The Chinese have one of the world’s oldest continuous civilizations, spanning some five thousand years. China has long been ruled by dynasties. Some were formed by native Han (such as the Ming Dynasty, 1368–1644), and others were established after nomadic tribes from the north conquered China-proper (as did the Qing Dynasty, 1644–1911). (MacDonald, 2008) Nomadic tribes were eventually absorbed into Chinese culture. A revolution inspired by Sun Yat-sen overthrew the Qing Dynasty in 1911. In 1912, with the country fragmented by opposing warlords, Sun Yat-sen established the Kuomintang (KMT) party in an effort to unify China. (www.state.gov)
After Sun’s death in 1925, Chiang Kai-shek took control (1927) and ousted the once-allied Communist Party. The Communists, led by Mao Zedong, struggled with the KMT for control of China while both groups fought Japan in World War II. After the Japanese were defeated (1945), the civil war ended with Mao’s forces in control and Chiang’s army fleeing to Taiwan to regroup. They never returned. Mao ruled from 1949 to 1976. China still considers Taiwan its 23rd province. (Hoffmann, 2007)
While the Chinese initially welcomed communism, the Great Leap Forward (1958–61) and the Cultural Revolution (1966–76) had disastrous effects on the country. More than 40 million people starved or were killed during Mao’s rule. (Mitter, 2008) After Mao died in 1976, Deng Xiaoping came to power and gradually moved away from Maoism. His more moderate policies led to foreign tourism, a more liberal economy, private enterprise, growth, trade, and educational exchanges with other nations. The Tiananmen Square massacre in June 1989 and a subsequent government crackdown derailed these measures for a time. (www.economist.com)
By 1992, China was again focusing on economic reform and it quickly became one of the world’s fastest-growing economies. However, Deng did not favor political liberalization. Since Deng’s death in 1997, his successors have reiterated his policy of a socialist market economy with a strong central government. Hong Kong (a British colony) reverted to Chinese control in 1997, and China was admitted to the World Trade Organization in 2001. Both events helped bolster China’s status as a great economic power, and the nation continues to rank among the world’s leaders in gross domestic product, exports, and receipt of foreign investment.
When the Chinese Communist Party established the People’s Republic of China in 1949, instead of recognizing it as the legal government, the United States recognized the government of Taiwan as the legal government of China. The Korean War in the early 1950s further deteriorated China-U.S. relations in the years followed. In the late 1960s, however, in face of the Soviet threat, China and the United States (U.S.) reached a common understanding of improving bilateral relations to offset the Soviet threat. In July 1971, the U.S. Secretary of State Henry Kissinger made a secret visit to China followed by President Nixon’s visit to China in February 1972. The historic visits ushered in the new era of Sino-U.S. relations, with the Chinese and U.S. leaders issuing the Shanghai Communiqué to pledge to work toward the full normalization of diplomatic relations. The Shanghai Communiqué stated the U.S. acknowledgment of China’s “one China” position and that Taiwan is part of China. Since then, this principle has been the foundation for Sino-U.S. relations.
China-U.S. relations suffered a setback in the aftermath of the Tiananmen incident in June 1989. The United States suspended high-level official exchanges with China as well as U.S. weapons exports to China. The United States and other Western countries also imposed a series of economic sanctions on China. Bilateral trade relations were also disrupted with the U.S. investors’ interest in China dropping dramatically.
Since China and the United States established normal commercial relations in 1979, as a non-market economy country, China’s normal trade status (which allows non-discriminatory tariff treatment for Chinese exports to the U.S.) must be debated by the U.S. Congress and renewed annually by a U.S. presidential waiver stipulating that China meets the freedom of emigration requirements set forth in the Jackson-Vanik amendment to the Trade Act of 1974. China had received the waiver routinely prior to 1989, but after the Tiananmen incident, the U.S. Congress began to exert strong pressure to oppose normal trade status renewal. In 1991 and 1992, the U.S. Congress voted to place conditions on normal trade status renewal for China, but those conditions were vetoed by the Bush administration. In 1993, President Clinton launched the policy of constructive engagement with China, and in 1994, President Clinton dropped the link of the annual trade status review process from China’s human rights record. Since then, Sino-U.S. relations had seen improvement with resuming of high-level exchanges. In October 1997, Chinese President Jiang Zemin visited the United States, and President Clinton visited China in June 1998.
In May 1999, during the NATO bombardment of Belgrade at the time of civil conflict in the former Yugoslavia, United States-led forces bombed and destroyed the Chinese embassy there. Three people were killed and more than 20 people were injured. After the bombing, the U.S. government apologized and claimed that the bombing of the embassy was a mistake, but the Chinese government refused to accept that the bombing was accidental. Diplomatic ties were temporarily suspended, and anti-American demonstrations ensued in Beijing. After months of negotiations, an agreement was reached by the two sides that the United States would pay $4.5 million to the Chinese government on behalf of those killed or injured. This measure symbolized an easing of tensions between the two countries. (Mitter, 2008)
Since then, from late 1999 well into early 2000, it appeared as if ties between the two countries had been strengthened, in large part due to support from the United States for Chinese entry into the World Trade Organization. But relations became strained once again in early 2000 before the Taiwan presidential election. In anticipation that the pro-independence candidate Chen Shui-bian was likely to be elected, the Chinese government conveyed the message of the possibility of using force in the matter of reunification with Taiwan.
The United States responded by stating it was prepared to deploy aircraft carrier groups, as it had in 1996 when a similar situation occurred. What was different from the situation in 1996 was that this time both countries adopted a more positive attitude toward the other side. The Clinton administration had kept close contact with the Beijing leadership during and after the Taiwan presidential election, and China had taken a “wait-and-see” attitude toward the Taiwan President-elect Chen Shui-bian. The crisis had passed, and the relations between China and the United States seemed strengthened once more. Both sides agreed that the relations were at a “critical juncture” over Taiwan and China’s trading status with the United States. The Clinton administration had reiterated the U.S. position in adherence to the “one China” policy and pledged to support China’s entry into the World Trade Organization (WTO) and to seek passage in the U.S. Congress of China’s Permanent Normal Trade Relations (PNTR). (MacDonald, 2008)
On May 24, 2000, the U.S. House of Representatives passed the bill of China’s Permanent Normal Trade Relations (PNTR) by a vote of 237-197, the U.S. Senate passed the bill on Sept. 19, 2000, by a vote of 83-15, and in late December 2001, President George W. Bush signed the PNTR agreement into law. (Mitter, 2008) The legislation is a consequence of a trade agreement between the U.S. and China in November 1999 that opened the way for China’s entry into the World Trade Organization (WTO). The approval of normal trade relations with China ended 20 years of annual congressional reviews of China’s trade status with the United States. The annual review was used to try to pressure the Chinese government on such issues as human rights and labor standards. (www.countryreports.org)
The establishment of permanent normal trade relations will help create a stable environment for the economic and trade cooperation between China and the United States. It will guarantee Chinese goods the same low-tariff access to the U.S. market as products from most other nations. In exchange, U.S. businesses will have access to a wide range of China’s markets once it joins the World Trade Organization. In December 2001, China officially became a member of WTO, and according to the agreement between the two countries, its tariffs on U.S.-made manufactured goods will fall from an overall average of 25 percent to nine percent by 2005. (Johnson, 2008) China will also be required to open its financial and service industries to U.S. companies, allowing greater foreign ownership of the telecom industry. The Farm Bureau also has predicted that it could double agricultural exports to China. However, some U.S. senators opposing the bill have questioned the wisdom of giving up trade as a policy tool for forcing China to improve on its track record on human rights. Human rights groups have argued that the annual review of China’s trade status keeps the pressure on China.
In the first few months of 2001, China-U.S. relations went through some difficult times. After President Bush took office in January, he made it clear that he regarded China as a strategic competitor rather than a partner. The Bush administration’s China position has been reflected by several China policy concerns by both the executive branch and the U.S. Congress. Some high-ranking officials, as well as Congress members, have suggested a tougher stance towards China in matters such as human rights issues and arms sales to Taiwan. Among them, the central issue was arms sales to Taiwan by the United States. Under the 1979 Taiwan Relations Act, the U.S. policy is to provide Taiwan with adequate defense needs. (Hoffmann, 2007)
With China’s increasing deployment of missiles allegedly targeted at Taiwan, Taiwan has demanded the United States to sell them sophisticated new weapons including warships equipped with the Aegis battle-management radar system. The Bush administration must decide whether to sell such weapons to Taiwan as it has made it clear to continue to help defend Taiwan in face of China’s threat to the island. The U.S. has decided to go ahead with the National Missile Defense (NMD) system or missile defense shield which China regards itself as a target. China has warned the United States not to sell the Aegis to Taiwan which can be linked to the shield. It was out of this concern that Chinese Vice Premier Qian Qichen came to the United States in March to meet President Bush and Secretary of State Colin Powell.
It was at this sensitive time of delicate China-U.S. relations that another incident took place in early April as a U.S. EP-3 surveillance plane collided with a Chinese fighter jet and made an emergency landing on the southern Chinese island of Hainan. The collision caused the death of the Chinese pilot and the loss of the fighter jet, and the U.S. spy plane was seriously damaged. After 11 days of political and diplomatic wrangling between the two governments, the 24 U.S. spy plane crew members were released from Chinese custody. (Strittmatte, 2008) On April 18, a team of U.S. military and diplomatic officials went to Beijing for negotiations with the Chinese on the release of the crippled EP-3 as well as on future flights of the U.S. surveillance planes off the Chinese coast. China demanded that the United States end its spy missions along the Chinese coastline. China rejected the U.S. requests to let the EP-3 be repaired and flown back to the United States. China also refused to let a U.S. Navy ship bring back the plane. After months of negotiations, EP-3 was disassembled and returned to the United States on two Russian cargo planes in early July.
Although the spy plane incident was over, it did result in certain negative feelings on both sides. For the Chinese, the incident reminded them of the 1999 U.S. bombing of the Chinese Embassy in Belgrade. On the other side, some U.S. Congress members urged sanctions against China over the incident and opposed further free-trade agreements with China. Nevertheless, the governments of the two countries seem to have adopted a more pragmatic approach, emphasizing the importance of maintaining a good relationship. (Reuvid, 2008)
On April 23, President Bush decided not to sell to Taiwan the Arleigh Burke destroyers equipped with Aegis radar system but approved a package of weapons including four Kidd-class destroyers, submarines, and anti-submarine planes. The Bush administration said that the package of the arms sale to Taiwan would address in a “measured” way a regional military balance that had tilted in the People’s Republic of China’s favor, and that there was nothing for China to fear in this package. Opposing any arms sale to Taiwan, China expressed serious concern in a measured way over the report of the U.S. arms package to Taiwan, but at the same time felt relieved that the package did not include the sophisticated destroyers with the Aegis radar system.
In early July, U.S. President Bush called Chinese President Jiang Zemin to discuss areas of cooperation and disagreement. Bush’s call represented the final chapter of the standoff between the two countries by the spy plane incident. In late July, U.S. Secretary of State Colin Powell visited China. One of his primary reasons for going was to arrange the visit by President Bush in October for the APEC summit. Powell also wanted to smooth over Sino-U.S. ties, which were strained from virtually the beginning of the Bush administration. (Johnson, 2008)
While U.S.-China relations grew warmer after the spy plane incident, the September 11 terrorist attacks on the United States further united the countries as they worked to fight international terrorism. In October, President Bush went to Shanghai as planned to attend the APEC summit meeting. During the meeting, President Bush and President Jiang had a very friendly talk. Both leaders said that the two countries had a common understanding of the threat posed by international terrorists. President Jiang said that China was willing to work to develop a constructive relationship with the United States. The United States expressed its satisfaction with China’s cooperation against terrorism by showing its support at the United Nations and its decision to close its border with Afghanistan.
President Bush visited China again in February 2002 after a rather tense situation: One month before his visit, Chinese intelligence officials disclosed to journalists from the Financial Times and the Washington Post that at least 27 spying devices were discovered hidden in a Boeing 767 airliner built in the United States for President Jiang Zemin. Despite the discovery, China publicly stated that diplomatic relations between the two countries would remain friendly and the summit continued as planned.
Relations between China and the United States were strained over the United Nations Security Council voting regarding Iraq from 2002 to 2003. Relations were challenged over Taiwan in 2004 over the sale of arms by the United States to Taiwan. In 2005, relations between mainland China and the United States were again challenged over the issue of Taiwan. Challenges arose in the aftermath of China’s announcement about its “anti-seccession” law. In 2006 and 2007, amidst geopolitical challenges stemming from North Korea to the Middle East, relations between China and the United States have been more collaborative as both works to establish stability. China has been a particularly important figure within the multilateral process involving North Korea. The year 2006 also marked a visit by Chinese President Hu Jintao to the United States.
Geography and Climate
With an area of 3,705,820 square miles (9,598,032 square kilometers), China is roughly the same size as the United States. Because mountains or deserts cover much of western China, the majority of the population lives in the east, where rivers and plains allow for productive agriculture. China’s other major geographic features differ vastly between regions, ranging from the Himalaya Mountains to the Qinghai-Tibet Plateau (“the roof of the world”) to subtropical islands. The Great Wall of China stretches 4,470 miles (7,200 kilometers). Some of the world’s longest rivers are in China; the Yangtze River runs 3,900 miles (6,300 kilometers). (Mitter, 2008)
China’s climate ranges from sub-arctic in the north to subtropical in the south. Monsoons in the southeast cause frequent summer floods that can kill thousands each year. Sandstorms in the north are increasingly common due to desertification.
China’s diverse plant life includes more than 2,800 species of trees, such as metasequoia, bamboo, palm, oak, China fir, evergreen, and China cypress. Deforestation is an increasing problem, especially in the east, as industries and housing developments replace natural forests.
Since initiating economic reforms and open policy in the late 1970s, China has achieved tremendous success in economic development. The economy has shifted from a centrally-planned system to a more market-oriented one with a rapidly growing private sector. China now is the fastest growing economy in the world, with GDP expanding at an annual average rate of around nine percent over the past two decades. Measured on a purchasing power parity (PPP) basis, China ranked in 2005 as the second-largest economy in the world after the United States. (www.economist.com) Benefiting from increased access to foreign markets since joining the World Trade Organization in 2001, China has become one of the world’s largest trading countries as well as a global economic force.
Despite the impressive economic transformation, China is faced with substantial ongoing and emerging challenges related to its continued rapid growth. Income inequality remains serious, with large economic disparities between urban and rural areas and between more developed coastal provinces and less developed inland regions. Also, despite progress in privatization, a considerable part of China’s economy remains controlled by large state-owned enterprises (SOEs), many of which are inefficient and unprofitable. Other daunting challenges include pollution and degradation of natural resources as a consequence of rapid industrial development, as well as a high unemployment rate (both in its cities and in the countryside) that poses a threat to social stability. Another important challenge for China is to rebalance its economy away from heavy dependence on investment and exports as primary sources of growth and toward consumption. The government should play an important role in achieving a boost to consumption through efforts to increase spending on health care, education, and pensions.
China’s economy has experienced sustained rapid growth over the past two decades, with real GDP growing at an annual rate of around ten percent in recent years. In 2004 GDP grew 10.1 percent, slightly higher than the 10 percent growth rate in 2003. (Johnson, 2008) Growth in 2004 shifted modestly away from investment and the contribution from net exports increased. This shift reflected stricter enforcement of administrative controls and a tightening of monetary conditions in response to concerns about rapid investment growth since early 2002 as fueling a more generalized overheating of the economy. During 2004, the Chinese government tightened macroeconomic policies. The People’s Bank of China (PBC) took several steps to reduce liquidity in the banking sector and slow lending growth, including intensifying open market operations, increasing bank deposit and lending interest rates, and eliminating the ceiling on lending rates.
However, the economy has not seen any signs of cooling thus far. Real GDP grew 9.9 percent in 2005, with growth continuing to be driven by exports and investment-backed by easy credit. Economic activity maintained its momentum in 2006, with real GDP estimated to grow 10.6 percent partly due to acceleration in investment, while exports continued to be strong. (www.state.gov) To keep the pace of investment and credit growth in check, it is necessary for the Chinese government to take further steps to reform the banking sector towards strengthening supervision and open market operation. Enhanced supervision of bank lending and strengthened prudential rules will help keep near-term credit growth and enhance overall financial stability.
On the fiscal side, progress has been made in revenue performance in recent years. As a result, the overall fiscal deficit declined to 2.4 percent of GDP in 2003 from 2.9 percent of GDP in 2002. Stronger revenue performance and robust economic activity led to a further decline of the fiscal deficit to 1.6 percent of GDP in 2004 and 1.2 percent of GDP in 2005. (Mitter, 2008) Consumer price inflation increased to 4 percent in 2004 from 1.2 percent in 2003 due to rising food prices reflecting the effects of drought and floods in some parts of the country. Inflation fell to 1.8 percent in 2005 largely driven by a significant moderation of food prices as agricultural production returned to normal levels. “Measured on a purchasing power parity (PPP) basis, China in 2007 stood as the second-largest economy in the world after the US, although in per capita terms the country is still lower middle-income. Annual inflows of foreign direct investment in 2007 rose to $75 billion. By the end of 2007, more than 5,000 domestic Chinese enterprises had established direct investments in 172 countries and regions around the world.” (www.cia.gov)
Balance of Payments
Export growth continues to be a major component supporting China’s rapid economic growth, and China’s current account has been in surplus due to large surpluses in its trade balance. In 2005 the external position strengthened substantially as the trade surplus surged from US$59 billion in 2004 to US$134.2 billion, as exports remained strong throughout most of the year. Meanwhile, import growth slowed sharply in the first part of the year before picking up in the second half. As a result, the external current account surplus increased to 7.2 percent of GDP in 2005 from 3.5 percent of GDP in 2004. (Johnson, 2008) The larger external current account surplus, together with strong capital inflows, led to a further sizable increase of gross international reserves, which reached US$821.5 billion in 2005, compared with US$614.5 billion in 2004. (Reuvid, 2008)
The United States is China’s major export market, accounting for more than 20 percent of China’s total exports, while China’s imports from the United States account for about 10 percent of its total imports.
China has taken important steps to open its foreign trade system and integrate itself into the world trade system. In November 1991, China joined the Asia-Pacific Economic Cooperation (APEC) group, which promotes free trade and cooperation in the economic, trade, investment, and technology spheres. China formally joined the WTO in December 2001, and it has continued implementing its WTO commitments, including further tariff reductions and removing non-tariff measures such as import quotas and import licenses. Progress in the liberalization of services, including banking, distribution, and telecommunication, is on track; concrete regulations are also being drafted that would fully meet the WTO commitment to provide equal treatment to foreign banks.
In recent years, China’s widening current account surplus, combined with continued strong capital inflows, has led to a large build-up of international reserves and complicated the conduct of monetary policy. Fueled by easy credit, an investment currently accounts for around 45 percent of China’s GDP, and has largely been financed by domestic savings. This has resulted in a growing current account surplus and contributed to the global economic imbalances. In this regard, financial sector reform is critical for China to correct the imbalance, and greater exchange rate flexibility will help drive such reform by making possible more market-driven interest rates. Such a move is generally considered only in China’s best interests because it will help the country establish a solid foundation for further integration into the global economy and improve its population’s living standards.
China’s economy during the last quarter-century has changed from a centrally planned system that was largely closed to international trade to a more market-oriented economy that has a rapidly growing private sector and is a major player in the global economy. Reforms started in the late 1970s with the phasing out of collectivized agriculture and expanded to include the gradual liberalization of prices, fiscal decentralization, increased autonomy for state enterprises, the foundation of a diversified banking system, the development of stock markets, the rapid growth of the non-state sector, and the opening to foreign trade and investment. China has generally implemented reforms in a gradualist or piecemeal fashion, including the sale of equity in China’s largest state banks to foreign investors and refinements in foreign exchange and bond markets in 2005. The restructuring of the economy and resulting efficiency gains have contributed to a more than tenfold increase in GDP since 1978.
Measured on a purchasing power parity (PPP) basis, China in 2006 stood as the second-largest economy in the world after the United States, although in per capita terms the country is still lower middle-income and 130 million Chinese falls below international poverty lines. Economic development has generally been more rapid in coastal provinces than in the interior, and there are large disparities in per capita income between regions. The government has struggled to:
- sustain adequate job growth for tens of millions of workers laid off from state-owned enterprises, migrants, and new entrants to the workforce;
- reduce corruption and other economic crimes, and
- contain environmental damage and social strife related to the economy’s rapid transformation.
From 100 million to 150 million surplus rural workers are adrift between the villages and the cities, many subsisting through part-time, low-paying jobs. (MacDonald, 2008)
One demographic consequence of the “one child” policy is that China is now one of the most rapidly aging countries in the world. Another long-term threat to growth is the deterioration in the environment – notably air pollution, soil erosion, and the steady fall of the water table, especially in the north. China continues to lose arable land because of erosion and economic development. Foreign investment remains a strong element in China’s remarkable expansion in world trade and has been an important factor in the growth of urban jobs. In July 2005, China revalued its currency by 2.1% against the United States dollar and moved to an exchange rate system that references a basket of currencies. In 2006, China had the largest current account surplus in the world – nearly $180 billion. More power-generating capacity came online in 2006 as large-scale investments were completed. Thirteen years in construction at a cost of $24 billion, the immense Three Gorges Dam across the Yangtze River was essentially completed in 2006 and will revolutionize electrification and flood control in the area. (Reuvid, 2008)
The 11th Five-Year Program (2006-10), approved by the National People’s Congress in March 2006, calls for a 20% reduction in energy consumption per unit of GDP by 2010 and an estimated 45% increase in GDP by 2010. (MacDonald, 2008) The plan states that conserving resources and protecting the environment are basic goals, but it lacks details on the policies and reforms necessary to achieve these goals.
Foreign Investment Assessment
Despite China’s major push to overhaul its economy along more market-oriented lines, the rule of law, especially as it applies to contracts and general matters of commerce remains weak. Still, a huge potential market and a rapidly growing economy provide powerful incentives for foreign investors to take their chances in China.
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