Episode Summary
Executive Summary: Martin Sandbu interviews economist Michael Pettis on China’s growth model, arguing that decades of high savings and investment produced extraordinary development but also chronic excess capacity. Pettis says China’s recent “involution” reflects overinvestment shifting from infrastructure to property to manufacturing, and that its export-led surplus strategy helps world growth while straining China and its trading partners.
Main Topics: Michael Pettis’s unusual background in China: The conversation opens with Pettis’s history in Chinese indie music, record labels, and clubs, establishing his long immersion in China beyond economics. How China’s growth model worked: Pettis explains China’s high-savings, high-investment development path as a historically rooted model that allowed rapid industrialization after decades of underinvestment. Excess capacity and “involution”: He describes China’s current slowdown as a long-running pattern of shifting excess capacity across infrastructure, property, and now favored manufacturing sectors like EVs and solar. Technology, the middle-income trap, and subsidies: Pettis argues that technological progress does not automatically solve overcapacity; advanced sectors may be impressive but economically unsustainable without genuine demand. China’s surpluses and global trade conflict: He links Chinese surplus policies to trade deficits elsewhere, especially in the US, saying persistent imbalances force adjustment onto deficit economies. Policy responses: tariffs, capital controls, and Keynesian clearing ideas: The discussion turns to possible remedies, including Keynes-style restrictions on persistent surpluses, tariffs, and taxes on capital inflows. Trump’s tariffs and what comes next: Pettis says Trump responded to a real problem but doubts current policy is reducing the deficit yet; he warns real conflict could come if the US successfully shrinks its deficit.
Key Arguments: China’s exceptional growth is better understood in historical and developing-country context than as something uniquely Chinese. China is not monolithically centralized; local governments and elites have major influence, and Chinese policy is shaped by centralization-decentralization tensions. China’s model depended on keeping household consumption growth below GDP growth, which raised savings and funded investment. The current Chinese problem is not new; it is a decade-plus process of overinvestment moving from infrastructure to property to manufacturing. “Involution” means concentrated excess capacity, price wars, and inventory pressure in a narrow set of preferred industries. Technological leadership does not necessarily mean economic success if subsidies make the sector unprofitable on a system-wide basis. China’s export surpluses and subsidized manufacturing shift production and manufacturing capacity away from deficit countries. Trade conflict is not an accident but a predictable result of persistent global imbalances. The US can respond through coordinated global rules, capital-inflow taxes, tariffs, or domestic fiscal/credit policy, but no option is costless. If the US actually reduces its trade deficit, the adjustment burden on surplus countries and the EU could create even bigger global disruptions.
Data Points: Year Michael Pettis moved to China: 2000 - He says he moved to China in 2000 and has lived there for more than 20 years. Chinese GDP growth: around 10-11% - Pettis cites China’s rapid growth during the 1990s and 2000s. Household income growth in China: around 6-7% - He says household income rose more slowly than GDP, boosting savings. China current account surplus post-global crisis: from 10% of GDP to 3% of GDP - He describes the post-2008 collapse in the current account surplus. Trillion-dollar reserve decline: about $1 trillion - He references the period when China’s reserves fell sharply in the mid-2010s. Timing of property bubble end: 2020-21 - Pettis says the property-led expansion ended around 2020 or 2021. Period of Chinese underinvestment: five decades - He attributes China’s initial need for investment to war, civil war, and Mao-era underinvestment. Time in China: more than 20 years - He notes his long residence and immersion in Chinese culture and economy.
Pivotal Quotes: "Involution is a new word for an old problem." — Michael Pettis: He defines the current Chinese industrial problem as concentrated excess capacity and price wars. "Those are not opposing views. Those are the same thing." — Michael Pettis: He argues China’s technological strengths and its macroeconomic imbalances are linked, not separate. "you ain't seen nothing yet" — Michael Pettis: He warns that if the US ever succeeds in shrinking its trade deficit, global adjustment pressures could intensify dramatically.
Implications: The episode suggests China’s industrial prowess and global trade tensions are two sides of the same system. For firms and policymakers, the key risk is that attempts to rebalance trade could trigger deeper conflict before a more stable settlement emerges.
From the Episode
Funded by a very high growth in savings was exactly what China needed. So, this is a really useful reminder that this characteristic of being a net saver is really very deeply rooted in the Chinese economic experience. And that, as we'll get to in a moment, that's obviously a difficulty now in the global economy. Exactly. But before we get to that, what's the current state of the economy? What should we be thinking about the Chinese economy today? You know, it helps to go back a little bit because what we're seeing, and even This new phrase involution that's so popular is nothing new. This is part of a process that's really developed over the last 10 to 15 years. Explain involution. Involution is a new word for an old problem. It's a highly concentrated excess capacity. Since maybe 2008, 2009, we've seen China develop excess capacity everywhere, right? And we can go into why that was the case. But it's been shifting around. After the global crisis, when China's current account surplus collapsed from 10% of GDP to 3%, I mean, collapse is not too strong of a word, because of a cutback in foreign spending, China responded with a massive increase in infrastructure investment, which it probably didn't need anything near what it ended up doing, but that's how it responded. So, infrastructure spending surged to the point where there were increasing concerns.
In China. The technology is great. It's just not clear once you remove the enormous amounts of subsidies. It's just not clear that these are actually value creating for the economy. So people often say that there are two different views of China. One is that China has significant imbalance problems and growth is going to slow sharply. That's the bear view. The bull view is China's got fantastic technology and is moving forward. Well, I Would suggest, Martin, is that those are not opposing views. Those are the same thing. It is precisely the latter that is helping cause a part of the former. I think we just should pause here and take note of this possibility that what China has done is good for the rest of the world, perhaps not so good for China. To put it mildly, that's not the prevailing view in governments around Europe and the US. But this theme of whether China's economic goals are compatible. With the goals of other big economic blocs? I think that's the single biggest question for the global economy now and in the years to come. We'll have to take a short break, but when we're back, Michael, I would like to hear your analysis of that question.
The people in the administration, and they say, We need time. This is a much larger program. It's not a tariff country-by-country program. So let's see. But to me, that's the key. And what I would add to that, Martin, is that everybody complains about trade conflict and all of the disruptions that have taken place. But, you know, what I would argue is you ain't seen nothing yet because there has been a shift in trade, but there hasn't been a change in the structure of trade. Surpluses continue to grow. U.S. deficits continue to grow more indirectly than in the past, but basically, growing deficits are financing growing Chinese surpluses, growing U.S. deficits are doing so. If the U.S. is ever able to contract its trade deficit, that's when the real problems start, right? Because either the surplus countries will have to contract their surpluses, or somebody else, and that means the European Union, will have to shift the structure.
About The Economics Show
The Economics Show with Soumaya Keynes is a new weekly podcast from the Financial Times packed full of smart, digestible analysis and incisive conversation. Soumaya Keynes digs deep into the hottest topics in economics along with a cast of FT colleagues and special guests. Come for the big ideas, stay for the nerdery.Soumaya Keynes is an economics columnist for the Financial Times. Prior to joining the FT she worked at The Economist for eight years as a staff writer, where as well as covering trade, the US economy and the UK economy she co-hosted the Money Talks podcast. She also co-founded the Trade Talks podcast. Hosted on Acast. See acast.com/privacy for more information.