The Celestial Economy

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The celestial economy

By 2030 Chinas economy could loom as large

as Britains in the 1870s or Americas in the1970s

Sep 10th 2011 | from the print edition

IT IS perhaps a measure of Americas resilience as an economic power that its demise is so oftenforetold. In 1956 the Russians politely informed Westerners that history is on our side. We willbury you. In the 1980s history seemed to side instead with Japan. Now it appears to be takingChinas part.

These prophesies are self-denying, according to Larry Summers, a former economic adviser toPresident Barack Obama. They fail to come to pass partly because America buys into them, thenrouses itself to defy them. As long as were worried about the future, the future will be better,he said, shortly before leaving the White House. His speech is quoted in Eclipse, a new bookby Arvind Subramanian of the Peterson Institute for International Economics. Mr Subramanianargues that Chinas economic might will overshadow Americas sooner than people think. He


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denies that his prophecy is self-denying. Even if America heeds its warning, there is preciouslittle it can do about it.

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Related topics Economics Economic crisis Asian economy World economy Chinese economyThree forces will dictate Chinas rise, Mr Subramanian argues: demography, convergence andgravity. Since China has over four times Americas population, it only has to produce a quarterof Americas output per head to exceed Americas total output. Indeed, Mr Subramanian thinksChina is already the worlds biggest economy, when due account is taken of the low pricescharged for many local Chinese goods and services outside its cities. Big though it is, Chinaseconomy is also somewhat backward. That gives it plenty of scope to enjoy catch-up growth,unlike Japans economy, which was still far smaller than Americas when it reached thetechnological frontier.

Buoyed by these two forces, China will account for over 23% of world GDP by 2030, measuredat PPP, Mr Subramanian calculates. America will account for less than 12%. China will beequally dominant in trade, accounting for twice Americas share of imports and exports. Thatprojection relies on the gravity model of trade, which assumes that commerce betweencountries depends on their economic weight and the distance between them. Chinas trade willoutpace Americas both because its own economy will expand faster and also because itsneighbours will grow faster than those in Americas backyard.

Mr Subramanian combines each countrys share of world GDP, trade and foreign investment intoan index of economic dominance. By 2030 Chinas share of global economic power willmatch Americas in the 1970s and Britains a century before (see chart). Those prudentAmerican strategists preparing their countrymen for a multipolar world are wrong. The globaleconomy will remain unipolar, dominated by a G1, Mr Subramanian argues. Its just that theone will be China not America.
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Mr Subramanians conclusion is controversial. The assumptions, however, are conservative. Hedoes not rule out a major financial crisis. He projects that Chinas per-person income will growby 5.5% a year over the next two decades, 3.3 percentage points slower than it grew over the pasttwo decades or so. You might almost say that Mr Subramanian is a China bear. He lists severalcountries (Japan, Hong Kong, Germany, Spain, Taiwan, Greece, South Korea) that reached a

comparable stage of developmenta living standard equivalent to 25% of Americas at thetimeand then grew faster than 5.5% per head over the subsequent 20 years. He could find onlyone, Nicolae Ceausescus Romania, which reached that threshold and then suffered a worseslowdown than the one he envisages for China.

He is overly sanguine only on the problems posed by Chinas ageing population. In the next fewyears, the ratio of Chinese workers to dependants will stop rising and start falling. He dismissesthis demographic turnaround in a footnote, arguing that it will not weigh heavily on Chinasgrowth until after 2030.

Both China and America could surprise people, of course. If Chinas political regime implodes,

all bets will be off, Mr Subramanian admits. Indonesias economy, by way of comparison,took over four years to right itself after the financial crisis that ended President Suhartos 32-yearreign. But even that upheaval only interrupted Indonesias progress without halting it. Americamight also rediscover the vim of the 1990s boom, growing by 2.7% per head, rather than the1.7% Mr Subramanian otherwise assumes. But even that stirring comeback would not stop itfalling behind a Chinese economy growing at twice that pace. So Americans are wrong to thinktheir pre-eminence is Americas to lose.

Bratty or benign?

If China does usurp America, what kind of hegemon will it be? Some argue that it will be a

premature superpower. Because it will be big before it is rich, it will dwell on its domesticneeds to the neglect of its global duties. If so, the world may resemble the headless globaleconomy of the inter-war years, when Britain was unable, and America unwilling, to lead. ButMr Subramanian prefers to describe China as a precocious superpower. It will not be among therichest economies, but it will not be poor either. Its standard of living will be about halfAmericas in 2030, and a little higher than the European Unions today.

With luck China will combine its precocity in economic development with a ploddingconservatism in economic diplomacy. It should remain committed to preserving an open worldeconomy. Indeed, its commitment may run deeper than Americas, because its ratio of trade toGDP is far higher.

Chinas dominance will also have limits, as Mr Subramanian points out. Unlike America in the1940s, it will not inherit a blank institutional slate, wiped clean by war. The economic order willnot yield easily to bold new designs, and China is unlikely to offer any. Why use its dominantposition to undermine the very system that helped secure that position in the first place? In awhite paper published this week, Chinas State Council insisted that China does no t seekregional hegemony or a sphere of influence. Whether it is precocious or premature, China is


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still a tentative superpower. As long as it remains worried about the future, its rivals need notworry too much.

2. The redback abroad

Offshore thing

London wants to become a hub for trading in

the yuan

Sep 10th 2011 |Hong Kong | from the print edition

WHEN the pound sterling reigned as the worlds dominant international currency, the City ofLondon claimed the lions share of the market for sterling bills of exchange, with whichforeigners financed their cross-border trade and investment. After sterling was toppled by thegreenback, London then invented the euro-dollar market, which allowed people to depositdollars and borrow them in an offshore market beyond the reach of Americas capital controls.Londons banks are now readying themselves to profit from the growing offshore market inChinas currency, the yuan.

According to the Financial Times, Wang Qishan, a Chinese vice-premier, was due to giveChinas official blessing to Londons efforts during a visit to Britain this week. The offshorebusiness is still in its infancy, but is growing fast. China now allows yuan to circulate freely

outside its borders, but not across them. Foreigners must earn yuan by selling goods to China or,in some cases, direct stakes in their companies. They can deposit these yuan in banks offshore, orinvest them in offshore bonds, but they cannot invest them on the mainland without thegovernments permission.

The bulk of this offshore business now resides in Hong Kong, where yuan deposits totalled over572 billion (almost $90 billion) in July. All of the offshore bonds launched to date have beenissued in Hong Kong, where they are known as dim sum bonds, after the popular Cantonesedishes. Hong Kong and Macau also host the only two banks outside the mainland that can clearyuan claims with Chinas central bank, the Peoples Bank of China (PBOC).

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European markets British markets The pound Foreign exchange Hong KongPotential rivals, such as London, are unlikely to knock Hong Kong off its perch. The territoryenjoys an inimitable position as an offshore, yet in-country, financial centreits success is even

written into Chinas latest five-year plan. But there is little to stop other financial centrescompeting for a smaller share of the offshore business. In Singapore, for example, banks nowoffer yuan deposits and bond funds. Its central bank is one of a dozen that have agreements withthe PBOC to swap their currencies for yuan. Nigerias central bank hopes to set up a similarswap line; its governor would also like to park up to 10% of the countrys $35 billion of foreign-exchange reserves in the yuan. If China wants foreigners to trade its currency, it cannot be toofussy about where they do it.

London can boast great depth of experience in foreign exchange and a convenient time zone.Now all it needs is a deep pool of yuan deposits, a generous swap line with the PBOC, anenticing menu of yuan securities, and a catchy, local name with which to market them. Egg-fried

bonds, anyone?

3. [email protected].

Privatisation in China

Capitalism confined

Chinese companies, like companies

everywhere, do best when they are privately

run. In China, however, the state is never far

away

Sep 3rd 2011 |BEIJING | from the print edition
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IN 1992 two Chinese cities, one just south of Beijing, the other just north of Hong Kong, were indesperate shape even by the standards of a desperately poor country. Their municipally runcompanies were in danger of bankrupting not only themselves but the cities too. Zhucheng, nearBeijing, was best known as the birthplace of Jiang Qing, Mao Zedongs despotic, doctrinairefourth wife, who died in jail in 1991. Two-thirds of its revenues were being eaten by corporatelosses. Shunde, a small city in Guangdong, was buried in debt.

Meanwhile, the authorities in Beijing were becoming concerned that the state banking system,already creaking under the weight of bad debt, would be unable to bear even more. With thequiet acquiescence of the central government, Zhucheng and Shunde ignored doctrine, old lawsand 40 years of failed policies in search of a better approach.

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Companies Joint ventures Partnerships Beijing ChinaIn a carefully constructed phrase subsequently endorsed, in 1993, by the all-powerful StateCouncil, the two cities engaged in gaizhi, which means changing the system and implies thediversification of ownership. Put more simply, in words that even now the Chinese governmentcannot bring itself to utter, they started to privatise many of their companies. They thus began
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one of the Chinese states first attempts to change its relationship with its enterprises. Jiang Qingwould not have approved.

At first Shunde and Zhucheng turned their firms over to employees. In 1997, again before abroader shift in national policy, the two began selling companies directly to existing

managements. Shunde, in particular, thrived. Two of the companies that emerged, a maker ofbottle caps and a trader of duck feathers, are now among the worlds largest appliancemanufacturers, Midea and Galanz. Other factories have spread like wild flowers among whatwere once rice fields and fish farms.

Early signs of success led to modification of the rules on the ownership of companies. In 1995the State Council endorsed a policy to retain the large, release the small. In 1997 it approved ahuge shift of ownership from the central government to municipalities with the explicit goal ofexpediting privatisations. These changes provided the foundation for the dramatic efforts in thelate 1990s of Zhu Rongji, the then prime minister, that are reputed to have remade Chinaseconomy.

The short version is that Mr Zhu closed thousands of companies and broke the iron rice bowl,a guarantee of living standards for the masses, in an effort to shake China out of economiclethargy. Between 1995 and 2001 the number of state-owned and state-controlled enterprises fellfrom 1.2m to 468,000 and the number of jobs in the urban state sector fell by 36mor from 59%to 32% of total urban employment.

A longer version is that the process involved many more companies and has never ceased, andthat the method has changed constantly. As some companies were transformed or closed, otherswere created, with various forms of state backing. The result has been non-stop experimentationwith incentives and structures.

Privatisation remains a thorny issue in a country where private property became a constitutionalright only in 2004 and where the right to own productive assets remains unclear. Many vibrant,purely private companies have sprung up despite this uncertainty, but take care to stay out of thelimelight. Meanwhile, Chinas various experiments with privatisation have created severalcategories of companies which still have close ties to the state (see table).


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A taxonomy of privatisation

The first category comprises the vast banks and transport, energy and telecoms providers thatwere, and to some extent still are, government ministries. Gordon Orr, chairman of McKinseysChina business, calls this version 1.0 of the modern state-controlled company. Although theseentities have gained a lot of attention outside China, they account for perhaps 1% of privatisedcompanies.

The relationship between the state and most other businesses is less direct and more subtle. Asecond category contains joint ventures between private (often foreign) companies and firmsbacked by the state. A third consists of companies that are largely in private rather than stateownership, but in which the state remains influential nevertheless. Recently another class hasstarted to emerge, in which the state plays the role of a venture capitalist: local governmentsinvest in or create funds that back companies that they hope will bring both jobs and financialreturns.

Start with the behemoths. Most of these huge companies have been turned into vaguelyconventional-looking businesses. They have been restructured, recapitalised and rebranded. Aminority of their equity has been sold to the public and is traded on the stockmarket. They have

recognisable corporate structures with boards of directors, chief executives, chief financialofficers and sundry other chiefs; and they publish financial reports with carefully presentedaccounts and dull letters from the bosses. They are steadily climbing up global rankings, symbolsofChinas growing industrial heft.

However, few contend that they are truly private companies. The proportion of shares issued istypically no more than 30%. They receive subsidised loans from state-controlled banks, they aregiven land cheaply and they usually enjoy a sheltered monopoly or oligopoly. Control by the


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government is never far away. The state appoints their senior managersincluding a CommunistParty committee headed by a party secretary.

Often, say insiders, these companies doings reflect not so much the explicit orders of thegovernment as managers anticipation of what will earn its endorsement. An ambitious

managers career prospects depend on the partys Organisation Department, which overseesofficial appointmentsand company bosses frequently move on to senior jobs in the ministriesthat oversee them. Direct control may have been severed, but rule by inferred commandcontinues.

This model provides the government with continuing control of enterprises critical to thefunctioning of the economy. In particular, it facilitates the execution of big capital projects suchas high-speed railways, steel plants, telecommunications networks and ports.

However, this comes at a cost. There are plenty of opportunities for graft. A close relationshipbetween regulators and operating companies can mean that problems (with safety, as well as

economic matters) are overlooked. The lack of commercial orientation frequently means that toomany employees throughout the company are unproductive. At the top, there are often cushy,well-paid jobs for the children of the well connected. And the commercial and regulatoryprivileges of these companies crowd out private alternatives.

At home, it is hard to argue that any of the really big Chinese firmsthe banks, the telecomsfirms and petrol companiesdraw customers because of any special appeal rather than theirubiquity and a lack of competitors. Abroad, despite their size, they are yet to become the globalchampions that the Chinese government would like them to be, even though the Chinese havesought for many years to learn from foreign corporations. This may be partly because theChinese giants ties to the state limit the extent to which they can imitate foreign multinationals,

with senior managers from many countries.

In the late 1990s John Thompson, then head of IBMs international operations, and somecolleagues attending a conference in Beijing were asked to visit Jiang Zemin, the president ofChina. Mr Jiang asked the IBMers how such a big company was managed centrally. He alsoasked how corporations and the American courts dealt with corruptiona worry, said MrJiang, when Chinese ministries were being privatised. Some months later, Mr Thompson recalls,Mr Jiang asked Lou Gerstner, IBMs chief executive, if the company would play host to adelegation of newly minted Chinese chief executives and some ministers. The group spentseveral days at IBMs executive-education centre in New York state. They then visited otherorganisations to learn more about how American capitalism was run and regulated.

Yet there was an unbridgeable gap between IBM and Chinas behemoths. In most successfulglobal companies, a priority for executives from the home country is to prepare local managerswho may one day accede to senior jobs at headquarters. The company becomes internationalinside as well as out. But because the Chinese giants are still in essence tied to the state, theirleaders must remain Chinese.


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Evidence of how these entities have performed is muddy because so much of their environmentis distorted: for example, given cheap enough money and strong enough protection for theirfranchise, even corporate sluggards can show good profits and return on equity. However, in2006 three Chinese academics began a vast study of the performance of privatised companies,summarised in a recent working paper*. Jie Gan of Cheung Kong Graduate School of Business,

Yan Guo of Peking University and Chenggang Xu of the University of Hong Kong conclude thatthe return on assets and profitability per employee for companies that have undergone partialshare offerings is indistinguishable from those that were not privatised at all.

One driver better than two

The second category offirms, joint ventures, is also small in number (2% of the academicssample). Such ventures involve a bargain between the two sides. Often the private partner is aWestern company hoping to gain access to a huge and growing economy. In return the Chinesegain Western know-how. For the Westerners, this involves obvious risks beyond the usualdifferences of opinion in a joint venture: that they will be pushed aside once the Chinese have

acquired their knowledge.

In carmaking, where there have been several prominent joint ventures, a squeeze-out of theWestern partner was part of the initial plan, says Michael Dunne, a car-industry consultant, andsubtle moves along these lines emerge sporadically. Recently, for example, the government haspushed the Western companies to form indigenous brand joint ventures with intellectual-property and export rights. And at the end of 2009, Shanghai Automotive Industry Corporationbought an additional 1% of its venture with General Motors, gaining majority control.

Ms Gan, Mr Guo and Mr Xu find that, overall, joint ventures have yielded similarly lacklustrefinancial results to the partially privatised behemoths. However, carmaking appears to be an

exception. Early ventures involving Peugeot-Citron and General Motors flopped, but that isnow ancient history. More than 20 ventures are currently in existence and although financialinformation is hard to come by, they seem to be doing well.

This may be because in cars joint ventures have been run more as private companies and less asstate-owned entities, when compared with other industries. An explanation, says Mr Dunne, liesin the incentives of the two sides. The senior Chinese representative, inevitably appointed by thegovernment, is rarely a car person. He brings valuable political contacts and is likely to moveback to a political job eventually. Meanwhile he has little interest in disrupting a venture thatproduces profits and jobs. Foreign carmakers are interested chiefly in the success of thecompany. The two sides interests turn out to be aligned, or at least not in conflict.

These same incentives, says Mr Dunne, also explain why the efforts of the Chinese joint-venturepartners to develop their own brands have yet to produce much success, despite their access toWestern technology, vast resources and political pull. The careers of the Chinese partners aretied to the state, not the car market.

Private management, party influence
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The third group, largely in private hands, contains the most successful privatised companies: thehalf that ended up in the hands of their managers. According to the three academics,management buy-outs have done much better than behemoths, joint ventures or firms privatisedthrough other methods (such as leases or sales to outsiders or employees). This probably hasmuch to do with another finding: that the degree of government control declined most in this

group of companies. In only 1% of these firms did the state have a shareholding of more than20%, against a sample average of 19%. And in only 16% of them did the state have strongcontrol of corporate decision-making, against 31% overall. The state has thus forgoneownership in an effort to achieve better results. It does, however, continue to exert influence,notably through party representatives.

Consider the states involvement with the three Chinese car companies that have done most tobuild their brands: BYD, Chery and Geely. They are still under the states wing, being thought toreceive ample financial help from the provinces where they operate (though much the samecould be said of many carmakers in the West). Their leaders surely would not last if the statedisapproved of them. Yet they are not state-controlled, unlike the behemoths or the Chinese

partners in joint ventures. The bosses are not political appointees but charismatic businessmen inpursuit of commercial goals.

There are similar ventures in other industries: ZTE and Huawei, two telecoms-equipment giants;Lenovo, a maker of PCs, in which the Chinese Academy of Sciences has a large minority stake;and TCL, an electronics firm. The number of companies in this group continues to swell, even ifthey are less well known than these. As a rule, they are in industries designated as strategicnotably anything to do with energy, be it wind, solar or storedand can also be found in medicalequipment, drugs and technology. Such companies benefit from protection against foreignencroachment, research-and-development subsidies, and subsidised purchases from statecustomers. Someone involved with a foreign health-care company says that buyers connectedwith the Chinese state demand such generous termswith payment delayed for up to a yearthat only domestic providers, backed by accommodating credit from state banks, can bid fororders.


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The fostering of successful private companies becomes particularly attractive in markets inwhich state entities have plainly been found wanting. The clearest example is the internet, inwhich Chinas state-controlled news providers and broadcasters have the resources and contentto succeed but have failed to create much of a buzz. From private internet companies, whichwere never state-owned, the buzz is deafening. Their managers have often trained abroad.Competition is rampantalthough foreign companies face impedimentsand quick wits areessential for success. Employees often receive a significant amount of compensation in that most

Western of forms: shares or share options. Many of these companies, because of their listings inoverseas markets, or backing from foreign investors, could technically be considered foreign, acause of some scathing criticism in China.

Yet even these companies depend on the good graces of the state. The Western firms that someof them imitated find obstacles in their way in China. Baidu, Chinas leading internet-searchcompany, profited hugely in the past from being a conduit for pirated Western entertainment.Alibaba, a facilitator of e-commerce, has used Chinese ownership laws to take a large slice ofYahoo!s valuable stake in its electronic-payment company, Alipay. Relations with officialdomare not always smooth. Beijings Communist Party chief recently warned Sina, a social-mediafirm, that it was too slow to delete remarks that displeased the party. And recent programmes on

CCTV, the state broadcaster, have criticised Baidus business methods.

Back to the cities

The success of this third group of companies has encouraged the development of the fourth.Officials in cities and provinces have created hundreds of municipally backed funds to invest inpromising ventures. According to Z-Ben Advisors, a research and consulting firm, the biggest of


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these, CDB Capital, a private-equity fund established only in 2009, has raised 40 billion yuan($6.3 billion) and has a target of 60 billion yuan.

Some of these official investors have brought in foreign partners, including big private-equityfirms such as Blackstone, Carlyle and TPG. Infinity Group, an Israeli venture-capital firm, has

12 funds, ten of which have direct ties to different Chinese cities. Its earliest effort, founded in2004 with money from the Israeli and Chinese governments and private sources, has had muchsuccess creating companies combining Chinese manufacturing and Israeli technology.

In theory, making the state into a purely financial investor rather than an operating partner, as inShunde and Zhucheng 19 years ago, should be beneficial: entrepreneurs, not bureaucrats, run thebusiness. Practice is rarely so neat. Cities back companies that provide local jobs. That affectsacquisitions and disposals, where factories are built and where research takes place. Worse,Chinas private-equity industry has become another lucrative billet for the children of powerfulofficials.

It is also troubling that little is disclosed about the operations and returns of these public funds.Many may be managed cleverly and provide money for municipalities and jobs for their citizens;others, though, may turn out to be financial black holes. Equally troubling, they receivefavourable attention from local governments, to the disadvantage of Chinas most dynamicsector, its truly private companies.

Taken collectively, these iterations of state engagement reflect how Chinas government has notonly held on to economic control but found subtle ways to extend it. At the very least, theyconstitute an important series of large-scale economic experiments with implications for Chinaseconomy and, because of Chinas size, the worlds too. Some may see in this a path to follow.China has come far since the trials in Shunde and Zhucheng, but the state has always controlled

the itinerary.

4. Economics focus

Krugman's conundrum

The elusive link between trade and wage

inequality

Apr 17th 2008 | from the print edition


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Illustration by JAC

THIS paper is the manifestation of a guilty conscience. With those words, Paul Krugmanbegan the recent presentation of his new study of trade and wages at the Brookings Institution.Mr Krugman, a leading trade economist (as well as aNew York Times columnist), had concludedin a 1995 Brookings paper*that trade with poor countries played only a small role in America'srising wage inequality, explaining perhaps one-tenth of the widening income gap between skilledand unskilled workers during the 1980s. Together with several studies in the mid-1990s that hadsimilar findings, Mr Krugman's paper convinced economists that trade was a bit-part player incausing inequality. Other factors, particularly technological innovation that favoured those withskills, were much more important.

At some level that was a surprise. In theory, although trade brings gains to the economy as awhole, it can have substantial effects on the distribution of income. When a country withrelatively more high-skilled workers (such as America) trades with poorer countries that haverelatively more low-skilled workers, America's low skilled will lose out. But when the effectappeared modest, economists heaved a sigh of relief and moved on.

In recent years, however, the issue has returned. Opinion polls suggest that Americans havebecome increasingly convinced that globalisation harms ordinary workers. As a commentator,Mr Krugman has become more sceptical. It's no longer safe to assert that trade's impact on theincome distribution in wealthy countries is fairly minor, he wrote on theVoxEU bloglast year.There's a good case that it is big and getting bigger. He offered two reasons why. First, more ofAmerica's trade is with poor countries, such as China. Second, the growing fragmentation of

production means more tasks have become tradable, increasing the universe of labour-intensivejobs in which Chinese workers compete with Americans. His new paper set out to substantiatethese assertions.

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For whom the tolls swell Still vulnerable
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Clearing the fog Beware grannies on Facebook Crude estimates Lion cubs? Krugman's conundrum

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Globalisation and the rise of inequality: Rich man, poor manJan 18th 2007

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Economic Inequality China Poverty Politics AsiaThat proved hard. Certainly, America's trade patterns have changed. Poor countries' share ofcommerce in manufactured goods has doubled. In contrast to the 1980s, the average wage ofAmerica's top-ten trading partners has fallen since 1990. All of which, you might think, wouldincrease the impact of trade on wage inequality.

But by how much? If you simply update the approach used in Mr Krugman's 1995 paper to takeinto account today's trade patterns, you find that the effect on wages has increased. Josh Bivens,of the Economic Policy Institute, a Washington, DC, think-tank, did just that and found that tradewidened wage inequality between skilled and unskilled workers by 6.9% in 2006 and 4.8% in1995. But even with that increase, trade is still far from being the main cause of wage inequality.Lawrence Katz, a Harvard economist who discussed Mr Krugman's paper at Brookings,estimates that, using Mr Bivens's approach, trade with poor countries can account for about 15%of the growth in the wage gap between skilled and unskilled workers since 1979.

Even this is almost certainly an overstatement. Many imports from China have moved up-marketfrom easy-to-produce products, such as footwear, to more sophisticated goods, such ascomputers and electronics. As a result, to use economists' jargon, the factor content ofAmerican importsin effect, the amount of skilled labour they containhas not shifted

downwards. Mr Katz says factor-based models suggest trade with poor countries explains only5% of rising income inequality.

Mr Krugman argues that the effect is bigger, but that import statistics are too coarse to capture it.Thanks to the fragmentation of production, Chinese workers are doing the low-skill parts ofproducing computers. Just because computers from China are classified as skill-intensive inAmerica's imports does not prevent them from hurting less-skilled American workers. MrKrugman may be right but, as he admits, it is hard to prove.
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Blame it on the rich

Robert Lawrence, another Harvard economist, has looked at the same evidence and reached

rather different conclusions. In a new book, Blue Collar Blues, he points out that the contoursof American inequality sit ill with the idea that trade with poor countries is to blame. Once youmeasure income properly, the gap between white- and blue-collar workers has not risen thatmuch since the late 1990s when China's global integration accelerated. The wages of the leastskilled have improved relative to those in the middle. Some types of inequality have increased,notably the share of income going to the very richest. But there is little sign that wage inequalityhas behaved as traditional trade theory might suggest.

Mr Lawrence offers two reasons why. One possibility is that America no longer makes some ofthe low-skilled, labour-intensive goods that it imports. In those goods there are no domesticworkers to lose out to foreign competition. Second, even when America does produce something

that is imported from China, it may make it in a different way, with more machinery and only afew high-skilled workers. If imports from China and other poor countries compete with more-skilled American workers, they may displace workers but will not widen wage inequality.

Given the lack of fine-grained statistics, none of these studies settles the debate. It is possible thatglobalisation is becoming a bigger cause of American wage inequality. But contrary to the toneof the political debate, and the thrust of Mr Krugman's commentary, the evidence isinconclusive. How canwe quantify the actual effect of rising trade on wages? Mr Krugmanasked at the end of his paper. The answer, given the current state of the data, is that we can't.

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