” including the aviation, oil, steel, telecom, electronics, and chemical sectors. (These enterprises account for about half of state assets.) The state will also retain a minority interest in about a thousand other large enterprises through the ownership of shares. All other enterprises—more than three hundred thousand—will be transferred outright to shareholders.

This raises very difficult questions. Who will be responsible for the huge amount of bank debt (estimated to be as much as $600 billion) accumulated by SOEs in past years? What, if anything, will be done to address the problem of unfunded SOE pension liabilities? How can China’s embryonic stock markets handle the rapid expansion the reforms imply for them? What level of financing will Hong Kong’s stock market be called upon to bear as Chinese enterprises recapitalize through initial public offerings of shares? These questions cannot be avoided as “corporatization” proceeds. Their answers are still unclear. What is clear, however, is that China’s leadership knows that it must now grapple with fundamental reform of China’s financial sector—and intends to do so. A new securities law, for example, will be the first order of business for the NPC in 1998.

China and the WTO

The radical reordering of the Chinese economy implied by the Party Congress decisions of September will, if successfully implemented, remove many of the obstacles to China’s participation in the WTO. “Public ownership of the means of production” has now been redefined by the Chinese Communist Party to mean ownership of enterprises by members of the public through the stock market. As a result of this ideological sleight of hand, some foreign joint ventures operating in China, even those in which Chinese shareholders have a minority interest of no more than 20 to 30 percent, are being told that they are now “publicly owned Chinese corporations” for purposes of Chinese law. “Corporatization” thus promises neatly to finesse the issue of “national treatment”—one of the principal issues at stake in China’s application for membership in the WTO—while offering major new opportunities for astute foreign investment in the Chinese economy.

The reforms also promise to do away with the rationale for central procurement organizations (state trading organizations). The logic of “corporatization” is to make enterprises responsible for their own transactions, including foreign trade transactions, as well as their own profits and losses. State trading organizations have long been among the principal opponents of WTO membership for China. They have understood that conformity to WTO rules would make Chinese end users directly responsible for purchases and sales, ending their monopoly power and raison d’être. Such organizations now face a likely-fatal threat to their existence from within the reforming Chinese economy itself.

More importantly, given the policy directions set by the Fifteenth Party Congress, it is no longer possible to question China’s dedication to opening and marketizing its economy. WTO membership has always been premised on China’s willingness to phase in reforms that would progressively restructure the Chinese economy to conform to Western norms. China has now committed itself to doing so. Negotiations over China’s admission to the WTO will coincide with working out the details of such reforms, giving the international community an unprecedented opportunity to participate in shaping Chinese economic practices to comply with global standards.


It is hard to overstate the stakes for the world in what is now happening in China. At its September meeting in Hong Kong, the World Bank released an estimate of China’s economy in 2020. The Bank predicted that, by that year, China would have the world’s largest economy, be its second largest trading nation (after the United States), enjoy living standards equivalent to those of Portugal today, and comprise a consumer market larger than all of Europe, from the Atlantic to the Urals. Tough decisions to be made in Beijing over the coming year will determine whether this vision is realized. As he sets out for Washington, President Jiang Zemin exudes confidence that it can be.

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China in March 1998

The recent Chinese National People’s Congress was a major political triumph for President Jiang Zemin, his handpicked premier Zhu Rongji, and other reformers. It produced both an orderly succession to the previous government and the most sweeping government reorganization since the founding of the People’s Republic forty-nine years ago. The new, smaller cabinet is the most cosmopolitan and technically competent in the country’s history. Of twenty-nine ministers (down from forty), twenty-two are newcomers. Most are relatively young and well educated. All but a few have extensive prior experience in the areas of responsibility with which they are now charged.

The results of the Congress reflect Premier Zhu’s determination to build a new industrial and financial system that can ride out the Asian economic crisis and continue China’s rapid growth in wealth and power. China has now begun restructuring its economy toward

  • greater reliance on internal demand, rather than foreign markets, to generate growth;
  • greater emphasis on the development of interior provinces relative to currently-more-advanced coastal regions; and
  • stepped-up investment in infrastructure projects, including government funding of railways, water, and environmental projects, and private investment in housing, highways, and power plants.

The Congress also set China on a quick march toward radical government downsizing and accelerated reform of state enterprises, banks, financial markets, and social insurance.

The Impact of the Asian Financial Crisis

Foreign capital has accounted for less than 10 percent of investment in China in recent years. Despite China’s high savings rate, however, its capital markets are so inefficient that foreign funds have been far more important than their relatively small part in overall investment would suggest. Foreigners have initiated a disproportionate share of innovation in the Chinese economy. Their investments have also been the source of most new technology and management reforms. Nearly 85 percent of foreign investment has come from overseas Chinese in Hong Kong, Taiwan, and Southeast Asia. (Some has been money from inside China recycled through overseas Chinese to take advantage of tax and other incentives available to foreign, but not domestic, investors.) Investors from South Korea have also played an important role in China’s modernization, especially in areas around the Bohai Gulf.

The Asian currency and stock market crashes of 1997 will constrict these foreign investment flows for the next few years, while the Southeast Asian and Korean economies recover. Neither overseas Chinese nor Koreans are now in a position to continue to invest in China at the same pace as before. (Some Indonesian Chinese flight capital is, however, finding its way to China via Taiwan and Singapore.) The decline in overseas Chinese investment would be a problem for China even in normal times, but these are not normal times.

The Chinese government is in the midst of a three-year process of “corporatizing” some seventy-nine thousand state enterprises and hundreds of thousands of quasi-state enterprises, transferring their ownership from various levels of government to individual and group shareholders. It had expected that overseas Chinese, directly and through the Hong Kong stock market, would play a significant role in recapitalizing these enterprises as mergers, acquisitions, and divestitures occurred. The inability of overseas Chinese to participate on the scale that they might otherwise have done is driving China toward accelerated reform of its domestic financial system, including its capital markets.

China has also had to come to grips with the prospect that the flat Japanese economy and the currency crisis–induced recessions in Southeast Asia and Korea would reduce Chinese exports to Asia. At the same time, lower prices for Southeast Asian and Korean products might cut into China’s exports to the U.S., Japanese, and European markets. So far, however, the actual effects of the Asian financial crisis on the Chinese economy have been mixed. China’s exports to Southeast Asia have indeed fallen. But so much of China’s export trade with the advanced economies relies on reprocessing of now-much-cheaper goods originating in Southeast Asia that the country’s competitive position does not seem to have been affected much, if at all. China’s exports continue to rise, though at a slower pace than in the past. China continues, so far, to run a trade surplus at the same level as last year.

Concerned in part about the impact on Hong Kong’s dollar-pegged currency, China has consistently denied that it would devalue the Renminbi. In late 1997, a currency black market briefly emerged in Tianjin and a few other areas of northern China, set off by Korean investors trying to repatriate as many dollars as possible to South Korea. This market has since dried up. There is no current evidence of pressure on the Renminbi and little reason at present to doubt that China can sustain its value indefinitely. Fears that a Chinese devaluation might set off a further round of competitive devaluation in Asia are therefore subsiding. China’s foreign exchange reserves of over $140 billion would enable it to defend the Renminbi, should it yet come under pressure. (The Renminbi appreciated slightly in recent years to RMB 8.3 per U.S. dollar at present, from RMB 8.7. Many Chinese economists expect their currency to subside gradually to its earlier level of RMB 8.7 to the dollar, but not to go below that. Others predict that, in time, the Renminbi will resume its previous slow appreciation against the dollar and other currencies.)

Stimulus through Reform, Not the Budget

Premier Zhu has expressed confidence that the Chinese economy can achieve 8 percent growth in 1998 with inflation of no more than 3 percent, despite reduced Asian investment and slower growth in exports. To stimulate demand and sustain growth at this level, China projects increased domestic spending on infrastructure projects, with a goal of a 15 percent increase for such expenditures in 1998, up from the originally envisaged 10 percent. This increased investment will not come from the central government budget, which projects a fall of 6.8 percent in capital spending this year. Rather, it is to come from projects managed by provincial and local governments and from private sources, including non-Asian foreign investors. To facilitate this, China plans to inaugurate both a bond market and mortgage banking. Details remain unclear, but it appears that to backstop these reforms, China contemplates a significant liberalization of its insurance and financial markets, accelerating foreign access to both. Given China’s new focus on the interior provinces, experiments with such reforms seem more likely to begin there than, as has been the norm, in the more developed coastal regions.

A ban on deficit financing has heretofore prevented provincial and local governments from issuing bonds to finance the construction of toll roads, electric power plants, and other revenue-producing infrastructure projects. This ban will continue. Now, however, it will be possible for the sponsors of such projects to issue Renminbi bonds, secured by the revenue stream (tolls, billings, etc.) that the projects will yield rather than by government guaranties. This reform, Premier Zhu hopes, will not only stimulate major increases in investment in much-needed infrastructure but also eliminate inefficiency and duplication by allowing the market, rather than irrational or corrupt administrative decisions, to determine project priorities.

The introduction of long-term mortgage lending is planned to address the poor quality and enormous shortage of housing in China, while boosting the construction industry and bringing more savings out of the mattresses and into the financial system. Until now, Chinese wishing to buy an apartment or a house have had to pay in full, in cash. (In some areas, over the past few years, it has become possible to pay 50 percent in cash and to borrow the balance through a one-and-a-half or two-year loan with high interest.) Now long-term mortgage loans similar to those in the West are to be introduced, with a secondary mortgage market to follow. Premier Zhu has announced that all housing will be privatized beginning in the second half of 1998 and that housing will emerge as “a new growth point in the Chinese economy.”

The Banks

The Chinese government has finally come up with a plan to reform the banking industry, which it hopes to complete in two or—at most—three years. State-owned banks have long lent money to state enterprises at government direction, regardless of the prospects for repayment. As a result, more than one-fifth of state bank debt (about $120 billion) is nonperforming and 2 to 3 percent of loans are classified as uncollectible. Since the loans are owed by one part of the state to another, they are more properly described as disguised budget deficits than as bad debts, and few in China fear a Southeast Asian or Korean-style banking crisis. Still, the nominal insolvency of the state banks has been a formidable obstacle to their evolution into profit-driven, Western-style commercial and investment banks. The absence of a modern banking sector has, in turn, limited the effectiveness of monetary policy in guiding the economy.

Not all details of the government’s three-year state bank reform plan are yet known, but it appears to envision: (1) putting all bank loans on a strictly commercial basis, a policy begun last August but not yet fully enforced; (2) converting nonperforming loans into government debt while recapitalizing the banks through injecting as much as $40 billion annually; (3) retraining bank workers en masse to enable them to evaluate the creditworthiness of borrowers and perform other tasks essential to profitable banking in a competitive environment; and (4) encouraging the emergence of new banking organizations and institutions, perhaps in partnership with foreign banks and insurance companies. Meanwhile, the People’s Bank of China, the country’s central bank, is being remade into a regulatory body, organized along the lines of the U.S. Federal Reserve, with a dozen or so regional branches (rather than the 2,500 branches it maintains at present). The intent of these reforms in banking, as in the economy as a whole, is to separate market regulators from the operations of the market itself, while giving the government greater macroeconomic policy leverage.

Labor, Social Insurance, and Political Reform

As reforms in other areas proceed, so will radical shifts in the patterns of Chinese employment. Government downsizing alone is expected to result in the retraining and dismissal, over the next three years, of about half of government workers—some 4 million in all. Over the same period, state-enterprise restructuring will result in unemployment for additional millions of workers. The need to create new private-sector jobs for these workers is a major impulse behind Premier Zhu’s emphasis on stimulating domestic demand through nongovernmental financing of labor-intensive housing and infrastructure projects. Unemployment and the resulting labor unrest are the Achilles heel of Zhu’s reform program. He knows that the program is so closely identified with him personally that, if he miscalculates, he will bear the blame personally, and his government will fall.

State enterprises have heretofore been responsible for every aspect of the welfare of their workers, including their housing, medical treatment, childcare, and pensions. The workers dismissed as state enterprises restructure will lose these essential benefits outright unless substitutes for them can be devised. Workers employed outside the state enterprise system currently enjoy no such benefits. Reform of China’s welfare system is therefore essential for reasons of equity, to cushion the impact of unemployment, and to relieve newly “corporatized” state enterprises of the burden of noncontributory social insurance. Premier Zhu has announced that welfare reform will begin with the inauguration, in the second half of 1998, of nationwide medical and health insurance reforms. Again, details are unavailable, but it appears that many Chinese who have had access to free medical care will now be required to contribute, while others who have had no access to inexpensive medical care will gain access to it.

Only about 200 million of China’s nearly 1.3 billion people are currently enrolled in a pension program. Pension reform will follow medical and health reform. Chinese reformers have already made it clear that they do not plan to follow the European and American example of government-financed social security, but rather to provide guaranteed access to independently (and perhaps privately) managed pension plans. Pension reform is likely to follow closely on the heels of medical and health insurance reform.

The stress expected to result from multiple, simultaneous, economic reforms is such that, over the next three years, political reform is likely to proceed more slowly in China than many had hoped. Since the Fifteenth Party Congress last September, China has quietly extended contested local elections to higher and larger levels of government on a trial basis. In some areas, free elections are now being held to select the members of township and county governments. (The township and county are the basic levels of government in China.) Barring widespread eruptions of labor or other unrest, such elections are likely to spread steadily throughout China. The Chinese government will not, however, announce a policy or publicize what it is doing in the area of political reform. It will seek to retain the freedom to halt or suspend reforms, should political tensions seem to require this.

Rethinking the Model for the Chinese Economy

Until South Korea got into its current difficulties, many Chinese officials saw the Korean chaebol (oligopolistic conglomerate) as an attractive model for Chinese industry. Now they are having second thoughts. They recognize that bad management decisions (including risky relending in Southeast Asia) rather than structural problems were the major cause of the chaebols’ current distress. Still, a significant number of economic planners now express doubt about the advisability of building large, chaebol-style conglomerates in China. The number of such planners advocating emulation of the Taiwanese pattern of development based on small, family-owned enterprises is growing. (Taiwan has demonstrated a high degree of resilience and immunity to the Asian financial flu.) As the Sino-American relationship has stabilized, the U.S. economic model has also gained supporters, particularly among the many Chinese officials educated in the United States. The steadily improving atmosphere and broadening dialogue of U.S.–China relations is likely to accelerate this trend.

International and Other Relations

Sino-American relations should receive a further boost when President Clinton visits China in late June and early July. His visit, which will focus on trade and investment, will be preceded by visits by senior officials of the U.S. Commerce and Treasury departments, including Treasury Secretary Rubin. A serious effort is being made to achieve further improvement in Chinese non-proliferation policy by bringing China into the Missile Technology Control Regime (MTCR). White House officials also hope to advance discussions about Chinese entry into the WTO, with a view to achieving this by the end of 1998 or early in 1999.

One issue that both sides will try to keep off the summit agenda is the question of Taiwan. The Chinese People’s Liberation Army continues its program of planning and military procurement aimed at acquiring the capability to take Taiwan by force no later than the year 2010, if ordered to do so. In the short term, however, there is little danger of conflict. Beijing is making a serious effort to reengage Taipei in a dialogue about Taiwan’s long-term relationship with the rest of China. Washington would like to see the dialogue resume. So would the thirty-five thousand businesses in Taiwan with investments in the Chinese mainland. It remains to be seen, however, whether Taiwan’s politics will allow it to address Beijing’s agenda anytime soon.

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China in October 1998

The year 1998 has not been a good year for China, but it has been better than many pessimists had predicted. The Chinese government has fallen short in implementation of the reforms it promised in the spring, but it has moved vigorously on several other fronts. And as the year draws to a close, things seem in some respects to be taking a turn for the better.

Chinese economic growth began to slow early in the year. In the summer, the worst floods in a millennium hit northeastern, central, and western China. These displaced an estimated 240 million people from their homes, caused $24 to 30 billion in property damage, and shaved at least another 0.5 percent (perhaps as much as 1.5 percent) off economic growth. (Jiang Zemin was able, however, to use the military mobilization to combat floods as a means by which to skillfully rebuild the tarnished image of the PLA.) Over the course of the year, as the Japanese yen weakened and pressure mounted on the Hong Kong dollar, foreign fears of Renminbi devaluation began to be shared by enough Chinese to create a 10 percent discount from the official exchange rate in the black market.

The Chinese economy speeded up significantly, however, as the summer ended, reflecting large increases in government investment in infrastructure projects throughout the country, the positive impact of flood reconstruction on construction-related industries, and the beginnings of mortgage and consumer lending (especially for automobiles). The Japanese yen strengthened, and pressure on the Hong Kong dollar diminished. There is still a black market in Renminbi, but it is much less active, and the discount from the official exchange rate is declining.

The speed-up in economic growth (to a probably-overstated rate of 7.2 percent for the first nine months of 1998) has come, however, at the price of a slowdown in state enterprise reform and a virtual halt in reform of the banking sector. China’s leaders are concerned about possible political instability and unrest as a result of both a widening gap between urban and rural incomes and mounting urban industrial unemployment as state-owned enterprises restructure. Beijing has set continued rapid economic growth as its highest priority and embarked on a major program of fiscal stimulus, much of it in the familiar form of loans by state banks to state-owned enterprises.

China’s state banks are, however, essentially unprepared to lend to the nonstate sector, even though this is the fastest growing and by far the most profitable part of the Chinese economy. The past year’s efforts by the central government to shift them toward risk-based, rather than policy-based, lending have succeeded only in reducing the percentage they lend to state-owned enterprises from 80 percent to about 75 percent. (The state banks are much more comfortable doing what they know how to do—transferring funds to other state-owned entities—than with making loans to private sector enterprises they do not know how to evaluate.) The problem of nominal state bank insolvency should have begun to be worked out in 1998. But as lending has stepped up, the proportion of nonperforming loans in state bank portfolios has risen.

A measured but significant decline in consumer confidence has also occurred, despite the government’s efforts to keep growth robust. Vendors have cut prices in the Chinese domestic market significantly but inventories are still piling up. Beijing has responded with selective price controls, this time in the form of floor (minimum) prices aimed at curbing both deflation (now running at over 3 percent) in the Chinese economy and inventory-dumping by state-owned enterprises. China has begun to encourage the issuance of consumer credit (a hitherto unknown phenomenon), especially for automobiles, in order to pump up sagging consumer demand. Mortgage lending, which was to have been a major factor in reflating the Chinese domestic economy, has, however, been slower to start than expected. As of October, only one bank had actually instituted long-term financing of housing construction and purchase. Meanwhile, the timing of housing privatization, which was to have been completed throughout the country by the year’s end, has been made a local option.

The widespread depression in Asian markets is also taking its toll on China (though Chinese dependence on exports is less than many imagine, given the size of the country’s domestic market). Export growth, which was still fairly strong in the first half of the year, has slowed to less than 4 percent in the second half, reflecting the collapse of imports in Asia’s depressed economies. (In September, exports showed an actual decline for the first time since the Asian crisis began.) Chinese businesses are increasingly concerned about continued recession in Japan and possible slowdowns in the U.S. and European economies that could cut further into their exports next year.

China has, however, refrained to date from mounting much of an official export drive. Premier Zhu Rongji remains committed to shifting toward domestic demand rather than exports as the lead factor in future economic expansion. China is also aware of the ammunition the rapidly mounting U.S. trade deficit with China could give to protectionist politicians in America if the U.S. economy turns down. As Americans measure it, the U.S. trade deficit with China will reach $60 billion in 1998. (This is why the Chinese trade minister developed a last-minute political illness and postponed the October meeting of the Sino–U.S. Joint Commission on Commerce and Trade. This allowed him to quietly cancel three large export-promotion delegations that had been scheduled to accompany him to the United States.)

So far this year, foreign investment in China has been surprisingly strong, running at about the same annual rate (about $40 billion) as last year. Repeated expressions of international concern about the Renminbi have, however, led to hedging by Chinese firms against the possibility of devaluation. China has had a balance-of-payments surplus of about $30 billion and its reserves should have risen by roughly this amount. Chinese reserves have instead risen only slightly, to about $141 billion, as Chinese exporters have taken steps to keep their earnings abroad in dollars rather than repatriate them. In October, the Chinese authorities began to take regulatory action against such holders of foreign dollar accounts, requiring that they transfer their funds to banks in China.

This action followed steps by the Chinese government in September toward much stricter enforcement of foreign exchange regulations, including longstanding bans on unauthorized foreign loans. Many Chinese provincial entities had begun to guarantee rates of return on equity investments, turning them into de facto loans. The government’s decision at the end of September (announced in early October) to allow the Guangdong International Trust and Investment Corporation (GITIC) to fail—and to guarantee only that portion of its $1.9 billion in foreign debt that had been legally registered—effectively ended such practices. Similar trust companies in other provinces have also run up debt to imprudent levels.

Most Chinese see this crackdown on local trust companies as a significant step away from political favoritism and toward the rule of law in the financial sector. They also consider it as curbing the power of provincial politicians to play patronage games with foreign money without regard to central government policies and regulations. Most important, perhaps, the move against the trust companies is a preemptive strike against the weakest part of China’s financial system. China is taking painful but necessary corrective actions before problems become unmanageable. Other Asian governments failed to take such preemptive action, to their subsequent distress.

Beijing’s decision to allow unsound trust companies to fail will prove less of a setback to project finance than might be imagined. Such companies no longer play the vital role in financing projects that they did a decade ago, when China had yet to develop stock and bond markets. Chinese capital markets, though still small, are now emerging as more efficient and less politically manipulable sources of capital. By the time the shakeout is through, almost 240 of the locally based trust companies now in existence are likely to have disappeared through mergers, acquisitions, or bankruptcy.

The need to clean up unregistered foreign debt adds to the many arguments against devaluating the Renminbi. Doing so would make repaying such debt more expensive. Quite aside from this, however, Chinese officials see nothing to be gained by devaluation. Chinese exports are, in the main, not particularly price sensitive. Devaluation would not increase exports to depressed Asian markets. Nor would it increase exports to the Americas and Europe by much, even if competitors did not also devalue to maintain market share. Devaluation would, however, increase the cost of imported capital goods and raise the cost of industrial modernization. The domestic purchasing power of the Renminbi is currently rising, rather than eroding, under the impact of deflation. Finally, the Chinese government wants to shift toward relying on the domestic rather than the foreign market as the engine of growth.

Some exporters in China do, of course, make arguments for devaluation. (Industries like shipbuilding have suffered from increased competition from Korean and Japanese yards, which now have much lower dollar costs than they used to.) These arguments, and Chinese awareness of foreign speculation about possible devaluation, have recreated a small black market in currency. The Renminbi remains, however, a controlled currency. Its major point of vulnerability is its implicit relationship with the Hong Kong dollar. But as the Japanese yen has reappreciated and the Hong Kong authorities have intervened against currency and stock market speculation, pressure on the Hong Kong dollar has abated.

If overall economic reform has slowed in China, it has not halted. In July, President Jiang Zemin unexpectedly ordered the precipitous withdrawal of the PLA from business. He had very good reasons for doing so. The PLA’s entry into business had been necessitated by defense budget shortfalls. (There has been no allocation, for example, for heat in Chinese barracks. This may be fine in southern China but it is completely unacceptable in Inner Mongolia or Heilongjiang Province, for example, where wintertime temperatures can be as low as −50 degrees Celsius.) The PLA had become dependent on profits from industry (estimated at about $1 billion last year). The replacement of the martial spirit with entrepreneurial instincts also led to widespread corruption and military participation in smuggling. (One-fourth of the gasoline and other refined petroleum products consumed in China in 1997 were smuggled into the country, mostly by the Chinese navy!)

The senior PLA leadership has long wished to get out of business, recognizing the extent to which it diverts military personnel from honing their skills as warriors. After some hard bargaining, the PLA secured an acceptable level of budgetary compensation for the profits it is about to forego. China’s defense budget is likely, as a result, to go up by about $1 billion next year. In the meantime, the PLA is frantically negotiating asset valuation and sale of its enterprises to provincial and local governments throughout the country, with a target of completing divestiture by the end of the year. Although time is short, there are major opportunities for acquisitions by foreign investors of a wide range of businesses that have, up till now, been military owned. (As might be expected, provincial and local governments in China, knowing that the PLA must sell, are not offering fair value for the assets they are about to acquire. Some PLA units are engaged in asset-stripping to recoup what they can from their losses on prospective sales.)

Meanwhile, Zhu Rongji has made good on his promise to slash government personnel rosters by half. (Many of those displaced from government offices are, however, still receiving a portion of their salaries as they transition to employment outside the government.) The bureaucratic turf battles apparent in the first few months of his reorganization of the government are subsiding, and lines of authority are clarifying. As these and other reforms progress, Zhu is successfully recapturing for the central government some of the authority that provincial and local governments had seized in the first two decades of the economic reform process in China.

Jiang Zemin and Zhu Rongji have clearly strengthened their authority over both the government and the military over the course of this year. Domestic and foreign economic problems have, however, conspired to slow the process of enterprise and banking reform. The central government’s move against local trust and investment companies is, however, properly seen as a necessary step toward future financial reform. Such reform is a central element in the package deal on Chinese entry into the WTO that negotiators continue to try to craft behind the scenes as part of the preparation for Premier Zhu Rongji’s spring 1999 visit to Washington. Given the U.S. electoral cycle, both Chinese and American officials see that as the last moment before the inauguration of a new American president in 2001 at which an agreement would still have any prospect of surviving debate in the U.S. Congress.

The Zhu Rongji visit to Washington, whether or not agreement is reached on the WTO, will take place in the context of a greatly improved atmosphere in Sino-American relations following President Clinton’s very successful visit to China last summer. The Clinton visit helped to bring about a resumption of dialogue about talks, if not yet actual talks, between Taipei and Beijing. This has in turn further improved Sino-American relations. South Asia has been added to Korea as an arena for Sino-American strategic cooperation, and discussions about a modest program of joint training and exercises for international contingencies have resumed between the U.S. and Chinese armed forces. The U.S. Treasury now praises Chinese fiscal and monetary policy as often as it criticizes that of the Japanese.

Two issues are, however, likely to cloud the Sino-American relationship in 1999. The first is the burgeoning U.S. trade deficit. The second is the possible sharing of technology for theater missile defense (TMD) with Japan—and Taiwan’s demand that it be allowed to buy TMD from the United States to counter the missile threat from the China mainland. What is merely a theater missile defense for U.S. forces in East Asia is a national missile defense for Japan or Taiwan. Given Chinese concerns about the course of Japan’s future policy and ambitions, the prospect of TMD for Japan has generated increasing calls within the Chinese defense establishment for withdrawal from the Comprehensive Test Ban Treaty to aid in weapons design for a greatly expanded nuclear missile capability. The U.S. Congress has already called for the transfer of TMD systems to Taiwan. Should the Clinton administration proceed in that direction, Beijing will almost certainly embark on a major expansion and upgrading of its missile forces and nuclear arsenal.

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China in April 1999

Weeks after Chinese Premier Zhu Rongji’s early April visit to the United States, the future direction of Sino-American relations remains unclear. Mr. Zhu arrived during one of America’s periodic fits of moral indignation about his country. Before the visit, President Clinton’s alleged softness toward China had emerged as one of the principal lines of attack for Republicans eager to discredit him and Vice President Gore, the most likely Democratic Party candidate for president in the 2000 elections. By the time the disarmingly candid and outspoken Mr. Zhu had finished barnstorming the United States, he had stimulated American business leaders to break with both congressional Republicans and President Clinton on China policy. There is now heavy pressure on the Clinton administration to bring negotiations over Chinese accession to the World Trade Organization to rapid closure and on Congress to endorse normal trade relations with China on a permanent basis. Mr. Zhu’s travel to the United States must be counted a success, if not in advancing Sino-American relations, at least in terms of temporarily halting their deterioration and opening the possibility of future advance.

Premier Zhu had been personally reluctant to go ahead with his long-scheduled visit to the United States, given its unpropitious circumstances. There is sharp disagreement between China and the United States over NATO air strikes in Yugoslavia and a possible theater missile defense system for Taiwan. The Chinese military feel particularly strongly about both issues and are said to have urged cancellation of their premier’s visit in protest of American policy.

There has also been a strong anti-China mood among Americans. Since last fall, President Clinton’s congressional opponents have accused him of laxness toward China as part of a more general assault on his competence in national security and foreign affairs. They continue to make political hay by charging that he facilitated improper transfers of missile technology to China and failed to tighten security at U.S. nuclear labs when he belatedly learned that Chinese agents may have gained access to U.S. nuclear and related weapons designs more than a decade before. Meanwhile, American human rights activists had managed to muster enough political clout to persuade the U.S. administration to renew its quixotic attempt to gain international condemnation of China at the annual meeting of the UN Human Rights Commission.

In the event, Premier Zhu went ahead with his visit. He chose to downplay his disagreement over U.S. policy in Kosovo, refrain from pursuing the Taiwan issue at length, and break no new ground in discussions of Korea, South Asia, and nonproliferation issues. He offered nothing on human rights. Instead, he concentrated singlemindedly on reaching agreement on the WTO.

As Mr. Zhu arrived in Washington, the omens for this seemed positive. The day before his arrival, President Clinton addressed a hastily assembled gathering at the U.S. Institute of Peace. Mr. Clinton said, in part, that “it would be an inexplicable mistake for the United States to say no” to a China willing to accelerate economic reform by adhering to the WTO. Despite Chinese concessions the next day that most business observers termed “breathtaking,” Mr. Clinton backtracked, stating that he could not accept what his negotiators had achieved unless China sweetened the deal with additional protection for U.S. textiles and steel. Mr. Zhu attributed the Clinton administration’s refusal to take “yes” for an answer on the WTO to the anti-China mood in Washington. It might more accurately be said to reflect the political timidity of an American president weakened by a recent impeachment trial, under attack for being soft on China, distracted by a perplexing Balkan war, and concerned not to weaken the fundraising prospects of his party’s candidate in the coming elections.

On April 9, as Premier Zhu prepared to leave Washington, the White House unilaterally announced the mind-boggling details of what China had offered (covering some five thousand tariff lines and many cross-cutting issues), in what was described as an effort to “lock in” Chinese concessions. This announcement had unanticipated results. Mr. Zhu promptly declared that he was not necessarily committed to what he had offered. The U.S. business community saw something in the deal for almost every sector of the U.S. economy and erupted in criticism of President Clinton’s failure to close his negotiators’ deal with China. Mr. Zhu left for the American hinterland amidst widespread publicity about Chinese offers to:

  • open their market immediately to U.S. citrus, meat, and other agricultural products, including wheat they had previously rejected as contaminated with dangerous fungus.
  • rapidly phase in unrestricted foreign participation in virtually all service sectors in China, including distribution, value-added communications, banking, insurance, computer and business services, franchising and direct sales, legal and accounting, sound recordings, and entertainment software.
  • participate fully in the three global agreements negotiated since the Uruguay round, including the Information Technology Agreement (eliminating Chinese tariffs on covered technology products over three years), the Basic Telecommunications Agreement, and the Financial Services Agreement.
  • Reduce Chinese trade barriers to levels comparable to those of U.S. major trade partners, including industrial countries, and well below the levels of most developing countries.

As Premier Zhu left the United States for Canada, President Clinton responded to business pressure by telephoning to ask that negotiations be reopened at once. Mr. Zhu replied that the next round would have to take place in China.

Premier Zhu has now gone home to face widespread criticism from Chinese vested interests over the sweeping nature of the concessions he offered in Washington. Sino-American negotiations on the WTO have resumed in Beijing amidst reports that the American negotiators continue to press for additional Chinese concessions, even as the Chinese backpedal from what they had suggested they could accept in Washington. As Europeans have considered the implications for their own textile imports from China of the American demand for extension of quotas on Chinese textiles for five years beyond 2005, when Europe will phase them out, European governments have begun to register objections in Washington. These objections will only strengthen China’s already strong resistance to this demand. Support from textile and other labor unions is, however, crucial to attracting funding for Vice President Gore’s presidential campaign. It remains to be seen whether the “ripe moment” that Mr. Zhu’s visit represented can be recreated or whether the opportunity for a deal may not have rotted away.

The U.S. Congress must act in June on whether to extend normal trade relations to China either for another year or permanently. As the 2000 elections approach in the United States, America’s already limited politically flexibility will begin to contract. But this November, the barriers to Chinese entry into the WTO will be raised as the organization enters a new and stricter phase. A deal between China and the United States is crucial to bringing China into the WTO.

It therefore matters greatly to the prospects for the global trading system whether a Sino-American deal on the WTO can be struck over the next few months. Premier Zhu has made it clear that China is prepared to carry out radical reforms to bring itself into conformity with global business norms. It is not clear whether his government will be able to adhere to that position if it is visibly rebuffed by the United States. Moreover, unless it is admitted to the WTO, China’s trade and investment reforms will continue to be determined unilaterally by China rather than by agreement with the international community. More importantly, if China remains outside the WTO, as many Chinese would prefer it to do, its growing size as a trading economy will, in time, challenge the global viability of the WTO.

U.S. China policy will continue to be fractious whether or not a WTO deal is done in the next few weeks. If the WTO negotiations fail, the subservience of the Clinton administration to the special interests arrayed against China will be an issue for the Republican candidate to use against Vice President Gore in the 2000 elections. If the WTO negotiations succeed, there will be a difficult debate in Congress as early as this summer. Meanwhile, other issues will continue to trouble Sino-American relations.

Principal among these issues are those connected with Taiwan, especially the question of whether the United States should transfer some version of the TMD system it is developing to Taiwan. The political arguments for this are as compelling as the military arguments against it. Leaving Taiwan with no ability to defend itself against Chinese missiles would invite Chinese use of missiles to intimidate the island. But any system that might be transferred can and will be countered by increased missile deployments on the Chinese mainland. Transfer of TMD to Taiwan would further intensify the cross-Strait arms race while ensuring that many more missiles would fly in any future conflict. The Chinese military might well take preemptive action against Taiwan before TMD was transferred. And to the extent that TMD gave Taiwanese politicians a greater sense of invulnerability to Chinese pressure, it might embolden them to take greater risks, thus further destabilizing the Taiwan Strait. The net effect of the TMD and other American debates about Taiwan is to cause Taipei to judge that it need not pursue political compromise with Beijing even as Beijing draws the conclusion that it will have to use force to deal with Taiwan.

The American decision to develop and field a national missile defense (NMD) for the United States may also have unintended consequences for Sino-American relations. The NMD system that President Clinton proposed in January would severely degrade the credibility of China’s nuclear deterrent against U.S. attack. China has deliberately kept its ICBM force very small at about twenty missiles, consistent with its doctrine of “no first use.” Some in the Chinese military have begun to argue that, given the possibility of a U.S. NMD system early in the coming century, China must now increase the size of its own strategic nuclear forces by twentyfold or more. Should China actually begin such an expansion of its ICBM force, it is easy to imagine the U.S. reaction and the arms race that could result.

Finally, notwithstanding their ability to continue to work smoothly together on issues like those in Korea, the United States and China are increasingly at odds in the United Nations Security Council. China objects to NATO’s intervention in Kosovo both because it bypasses the UN and because it constitutes intervention in the internal affairs of a member state that China sees as having implications for international intervention in issues on Chinese territory, e.g., in Tibet or Taiwan. Beijing and Moscow are drawing together in opposition to Washington’s efforts to dominate and direct the international agenda. The best that can happen is that Sino-American relations will continue to alternate between fever and chills. The worst is that a failure on WTO could tip Sino-American relations into outright hostility.

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China in November 1999

On November 15, the United States and China were finally able to retrieve the WTO agreement that had eluded them in the spring. The final Chinese terms for market opening in some sectors of their economy (e.g., telecommunications and insurance) were less forthcoming than Premier Zhu Rongji’s offers in April, which President Bill Clinton had rejected. But China did make limited new concessions, agreeing to allow the U.S. to continue anti-dumping and anti-market surge procedures beyond the 2005 date on which textile quotas are to be phased out internationally. And the U.S. deal does not set the outer limits of what may be possible in terms of market opening. The EU may be able to restore some of what China pulled off the table with the United States as Brussels winds up its own negotiations with Beijing.

China’s willingness to come back to the table had been in doubt. President Clinton’s humiliating rebuff of Premier Zhu on April 8 and the U.S. Air Force bombing of the Chinese embassy in Belgrade exactly a month later set off a wave of nationalist reaction in China against the United States. Many Chinese angrily charged their government with weak-kneed appeasement of the Americans. Zhu sought several times to resign as Premier but was held over by President Jiang Zemin. In July, Taiwan’s president threw down the gauntlet by all but announcing independence from China, a step that generations of leaders in Beijing had always said would justify going to war against Taipei. China’s civilian and military leaders were briefly split about how to respond.

As the People’s Republic celebrated its fiftieth anniversary on October 1 with a massive parade through Tiananmen Square, many Chinese privately criticized their leaders as indecisive and lacking in vision. President Jiang’s efforts to foster his image as a leader on a par with Mao Zedong and Deng Xiaoping drew more derision than approval. Economic reform initiatives seemed to bog down in squabbling among Chinese ministries, with some ministers openly advocating policies that would roll back earlier steps toward market opening. Jiang, in particular, seemed distracted by the challenge to government authority and social control represented by the sudden emergence of an Internet-based, quasi-religious cult called Falun Gong. President Clinton’s repeated efforts to revive U.S.–China dialogue and to reopen negotiations over WTO met with no clear response from Jiang (who had personally taken over the WTO issue from Premier Zhu).

American persistence in seeking a deal helped make the November 15 agreement possible. Even more important, however, was the sudden Chinese realization that the passage of time and the imminence of the November 30 WTO summit in Seattle had changed the political equation decisively to their advantage. Had Beijing done a deal with Washington in April, the EU and other trading partners might have waited to see whether the U.S. Congress accepted it before completing their own WTO negotiations with the Chinese. This would have maximized U.S. political leverage over China while leaving its entry into the WTO in doubt. The deal just done carries almost no such risk for Beijing.

Neither the EU nor any of the other WTO members with whom China has yet to reach agreement wants to be responsible for delaying China’s WTO entry further. By the time the U.S. Congress reconvenes to consider whether to continue to review China’s trade status each year, China will almost certainly already be a member of the WTO. If the Congress doesn’t grant it normal trade status on a permanent basis, China will be free to withhold application of WTO-related trade concessions to U.S. companies. The question before U.S. legislators will therefore not be whether to attempt to deny China entry into WTO. Nor will it be whether to continue to link human rights and other issues to China’s trade status. The question before them will be whether to deny American businesses the easier access to the China market that their foreign competitors already enjoy. The predictable hostility of the American labor unions and textile industry to the deal notwithstanding, it is certain that Congress will pass the legislation necessary to implement it by an overwhelming margin.

This does not, however, mean that there is now clear sailing ahead for either U.S.–China relations or China itself: quite the contrary. China has now emerged as the country against which American politicians most want to campaign, and 2000 is an election year in the United States. In voting to exempt China’s trading status with the United States from annual review, members of Congress are certain to wish to make a balancing gesture to immunize themselves against charges from opposition candidates that they are “soft on China.”

Many will look for a new way to trigger an annual review of U.S. relations with China. Others will vote for the Taiwan Security Enhancement Act, already drafted by Senator Helms and other right-wing members, to upgrade U.S. defense ties with Taiwan. Doing so will enable them to count on Beijing to help their campaigns for reelection by publicly denouncing their support for anti-China legislation. But they can cast their vote without having to worry that that legislation will ever become law. President Clinton has already promised to veto it.

Across the Pacific, for the Jiang-Zhu administration, the decision to bring China’s economic structure and trading practices rapidly into conformity with international norms is a huge gamble. Among other things, it marks the first time in China’s long history that a Chinese government has agreed to change the country’s domestic system to make it acceptable to foreigners. The issue before China’s leaders now is how to ensure that the rapid implementation of the policy and structural changes to which they have agreed will be acceptable to ordinary Chinese.

The opposition to the specifics of much of the market opening that WTO membership will require is—unusually for China—already vociferous. And the Chinese government is arguably now weaker and less cohesive than at any time since the death of Deng Xiaoping. The government’s recent public commitment, after a nearly six-month hiatus, to redouble efforts to reform Chinese state-owned enterprises (SOEs) has elicited more public apprehension than enthusiasm.

The economic restructuring and reform to which China is now committed will entail significant socioeconomic shock. The move to a market economy and the fairly rapid restructuring and reform of smaller SOEs and township and village enterprises are already hurting a lot of people. Bankruptcies and layoffs are widespread. Deflation has been a constant feature of economic life over the past two years. Agricultural prices have plummeted and rural incomes are depressed. Disparities in income among and even within regions of the country are growing. Corruption is both ubiquitous and widely resented. The rapid growth of both Christianity and Islam in China, as well as the emergence of quasi-religious cults like Falun Gong, is a response to spiritual needs born of economic uncertainty as well as the collapse of old verities, like communist ideology.

The rapid transitions mandated by WTO entry will exacerbate these and other already serious problems in Chinese society. It is far from clear what the immediate impact on economic growth rates will be, but they are likely to slow temporarily before the greater efficiencies brought about by increased competition kick them back up. (Most estimates suggest that China’s already high long-term growth rate will rise by about one percent as a result of WTO accession.) A major, if short-term, increase in bankruptcies, shop closings, urban unemployment, and petty crime seems certain. There is a very high probability of at least some localized unrest and even violence. Ironically, in this volatile social environment, the Chinese government may judge that the price of carrying out further economic liberalization is a temporary tightening of political repression and control.

China’s leaders’ obsession with bringing Falun Gong to heel follows from this determination to sustain social and political discipline in a period of bewilderingly rapid change. It also reflects their apprehensions about the anarchy and even dynastic overthrow that the sudden rise of ostensibly innocuous cults has sometimes portended in the past. (Such cults are said to have helped accelerate the fall of the Ming Dynasty. Tens of millions of Chinese perished as the emergence of Christian and Daoist heresies and associated rebellions heralded the collapse of Manchu rule early in the twentieth century.) Still, even many Chinese see their leaders—especially President Jiang—as overreacting and speculate that the campaign against Falun Gong may reflect Jiang’s desire to deny party conservatives an excuse to attack him as accelerated reforms generate still more uncertainty and anxiety at every level of Chinese society.

No one has yet thought through all of the implications of what China has just agreed to do. Examples of new uncertainties abound. The rapid lowering of tariffs that protected some infant Chinese industries, like the automotive sector, is likely to drive the vast majority of China’s 120 car and truck manufacturers out of business. (It may also trigger the high-profile renegotiation of foreign direct investment deals to produce automobiles.) The ability of foreign banks to begin lending to Chinese entrepreneurs and to compete for domestic deposits throughout the country will threaten the continued viability of China’s inefficient state banks.

The end of export subsidies will threaten the profitability of some previously significant employers and lead, for the first time, to significant demands from within China for devaluation of the Renminbi. (Previously, such demands had been largely limited to Hong Kong entrepreneurs and their affiliates on the mainland. The Hong Kong dollar’s peg to the U.S. dollar made Hong Kong less competitive with Southeast Asia, where currency values fell during the Asian financial crisis. A cheaper Renminbi would offset some of this loss of competitiveness, given the huge role that mainland-based manufacturing plays in Hong Kong assembly and export operations.) Although Renminbi devaluation remains unlikely, the Chinese authorities no longer rule it out with the adamancy of the past.

Fortunately for China, Asia’s recovery from its two-year financial crisis is now well advanced. China’s exports are once again growing rapidly. The progressive removal of quantitative restrictions on Chinese exports to the United States and other key markets should add to export growth. (The World Bank estimates, for example, that more than 60 percent of U.S. imports from China are under some form of quotas or other administrative controls.) A boost in exports should help with job creation in China even as it relieves pressure on the Renminbi. Investor interest in China had begun to flag, though China remains the second-largest destination for global foreign direct investment after the United States. Foreign investment should now pick up considerably, as reforms enhance the rule of law and create a more predictable business environment in China.

Certain kinds of investment are already on the upswing, especially those in high-technology engineering design and manufacture by U.S.-based multinational companies. These companies face a severe shortage of engineers in the booming U.S. economy and seek to take advantage of the roughly 120,000 engineers who now graduate from Chinese universities each year. (The United States produces only about sixty thousand engineers annually; Japan, seventy thousand.) New technologies are taking hold with astonishing speed in China. The adaptability of the Chinese and their market to the challenges they now face should not be underestimated. However, it is clear that China has a very stressful and likely turbulent period ahead of it.

The growing likelihood of a military clash with Taiwan will add to this stress. Even though President Lee carefully avoided using the word “independence,” Chinese on both sides of the Strait see his recent statements as equivalent to a declaration of independence. Lee’s views, persuasively articulated to foreign readers in his article in the current issue of Foreign Affairs, have had the unintended effect of promoting a unified view among Chinese politicians and military leaders in Beijing. For both, the question is no longer whether force will have to be used to end Taiwan’s separation from China but rather when and how military action will be timely and advantageous. Lee’s July declaration that he is the head of a state separate from China and entitled to treatment as such by both China and the international community triggered an immediate increase in the Chinese defense budget. (This was the second unplanned increase in Chinese military spending in 1999. The first followed NATO’s destruction of the Chinese embassy in Yugoslavia.)

Four years ago, China was engaged in shows of force in the Taiwan Strait. The political effects of shows of force are amplified by transparency about intentions and capabilities. China went out of its way in 1995 and 1996 to signal what it was and was not doing in each of the six military maneuvers it staged to deter Taipei from pursuing independence. Now that deterrence has apparently failed, the PLA is planning actual military operations, not shows of force. China is determined to maintain operational security as it conducts its planning. The PLA’s plans, like Jiang’s policies, assume that U.S. armed forces will intervene in support of Taipei in any conflict in the Taiwan Strait.

China would much prefer a negotiated settlement to conflict with Taiwan, especially given its assumption that such conflict would lead to a war with the United States, but it is now quietly preparing its military for the worst. That is why neither the relative vagueness of Beijing’s current warnings to Taiwan nor the moves it has recently made to repair relations with Washington should necessarily be taken as reassuring. Two thousand five hundred years ago, the great Chinese military theorist Sunzi warned: “When the enemy’s envoys speak in humble tones but he continues his preparations, [you should conclude that] he plans to attack.” No Chinese military action against Taiwan seems imminent, but no one can any longer be sure.

An especially dangerous moment will occur during the likely January consideration by Taiwan’s legislature of a law formalizing President Lee’s July declaration that his Republic of China on Taiwan is now a separate state distinct from “China.” Should such a law pass, it could precipitate military action by Beijing even before the PLA has made all the preparations it considers desirable. (The PLA is acutely aware of the difficulties of conducting effective military operations in the Taiwan Strait. Its top leaders tend to be considerably more cautious about the use of force than many of their civilian counterparts seem to be.) Absent provocation from Taipei, however, China will likely await the outcome of Taiwan’s March 2000 presidential election before making a final decision about when and how it should renew pressure on Taipei to negotiate an acceptable long-term relationship between the two sides of the Taiwan Strait.

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China in June 2000

When China’s leaders assemble at the seaside resort of Beidaihe for their annual policy retreat in the second week of August, they will have a full and vexing agenda before them. Much of this agenda was imposed by events in May, when the last doubts about China’s accession to the WTO were removed and a new president took office in Taipei. But some of it represents requirements for long-term structural change that can no longer wait.

At Beidaihe, China’s leaders must develop a political strategy for overcoming widespread dissent as they move to implement their WTO-linked promises of radical market opening and restructuring in the country at large. They are committed to putting the final touches on a massive program to accelerate the modernization of their country’s western interior. At the same time, they must respond to a rural economic depression and urgent demands from lower officials for an effective social safety net and insurance program to mitigate the consequences of reform-related urban unemployment. And now that Taiwanese nationalists are in power in Taipei, the Chinese leadership must put in place a new politico-military strategy to reunite Taiwan with the rest of their country while limiting damage to China’s international relations, especially its fragile relationship with the United States.

Beijing has just begun to work out its protocol of accession with the WTO secretariat and major trading partners in Geneva. Despite the resolution of so many difficult policy disputes in recent negotiations with the United States and the European Union, therefore, China is technically still not in the WTO. Nor is it yet obliged to begin implementing the agreements it made to enter the WTO. The protocol of accession will aggregate the market-opening commitments China has made to major trading blocs and countries. In theory, negotiation of this protocol is a last opportunity for the international community to force Beijing to address issues left unresolved by bilateral negotiations. Such issues include the deficiencies of China’s still-primitive court system and the unreliability of other dispute-resolution mechanisms affecting Chinese trade and investment. In the end, however, it seems unlikely that the final accession process will add much, if anything, to the obligations China has already assumed in bilateral agreements with WTO member states.

Implementing those obligations will be a struggle for Beijing. The lower levels of government and the bureaucracy in China have been quite open about their intention to ignore or subvert central government efforts to impose change as long as they can. One of the tasks of the leadership conclave at Beidaihe will be to produce a strong consensus in favor of vigorous implementation of the WTO accords. That may prove more difficult than it might have been a year or two ago. President Jiang Zemin’s and Premier Zhu Rongji’s terms of office end in 2002, and jockeying over their succession has already begun. Indeed, some Chinese political analysts consider that this year’s gathering at Beidaihe will mark the opening of the country’s presidential campaign. Most of China’s senior politicians seem to accept the imperative of further market opening, but they will find it hard to resist the temptation to score points in the succession process by taking up the cause of those disadvantaged by previous reforms or about to be thrown out of work by WTO-mandated restructuring.

Given these political realities and the pain that implementing China’s WTO accession commitments will inflict on every sector of the Chinese economy, Beijing is unlikely to be in a hurry to conclude the negotiations for its protocol of accession or actually to enter the WTO. Every month that China can delay is another month its leaders can use to prepare their country to make the wrenching adjustments that WTO membership will entail, to overcome obstructionism, and to ease the shock of change. And every month of delay is another month in which to devise policies to deal with some of the other festering problems of the Chinese economy.

Among these problems, perhaps the most urgent is the economic crisis in China’s rural areas, where 68 percent of Chinese still make their homes. Productivity increases from the deregulation of agriculture have now brought every crop, from grains to oilseeds, into unprecedented surplus. Prices of agricultural commodities have fallen steadily over the past few years, as have farm incomes. The resulting rural economic depression has been a significant factor in the nearly thirty months of deflation that the Chinese economy has now suffered. The Chinese Communist Party (CCP)—which, like so many past holders of the mandate of Heaven, began as a peasant rebellion—is acutely sensitive to rural distress. Part of the answer to this problem is faster economic growth in heavily agricultural interior provinces, like Sichuan—as promised in the proposed campaign to develop the West. (Increased employment opportunities in the interior would also reduce competitive pressure on wages from poor migrants to move to higher-income coastal areas and speed up the reabsorption of recently laid-off workers into jobs in the coastal regions’ non-state sectors.) But it is far from clear how the CCP plans to restore economic confidence among farmers in other areas.

Moreover, the CCP must now also deal with spreading urban unrest, especially in the rustbelt of China’s northeast and other islands of Soviet-style heavy industry like the Sichuanese mega-municipality of Chongqing (population 30 million). The huge factories built in these industrial centers during the socialist era have so far proven unfit to compete in the market economy. Many of the largest and most bloated companies have closed, leaving their workers without pensions, severance pay, or any prospect for new jobs with comparable pay and security. Thousands of small and medium-sized state enterprises have been declared bankrupt and sold for nominal sums to management insiders or to politically well-connected party members and government bureaucrats. There has been much labor unrest and not a little violent protest. The transition from socialism to the market economy is demonstrably not going as smoothly in the northeast and Chongqing as it did, for example, in Shanghai over the past decade. (With few visible disruptions, Shanghai closed down its huge textile industry, the former backbone of its economy, and moved into more sophisticated and profitable industries.)

Economic planners around Premier Zhu Rongji have had to promise to make further reforms in pensions, unemployment insurance, and other elements of social security their top policy priority for the second half of the year. (Concrete proposals worked out on the basis of decisions at Beidaihe will be announced at the annual party and government meetings this fall.) WTO-induced stress notwithstanding, China now seems to have the economic leeway to concentrate on this long-overdue task as well as to begin to address regional imbalances in development. The Chinese economy has been growing at more than 8 percent this year. Imports and exports are up very substantially. This reflects the overall Asian economic rebound as well as a modest recovery in Chinese domestic consumer demand, helped by continued heavy government deficit–financed spending on infrastructure and other construction projects. (It is now clear that the major causes of deflation in China have been on the supply side, reflecting competitive pressures on prices, rather than a significant reduction in consumer demand. As the purchasing power of the Renminbi has appreciated, some goods and services previously much in demand have been priced out of a market that now provides consumers with ample lower-priced alternatives.)

Meanwhile, the capacity of the Chinese state to manage a modern economy is increasing. So is Chinese official self-confidence, as reflected in a renewed commitment to early achievement of full convertibility for the Renminbi. Reforms in the tax system undertaken five years ago are beginning to pay off. Revenue of all levels of government (central, provincial, and local) as a percentage of GDP has risen from just over 10 percent in 1997 to nearly 15 percent this year, with a greater proportion—perhaps a third—of this going to the central government. (Off-budget exactions by provincial and local officials probably extract another 10 percent from the economy, amply illustrating the extent of bureaucratic corruption and why the Chinese leadership is so concerned about it.)

Premier Zhu sees the reforms required by WTO accession as aiding the growth of central government power and regulatory primacy vis-à-vis the provinces and localities, accelerating corporate restructuring, forcing greater competitiveness by Chinese enterprises (especially in the inefficient service and financial sectors), and reducing opportunities for bureaucratic corruption. These are all trends he would seek to foster with or without the WTO. Japanese leaders have often found gaiatsu (foreign pressure) to be a convenient way to shift the political blame for taking necessary actions to foreigners. The WTO agreement now gives Chinese leaders the ability to do the same, though at the risk of fostering further Chinese nationalist backlash against the West.

There is already considerable backlash, focused largely on the United States. American officials have failed to persuade their Chinese counterparts that the Belgrade embassy bombing was a mistake. Virtually all Chinese believe that the bombing was a deliberate attempt to humiliate them. Similarly, the Chinese political elite is now convinced that U.S. arms sales and statements reflect an American determination to preclude Taiwan’s reunification with the rest of China, even by peaceful means. They connect U.S. statements and acts with respect to Taiwan with other U.S. actions, such as the strengthening of the U.S.–Japan alliance, attempts at U.S.–Indian rapprochement, American popular support for Tibetan separatism, and U.S. agitation on behalf of dissident groups in China. They are also upset by Washington’s attempts to cut a deal with Russia on the ABM treaty even as it declines to conduct a dialogue with China about proposed US missile defenses with profound implications for Chinese defense interests. (Chinese defense officials have concluded that U.S. development and deployment of integrated theater missile defense and national missile defense will require the expansion of China’s nuclear arsenal and an upgrade in its delivery systems if China is to maintain a credible deterrent against nuclear attack.) In sum, Chinese leaders see U.S. policies as adding up to a strategy of containing, weakening, and possibly dividing China while working to bring down the rule of the CCP.

Meanwhile, Taiwan’s new president, Chen Shui-bian, has gone out of his way to avoid presenting China with an immediate provocation or challenge, while seeking to convince international public opinion that he is open to dialogue with Beijing. What seems conciliatory to international opinion may, however, be seen by the Chinese on the mainland as provocative. A case in point is Chen’s latest offer to meet to follow the example of the recent summit between south and north Korea. Where the West saw a forthcoming gesture by Taiwan, China saw a Taiwanese stratagem to have Beijing receive its leader as the head of an independent state, thus maneuvering China into conceding the very point at issue between the two sides of the Strait.

Chen has, in fact, given Beijing no reason to revise its judgment of last summer (following former president Lee Teng-hui’s promulgation of his “two states doctrine”) that negotiating a peaceful reintegration of Taiwan with the mainland is no longer possible, given the commitment of Taiwan’s political elite to continued separation from China. But reunification remains an imperative for Chinese nationalism, and Chinese nationalism is the CCP’s raison d’être. The issue for discussion by Chinese leaders at Beidaihe is no longer whether force will be necessary to achieve national reunification but how and when force should be employed to coerce Taiwan to the negotiating table. They must also decide how to minimize collateral damage to China’s international relations from war in the Taiwan Strait. (Chinese military planners assume that U.S. forces will intervene to defend Taiwan against any military action they take and that they must either present the United States with a fait accompli or be prepared to defeat it in battle.) The question of when force should be applied to Taiwan is now the crucial one. Beijing is determined that it, not provocations from Taipei or Washington, will decide that question.

Beijing’s determination to retain the initiative accounts for its remarkable restraint in the wake of the election of a president committed to independence for Taiwan. The Chinese leadership wants to be in the WTO before acting against Taiwan, because membership provides a measure of protection against unilateral measures by the United States to punish China economically for acting against U.S. interests. Beijing also wants to make a last-ditch effort at persuading the United States to end arms sales to Taiwan in the interest of promoting a negotiated end to the divisions in the Taiwan Strait.

China’s leaders see U.S. arms sales to Taiwan as the principal reason for Taiwan’s unwillingness to contemplate a peacefully negotiated, nominal reunification agreement under a looser version of the “one country, two systems” formula they have successfully demonstrated in Hong Kong and Macao. But Beijing knows that the Clinton administration no longer has the political standing to address this issue, even if it were willing to do so. China has therefore decided to wait until a new American administration takes office before confronting the U.S. with hard choices about Taiwan. The Chinese have little hope that the U.S. will accede to their demands with respect to arms sales, but they want to fix responsibility for Taiwanese recalcitrance before they take military action.

In anticipation of a showdown with the next American administration, China is quite methodically using the interim not only to advance military preparations for action against Taiwan but also to clear the diplomatic decks for it. Chinese relations with Russia have advanced beyond rapprochement to the point of entente, and the two countries now cooperate in an ever-widening number of arenas. Beijing has recently adopted a notably conciliatory stance toward Tokyo in an effort to rebuild some of the warmth that had bled out of Sino-Japanese relations over the past several years. China has reached out to India as well, resuming talks on a border settlement with the Indians and adopting a more evenhanded stance on the issue of Kashmir.

China was closely involved in preparations for the recent south-north Korean summit, ingratiating itself with both Seoul and Pyongyang in the process. Meanwhile, China and Vietnam have settled their land border and are well on the way to delineating economic zones in the Gulf of Tonkin. (According to senior officials in both Beijing and Hanoi, the two countries then plan to turn to working out a bilateral settlement of their claims in the South China Sea.) China’s relationship with ASEAN is also warming.

In addition to these efforts to preclude diplomatic distractions while it concentrates on the end game for Taiwan reunification, Beijing is also trying to court and appease Washington by being more responsive on unrelated issues. High-level Chinese diplomatic and military exchanges with the United States have resumed, along with previously suspended discussions of arms control and other issues of concern to the U.S. Beijing hopes to get off on the right foot with the next administration in Washington before having to wrestle with it. Its recent efforts to improve relations with the United States have not erased China’s predominantly negative image in the minds of American politicians, but China policy has yet to emerge as an issue in the U.S. presidential campaign—and the anti-China hysteria of the past year in the United States may have begun to subside.

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China in December 2000

As the Year of the Dragon nears its end, China presents a mixed picture of political muddle amidst economic resurgence. China is taking its time getting into the WTO. Though concerned about the likely weakness of the new American administration, the Chinese still plan to confront the United States over U.S. arms sales to Taiwan.

President Jiang Zemin failed to achieve his main political objective at this August’s leadership retreat at Beidaihe. He was unable to put in place the succession to his own and Premier Zhu Rongji’s leadership. (Jiang and Zhu are scheduled to step down from their party and state leadership positions in 2002 and 2003.) Most Chinese political observers expect that Jiang will eventually succeed in arranging the succession he prefers, but this will take longer and require more effort than he originally expected.

Jiang’s intended successor to himself, Vice President Hu Jintao, is a relatively colorless technocrat. Hu served as party secretary in Tibet in the 1980s, when he was associated with the liberal wind of the Chinese Communist Party (CCP)—close to both the late CCP Secretary General Hu Yaobang, who was deposed by party conservatives, and to former Premier Zhao Ziyang, who was purged for advocating a soft line during the Tiananmen student uprising of April–June 1989. (Zhao remains under house arrest in Beijing.) Hu Jintao is virtually unknown to foreigners. Chinese who have worked with him describe him as bright, capable, and decisive, but worry whether he has the presence and charisma necessary to lead the country through the continuing difficult adjustments it faces over the rest of this decade.

Current vice premier Wen Jiabao, whom Jiang appears to favor to succeed Premier Zhu Rongji, has had a much more accessible and public persona than Hu. In 1998, for example, Wen led highly visible national efforts at flood relief. He has been the court of first instance for proposals for financial reform since Zhu Rongji became premier of the State Council. Like Vice President Hu, Vice Premier Wen has close connections with Zhao Ziyang and the liberal wing of the Communist Party overthrown by the Tiananmen uprising. The third member of Jiang’s proposed triumvirate of successors, Vice Premier Wu Bangguo, is a party apparatchik with no obvious ideological convictions or factional affiliations and few committed followers.

None of these three men seems to excite much support from the party rank and file. This may be in part because they do not represent significant generational change. They are just a few years younger than Jiang Zemin, Zhu Rongji, and National People’s Congress chairman Li Peng. The generation below them came to maturity as China opened itself to the outside world and marketized its economy. But Hu, Wen, and Wu were educated and had their formative experiences under the Soviet-influenced system that prevailed before Deng Xiaoping launched his reforms in 1978. Like Jiang, these men seek incremental reform within the guidelines set by Deng, not radical overhaul of the system.

This position is close to the current consensus within the CCP. Why, then, has Jiang found it so hard to engineer the designation of these men as China’s next leaders? The answer seems to be that while Jiang remains without direct challenge to his leadership, the Chinese political elite increasingly disparages both his personal style and performance. There is, in short, no great enthusiasm for more of the same.

Meanwhile, political events beyond his control continue to muddy Jiang’s reputation. The magistrate appointed by the CCP to deal with high-level government corruption reportedly now has dozens of cases of ministerial-level wrongdoing under investigation. Many in China hold Jiang personally accountable for such lapses by members of his administration. Much of the initial anger about the NATO bombing of the Chinese embassy at Belgrade has also ended up directed at Jiang’s alleged appeasement of the United States.

Some Chinese intellectuals disapprove of Jiang for making too much of the Falun Gong movement. But security hardliners, including many blue-collar workers, criticize him for not cracking down harder on dissident cults and demonstrations, which they see as regime-threatening instances of social indiscipline linked to other aggravations of contemporary Chinese life, like the rising crime rate in the cities. Recently, some senior Chinese officials have begun to express guarded concern that, in his search for a political legacy, Jiang may risk overplaying China’s hand on international affairs and the Taiwan issue, especially in light of possible overreaction to Chinese moves by a new U.S. administration eager to establish the domestic legitimacy a flawed American electoral contest will have failed to confer upon it.

Jiang has impressed recent visitors to China as tired and distracted. He is said by intimates to be severely vexed by his inability to lock in an orderly succession to his government. (Immediately after the Beidaihe gathering, he was rebuffed in his attempt to elevate his self-important protégé, State Council secretariat chief Zeng Qinghong, to the Politburo Standing Committee.) None of the political pressures on Jiang and his government is unmanageable, however. He has two years to put in place his preferred succession. And the strong performance of the Chinese economy in 2000 is a powerful offset to political dissatisfaction with him.

Overall, China’s economy has been growing at 8.2 percent, the best performance since the Asian financial turmoil of the late 1990s. The drive to accelerate economic growth in the western regions of China is off to a promising start as major highway and other construction projects begin to boost job growth in previously underdeveloped areas. The new private-sector economy created by painfully abrupt privatization in China’s northeastern “rustbelt” of Manchuria a couple of years ago is taking hold, with both growth rates and job creation accelerating.

Chinese exports grew 32.2 percent in the first ten months of the year. The extent to which China is becoming a force in the global economy is illustrated by the fact that it now makes 50.1 percent of the world’s air conditioners, 36.2 percent of its television sets, 23.5 percent of its washing machines, and 21.1 percent of its refrigerators. China has just surpassed the EU as a source of imports for the lucrative Japanese market. And this year China’s own imports grew even faster than its exports—38.6 percent—in part reflecting a recovery in consumer demand that seems to have ended years of persistent deflation in the Chinese economy.

The resumption of high rates of growth in China, coupled with economic recovery elsewhere in the Asia-Pacific region, has also eased concerns in Beijing about Hong Kong’s ability to prosper without devaluation of the Hong Kong dollar or Chinese Renminbi yuan. Hong Kong’s GDP grew 11.7 percent in real terms from January through September. (The Hang Seng stock index is nearly double its value at the deepest period of the Asian financial crisis two years ago.) Meanwhile, China continues to prepare itself to enter the World Trade Organization.

Informal discussions of China’s protocol of accession to the WTO in early November reached agreement on two of the eleven areas at issue in these multilateral negotiations—judicial review and uniform administration and transparency. Progress was also made on a review mechanism to monitor China’s implementation of WTO commitments to protect trade-related intellectual property rights, improve tariff-rate quota administration, agricultural and industrial policy, and remove quantitative import restrictions and technical barriers to trade. In several of these areas, agreement seemed very close; indeed, it was subsequently achieved on agricultural policy issues. In other areas—particularly services and anti-dumping and countervailing measures—considerably more work clearly remains to be done.

Not surprisingly, giving the immensity of the reforms WTO entry will force it to undertake, China now seems to be in no hurry actually to get in. To be sure, Beijing would like to complete negotiations with the WTO before President Clinton leaves office on January 20, 2001, allowing Clinton to certify to the U.S. Congress that China has met legislative requirements for permanent normal trading relations with the United States. But the Chinese government is likely to take its time presenting the final WTO documents to its National People’s Congress and then depositing them in Geneva. The longer Beijing can delay conforming to international trade and investment norms, the longer it has to reduce the pain of doing so. The best guess now is that this process will not be complete until May at the earliest.

That is about the time that China expects the United States to give it an excuse to pick a political fight over new U.S. arms sales to Taiwan. The Chinese leadership has concluded that America’s increasingly unconditional military backing of the island is the principal reason that Taipei refuses to discuss cross-Strait reunification, even on the exceedingly generous terms that Beijing has proposed. China’s emerging policy toward Taiwan is intended to force the island to the negotiating table rather than to conquer it. It consists of four elements:

(1)    accelerated development of trade and investment ties to preclude any real move by Taiwan toward separation from the rest of China;

(2)    united-front tactics aimed at building a claque of supporters of reunification and opponents of separatism on the island;

(3)    elaborating the details of reunification to make it clear that it would entail no real sacrifice for Taiwanese, while allowing them to end uncertainty about the continued survival of their way of life; and

(4)    military and other measures of psychological warfare (such as the proposed political confrontation with the United States) to bring about a deterioration in conditions in Taiwan that would compel people there to recognize that their security cannot be assured except through a deal with Chinese across the Strait.

Following the inconclusive U.S. elections, some Chinese observers have begun to worry privately that their leaders’ planned attempt to persuade the United States to pull back from Taiwan may prove unacceptably risky. They fear that Sino-American confrontation may now take place in the context of a U.S. administration so weak that the Americans will be unable to compromise and a Chinese succession process so unresolved that China’s Politburo will be driven toward an ever harder line against Taiwan and the United States. But so far, no one has dared raise these concerns in what passes for public debate in China, and Beijing shows no sign of altering course. Nationalist elements in China have pretty much run out of patience with Taiwan and the United States, and Jiang Zemin seems determined to secure his place in the nationalist pantheon by bringing the division of China to an end.

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China in May 2001

As the summer of 2001 approaches, China’s leaders continue active preparations for entry into the WTO, including an ongoing public education campaign and the passage of a great number of new laws (even as others are revised) to meet WTO requirements. Completion of China’s protocol of WTO accession remains merely a matter of time; the interval gained from delay is not being wasted. Economic growth remains strong in China, with significant recovery in domestic consumer spending masking the effects of the slowdown in the American market. Enterprise reform has just entered a new stage, with the first delisting of an unprofitable state-owned enterprise from a domestic stock market, the publication of relatively complete bank balance sheets in preparation for sales of equity to the public, and the first offerings of nonperforming assets to foreign investors by Chinese asset management companies. Despite pockets of social unrest, mostly related to abuses of tax collection authority by local officials or protests by the banned Falun Dafa movement, China’s leaders see the overall domestic picture in their country as full of good news.

Not so foreign policy—especially relations with the United States and Japan. Four months into the Bush administration, the Chinese leadership has reluctantly concluded that Washington now views China as an enemy. They profess to see the October APEC summit at Shanghai as their last real chance to persuade President Bush that his administration’s apparent hostility toward them is unjustified. In the meantime, they are reportedly considering how to retaliate if American enmity is confirmed. Key parts of the framework of political understandings that enabled the Sino-American relationship to bounce back from previous confrontations have broken down. This, together with the emergence of a more assertively nationalist leader in Japan, is creating a sense in East Asia that a major reorientation in strategic alignments may be in the offing. Meanwhile, even as preparations for war in the Taiwan Strait continue, human and business ties across the Strait continue to strengthen.

These troubling changes in China’s external environment are occurring as epochal changes in the country’s leadership loom. In addition to the retirement of the triumvirate at the top (Jiang Zemin, Li Peng, Zhu Rongji), over half of the incumbent membership of the Party Central Committee and comparable governmental and military leadership bodies will be replaced at the 2002 Party Congress and the government changes to follow in early 2003. Even the greatest election upsets in democratic countries seldom produce wholesale turnover on this scale; this adds to the sense of uncertainty about the direction of future events in China and the region. A whole new generation—the fourth since the founding of the People’s Republic in 1949—will come to power in China a year from now. It is shaping up to be both more nationalistic and more cosmopolitan than its predecessors.

This generation traces its political formation to China’s period of chaos and isolation during the Cultural Revolution. Personal experience of anarchy has left its members intolerant of political disorder, including public demonstrations of dissent. Their experience with implementing policies coincided with Deng Xiaoping’s revolutionary opening of China to the outside world. They are committed to the concept of the market economy. Hu Jintao, Jiang Zemin’s vice president and designated successor, made his career in politics by dealing with this generation through his leadership of the Chinese Communist Party’s Youth League.

Hu and his colleague Vice Premier Wen Jiabao (who is the leading candidate to succeed Premier Zhu) share the priorities of the president and premier they would succeed. They believe that what is required to sustain domestic stability in China is:

  • continued rapid economic growth (currently about 8 percent);
  • use of the WTO accession process as political justification for painful domestic policy adjustments to make China’s economy more competitive in a globalized economy;
  • time to cope with the inevitable shortfalls in employment, rural development, and funding for pension and public health programs that result from the transition to a market economy;
  • visible efforts to counter corruption and control crimes against the personal security of individuals;
  • suppression of labor unrest and open dissidence (including deviant religious movements) as required to maintain public order; and
  • avoidance of affronts to China’s national dignity from foreign nations like the United States or Japan that could lead to uncontrollable backlash from the Chinese public.

With the exception of the last of these questions, things have been going well for both the current and putative future leaders of China.

When President Jiang left China right after the April 1 mid-air collision between U.S. and Chinese warplanes off Hainan Island, he appointed Hu Jintao to handle the incident. This in effect turned China’s problems with the new American administration over to the still-unconfirmed political leader of China’s successor generation a year and a half before he was scheduled to take power. Hu’s experience with the United States in this matter may have been formative for him; it cannot have been reassuring. As Chinese politicians jockey for position in anticipation of next year’s Party Congress, the state of Sino-American relations is emerging as a potentially decisive factor in the domestic politics of political succession in China.

The Hainan incident came after a roughly tenfold increase in U.S. reconnaissance flights along the China coast in preceding months had provoked increasingly aggressive—and, ultimately, recklessly fatal—interception by Chinese fighters. But the incident and its aftermath, which fueled anger and suspicion on both sides, is merely one of a series of hostile signals—some obviously calculated, some probably inadvertent—that Chinese believe they have recently received from Washington. These have included:

  • President Bush’s failure to place a courtesy call to his Chinese counterpart even as he reached out to dozens of other foreign leaders;
  • the pointed omission of China from the list of nations with which the U.S. seeks dialogue about national missile defense;
  • U.S. support for a larger regional security role for Japan and enhanced military and diplomatic cooperation with India;
  • widely publicized Defense Department plans to shift its military emphasis from Europe to Asia, amidst press reporting that portions of the U.S. nuclear arsenal have been shifted from Russian to Chinese targets and that U.S. military exercises now routinely posit China as the enemy;
  • the largest U.S. military sale to Taiwan in a decade, including weapons normally considered offensive, like submarines, in the $4 billion package, followed by President Bush’s flat statement that the United States would use all the armed might at its disposal to prevent China from taking the island;
  • U.S. bans on military exchanges and social contacts with Chinese military officers and diplomats and a series of trivial, but consistently negative, moves (like canceling, as politically inappropriate, a U.S. Army contract for Chinese-made berets); contrasted with
  • U.S. approval of highly political visits to the United States by Taiwan’s current and former presidents even as rumors (unfounded but, so far, publicly unrebutted) circulate in Taipei and Beijing of a clandestine visit to Taiwan by the commander in chief of U.S. forces in the Pacific.

From the Chinese perspective, the import of these signals could hardly be clearer: the United States now sees China as a military adversary and no longer has a policy toward Chinese reunification with Taiwan beyond military deterrence of it. But China has too much invested in its relationship with the United States—$100 billion in exports each year and nearly a hundred thousand students in American universities—to give up easily on America. Premature confrontation with the Americans could also threaten immediate and otherwise attainable Chinese objectives, such as nailing down Beijing as the site for the 2008 Olympics and completing the process of accession to the WTO.

China’s president Jiang Zemin, in particular, is not yet ready to accept that the Americans are incorrigibly hostile. He has seen previous administrations, like Ronald Reagan’s and Bill Clinton’s, start off with a very negative approach to China, only to abandon it as they came to calculate the costs vs. benefits of long-term Sino-American hostility soberly. Moreover, Chinese analysts are aware of the extent to which arguments within the U.S. government represent belated efforts by individuals who lost arguments about China policy during the Reagan administration to have their way in the new one. They see more confusion than consensus about China between the institutions as well as individuals advising President Bush and hope that moderate views may yet prevail as policy differences within his administration shake out.

Jiang Zemin has made building good relations with the United States a personal priority; his prestige is engaged. He hopes to turn President Bush around when they meet at the APEC summit in Shanghai this October. In the interim, he and his subordinates are stifling their anger and blocking attempts by others to do things that would make relations with the United States even more tense than they already are. For the same reasons, despite their adverse reaction to the statements and emerging policies of Japanese prime minister Koizumi, Chinese officials seek to restrain public opinion in China and to avoid confrontation with Japan.

Still, Beijing has quietly launched a group, headed by Premier Zhu Rongji, to develop policies that might reduce China’s dependence on the U.S. market in favor of Europe. It has stepped up arms purchases and military cooperation with Russia to offset American moves toward Taiwan. (A treaty creating a Sino-Russian “strategic partnership” is being drawn up for signature during Jiang Zemin’s July visit to Moscow.) Chinese diplomats are also working to lay a basis for asking south Korea and Southeast Asian nations to choose between good relations with Beijing or Washington, should such a choice ultimately prove necessary. Without announcing a policy change, the Chinese government suspended U.S. Navy ship visits to Hong Kong beyond those already approved. Beijing announced a suspension of deference to U.S. nonproliferation interests and policies to reciprocate the end of U.S. deference to Chinese interests and policies with respect to Taiwan. So far, however, China has not made the sales of missiles to Saudi Arabia, Iran, and others that this policy change could facilitate.

Meanwhile, China continues to pursue a vigorous and increasingly successful united-front policy toward Taiwan. Despite political stalemate, rising military tensions, and burgeoning Chinese deployments of missiles and other forces intended to back up coercive policies toward Taiwan to bases opposite the island, trade and investment across the Taiwan Strait continue to grow rapidly. Prominent Taiwan opposition figures, including most recently former Premier Vincent Siew, vie to visit the mainland and to produce formulae for closer cross-Strait relations. Most strikingly, Shanghai is emerging as a preferred place of residence and regional business operations for Taiwan’s younger business elite and of retirement for their elders. These developments are reviving hope in some quarters that negotiation of peaceful reunification may yet prove possible, notwithstanding the opposition of Taiwan’s pro-independence ruling party and the increasingly negative stand of the United States. Here, too, China’s leaders judge it wise to wait for October’s APEC meeting in Shanghai before launching another bout of coercive diplomacy. Taipei will be represented at ministerial level in Shanghai—the first such meeting on Chinese soil.

The bottom line: the period from August through October is shaping up as potentially historic. In August, right after President Jiang’s return from Moscow, the Chinese leadership will meet at its annual retreat at the seaside resort of Beidaihe to discuss policies for the following year, including what to do about China’s relations with the United States, Japan, and Taiwan. In September, a meeting of the Communist Party’s Central Committee will lay down the rules for the major changes of political leadership to take place in 2002. In October, the APEC summit in Shanghai may well determine both the course of Sino-American relations and the extent to which China’s future approach to reunification with Taiwan will add coercion to measures of peaceful persuasion.

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China in November 2001

The two months since the catastrophic September 11 terrorist attacks on the United States have been dreadful for almost everybody—except the Chinese, who are ending the year on a high note. China now has the only major economy that is still growing with any speed and seems likely to continue to do so. The country’s marathon effort to join the WTO has come to a successful conclusion. President Jiang Zemin hosted a successful APEC summit in Shanghai and finally found a measure of common ground with his American counterpart—on the need to combat the terrorism of Osama bin Laden. The Chinese Communist Party endorsed Jiang’s platform for the twenty-first century. This platform, detailed implementation plans for which have been worked out under the direction of Jiang’s designated successor, Vice President Hu Jintao, puts paid to the concept of class struggle and provides a doctrinal basis for significant democratization of the Party. The prospects for an orderly succession in 2002 and 2003 look excellent. Vice President Hu has just made his media debut before domestic Chinese audiences—through a carefully staged tour of Europe. And prospects for peaceful reintegration of Taiwan seem at long last to be looking up.

China’s economic growth has slowed somewhat, reflecting depressed economic conditions in all three of the country’s major markets—the United States, Japan, and Europe. But robust domestic demand for consumer goods, government spending on infrastructure projects (especially in the country’s western regions), and a surge in foreign investment have allowed growth to continue at about 7 percent for the year. China is now taking in about $100 billion annually in foreign investment, with this amount expected to rise as its financial markets open over the next few years. Growth in 2002 is expected also to be about 7 percent—down from the original estimate of 8.5 percent, but still enough to allow China to hold onto its title as the world’s fastest-growing economy.

China and its WTO Working Party reached agreement on the terms of Chinese accession on September 17. China will be voted in as a member of the WTO at this month’s ministerial meeting at Doha. So will Taiwan. Both must then ratify the terms of accession. Beijing can be expected to do so promptly, if only to prevent the embarrassment of Taiwan becoming a WTO member before China proper.

China’s leaders have sought WTO membership neither out of altruism nor a desire for prestige. Rather they have believed that the discipline required by WTO membership was the most effective way to complete the restructuring of China’s economy and to achieve the added efficiencies of a full market economy. A great deal has already been done by China in anticipation of WTO membership. The next few years will test the proposition that actual membership will give economic reformers added leverage. The commitment of China’s top leaders notwithstanding, there will be plenty of resistance to WTO norms at the sectoral and local levels.

China went all out to showcase the fruits of its growth at the October APEC summit, held in the glitzy surroundings of contemporary Shanghai. (One participant claimed that the summit set a new standard for hospitality that no other member was ever likely to match.) The only blot on the Shanghai summit was Taiwan’s decision to boycott it rather than to continue attending under the formula by which it had originally been admitted. (Taipei wanted to substitute a pro-independence politician for an economic minister.) The summit did not neglect traditional economic topics like the reinvigoration of global trade and the lowering of regional barriers to trade and investment but, not surprisingly, the subject of terrorism dominated both plenary sessions and bilateral discussions.

The press of events post September 11 prevented President Bush from making his originally planned visit to Beijing, but he spent extra time in Shanghai to conduct bilateral discussions with both Russian president Vladimir Putin and Chinese president Jiang Zemin. Both meetings were cordial, but no progress whatsoever was made toward resolution of the long-festering Sino-American disputes over Taiwan, U.S. plans for missile defense, and alleged Chinese missile proliferation to Pakistan. The danger that these differences might soon flare into conflict was, however, significantly reduced by the two sides’ discovery of common interests in combating terrorism.

The punishment of Osama bin Laden and al-Qaeda as well as his Afghan hosts is, of course, the preeminent concern of the United States at present. Al-Qaeda’s training of Xinjiang separatists and Chinese Muslim extremists over the past several years has been of genuine concern to China. Both sides seem to have seen the Shanghai summit as a welcome opportunity to bury the hatchet for now.

Jiang Zemin went to Shanghai in a good mood. His vision of a Communist Party truly representative of the Chinese people, enshrined in the infelicitously titled “three represents” doctrine, had just been overwhelmingly endorsed by the final plenary session of the Fifteenth Party Congress. Reporting on this has tended to focus on the titillating decision to admit capitalists to party membership, including senior party positions. This is a not-unimportant adjustment to new political realities in China, given the extent to which it has changed over the past two decades. (There are now at least sixty Chinese entrepreneurs with personal fortunes of $100 million or more, among them not a few billionaires. Two decades ago there were neither entrepreneurs nor personal fortunes of any level in China.)

But the doctrine’s greatest significance lies in its abandonment of the core Marxist thesis of class struggle in favor of a theory of representative government that recalls Jiang’s favorite speech, Lincoln’s Gettysburg Address. Details for implementing Jiang’s concepts of representative democracy in the Party are being fleshed out at the Higher Party School in Beijing under the guidance of Vice President Hu Jintao, a protégé of the late reformist Party Secretary General Hu Yaobang, and deposed premier Zhao Ziyang. Some of these ideas, including primary elections within the Party, are truly revolutionary.

The fifty-eight-year-old Hu’s recent tour of Europe was carefully staged to show him off to best advantage to China’s huge television audience as Jiang’s designated successor, as well as to give him exposure to Western societies and their leaders that minimized the possibility of political embarrassment. (He has never visited the United States.) Hu Jintao now seems almost certain to be elected to succeed Jiang Zemin as state president next fall and then as secretary-general of the Chinese Communist Party in the spring of 2003.

If so, Hu will inherit an improving prospect for peacefully achieving the reintegration of Taiwan with the rest of China, in the judgment of the Chinese military and civilian officials charged with accomplishing this. Taiwan’s economy is in deep recession and its businessmen are voting with their wallets to join Taiwan financially and commercially to the Chinese mainland. Over a third of new investment by Taiwanese is now directed to the mainland. By some estimates, Taiwan investment across the Strait now exceeds $70 billion. Half a million Taiwanese now make Shanghai and other cities there their primary home.

The island’s politics have fractured, preventing its government from either provoking or responding to Beijing, which continues to stress its willingness to talk about every aspect of the long-term cross-Strait relationship, as long as Taiwan returns to acceptance of the “one China principle”—the premise that talks are between Chinese parties within a single Chinese sovereignty rather than between separate states. Pro-reunification sentiment on the island has risen to substantial levels, though a majority still prefers the status quo (which it defines as an identity separate from China proper).

Taiwan’s government has been compelled to drop its longstanding opposition to direct trade, transportation, and postal links across the Strait, but is unable to satisfy the island’s business community by implementing such links. Pressure on Taipei to re-embrace the “one China” principle in order to open talks with Beijing on cross-Strait links is rising. Domestic pressure on Beijing to use force against Taiwan is declining concomitantly, though military preparations continue apace.

Click here to find more information about Interesting Times: China, America, and the Shifting Balance of Prestige by Chas W. Freeman, Jr.– or to buy the book.