Justin Lin: The future of U.S-China economic relations

>> Susan M. Collins: Good afternoon everybody and welcome. And a very special welcome to our special guests. And I will so some introductions in just a moment. Please be seated. I'm Susan Collins the [inaudible] while dean here at the Gerald R. Ford school of public policy, and it's really wonderful to see so many of you here for our special program this afternoon. Before we begin I would like to acknowledge our co-sponsor, the Lieberthal-Rogel Center for Chinese Studies and its director, Mary Gallagher. And we're delighted to have you here with us. And I know there are a number of affiliates of the center who are here as well, welcome. Our special guest today is the Lieberthal-Rogel Center's distinguished visitor, Professor Justin Yifu Lin. We're so pleased to have you here at the university and also to welcome you to the Ford School, it's great to have you here.

[ Applause ]

Well Justin Lin is a man of many firsts. He was the first from a developing country or emerging market economy to hold the World Bank's top economist position. He was also one of the first in his generation from the People's Republic of China to earn a PhD in economics from an American university. As a young man, he left Taiwan, his birthplace, to cast his lot with China, which was then on the brink of economic reform and modernization. The University of Chicago taught Justin Lin to approach economics with a scientific method and a focus on hypothesis testing rather than ideology. And when he returned to China he brought this approach first to his teaching for many years at Peking University and later as a key advisor to the state council of China's cabinet. He served as founding director to the very influential China Center for Economic Research, a top government think tank based at Peking University. And Robert Zoellick 2008 and appointed him as the World Bank's chief economist. His tenure there advanced what he labelled the new structural economics, which was informed by very successful growth experiences in many Asian countries. And this approach really promotes economic growth through a portfolio of policy choices that combines a key role for markets and allocating scarce resources with a strategic targeting of government resources based on a country's comparative advantage. And that approach broke with what many saw as the World Bank's prior alliance on the so-called Washington Consensus that prioritized in, you know, classical approach with very little role for strategic targeting. Well China is now the second largest economy in the world after the United States and is navigating a growth slow down. The question for today's conversation, what's next for US, China economic relations is a really critical one, not just for the US and China but globally. Dr. Lin is especially well placed to provide both a substantive and very insightful prospective. Next I would like to very briefly introduce my colleague, the director of the Ford School's international policy center, associate professor John Ciorciari. And I'll refer you to his bio in the program and simply say that it's because of his very deep expertise in a range of foreign policy issues that we have selected him as host for today's conversation. For today's event, we will follow the conversation format that's often used at the council on foreign relations. And so, John will kick things off with a series of questions and after about 30 minutes of their conversation he'll open up to questions from the audience. So, beginning at around 4:40 members of our staff will be walking the aisles to collect question cards that you should have received when you came in, there's certainly an opportunity to get additional cards if you would like them. And professor -- Ford School professor and Lin together with Ford School Students Maisy Lee [assumed spelling] and Jennifer Chang [assumed spelling] will facilitate the question and answer session. For those of you who are watching online please send us your questions via Twitter using the hashtag, policy talks. And now please join me in a very warm welcome to Justin Lin and to John Ciorciari.

[ Applause ]

>> John Ciorciari: Professor Lin, thank you so much for joining us at the Ford School, we're delighted to have you here today. And as Dean Collins mentioned I'd like to start off with some framing questions and conversation to get some of the key issues on the table. What I would like to do is start with a soliciting of a few of your thoughts on the general state of the Chinese and US economies. And then, talk a bit about some of the key areas in which they interact, trade, currency, and development policy or finance. And then, of course we'll turn to what I'm sure will be a good set of questions from the audience. So, let's start with the state of the Chinese economy. After this remarkable prolonged period of growth China's economy's still growing well at about six and a half percent. But like all economies it faces challenges, which has led some analysts to [inaudible] a hard landing. I want to ask you first about some of those challenges in then turn to some bright spots and opportunities. One of the challenges is how to -- is how to maintain growth in this environment of weaker global demand for exports, which have been such important contributors to Chinese growth over the years. The Chinese government, as you know, has set stronger domestic consumption as a goal for many years and recently announced some short-term measure that it will use to spur consumption in the near term. I want to first ask you whether you agree with that as the appropriate near term goal for Chinese policy and then, whether or not you think that the recent measures announced are appropriate ways to try to spur consumption in the months ahead.

>> Justin Yifu Lin: The first one is that China's economy has been dissipating since 2010. And you know that the average annual growth rate from 1979 to 2015 was 9.7% and last year the annual growth rate was 6.9% and it was lowest since 1990. And not only was it lowest since 1990 it was the first time for China to experience it. Six years of dissipation. Because as American the average annual growth rate in the past 37% years was 9.7%. Certainly, does not mean that China grew at a 9.7% per years, there was some fluctuation. Sometime higher than 10%, sometime lower than 10%. But in the past the growth rate will -- would have rebounded up to two or three years of dissipation. This time it was six years already. But the [inaudible] is still very large. And as you know that China's government just announced the growth rate in the several quarters of this year it was 6.7%. The first quarter, 6.7%, second quarter, 6.7%, and the third quarters -- the 6.7 was a substantial government support in August and in September. And [inaudible] there's a lot of this [inaudible], Greater China is going to have [inaudible] very much depends on the understanding of the reason for the dissipation in the past, now almost seven years. For most people, they argued that the dissipation was amended due to domestic, structural, the growth pattern, and so on. It's internal rooted, including what you mentioned, that China should have [inaudible] from a [inaudible] net gross to consumption net gross. But to me, yes China is a transition economy. China, it's a developing country. China certainly has many, many structural problem. Development, [inaudible] so there's those kind of problems there. But to me China paid cost for those problem. However, the main reason for this dissipation is external and that's [inaudible]. And why I'm so confident to say the main reason for the dissipation is external and is [inaudible] because we can see other emerging market economies. They're at a [inaudible] in China. They also have a similar pattern of dissipation. And that dissipation, it's even sharper than China. For example, 2010 the growth rate in China was 10.6%, 2015, 6.9%. But for [inaudible] 2010, the growth rate was 7.5% and in 2015, negative 3.8%. For Russia, 2010, 4.5%; 2015, negative 3.7%. Similar deceleration, and much sharper than China. India, 2010 its growth rate was 10.3%. China, 10.6%. 2015, 7.6% -- seemed to be higher than China, but the pattern was similar, deceleration. And if we look into the reality in India, actually 2015 the growth rate was higher than China for two main reasons. One was in 2012 its growth rate dropped from 10.3% down to 5.1%. China from 10.6% down to 7.7%. So their deceleration was much sharper. And as a result there must be some rebounds. Secondly we know that at the end of 2014 India adjusted its statistical method, and that adjustment allowed India to have one percentage higher in its growth rate. So if you took those two considerations into [inaudible], India's growth rate in 2015 was lower than 7%, like China. And they did not have the similar problem, some people say the deceleration in China was due to the [inaudible] in China was still so heavy. They did not have the [inaudible]. Some people refer to the deceleration was China invests too much. But all the other countries I mentioned, their investment was not large, but they have similar pattern. And that the best way to prove my position is to look into other East Asian high-income, high-performing export-related economies. For Singapore, 2010 its growth rate was 15.2%, and last year, 2%. Sharp deceleration. Korea, 2010 it's growth rate was 6.5%. In 2015, 2.6%. Again, sharp deceleration. They are high-income, high-performing economies. They are not supposed to have those structural problems, as we, you know, refer that in China. But they had exactly a similar pattern. So the only way to explain how come this group of economies, no matter their emerging economies or their high-income, high-performing economies. They all have a similar pattern. And not only -- so they all continue to drop. For example, most likely Singapore this year is going to have negative growth rate. So the only way is external, because high-income country has not recovered, and the trade has been slowing down sharply internationally. And also in 20 -- 2008 ever country adopts a certain kind of counter [inaudible] interventions to support investment now up to six, seven years, those kinds of projects completed, but global economy has not completed. Unless you have a larger run of government-supported investment, investment growth will drop. So I think that those are the main reasons. And understanding that will put us in a better position to understand whether China is going to have a soft ending or hard ending.

>> John Ciorciari: Okay, I mean, it's a convincing case that you make about the global environment. Clearly there's -- there are external pressures on the Chinese economy. But the question remains how to respond to those.

>> Justin Yifu Lin: Yeah.

>> John Ciorciari: And one of the possible responses -- and they're not mutually exclusive -- is to try to stimulate consumption. And another one, which I'll get to next, is investment. But coming back to consumption for a moment, are the recent plans announced by the Chinese government -- is that sufficient, in your view, to generate the necessary consumption over the coming months?

>> Justin Yifu Lin: Yeah, that -- you know, it has been a popular view if China wants to sustain its growth, China should switch from investment that grows to consumption that grows. For that I disagree. Consumption is very important, but if we want to make consumption as a driver of growth, what should be the precondition? Income needs to grow continuously. If household income does not grow, and only household consumption increased, what would be the result? It's an open invitation of crisis. It's a recipe for crisis. And under the current situation, certainly increase in consumption is desirable, but we need to increase household income first. How do we increase household income? We need to raise the productivity first. What's the way to raise the productivities? We need to have a technology innovation in additional industries. We need to have industrial upgrading so we can relocate resources from low-volume [inaudible] sectors to high-volume [inaudible] sectors. Both technology innovation and industrial upgrade require investment not only in the production sectors. We need to rethink the transaction costs during the process of economic [inaudible]. And many related to the infrastructure. So you also need to make investment in infrastructure. All those things require investment. Only by investment you can ensure the productivity continue to grow. And with the growth of the productivities, certainly household income will increase, consumption will increase. Many people criticize that investment in China has been too high. But they forget household consumption in China has been increasing rapidly, each year around 8%. And especially during those years where it's high-investment the household consumption increased even further, you know, from 8%, to 9%, to 10%. So I don't think that, you know, investment is an issue. I think the issues are whether we can help with investment in area which I described, technology innovation, industrial upgrading, further improvement of infrastructure. And for me, China still has plenty of op for making those kinds of investments. Fundamentally, China is a developing country. The sector that China currently occupies in general are low-value and middle-range technology, middle-range value-added. China can still do industrial upgrading. China can still do infrastructure investment. And those kinds of investment will generate job income to the households, support the, you know, consumption growth. So I think that the issue is not investment growth. The issue is whether China has good investment opportunity. And from my study, China still has plenty room for good investment opportunities.

>> John Ciorciari: Okay, you've anticipated my next question, which is how to make that high level of especially government investment effective. And related to that, a number of -- by a number of metrics, China's investment has been less efficient in recent years than it had been in the past. And it may be a natural process in the course of development, but I wonder if in addition to sharing with us the ideas that you just did on what are some opportunities for productive investment, are there reforms that you think need to be made to make some of the existing investments more effective in the SOEs, and the so-called old economy, and so forth?

>> Justin Yifu Lin: I think that [inaudible] that there are some pretty good studies to show the return to investment in China has been slowing down. And people think it's alarming. And now for me, those kinds of studies did not, you know, put the cyclical business cycle into the consideration, because now we are in the global business cycle. And certainly because of demand globally reduced, and certainly you have some kind of exit capacity in the economy. And under this consideration with the exit capacity [inaudible] investments, incentive has been repressed. And under this consideration, it should be a good opportunity for the government to making investment in infrastructure. And to make investment in infrastructure, you know, first especially for a developing country like China, there's still bottleneck in infrastructure, you know, environment protection. Those kind of investments can release the bottleneck of the growth. And as -- and especially those kind of investments in general private sectors will not have the incentive to make. And so the government should be responsible for the infrastructure for the environment. And if the government should be responsible for that, what will be the best time to make those kind of investments? Under the downturn in the business cycle would be the best time. The reason to make investment in a downturn is because, first, it creates jobs, reduce the need for unemployment benefit, and opportunity, of course, to making those kinds of investments would be lower. Secondly, the raw material -- the consumption material during the downturn will be cheaper. And so you make those kinds of investments, the best time is to do the investments during, you know, sometime like now. But those kinds of investments in general are long-term, and by definition their return will be lower. If their return is not lower, private sector will do that already. And so you basically have government responsibility, and the return will be lower. And even the statistics show the return to investment is lower. But it's best time to do it And so if we understand this dynamic is to stimulate private sector investment, the most important thing is to increase the comfort [inaudible] of the private sector for the future of the Chinese economy. For the private sector, whether they are going to make investment or not very much depends on their prospects above those interests. And as -- that's a reason why I started with my intervention to understand what is the cause for destroying done in the Chinese economy? Because if you think those [inaudible] done in the Chinese economy as many internal structures, then you've got to be very pessimistic, because to make adjustment in the economic structure it's very difficult. Everyone understands U.S. economy needs to have structural reform. European economy has to structural reform. Now it has been eight years. Structural reform has not been in place. Japan, you know, everyone knows they need to have structural reform, so Abe, you know, after he took office he wanted to carry out structural reform. And so Abe has Abe-nomics [sic] have three [inaudible]. And the last one is related to the structural reform, but it has not been implemented yet. And so if you think of the slowing down is mainly structural, then you've got to be very pessimistic. And if people [inaudible] think that it's structural, they are pessimistic. They are not going to make investment. So it's very important to understand the true causes. Understand, yes, we have some structural problems, but the main reason for the deceleration is cyclical. And as cyclical, the government needs to have interventions. And therefore, China, we still have many good opportunities for making interventions, because we still have many structural -- we still have infrastructure deficit in China, environmental deficit in China. And those are good investment opportunities. It has -- those kinds of investments will have high economic return and social return. And China is still in a very good position to make those kinds of investments because government debt as a percentage of GDP is only 57%. And Chia's debt, actually the net is much lower than that because in other countries the government debt was used to support consumption. In China the government debt were used for to make investments. So but that's a real asset, net debt is much lower than that. And so that gives the opportunity for China to expand its debt to support the investment. And as long as we support the investment, then the economic growth will be maintained. And if the government -- you know, the economic growth rate maintained, the private sector has another business opportunity there. They will have more confidence. So for that -- I think that, you know, if we truly understand that, conveying that message, then I think the private sector will have more, you know, ideas, more [inaudible] to make investment. And that will generally support the growth target that China, you know, hopes to achieve, 6.5% and above. And for that I have no doubt that China will be able to achieve.

>> John Ciorciari: Okay, one other thing that is a concern arising from high levels of investment and debt is the possibility of a housing bubble, which has been frequently discussed.

>> Justin Yifu Lin: Yeah.

>> John Ciorciari: And also the possibility that as non-performing loans pile up in the banks, that there could be some form of financial crisis.

>> Justin Yifu Lin: Yeah.

>> John Ciorciari: How concerned are you about those contingencies, and do you think the government is taking the right steps to address them?

>> Justin Yifu Lin: Those two sectors, we need to pay high attention that. High leverage in the corporate sectors, in the government sectors, certainly we need to pay high attention to that. But the key issue is that whether they were turning into some kind of systemic crisis. For that I'm quite sure they will not. The main reasons, the first one is that high leverage of corporate sectors, the government debt is quite low, household debt is quite low, and the corporate debt in China is high. But corporate debt has some kind of secret consideration, because we know China is a [inaudible] financial system. Corporate system borrows to make investments, and before they realize their revenue, they are going to have high leverage. And then if you look into the Chinese economy, now the sectors in which you have alarming, high corporate debt are the sectors in the construction materials sectors, steel, cement, [inaudible], and grasses. They're all related to construction materials. And so that's the reason why I think it's very important for China to suppose the physical expansion to engage in infrastructure investment, because they have created the demand for those kind of construction materials. And as long as the demand in that kind of sectors being maintained, profitability in that sector will be maintained and they will be able to pay back their debt, then reduce the corporate, you know, leverage. And this was something I'm arguing in the past, you know, years and months. And the evidence supports me. For example, I mentioned the last -- the third-quarters. In July the investment reduced a lot, so people talked a lot about excess capacity, high corporate leverage. And if the government, you know, increased its investment in August and September, [inaudible] the excess capacity situation turning into [inaudible], and the prices of, you know, cement, and steel, and coal increase. And they become profitable. Once they become profitable, [inaudible], right? So that is some sectors that we need to pay attention to, but as long as we maintain reasonable high growth rate, then they will be able to repay the debt, and they will not turn into a crisis. That's one difference. Secondly, it will not be a crisis, it's also because all the debts are in Chinese currencies. As long as it's in China's currencies, even some bank might have some problem, but the government can easily come to rescue, right? And so the government will have the ability to meet this kind of sporadical [sic] challenges in certain areas, even if that kind of situation occurred. And I think that most likely they will not occur. And so for this area we need to pay attention to, but it's not, you know, so scary as some people describe. That is for the corporate debt. Then the housing bubble, and so for that is [inaudible]. To me, housing sectors [inaudible] sectors all continue to be the pillar industry in China for two reasons. The urbanization rate in China is 56% of the population. To become a high-income country in general, the urbanization rate will exceed 80%. So China is still in the urbanization process. People will continue to move from the rural areas to urban areas. As long as they move to the urban areas they need to have housing. And so we need to have continued housing construction. Second, income in China still increases very rapidly because even China maintains 6.5% growth rate, population growth rate in China is only 1/2%. And so that means household income will increase over 6% per year. About every 11 years the income will double -- household income will double. And under the condition with higher income, they would like to have a larger house. They'd like to have a better house. For these two reasons, I think that in our construction in the real estate will continue. There will be [inaudible] of investment in China's country and our city. But certainly, housing -- real estate not only for the purpose of living. People use that as a way for speculation. And so that speculation can cause some trouble. China needs to pay attention to those. And you can see the Chinese government adjust their policy when the housing price increases too rapidly. But whether it will be a bubble or not, that's very hard for me to predict. Twenty years ago I already say housing price in China is too high. And if I do not convince the housing price in China was too high 20 years ago, I would be billionaire now.

[ Laughter ]

>> John Ciorciari: So you've shared a number of thoughts on challenges China's economy is facing, and also some opportunities and ways the government can manage it. I'd like to turn very briefly to the U.S. and ask you a similar question of what you see as sort of the principle near-term vulnerabilities in the U.S. market that are of concern to China. And then in the sort of medium-term what are a couple of the key structural barriers that you see to sustain U.S. economic growth?

>> Justin Yifu Lin: Yeah, well, U.S. economy certainly still is the largest economy, measured by market exchange rate. And the growth in the U.S. will be very important not only for the U.S., but also for the world. U.S. is the largest importers in the world, and if U.S. can maintain the growth, then the market for the export in the world will be larger. And so it's very important, you know, for the U.S. and for the world. And the issue is that U.S. used to grow at about 3.5%. Now even after almost eight years the growth rate in the U.S. is only about 2, 2.5%. And so whether the U.S. will rebound back to the 3.5% will be crucial. And how come after eight years the U.S. economy has not fully recovered? When I was in the World Bank, many people at that time argued. If you look in the past experiences, any crisis originated from high-income countries, it will last only from three quarters to seven quarters. And now it's almost eight years. So you know, the reason why the U.S. economy has not fully recovered is because of you have not really carried out the necessary structural reform. And how come the structural reform is so hard? Because structural reform, if you carry that out in the long run, good for the economy, increase your competitiveness, increase your resilience. That certainly should be good. But in the short-run, in general, structural reforms are contractionary. And they will pull down the economic growth rate. It will raise the unemployment rate. And politically it's very hard to carry out. But is there a way to carry out structural reform? If you look into the financial crisis in other countries in the world in the past, because in the past mostly the crisis occurs in developing country, and then when they have the crisis they come to the IMF for rescue, and the IMF will recommend three policies. The first one, structural reform, with that extending structural reform is contractionary, and you already have very high unemployment rate. How to carry out that? The second one is [inaudible] evaluation of the currency to increase the export. And the export increase for create a job, upset the contraction of the structural reform, and so they can carry out a structural -- create the room for structural reform. And it's our policy, certainly, to give some kind of fund to weather through that period. But this time it's hard to used devaluation as a way to create the space for structural reform because the crisis hit all the high-income countries. And a high-income country, they are in the similar stage as the Romans. Their production and structural are similar. Their export markets are competing with each other. And under this kind of situation, if U.S. wants to use devaluation to create a space for structural reform, you are going to do a competitive valuation in Eurozone, in Japan. What the Eurozone wants we have, you know, devaluation as a way to compete -- to create a space for structural reform. U.S. will have a competitive devaluation. So we're in a deadlock. And under this kind of situation we need to have a [inaudible]. We need to have a new, innovative way to make the structural reform in a high-income country visible. And that requires political leadership, requires vision. And if we do not have those kinds of visions of political leadership, I am afraid. The scenario in Japan could be a scenario in the U.S. It's not good for the U.S. It's not good for the rest of the world.

>> John Ciorciari: I want to tease out a little bit of your argument. When you were characterizing the causes for China's slower growth you emphasized the external pressures on the economy, but with the U.S. emphasizing sort of shortcomings in domestic structural reform.

>> Justin Yifu Lin: Yeah.

>> John Ciorciari: To what extent do you think that external factors are also responsible for the slow-down in the U.S. growth?

>> Well, certainly we are in a [inaudible] cycle, right. When -- because the crisis started in the U.S., you know, high-income countries -- the slow-down started to happen in a high-income country, and so the export that was hit. And a high-income country has not fully recovered. So the growth of export in the [inaudible] world were suffering. We know that before 2008 the global -- the trade growth was more than twice as high as the GDP growth in the world. For after 2008, now first the [inaudible] GDP had growth, but it has been reduced. But the [inaudible] growth now is lower than the GDP growth. For example, beginning of this year, WTO predicted this year's trade growth would be about 2.8%. But now the [inaudible] will revise that to 1.7%. Sharply reduction in the trade. And certainly, you know, the income in a high-income country has not recovered. Contributes to the reduction in the export from the developing world. And then because the reduction of the export in the developing world, their growth rate dropped, and that reduced their demand for import from high-income countries. So we are in some kind of vicious circle. But if you try to trace what will be the roots, because that we know developing countries recovered quite well after 2008 and '09. After 2009, most developing countries have recovered to their pre-crisis growth. But because high-income countries have not recovered, and the trade growth has been substantially reduced -- and that was the main reason for the developing countries to be unable to maintain their growth momentum. So you know, I -- it's not I want to point the fingers, but the statistic analysis, you know, advise me, unless the high-income countries fully recover, otherwise not only the high-income countries will suffer. The developing countries will also suffer. Fundamentally, high-income countries still contribute more than 50% of global GDP. They contribute to about, you know, more than 2/3 of global demand. It acts -- in trade.

>> John Ciorciari: And your comment about a slower rate of growth of trade, bringing me to the next topic I want to ask you about, which is the Trans-Pacific Partnership. As our audience members probably know, this is a 12-country trade deal that includes a number of Asian-Pacific states, including the U.S. and Japan, but not China. There's still a chance that it will pass in the lame-duck Congress. If the TPP comes to fruition, what do you expect the economic effects of that to be on China and on the region?

>> Justin Yifu Lin: The first thing that -- I think that two exclude China from TPP is not desirable because China now is last trading country in the world. And the countries now involved in TPP, their trade with China is intense. China is either the largest trading partner or the second-largest trading partner of those member countries in the TPP negotiation. And we know the idea of TPP is to, you know, improve the quality of trade and investment. Both certainly are desirable. But if you exclude China from that, and China is largest trading country in the world, and large -- the most important trading partner with all the members, you're excluding the elephant in the room. And so under that kind of situation, I don't think that this economically is -- you know, is advisable. It's not good. Not only it's not good for China, it's not good for all the partners. That's one thing. But secondly, supposedly this TPP agreement got approved in a congress in every country. It's not going to hurt China so much. I think that mostly psychologically than reality, because if you look into like Vietnam, like a few countries which really compete with China in the trade, they already get some kind of preferential treatment in their trade relations with the U.S. So the reduction in the trade barrier to them is insignificant. And that's how the TPP, you know, may -- might, you know, benefit them in the competitiveness with China, but I don't think it's going to be substantial. It's mostly psychological, not so economically in reality.

>> John Ciorciari: Okay, great. The TPP discussion, of course, is linked to currency issues between the U.S. and China. Lately, although the value of the renminbi has slumped against the dollar, it's increased against some other currencies like the Euro and the Korean won. So there are some incentives for the Chinese authorities to reduce the value of the currency in the near term, but of course, we're in a U.S. election season where there's a lot of talk about the need to get tougher on China's currency. Trump says he would name China a currency manipulator. Hilary Clinton is also talking tough without making that specific threat. What do you think that the Chinese authorities should and will do in this context?

>> Justin Yifu Lin: I think that every politician always has some political need and -- to find a scapegoat for, you know, the problem domestically. And I can understand they use China as a scapegoat, and especially now with the [inaudible] of China's currency, then easily to say a lot of things about China. But that -- look into your reality, but look into the realities. It has been recommended that China needs to adopt flexible [inaudible]. And it has been recognized a developing country should adopt [inaudible] from team -- [inaudible] from team. And to pack into a basket of currency -- not to the U.S. dollar, to a basket of currency. The reason for the devaluation in the last month of Chinese currency is -- it's because of a sharp devaluation of British pound, of the Euro, of Japanese yen. And China packs Chinese currency to a basket of currency, certainly U.S. dollar is the most important component of this basket. But British pound, Euro, and Japanese yen are only in the basket. And they all sharply devalue against the U.S. And others are [inaudible] their issue certainly [inaudible] today to -- they want you to reflect valuation of this basket. I think that's a reality, and that to use the devaluation to say China maniupulated the currency, actually if China does not devalue, that means China is manipulate the currency. But devaluation is a natural consequence of this kind of growth [inaudible] you know, currency, policy, currency situation.

>> John Ciorciari: Part of this, of course, is -- and there are a whole host of arguments made about, you know, China's bilateral trade surplus with the U.S., and goods and so forth, that that would be evidence of currency manipulation. But even those in the U.S. who are friendliest to the Chinese government's point of view on this would say that the easiest way to sort of resolve this once and for all is to have a fully-convertible currency, and market-determined rate, and so forth. This is an express goal of the People's Bank. What in your view are the key remaining steps to be taken to both make the renminbi fully-convertible, and also to internationalize the currency?

>> Justin Yifu Lin: I think that, you know, the model looks into that. Sometimes people, you know, forget currency valuation is not only determined by trade, but also determined by capital inflow and outflow. And so you can not only look into trade to, you know, to decide what would be the market level of the potential rate. And then because of the large shift of capital inflow and outflow, that's going to have a large impact on the short-term valuation of the currencies. But short-term inflow -- not inflow, but outflow is not good for the economies. So in the past, like I am arguing, the fully [inaudible] and they're fully capital account [inaudible]. And 2014 they changed their position. They think of poor developing countries. As long as their currencies are not reserve currency, it's desirable to have a capital account in the past called capital account control. Now they do not use the term control. They use the term measurement, especially for high-income countries has produced monetary policy. Now zero interest rate or negative interest rate, under that kind of situation, because the cost of capitals in high-income country is so low, investment opportunity in high-income country is limited, and you are going to see a large outflow of capital, and short-term capitals flooding the other countries. And any kind of indication of interest rate hike will cause a large inflow, you know, return back those kinds of capital. That's going to cause a lot of trouble in the developing world. So under that kind of situation it would be desirable to have some kind of earned management or capital account. And under that kind of situation, as long as you manage the capital account, certainly you will affect the inflow and outflow of the capital anywhere, affect some kind of exchange rate. So we need to come to the new realities. Free capital account [inaudible] is not, you know, a consistent way to go for maintaining stability and [inaudible] growth in the world. And so to have certain, you know, measurements would be desirable.

>> Justin Yifu Lin: And it's worth noting that the International Monetary Fund staff produced a paper a few years ago conceding that there would be certain cases in which it would countenance that kind of management in a way that it hadn't in the past. Let me ask you one more question just to get an issue on the table, and then I'm going to turn to Jennifer and Maisie [assumed spelling] for some questions from the audience. And that is, moving from sort of the IMF topic to more broadly international financial institutions. The advent of these new bodies that have been led by China, the BRICS New Development Bank, the Asian Infrastructure Investment Bank, the Contingent Reserve Arrangement, these have been seen by some audiences in the United States as a direct challenge to U.S. leadership of the international economic governance system. In what respects are these new bodies actually intended as a challenge to the existing institutions? And in what ways do you see them as most complimentary?

>> I think it's mostly complimentary. The U.S. leadership in the world, I think the motivation is to promote economic development, economic stability, economic growth, improvement of wellbeing of the rest of the world. That's the meaning of leadership. And then that [inaudible] get into what is the bottleneck? What is the main barrier for the developing world to grow? Infrastructure deficit. And so it would be desirable for the growth in the developing world to have more investment in infrastructure. Certainly we have monetary [inaudible] development institution like the World Bank, like Regional Development Bank. And they are responsible for the infrastructure and the investment in the developing world. But the -- among the resources, they can [inaudible] compared to the needs, it's too small. And according to the Asian Development Bank, in Asia alone each year requires $800 billion U.S. of infrastructure investment. And in Africa, about 500 billion. In the world, about 2 trillion. And compared to the resources that World Bank and the Regional Development Bank, they each also have a tiny portion of that. And about we have a lot of new resources that we can tap into, China, other emerging markets, they, you know, have, you know, produce in the country more. But if you ask China, Brazil, or India to contribute more to the World Bank, to the Regional Development Bank, certainly you need to allow them to have a larger voice. No -- no tax, no vote, right? No vote, no tax. And so you know, you have to adjust the governance structure in current, existing monetary [inaudible] institutions. But the [inaudible] country -- I'm quoting the U.S. -- are very reluctant to address the governance structure. And so with the principle of no vote, no tax, then it's real hard to convince China and other developing countries to contribute more. But we have huge needs in the developing world. So under that consideration, if we have a new institution which allowed to China more resources, that would be desirable. That's one thing, from the resources point of view. The second one, there's some competition, is already desirable because now the monetary [inaudible] institutions, in effect, they're very inefficient. For example, they all have the residence boss. We have many people from corporate. If your boss is resident, overwatch [sic] you on a daily basis. It's hard to manage with -- operate in that kind of situation. So you should allow some new governance, new ways to compete, and other kinds of situations that efficiency of every institution can be improved. So from those kinds of angles or points of view, if we really worry -- if we're really concerned about the global growth, the global wellbeing, then the new institution like AIIB and Annuity [inaudible] Bank should be welcome.

>> Justin Yifu Lin: Thank you. Jennifer and Maisie? We'll now take a few questions from the audience.

>> Hello, hi. Excuse me. Hi, I'm Maisie, I'm an MPP, MA dual, second year. Our first question is from the audience, and it says the GDP of China may exceed U.S. in the future year, and the U.S. government has set up some barriers to stop and -- or [inaudible] this -- that period. So like do you think it is possible to reduce the conflicts between these two countries, and how to build up the trust and confidence between U.S. and China?

>> Justin Yifu Lin: Yeah, I think that first we need to recognize that U.S./China relations is win/win to China and the U.S., because if you look into the relation, the most important relation should be economic relations because probably people care about actually is our living, our improvement. And that's all must related to trade, related to the economic relations. And if you look into China and the U.S., currently the per capita GDP in China is about $8000 U.S. -- U.S., $57 U.S. And with such a difference in per capita GDP, that means the labor productivity in China and the U.S. are different. The sectors that U.S., you know, produce are much higher value-added. And the sectors that China produce are low-value added. So actually it's complementary to each other. We are not competing with each other. And to maintain good economic relations certainly is good for China and good for the U.S. You know, China exports low-value-added type of products which related to the different necessities, most like those kind of things, and reduce cost of living for the people in the U.S. So I think that's good for the U.S. people. And the U.S. produced high-value-added, you know, goods, mostly which, you know, embodies higher technology that can help China to improve their productivities, and so [inaudible] those kind of high-value, high-tech type capital-intensive type goods for China. That's also good for China. So we need to understand there's no fundamental conflicts in the relation between China and the U.S. And it's a win-win relationship. But certainly, as I mentioned, politicians sometimes always like to find a scapegoat for the domestic issues. And the best way to overcome is to increase understanding. China should be -- you know, better present itself, help people to understand China. And Chinese people also need to understand the U.S. And with a better understanding, then we have a lot of common ground. So basically I'm an optimistic people. I think that fundamentally people care about their livings, their life, their wellbeing. And the relation between China and U.S. will help us to improve our wellbeing both in China and the U.S.

>> Hi, my name is Jennifer Chang. Hi, my name is Jennifer Chang, and I'm a senior in the undergrad program at Ford. Our next question is also from the audience. What has been the economic effect of the structural division of China's workforce into distinct urban and rural labor markets? Is the urban/rural gap an externality or an engine of China's growth?

>> Justin Yifu Lin: I did not fully get the questions. Yeah? The urban -- do it all.

>> What has been the economic effect of the structural division of China's workforce into distinct urban and rural labor markets? Is it an is the urban/rural gap an externality or an engine of China's growth?

>> Justin Yifu Lin: In China's labor market it basically levelized. You know, the urban -- the rural laborers, they can migrate to urban areas without much restriction. Although we have some kind of house or residence [inaudible] system [inaudible], and it has some cost for the rural people to stay in the cities, but it's not a barrier for them to migrate to work in the urban areas. And that's the reason why -- I'm sure you heard the report -- China has about 300 million floating population migrate from the rural areas to work in the urban areas. So you know, in terms of the labor market, it's not such a big issue. But income in the rural area and the urban areas, the gap is quite large. And I think it's both because in rural areas they work in agriculture sectors. The labor productivity in the agriculture sectors is lower than the labor productivity in the urban areas. And because of that, it actually allowed all migration from rural area to urban areas. And under that kind of situation I think the government should be responsible to provide more support to the social protection and also social benefit to the people left behind in rural areas, in order to reduce the urban/rural divide. So the issue is not in the labor market. The issue is in the disparity of income and the disparity in the public services in urban area and rural areas. And for those kind of disparities both the central government and the local government should, you know, be responsible to narrowing the gaps.

>> Okay, the next question is about your opinion of the degree to which military development in the South China Sea, and is that an economic negotiating tool? Like what are your thoughts on that?

>> Justin Yifu Lin: The South China Sea issues, yeah, certainly it's a hot topic. I think that [inaudible] has the best approach to the issue, put aside the serenity and jointly explore the opportunity economically, because the sovereignty issue is hard to argue, because China can -- have a lot of historical claim, historical evidence to show China has some kind of ownership in the South China Sea, islands and all. And certainly in the surrounding country they will say they are so close to us, so we should have some sovereignty issue there, you know, claim there. So I think the best way, you know, because most importantly is economic. And the best way is to jointly explore the opportunity together.

>> While government investment is efficient in promoting productivity, it creates great uncertainty in transaction costs for private sectors, as private firms may find it hard to anticipate government decisions. What do you think about this cost of government-led investment?

>> Justin Yifu Lin: The government -- that investment, the government in generally will not invest in industrial sectors anymore. The government investment is mainly in the infrastructure. And the reason why the government make investment in infrastructure is because private sectors, their incentive to make investment in the infrastructure is so low. You know, it's -- was some kind of change in ideologies. Before the 1980s it was a conviction that the government should be responsible for infrastructure. And monetary [inaudible] from an institution like the World Bank, like a regional-developed bank, they will also supporting the government to make investment in infrastructure. To give one example, the World Bank. Before the 1980s, the largest department in the World Bank was infrastructure department. But after the 1980s, with the writing of [inaudible], people started to argue if infrastructure is economic development. It's an investment based on economic principle. Their market should take care of that. And that's how it changed from the government to be responsible for the infrastructure investment to that -- it's an economic activity, so the private sector should be responsible. We did kind of change our ideology. Certainly the infrastructure development department in the World Bank gradually dying out. So when I went to the World Bank in 2008, there was no department responsible for infrastructure. But what is the consequence of that? The consequence is that if you go to the developing world for 30 years, there's only one type of infrastructure private sectors akin to make investment, mobile phone, telecommunication. Other than that, the private sectors are not interested. And the reason why they are interested in the mobile, you know, telecommunication, because first, it's very easy to collect the money. Secondly, they have some kind of natural monopoly. So for the monopoly rent and easy collect other prizes, the private sector is king. Other than that, the private sector are not interested. And that is the reason why if you go to a developing country, no matter they are Latin America, South Asia, Africa, you can ensure the infrastructure shortage everywhere. China is in a lucky -- in a better position because China still to make the government investment in infrastructure. And that's how if you see the investment by the government -- mostly in infrastructure, not in the industrial sector -- it should be desirable. And especially with the downturn in the business cycle. It's the best time for the government to make investment in infrastructure. So 2014, the IMF published in October issue of 2014 of "World Economic Outlook" IMF advocate is the best time for the government to make investment in infrastructure because of the, you know, the business are all down in the world. So I don't think that -- you know, so the observation now, the government investment -- as the percentage of investment in China increase, it's a big issue. It only reflects the slowing down of the economy, and it's the best time for the government to make investment in infrastructure. As long as the government investment is many infrastructural, it's not an issue to worry about.

>> Earlier you talked about China's debt and said that most of the debt is R and B [sic]. Thus, even if major crisis happens, the government can easily intervene. So in terms of the tools for intervention, is increasing money supply an option? And will that affect the exchange rate considerably?

>> Justin Yifu Lin: The increase in the money supply, will that affect the exchange rate compatibility? Is that your question, right?

>> John Ciorciari: Yeah.

>> Justin Yifu Lin: Well, you know, the exchange rate compatibility may not so much related to the monetary, you know, supply. We see the high-income country in the past seven and six years -- seven or eight years. They're all adapted quantitative [inaudible], low -- you know, zero interest rate -- now negative interest rate. But those kinds of [inaudible] monetary policy does not affect the country continue to adapt the, you know, fully compatibilty. It does not affect them to make their currency fully compatible. I think the consideration should be more whether China, you know, should adopt fully compatibility. I think [inaudible] related to whether China's [inaudible] will become a reserve currency or not. And then secondly, also very much depends on whether the financial sector in China is well-developed. I think that that -- if financial sector in China is well-developed, and with the gradual internationalization of China's currency, China's [inaudible] becomes one of the major reserve currencies, then that will be a good time for China to make the currency fully compatible.

>> John Ciorciari: May I ask a quick follow up on that? If you could share with the audience a couple of specifics of the kinds of things that you mean by having the financial market be well-developed?

>> Justin Yifu Lin: Well, the financial market well-developed means the active market is further [inaudible], further enlarged. The debt market -- the corporate debt, the government debt market is large enough, and they're well-functioning. And this kind of development also depends on the stage of development, because the financial structure actually should reflect the economic structure, because the main purpose of finance is to support, to serve the real sectors. And a real sector in China is that China currently [inaudible] a per capita income or per capita GDP of $8000 U.S. Most of production activity in China today are still in agriculture sectors and in small- and medium-sized enterprises in manufacturing services. And in general they are still in mostly traditional sectors. And for them the best way to serve them is banking -- in a bank arrangement instead of equity market or debt market. And then because of that, the financial sectors in China cannot be as well-developed as high-income country like U.S., like European countries, because in high-income countries the main productions are in sectors of capital-intensive, technology-intensive sectors. And for them, they need to -- you know, they are riskier, and the best way to serve them would be the equity markets. And also, you know, those kind of large companies, corporate sectors, they are large companies. They are better-structured, and they can use that to serve them also. And also the government -- with high-income, the government debt market will be larger. So those kind of the debts of the financial structure very much reflect the stage of development. And China has not reached that stage yet. And in -- after finishing my job in 2012, I published a book called, "Against the Consensus," and for that I have several chapters that discuss the global, you know, financial arrangement, global monetary arrangement, and that discuss a lot of the issue and relate to what you asked, whether China can have fully-developed financial sectors where their -- China's currency can really become global reserve currencies. And I think that China is not ready yet.

>> This will be our last question. China is experiencing a rapid growth in its greying population. How will population aging affect its economy, and how will the government respond to that?

>> John Ciorciari: The aging is an issue has attracted quite substantial attention, and whether aging will become a factor that causing the -- China's growth to, you know, slow down significantly. I think that may not, for several reasons. One, aging reduces the working population, right? That's their main concern. But China currently has an extremely early retirement age. For female workers, they retire at the age of 50. For male workers, they retire at the age of 55. With aging reduced working population, we can extend the retirement age to offset that. That's one way. But more importantly, it's not the quantity of labor force count. It's the quality of labor force count. And the quality of labor force very much depends on the education, the human capital accumulation. So aging is a slow factor. It can be predicted. And to offset that, we can invest more in education, and to increase the quality of the working population. And as you know, China invests pretty aggressively in education. I can still remember in 2000 the tertiary graduate each year is less than 1 million. Now last year, the tertiary graduate students last year was 7.5 million, seven-tie increase. And I think that kind of accumulation of human capital can offset the impact from aging. So with that, you know, I think that it's one factor many people discuss a lot, but I don't think it will have such an [inaudible] effect as many people, you know, predict.

>> Susan M. Collins: Thank you so much to Justin Lin and John Ciorciari.

[ Applause ]

>> John Ciorciari: Thank you.

>> Justin Yifu Lin: Thank you.