The Elephant and the Dragon

The Elephant and the Dragon, The Rise of India and China and What it Means for All of Us
by Robyn Meredith

W. W. Norton & Company Ltd., 2007
ISBN 978-0-393-06236-6
(hardcover)
1. India - Economic conditions - 21st century. 2. India - Foreign
economic relations. 3. China - Economic conditions - 21st century. 4. China -
Foreign economic relations. 5. United States - Economic conditions - 21st
century. 6. United States - Foreign economic relations. 7. Globalization.

China and India both recently ended some of their control over their economies and caused one of the world’s most spectacular reductions in poverty. How they did it and how we need to respond is the focus of Robyn Meredith’s The Elephant and the Dragon, The Rise of India and China and What It Means for All of Us. Mao’s China was centrally managed, egalitarian and a basket case. Upon Mao’s death, Deng Xiaoping, in 1978, gave control of the communal farms to the families living on the land. Johan Norberg, in In Defense of Global Capitalism, called this the largest privatization in history. There was no foreign aid and no help from the World Bank. Simple farmers, making 4 cents a day, demonstrated to the world that freedom could transform their lives. The financial success of those farmers led to China’s general acceptance of capitalism. Under the socialist and nationalist principles established by Mahatma Gandhi and Jawaharlal Nehru, India was a very controlled economic mess. By 1991, India was in total crisis. The government was broke and the economy was stagnant and uncompetitive. The response was clear cut. In a short time, the government reduced income taxes, partially ended the "license raj" and reduced other business regulations. The result is being described as the third industrial revolution. Meredith quotes India’s former finance secretary who poignantly stated: "We got more done for the poor by pursuing the competition agenda for a few years than we got done by pursuing a poverty agenda for decades..." But India’s and China’s industrial revolution means competition for American business and waives of outsourcing. Protectionism would be a disaster like it was during the Depression and for jobs in Europe today. Meredith suggests we come the aid of those who lose their jobs and follow a program to increase innovation. The details are important.

We know that China transformed its country from a communist egalitarian land of abject poverty to a capitalist economy of growth and hope. But the analysis is hardly that easy. Those who want to promote big government will say that China spent huge sums of money building infrastructure and subsidizing job creating businesses. They built airports, roads, ports, power plants, electric grids, etc. It worked. But many countries have spent large sums on infrastructure and did not achieve the same miracle of poverty reduction. Spending on infrastructure is necessary but it may not be the key to successful economic growth. Mao spent money on infrastructure and factories but the economy crumbled. Next, you have to ask whether it is the correct infrastructure. Meredith struggles with China’s "massively inadequate cargo capacity," the brown outs and the "epic traffic jams." If private owners had built ports, rail lines and toll roads would the infrastructure have been better? Furthermore, the money for infrastructure doesn’t grow on trees. The Chinese government owns 47% of all businesses. Meredith doesn’t tell us what accounting system they used. Can the government simply spend the profits or revenues for anything they want? China is getting the money from somewhere. Obviously they may be "reallocating" capital based upon their political decisions of what they think is appropriate. There isn’t an economist in the world that will tell you that government can allocate capital as efficiently as an open private market. Did China lose out of substantial growth by shifting capital from its highest and best use to government selected projects? Lastly, and the most obvious, is the fact that China’s miracle growth occurred because they opened their system to incentives. The people were permitted to get rich. They started business after business with the single hope of getting very wealthy.

It is only when you read a list of government intrusions that you can comprehend how far India had gone toward central control of the economy. They had huge import taxes; permission to import a simple computer took up to 2 years; citizens were not allowed to exchange rupees for dollars; there were price controls; anti-monopoly laws limiting the size of all businesses; job guarantees required employers to pay salaries even if the company failed; income tax rates were as high as 56%; the "license raj" maintained almost total control over starting and operating all businesses; the government privatized industries including banking, airlines and oil; foreign investors in local companies had to be majority owned by Indians, and the government set price and quantity for issuance of IPO stock issuance. As a result of these policies, economic growth was anemic and the poor failed to advance.

In 1991 during the government’s financial crisis and in order to obtain loans, freedoms were expanded and tax rates were reduced. However in contrast to China, India did not do massive improvements to infrastructure. Therefore business built its own high tech infrastructure. India became the back office to corporations of the world. They took phone calls, did transcriptions, accounting and wrote computer code. The creation of just a few million jobs has bred optimism. Even some of the untouchables believe in their own futures.

The intricacies of politics in India requires each law to be designed for the benefit of the poor. For example, in 2004 the incumbent leader lost the national election even though the economy was doing well. There was an appearance that some were doing well and many were being left behind. The political situation required "equitable growth." Note that prior to the 1991 reforms, India had nationalized the phone companies to "help" the poor. In the process they made it impossible to obtain a phone; made the phones inferior, and in the end only the wealthy could afford a phone if it worked. When they returned to freedom to the market, cell phone companies from around the world started selling inexpensive state of the art cell phones to the masses. Freedom helps the poor.

How we respond to growing competition from India and China is the crucial focus of the Elephant and the Dragon. It helps to know what we are up against. They have low wages; their employees are learning on the job, they are closing the technology gap, and they are hungry and motivated to succeed. With China’s new found infrastructure and technology, Adam Smith would have marveled again at their specialization. The "disassembly line" consists of small companies specializing in the manufacture of individual parts which are then shipped to several other factories, which eventually produce the final item. Even with all those transportation costs, the final price is lower than ours. India no longer has a brain drain. Their highly trained people are coming home to start their own companies. The greatest problem for their new companies is how to train their employees fast enough. Manufacturing jobs and backroom corporate functions are clearing moving to China and India.

We must reinvent ourselves and prepare to compete. These are great ideas, but isn’t that what we have been doing amongst ourselves since the beginning of the Industrial Revolution? It is virtually impossible to think of a service or product that hasn’t changed constantly over the years. We don’t use sailing ships. Hand tools have changed a thousand times into robotics. George Washington was subjected to "bleeding." Today they perform surgery with minor incisions. Americans and American industry have competed in the past and should be able to do it again.

What we don’t need are protectionist policies. Europe protects jobs, which begets unemployment when employers refuse to hire. Certainly we learned something from Smoot-Halley tariffs, which ground foreign trade to a halt during the Depression. Too many Americans have a sense of entitlement to a job that pays 10 times more than others around the globe.
Meredith discusses the various solutions to our new found competitors. She mentions public education, thinking long term, basic scientific research, research and development and promoting innovation. But there is also a discussion of helping those employees who have lost jobs because of China and India. Her suggestions include private saving, government safety nets, retraining, business set asides, and life long learning accounts. Each of these ideas deserves a thorough debate but did not receive one in this book. There is virtually no recognition given to the power of free individuals to respond to financial incentives.

Meredith’s conclusions are startling. What is good for China and India does not seem to be good for America. The biggest change there was from socialism to capitalism. Yet twice in the book she says, very clearly, that free market systems are not our solution. Millions of people were removed from poverty in Asia but freedom, she says, does not work. The Chinese government did not think up the "disassembly line." Sure it created infrastructure but so did Mao. So did East Germany; so did the Soviet Union. How can someone study two of the great transitions from central planning to human freedom and conclude that government operations and government expenditure are our savior? It often seems tragic when a company collapses and the employees lose their jobs but the real story is their persistence and the innovative new companies they create.