The Forceful Ideology of Michael Pettis

How Pettis bewitches accounting identities with normative and causal force, minimising both Chinese success and Western failure... And why he is nonetheless right to care about global imbalances.

Attention Conservation Notice

~17,000 words of sometimes facetious but ultimately intellectually rigorous (and polite) evaluation of the doctrines and rhetoric of Michael Pettis. A work initially conceived as polemic but realised as something different. Touching on the following themes and topics:

• How to understand the accounting identities that Pettis’ worldview relies on;

• Whether causal dynamics (or normative lessons) can be read off of such accounting identities;

• Whether there is an inherent link between a country’s current account and its manufacturing share of GDP;

• Whether and to what extent the maintenance of manufacturing strength can be linked to suppression of “consumers” or workers;

• To what extent Chinese workers have been shafted by the country’s growth model;

• To what extent Pettis’ overall perspective on China since 2010 has held up;

• How we should think about the net global harms of countries that maintain persistent current account surpluses;

• Why Bretton Woods collapsed and whether Keynes’ preferred vision would have been more robust;

• Who would have done better and worse in a Keynesian world;

• What should be our hopes for the future of world trade and the balance between nations.

Table of Contents

1. An accounting-based worldview (?)

2. On the causal dynamics of manufacturing strength (and how it relates to China)

3. Assessing the domestic consequences of China’s growth model

4. On the ethical status of modern mercantilism

5. On the harms of an imbalanced world, and Keynes’ alternative vision

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In the last few years, any casual reader of the global financial press or listener to global economics podcasts would have encountered a certain mode of rhetoric, most often wielded in discussions of China. Certain key phrases immediately identify it: “Excess savings”, “Overinvestment”, “Underconsumption”, “Suppressing consumption”, and “Overcapacity”. There are multiple narratives associated with this rhetorical mode but the main thread is that the manufacturing sectors of America and other advanced trade-deficit countries have been undermined by the scale of Chinese industrial exports, and that this enormous scale of production is only possible because of the “distortionary” state-led investment, worker-suppression and currency-manipulation regime favoured by the CCP. Not only is this bad for the countries affected, it is also held to be fundamentally unsustainable for China itself and unfavourable for its workers, because it tends to lead to inefficient capital allocation and is inherently associated with reduced prosperity and wellbeing for the Chinese people.

The claims contained within this rhetoric have some merit and I agree to some extent with many of them. As I’ll explain later, I agree that the deindustrialisation of Western economies has been bad in many respects, and I agree that China’s model has led to major internal distortions and is associated with a weak labour regime. But I will show that the framing of these narratives is narrow and avoids nuance. More importantly, I will reveal the weakness of the intellectual framework behind the jargon.

At the same time, I do not think that Pettis is full of hot air. As it happens, his writing has often touched on a more meaningful debate hiding beneath the surface of this emotive and ideological discourse — one that goes beyond the usual framing of America vs China. I turn to that debate in the last section of this essay.

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When I first started hearing the mode of rhetoric described above, I didn’t fully understand the intellectual framework behind it. What does “savings” mean and why does the concept of “excess savings” get used interchangeably with the idea of “overinvestment”? Furthermore, why are these two different concepts further conflated with the idea of “underconsumption”? The answer, it turns out, is in large part due to one man’s rhetoric about accounting.

A brief bio of our subject. Michael Pettis is a global trade economist best known for his critiques of China’s growth model. After many years working in international finance (JP Morgan then Bear Stearns), he moved to China and began teaching graduate-level finance in Beijing. Some years after that, he became known as a prominent China critic. He launched a widely read blog, China Financial Markets, in 2010 whose early articles exhibit the same themes he is known for today: China’s unbalanced growth model, the need to transition from a regime of state-led investment to a more conventional consumption economy, and the unsustainability of its growth rates. Circa 2009, he became a Senior Associate at the Carnegie Endowment for International Peace (earliest evidence here), which is now the masthead for his blog. His first book, The Great Rebalancing (2013), seems to have crystallised his arguments:

• China’s growth relied on imbalances (too much investment relative to consumption)

• Adjustment would require slower growth or redistribution to households

Since 2016, and especially since the Biden era, his long-practised rhetoric has harmonised with currents in American politics on “both sides”. In 2021, he capitalised on this by co-authoring a book with a fellow named Matthew Klein titled, Trade Wars are Class Wars: How Rising Inequality Distorts the Global Economy and Threatens International Peace. Here was a manifesto perfectly calibrated for the moment! First and foremost, it blames China for America’s malaise:

As president, Trump has followed through by levying punitive tariffs on most Chinese imports, by officially designating the country a “currency manipulator,” and by blocking Chinese investments into U.S. companies. Unlike most of Trump’s other policies, confronting China over trade has been popular across the American political spectrum. Charles Schumer, the lead Democrat in the Senate, praised the punitive tariffs in 2018 because “China is our real trade enemy” and “threatens millions of future American jobs.”

This political consensus is based on an important truth: Chinese government policies before 2008 destroyed millions of U.S. jobs and inflated the housing debt bubble.

[The Introduction to Trade Wars are Class Wars.]

Second, it appeals to the egg-heads among us, as it serves up an abstract intellectual framework (based, no less, on accounting) that purports to explain broad sweeps of global economic history and the rise and fall of nations.

Third, it appeals to the Egalitarian-minded among us (on Left and Right) by positing that the economic symmetry of America and China — the financialised, current-account-deficit American economy and the high manufacturing-intensity, current-account-surplus Chinese economy — is maintained by a collusion of elites in each country. On the American side, the regime has broadly favoured the following elite sectors:

• the big corporates that have benefitted from cheap offshored labour;

• the financial sector writ large, which has benefitted from America’s role as the main sponge of the “excess savings” of the rest of the world.

It has come at the expense of manufacturing workers, exposed regions, and parts of the nonfinancial tradable sector.

On the Chinese side, it has obviously been the intention of the party and administrative elites since the Deng era to develop the country as rapidly as possible through an export-driven model. And, in order to maintain the attractiveness of their exports in the 21st Century, they have artificially suppressed the value of the RMB, discouraged stock market growth, outlawed independent unions, kept social support very minimal and maintained the huji system (which deprives migrant urban workers of government benefits).

Finally, the book’s general support for reindustrialisation through interventionist measures jibes generally with the approach of American policymakers in the post-Trump era. Pettis and Klein actually don’t advocate the use of tariffs to restore the trade balance, but they do support capital controls and putting pressure on China to change its model.

All in all, no surprise it made a splash.

In the years since, Pettis’ ideas have remained relevant, especially as China’s current account surplus has continued to balloon, and amidst widespread discussion of Chinese “involution”. As recently as four days ago, Martin Wolf name-dropped Pettis in an article titled “Imbalances are back on the global agenda”.

The critique in the rest of this essay draws primarily from the arguments in Trade Wars are Class Wars. The best place to begin our journey is the centre of the whole worldview: accounting.

An accounting-based worldview (?)

I may have hyped up Trade Wars are Class Wars slightly in the intro, but truth be told, it’s not a riveting read. To give a sense, here is an excerpt from Chapter 3, “Saving, Investment, and Imbalances”:

Globally, all economic output is either consumed or used to develop productive assets. For the world as a whole, saving and investment are equal by definition. In most countries, however, saving and investment are not equal. Some places produce more than they use domestically, while other countries produce less than they need. These differences are reconciled through trade: excess output is exported to places where domestic demand (consumption plus investment) is greater than domestic production (GDP). Surpluses and deficits are the result.

This can be represented with the following set of simple equations:

Global demand = Global production

Demand = Consumption + Investment

Production = Consumption + Savings

Domestic demand = GDP + Imports – Exports

Exports – Imports = Domestic saving – Domestic investment

If you don’t have prior experience with this sort of jargon, I can guess what you’re thinking: what the hell are they on about? Perhaps some people find this intuitive but I think it’s really poorly explained.

Unfortunately, to explain this well involves a painstaking sentence-by-sentence deconstruction and some elementary algebra. So here goes.

Let’s start with the first sentence: “Globally, all economic output is either consumed or used to develop productive assets.”

It may sound like a grandiose proclamation but they’re just referring to an accounting definition. If you imagine a closed economy — either a hypothetical nation that never engages in trade, or the world as a whole — then the standard expenditure approach of measuring gross product can be reduced to three components:

• “Household Consumption”, C;

• “Investment”, I;

• “Government final consumption expenditure plus public investment”, G.

All in all:

\(Y = C + I + G\)

This can be further simplified to simply Y = C + I by redistributing the G component into these same categories of consumption and investment.

\(Y = C + I\)

Within the context of national accounts, consumption is computed as the “final expenditure” on goods, services and rent, measured from retail data and surveys. Investment is defined as spending on newly produced goods that are not immediately consumed — technically, the sum of “fixed capital formation” (buildings constructed, machinery purchased, etc) and “inventory change” (goods produced but not sold).

So when Pettis and Klein state “all economic output is either consumed or used to develop productive assets”, they are effectively just referring to the expenditure definition of output, which is the sum of one or more components relating to consumption and one or more components referring to spending on new, unsold stuff (I). The phrase “productive assets” is commonly used to refer to I but the definition I gave above is more informative.

Next sentence: “For the world as a whole, saving and investment are equal by definition.”

This statement feels conceptually confusing but it follows immediately from defining a new concept of “saving” in terms of our existing variables. Suppose we have a value for Y (gross output of our hypothetical closed economy) that is measured using the income approach rather than the expenditure approach (i.e., by adding up wages and salaries, business profits, interest and rent, etc.) Then we would define savings according to the following equation:

\(\begin{aligned}[left] &S = Y_I - C - G \\ \\ &\text{where $Y_I$ denotes the income approach} \end{aligned}\)

This makes some intuitive sense as “savings” here is the income residual: the amount that is earned or gained but not spent. Since gross product (Y) is theoretically meant to be the same whether measured through the expenditure or income approach, then S should be equal to I. Voila!

While it may be easy to understand from an accounting lens why S = I (in a closed economy), it does feel a little unintuitive from a conceptual standpoint. To frame the confusion in an ill-posed question: Why should the amount people save be equal to the amount people invest? The problem with this question is it makes too much of the conceptual meaning of statistical constructs. S is not a literal measure of how much money is in people’s savings accounts, it’s the statistical residual left after subtracting final consumption from gross income. To be clear, there is a causal link between the two: there’s no question that S will be higher if more households forego consumption and keep their money in their savings account (or in financial assets of various descriptions). But it’s not literally a sum of that pool of money; it’s the sum of output less consumption, which is the same definition as “Investment”.

If you’re worried that I’ve taken this long to deconstruct two sentences, you can rest easy because I’ll practically gallop through the rest of the passage.

The rest of the passage is just about the fact that, once you introduce trade into the equation, this S = I identity is no longer going to be true. We earlier gave the gross product equation for a closed economy, and now here is the same equation for an open economy (using the simplified approach where G is folded into C and I):

\(Y = C + I + (X - M)\)

Here, X denotes the value of exports and M the value of imports.

Now if we plug in our definition of S from above, we can reproduce all of Pettis and Klein’s word equations. For example, here’s how we re-arrange for the final equation (“Exports – Imports = Domestic saving – Domestic investment”):

\(\begin{aligned}[left] &S = Y - C \\ &S = (C + I + (X - M)) - C \\ &S = I + X - M\\ &X - M = S - I \end{aligned}\)

Said differently, the final line here states that a nation’s balance of trade must be equal to the gap between income not spent domestically and domestic investment.

So what does this final equation — X - M = S - I — buy Pettis in an intellectual sense? It allows him to express a causal claim, namely, that the way nations maintain S > I year after year is by means of a “high-savings model of development”. By “high-savings model”, he means a political-economic regime that “suppresses consumption” in the sense that it diverts a disproportionately large proportion of output towards government and business investment. This is achieved through some combination of the following mechanisms: high levels of co-ordinated or state-led investment, limited labour power, relatively high taxation, currency devaluation, weak social safety nets and a low-returning domestic financial system. The crucial thing is that S > I does not mean investment is low in any absolute sense; a country can invest at an extraordinary rate and still save even more. Recall that expenditure in national accounts is split into consumption and investment. Within an economy, more consumption (relative to fixed output) means less savings whereas a higher investment share is mirrored by a higher saving share, because output not consumed is classified as saving. Long story short, countries that maintain this regime of S > I are characterised by their tendency to keep investment high in proportion to consumption. In other words, S > I but also the ratio I/C is higher than in typical trade-deficit countries. (At the same time, says Pettis, it also becomes harder to maintain a high value of I over time because of declining returns.) Here, finally, is an explanation for why the seemingly unrelated terms “Excess savings”, “Overinvestment” and “Underconsumption” are used more or less interchangeably in this discourse.

There’s just one more accounting nuance we need to explain before we can move on to something more interesting. I just gave an equation that describes the relationship between the trade balance (X - M) and a country’s Savings and Investment, but Pettis doesn’t only talk about “trade balance” — in fact, he refers more often to “current account balance”. So what’s the difference? Well, the current account balance is the trade balance plus some extra terms like so:

\(CA = X - M + NI + NT\)

Here, NI = net income from abroad (investment income, wages) and NT = net transfers (transfers, remittances, etc.) To put it simply, a country’s current account reflects both its trade surplus and its net earnings from the rest of the world. So that is why, for Pettis, the current account balance is an even truer reflection of a country’s “excess savings” from the whole world than the trade surplus.

Thus concludes the accounting tutorial. As much as this was necessary to understand Pettis’ writing, I don’t think it is ultimately necessary to understand Pettis’s ideas. Indeed, I think the reliance on accounting language, rather than causal language, is a form of obscurantism — one that does two useful things for Pettis:

1. It serves a certain impression of dispassionate authority, disguising the strong normative dimension of his claims.

2. It gives the impression that the causal engine he is describing — the “high-savings model” — is a direct readout of accounting identities rather than an empirical hypothesis like any other.

I am not saying that there is anything wrong with these accounting identities or that Pettis fundamentally misuses them. It’s only that, if we step away from the accounting jargon entirely, Pettis’ main idea can be framed very differently.

‘Real’ competitive advantages matter far less for driving trade balances than the ability of countries pursuing an export-led model to successfully suppress their own domestic consumption.

Of course, this framing makes clear that he is just making a concrete causal claim, one that can be tested and compared against other causal channels. In the actual world, competitive advantages certainly do matter. If you’ll forgive a parochial example, does anyone think that my country, Australia, maintains a consistently positive balance of trade by suppressing consumption? Hell no! We have high wages and we are just as insanely consumerist as America. Nevertheless, we have a consistent trade surplus because we export a lot of stuff that is valuable to the rest of the world (mostly, iron ore, coal and gas). The result is that S > I, simply because the export income doesn’t all flow into the consumer economy.

To be clear, Pettis has never said that competitive advantages — things like natural resource endowment — are irrelevant (though he doesn’t talk about them much at all). And, for what it’s worth, Australia tends to have a current account deficit, despite its trade surplus, because of high FDI inflows. But the example is useful mostly for illustrating the limited field of view of the accounting lens. Understanding the “real” forces governing the world, not just the financial ones, is in many cases much more important — a theme we will return to again and again, especially as the discussion turns to China.

So far we have entirely discussed the surplus side of the equation, but what about deficit nations? You’re probably wondering: don’t they have agency too?

You would be forgiven for thinking so, but if we’re talking about America, Pettis and Klein’s answer is a resolute no. The reason why is the downstream consequences of the scale of demand for the US dollar and the country’s low-risk financial assets. Here’s a key passage from chapter 6, “The American Exception: The Exorbitant Burden and the Persistent Deficit”:

The choices of American households, businesses, and the government are not enough to understand why the United States has persistently run current account deficits across a range of economic conditions. Whenever one sector cuts spending, another steps in to take its place. It is more helpful to think of the current account balance as the independent variable, with U.S. households, businesses, and the government adjusting their behavior in response to the financial inflows from abroad. The specific mix between private and public borrowing, or between corporate capital spending and home building, is largely a function of U.S. domestic conditions and policy. But the aggregate result is determined outside America’s borders.

This is why, despite sharing so many characteristics with Germany, the United States has consistently run current account deficits. The key difference between America and Germany is the robust foreign appetite for U.S. assets, without which no sustained current account deficit would be possible. That appetite, in turn, can be explained by the special role that American sovereign debt and related obligations have come to play in the international financial system.

The reasoning that comes before this passage explains the thinking: America’s current account balance has widened even as it has become more unequal (which should support moving towards a current account surplus) and even when it has reduced its budget deficits (which should do the same). And why is that? Because although foreign capital flows into the US should push up S and I/C by inflating asset prices, there are significant countervailing forces. Most notably:

• The demand for US treasuries and other safe US assets tends to push down yields and therefore interest rates, which ultimately results in an abundance of credit ⇒ high domestic consumption.

• The demand for the dollar keeps it strong which makes American exports less competitive.

• A stronger dollar also encourages more consumption by making imported goods cheaper.

So despite suggestions to the contrary (a passage about the “collusion of U.S. business interests with Chinese politicians and industrialists” and the title of the book), Pettis and Klein take a softer touch to American elites. To be clear, they believe that Wall Street and American multinationals have learned to benefit from this world, but they don’t believe that there are good policy options for America to adjust on its own. Instead, they believe the only real solution is to apply pressure on the countries that create the biggest distortions (read: China) and, ultimately, to implement a new Bretton Woods-style system that puts an end to currency manipulation.

So is this analysis correct? Well, it’s a little too vague to be correct in any strong sense, and is at the very least overstated. The insufficient precision of this thesis is cast into relief by reading the much more rigorous analysis of former IMF Chief Economist Maurice Obstfeld in his 2025 paper, “The U.S. Trade Deficit: Myths and Realities”.

Obstfeld acknowledges the centrality of the dollar to the global trading system. As he puts it, “The U.S. dollar is the world’s overwhelmingly dominant reserve, invoicing, vehicle, anchor, and funding currency”. He also acknowledges that this has important effects. But he argues that those effects are overstated by figures like Pettis and don’t truly force America into a trade deficit position.

After rebutting the similar but stronger claims of Stephen Miran (the idea that the dollar’s reserve status effectively dooms America to an unsustainable current account deficit), Obstfeld systematically analyses the individual causal claims bound up in the Pettis thesis. First, the relationship between a country’s share in international reserves and its current account position. He cites quantitative studies estimating a modest effect but also making this point (page 25):

While these considerations suggest that the dollar’s global role induces a bigger deficit, they could just as well imply a smaller surplus. The euro area has a trade surplus despite issuing the world’s second most important reserve currency.

Another causal channel is co-ordinated purchases of US dollars, carried out by countries seeking to devalue their own currency relative to the US dollar. He grants that this factor probably has been “a significant determinant of the U.S. deficit in some years (notably close to the Global Financial Crisis)”.

From here, Obstfeld turns to the historical record. What caused the US’ widening trade deficit in the early 2000s and what has caused it to stay large since? In short, foreign capital flows played a role but not the simple one portrayed by Pettis and Klein. It’s worth quoting his analysis at length:

Theories that paint the United States as the helpless recipient of global capital inflows and cheaper foreign goods do not stand up against the data for the 2000s, notably for the 2002-2008 period when the U.S. deficit reached record highs and the U.S. housing bubble began in earnest, culminating in a massive crisis. A more complex narrative better fits the facts. Certainly, international factors mattered; but domestic factors were important too, and at times, more important.

From 1998 to 2002, the global saving glut theory has more plausibility: the dollar at least continues to appreciate (figure 7), which could represent increased foreign demand from East Asian countries and others […]. However, global saving falls as a fraction of world GDP from 1998 to 2002 according to IMF data. While U.S. real interest rates do fall from 2000 to 2002 (after rising between 1998 and 2000), this is more immediately linked to the dot-com collapse, its global effects, and the Fed’s efforts to stave off recession, which themselves cannot be explained by a (nonexistent) increase in global saving. Instead, we are mostly seeing an investment collapse. […]

From 2002 to 2008, the global saving glut theory of the U.S. deficit looks even less convincing owing to the dollar’s depreciation up until the financial crisis (although IMF data do show global saving rising by 2.4 percentage points between 2002 and 2008, the net contribution all due to emerging markets). An alternative narrative consistent with the dollar’s fall suggests that over that period, capital was to a large degree pulled into the United States from abroad rather than pushed in by elevated global saving with nowhere to go but America. Three interacting factors, two of them largely home grown, led Americans to spend and borrow, issuing dollar bonds in global markets and pushing the dollar to weaken:

1. Easy financial conditions and the real estate bubble.

2. U.S. fiscal and monetary policy.

3. Foreign safe asset demand, including official dollar purchases, which held down U.S. interest rates.

In addition, a major global structural shock also contributed to dollar depreciation, with a likely negative effect on the U.S. trade balance:

4. China’s entry into the WTO.

So Obstfeld is definitely acknowledging the importance of foreign factors and, in particular, “foreign safe asset demand”, and in that sense he is not completely at odds with the Pettis and Klein account. But his injection of nuance is particularly pertinent in relation to the American housing bubble given that Pettis and Klein more or less imply that the real estate bubble — and the resulting crash, i.e. the GFC or Great Recession — was entirely caused by frugal foreigners:

The world’s savers wanted to buy trillions of dollars of low-risk bonds that did not exist. American and European investment bankers responded with a burst of creativity. As the old Wall Street saying goes, “When the ducks are quacking, feed them.” Between the start of 2001 and the middle of 2007, the world’s financiers produced about $2.5 trillion of private-label U.S. mortgage-backed securities (MBS), most of which were based on residential mortgage loans that did not conform to normal underwriting standards.

[Excerpt from Chapter 6, “The American Exception: The Exorbitant Burden and the Persistent Deficit”]

Yes, you got that right, American bankers had their hands tied — there was simply too much foreign money flowing in and they were forced to create junk securities!

Maybe you thought the GFC was a story about rampant greed and fraud in a de-regulated and poorly overseen financial system, but it was actually a cruel plot by the “world’s savers” (those depraved ghouls).

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To summarise this section:

• Pettis’ theorising is driven by a causal reading of an accounting equation that puts the strongest emphasis on nations that maintain a persistent surplus by pushing up “savings” (better stated as keeping consumption low relative to output (which tends to mean high investment)).

• This emphasis leads to a narrow preoccupation with the control of financial flows over other, “real-economy” causal channels.

• There is some merit to the idea that America, specifically, has been pushed further into a current account deficit due to the pre-eminent status of the American dollar and its financial system. But the reality is more complicated than Pettis and Klein’s portrayal.

On the causal dynamics of manufacturing strength (and how it relates to China)

What allows a nation to become a manufacturing power? And how is that power maintained? Michael Pettis is not a direct theorist of these questions, but he does claim to provide a partial answer through his accountant’s lens (his Accountoscope, if you will).

His position, as stated in this article for example, is that countries able to maintain the “high-savings model” are at a structural advantage. The primary factor is a cost advantage: because workers in such regimes are typically being paid less relative to their output, the finished product tends to be cheaper. Another related consideration — certainly applicable to China — is that such “high savings” regimes often have a high degree of state subsidisation which facilitates competitiveness by allowing lower profit margins. Yet another powerful weapon in the arsenal is that of currency devaluation.

In the article I linked, Pettis attempts to ground this hypothesis of structural advantage in the following empirical claim: “advanced economies with current account surpluses mostly have manufacturing shares of GDP that are above the global average, and advanced economies with current account deficits mostly have manufacturing shares of GDP that are below the global average”. The evidence for this claim consists of the following graph:

The empirical merit of this article has been challenged by Policy Tensor in his ill-tempered article, “Debunking the Pettis-Miran Hypotheses”. Rhetorical histrionics notwithstanding, Policy Tensor convincingly shows that this particular visualisation is not evidence of much at all. Proving a causal hypothesis of this kind requires more than two static snapshots of an N=10 sample with no attempt to quantify the causal effect or eliminate confounds.

From Policy Tensor’s own analysis of a much larger sample of countries between 2000 and 2020, he finds 0 relationship between the change in current account balance (as a % of GDP) and the change in the manufacturing share of GDP.

Rigorous empirical analysis is perhaps not Pettis’ strongest suit (and I could point to several more examples of half-assed empirical analysis from Trade Wars are Class Wars), but that doesn’t mean that his theory of structural advantage, as described above, is completely wrong. The mistake is his usual one of trying to reduce everything to accounting. In this article, his apparent claim is that the key determinant of becoming and remaining a manufacturing superpower is following his high-savings model. In other words, deliberately enacting some sort of policy regime — and there are many ways it could be done — that tends to limit the share of output going towards ordinary workers / consumers in order to support continuing manufacturing strength. There’s no doubt that keeping wages low helps maintain manufacturing competitiveness. But it turns out that this is only one part of a much richer story.

It just so happens that Policy Tensor’s dataset (shown below) is a useful entrypoint for exploring this richer story.

In particular, we can use it to carry out a fun experiment. Let’s take the top three manufacturing-value-added growth stories from the latter period (2010-2020) —Ireland (IRL), Vietnam (VNM) and Slovenia (SVN) — and briefly explore the factors behind their rise.

First, Ireland. The story of Ireland really is an accounting story… but not a Pettis-style accounting story, more of a story of accounting abuse. From around 2014–2015 especially, large US multinationals (Apple, pharma, tech firms) moved intellectual property assets into Irish subsidiaries. These IP assets (patents, software, etc.) were treated as “capital” located in Ireland. The global profits generated using that IP were booked as Irish value-added, and these profits showed up heavily in manufacturing and exports. This is what produced the famous 2015 “leprechaun economics” episode of 26% GDP growth in one year. (For more, read Corporation Tax in the Republic of Ireland or Tax Avoidance and the Irish Balance of Payments.)

To be fair, that example doesn’t prove anyone’s point but it does illustrate the perils of basing a theory on such statistics.

On the other hand, the growth in manufacturing-value-added in Vietnam and Slovenia over this period was quite real. My limited research suggests that, for Slovenia, it was largely due to deepening integration in the manufacturing networks of Germany and Austria. A combination of lower wages and genuine skilled labour / engineering capability provided the basis for taking a much bigger share of EU manufacturing supply chains.

Meanwhile, Vietnam is a classic story of late-industrialising, export-oriented growth, driven by FDI and global supply chain relocation. Vietnam’s FDI started to increase after it joined the WTO in 2007, and by 2014 FDI firms accounted for a whopping 67.4% of exports.¹ A major driver was a shift in supply chains from China to Vietnam due to rising wages and labour competition in the former. Samsung was a key player in this regard, as it largely shifted its electronics manufacturing from China to Vietnam during this period (for more, read “Samsung in Vietnam: FDI, Business–Government Relations, Industrial Parks, and Skills Shortages”). Vietnam has continued to benefit from supply chain relocation out of China in the years since.

So what does this prove? Mostly, I think it just illustrates something that should be obvious: that growth in manufacturing does not come for free but requires a confluence of factors — competitive labour costs, a skilled labour force, some sort of existing industrial base, and being in the right place to take advantage of supply chain re-location.

Unlike Policy Tensor, I don’t think this dataset fundamentally undermines Pettis’ way of thinking. But it does prove that his “high savings” framework is wholly inadequate as a theory of manufacturing power. More concretely: you don’t magically become a manufacturing power by controlling domestic financial flows; you do it by being seriously competitive from a labour and supply chain integration standpoint.

Where his framework does make more sense — and where it does have some bite on China specifically — is as a description of how an export-led growth model is maintained over time, even as an economy grows strongly and wages begin to rise. His more defensible claim: if China hadn’t shaped its political-economic regime in the ways mentioned previously (keeping labour power weak, controlling the flow of investment, suppressing the RMB), it would have a lower current account surplus and a lower manufacturing share of GDP. Another defensible claim: once a country becomes a manufacturing power, it is incentivised to try to shape its political-economic regime according to this so-called “high savings” model, lest it lose its global competitiveness and the many jobs that usually go with it.

To be more specific about the ways in which Pettis’ description is accurate in relation to China:

Has China’s export-led growth model, and consistently large trade surplus, been supported by the aspects of its policy regime that shape the proportion of output that goes towards workers? Yes, because workers with lower wages and less bargaining power means greater competitiveness, and any mechanisms that help suppress these things are bound to help (e.g. keeping around the huji system and maintaining a low level of social welfare).

Has China’s export-led growth model, and consistently large trade surplus, been supported by its massive subsidisation of certain industries? Yes, undoubtedly. For example, the story of its rise to NEV and battery dominance is a state-led industrial policy story through and through. I’ve told this story in my previous essay:

Has China’s export-led growth model, and consistently large trade surplus, been supported by currency devaluation (and its symmetric effects on other currencies)? Again, undoubtedly.

On the other hand:

Is it essentially impossible for America to significantly reduce its trade deficit because of China’s actions? No, as we dealt with in the last section, that part is not clear. America’s trade deficit tends to be worsened in various ways related to the central position of the American dollar in the world economy and America’s financial system along with it. But China is but one player in that story. As for the contribution of deindustrialisation to America’s trade deficit, China’s policy regime may have accelerated it in the 21st Century (after it entered the WTO), but it was American companies who chose to offshore their production to begin with.

Most importantly:

Is the story of China’s rise to manufacturing superpower, and the maintenance of that status even as it has climbed the value chain, primarily explicable through the lens of controlling financial flows and suppressing workers? Absolutely, categorically not.

As most people have woken up to by now, China long ago transitioned from manufacturer of the worlds’s low-complexity goods (toys, clothes, basic electronics) to the leading technological power in the world — the home of most of the world’s cutting-edge technological supply chains and an energy superpower beyond all reckoning. To give a more detailed summary:

• China reigns supreme in Green Tech, especially solar, batteries and EVs. Regarding solar, China’s share in all the manufacturing stages of solar panels exceeds 80%. For batteries, China produces over three-quarters sold globally. And in EVs, China’s market share has only been increasing year on year. As of 2024, it already accounted for 40% of global electric-car exports, or nearly 1.25 million units. Finally, in wind, 10 of the world’s top 15 wind turbine suppliers in 2024 were Chinese.

• China is now the central market in industrial automation. The International Federation of Robotics says 54% of all industrial robots installed worldwide in 2024 were deployed in China, with about 295,000 new units installed that year, and China’s operational robot stock exceeded 2 million units.

• China is now at the forefront of ship building. UNCTAD reports that in 2023 China delivered more than 50% of the world’s new ship capacity for the first time.

• In machine tools and industrial machinery, China is again a top player. In 2024, China accounted for about one-third of global production of metalworking machine tools, making it the largest producer.

• In consumer electronics, some of the share has shifted to India and Vietnam but China is still holding its own. China still held around four-fifths of global laptop production in 2024 and roughly half of global smartphone shipments.

• China is still growing in household appliances and its brands — Midea, Haier, Gree and Hisense — are starting to compete aggressively with established Korean, Japanese and German brands across most common categories.

• SMIC, China’s leading semiconductor manufacturer, can now comfortably produce 7nm chips (shipped in Huawei phones), and has the capacity to produce 5nm chips, if perhaps not yet at low cost. This equates to the capabilities of the world-leading semiconductor manufacturer, TSMC, in 2019-2020. This is despite not having access to any of ASML’s EUV lithography machines.

• In the commercial aviation industry, China’s Comac (an SOE) is signalling its arrival as a major player and eventual Airbus / Boeing competitor, having now made 100s of deliveries across Asia.

I’ll put this simply: does this sound like the kind of thing that can be achieved merely by controlling financial flows?

There’s two crucial points to make here. One is that this is not a purely ‘industrial’ story but, in many of these sectors, a genuine story of technological leadership (a point that Policy Tensor also gestures at in his article). China is not only the world’s factory but also now the world’s most innovative country. A very influential report put out by the Australian Strategic Policy Institute, the Critical Technology Tracker, shows that (a) China now generally dominates the world in “high-impact” research publications (45.2%) and (b) dominates the vast majority of strategically important categories. Here is a table from the 2023 report:

The other crucial point to make is this: Pettis’ theory completely neglects the existence of endogenous positive feedbacks from achieving a strong manufacturing base. Once again, his total laser focus on accounting and finance leads him to exclude the most basic facts about the world. What are these basic facts? That there are things called “skilled labour forces”, “process knowledge”, “industrial ecosystems”, “supply chain co-location” — things that countries gradually develop as they grow a manufacturing base and which provide the basis for extending into new areas over time.

The phenomenon I am describing has been developed into a quite general theory by Ricardo Hausmann, whose work on economic complexity (with César Hidalgo and others) formalises how productive capabilities accumulate and reinforce themselves over time. In this framework, countries do not simply “choose” what to produce based on relative prices; rather, they expand into new industries that are adjacent to existing capabilities, because complex products require networks of tacit knowledge, specialised suppliers and skilled labour that take time to develop. The Economic Complexity Index, the best known measure of this notion of “complexity”, has given rise to a rich empirical literature that generally affirms its power as a predictor of long-run economic growth (e.g. this recent paper).

This has two implications that undermine Pettis’ usual framing:

First, countries that have already achieved a high level of industrial complexity don’t necessarily need to control the policy regime and suppress wages in order to stay ahead of other countries. Instead, their existing industrial ecology and process knowledge typically puts them in a strong position to explore new product areas and the export opportunities that go along with them. So if a high-complexity country becomes uncompetitive in one product category due to rising wages, there is a good chance that they will soon discover a new, typically higher-value-add export category. In some ways, this is the story of China’s industrial development over the 21st Century. By the time Bangladesh was eroding China’s share of textiles, China had already consolidated dominance in electronics; and by the time Vietnam was taking over low-end assembly, China had moved into electric vehicles and batteries.

Second, it’s hard to get started. Even having cutting-edge researchers and engineers in a particular area isn’t enough without the broader ecosystem of process knowledge and services provided by experienced factory workers (or without appropriate physical infrastructure). A good example is my own country. Australia has been a genuine global leader in solar research, particularly through institutions like UNSW Sydney. Work led by Martin Green — widely considered the “father of modern photovoltaics” — produced many of the foundational advances in high-efficiency silicon photovoltaics, including the PERC (Passivated Emitter and Rear Cell) architecture, which is now the dominant commercial solar cell design worldwide. (In 2021, the PERC cell accounted for 91.2% of worldwide silicon solar module production.) And yet Australia’s contribution to that production was (and remains) minuscule. The irony is that Green and collaborators did try to kickstart solar panel manufacturing in Australia in the 1990s through a company called Pacific Solar (later renamed CSG Solar) but they eventually scaled back their industrial ambitions due to a lack of commercial viability. Meanwhile, it was one of Green’s Chinese students, Zhengrong Shi, who returned to China from UNSW in 2002 and launched China’s first commercial solar panel manufacturing line (read more in this ABC article).

Pettis locates most of the inertia of trade imbalances (and manufacturing share of GDP) in financial flows. There is not a single match for “economic complexity”, “industrial policy” or “process knowledge” in the entirety of Trade Wars are Class Wars. But to the extent that trade imbalances are tied to manufacturing intensity (which, recall, is only a partial link), it is largely because some countries have developed the capabilities to manufacture things and some countries have not. This also highlights a major weakness in the Neoliberal arguments used to justify the deindustrialisation of Western nations (particularly America) since the 1970s. It may be more efficient — better for the P&L of multinationals and better for the average consumer — to move production to cheaper countries. But it is often questionable from the point of view of long-term national interest, because eroding an industrial base, and the labour force that goes with it, may also erode future innovation and complexification prospects.

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To summarise this section:

• While not offering a comprehensive theory of the causes of manufacturing strength, Pettis argues for the following positions:

  • (A) that there is an inherent link between manufacturing share of GDP and persistent current account surpluses;

  • (B) that a lot (most?) of the inertia in manufacturing intensity is caused by political regimes implementing the “high savings” model of financial flows.

• Empirical analysis disproves (A): there is at best a weak link between an economy’s manufacturing intensity and its balance of trade.

• Regarding (B), the “high savings” analysis does bite in relation to China, insofar as its export-led growth model is particularly extreme and has no doubt been supported by various aspects of the political regime: weak labour rights, high levels of subsidisation and currency devaluation.

• But this lens on China cannot begin to explain the monumental scale of its economic and technological achievements.

• Pettis is completely blind to a more powerful source of inertia in the relative manufacturing strength of different countries, that explained by an “economic complexity” lens.

Assessing the domestic consequences of China’s growth model

So far we’ve mostly focussed on the descriptive dimension of Pettis’ worldview, the idea that sustained trade and current account surpluses are caused less by competitive advantages than by suppressing consumption. But there is an equally important normative dimension: the idea that China’s policy regime is bad for the world as a whole and for most Chinese people themselves.

Despite his sedulous adhesion to a very technical mode of discourse, it’s clear that Pettis decided long ago — at least as early as 2010, possibly before he ever arrived in China — that he wanted the CCP to abandon its growth model. In this post from late 2010, for example, he openly advocated for a significant slowdown in Chinese growth. In the years following, he continued a similar theme, such as this article, which predicts that the Chinese level of investment is unsustainable and that the country is more or less doomed to a significant deceleration in growth as a result (more on this article in due course).

To be clear, he doesn’t frame this as wanting China to fail or its people to suffer. Per the 2010 blog: “I don’t even think such a rapid slowdown in Chinese growth will be bad for China.” The reason he doesn’t see it this way is precisely because his preferred growth model involves significantly more output going towards workers (“consumption”). At the same time, we can’t be too fair: with the benefit of hindsight, it is now possible to show that in important respects China would have been worse off economically had they taken people like Pettis more seriously.

Let’s start this exercise by being more concrete about Pettis’ claims. In his 2012 blogpost, “The IMF on Overinvestment in China”, Pettis concludes as follows:

The extent of Chinese overinvestment – even if we assume that it has not already caused significant fragility in the banking system and enormous hidden losses yet to be amortized – requires a very sharp contraction just to get back to a “normal” which, in the past, was anyway associated with difficult economic adjustments. It is hard to imagine how such a sharp contraction in investment will itself not lead to a sharp drop in GDP growth.

In September 2013, he quantified this position, arguing “that 3-4% average annual growth rates is likely to be the upper limit for China [emphasis mine]” over the next few years. This “upper limit” is itself contingent on a very substantial process of “rebalancing”, i.e. much faster growth in household consumption than in investment — in particular, a 7-8% growth rate in household consumption. On the other hand, if China doesn’t undergo this radical rebalancing process, he implies that the economy may achieve higher growth for another few years but the consequences will ultimately be dire (a “much higher risk of an economic collapse”).

With the benefit of hindsight, it’s clear that he was at least too pessimistic about the results of continuing the ‘imbalanced’ model. But that doesn’t mean his positive vision was flawed. We can assess this vision by constructing a counterfactual comparison: how would things look today if China had rebalanced in the way Pettis advocated?

First, we’ll take it as given that we do care about Chinese workers, not just top-line GDP. And although we could start earlier, we’ll anchor our counterfactual exercise to the start of 2014, because that is the most natural reference point for a counterfactual whereby the CCP takes seriously Pettis’ specific advocacy from the above article (September 2013). Finally, we’ll proxy “household consumption” by using real disposable household income. Putting this all together, we want to ask the following:

Would the average Chinese person be better off in a Pettis-preferred scenario of ~3.5% GDP growth and very high C/I growth ratio between 2014 and 2025 versus what actually played out over this period?

If China really was able to achieve this “upper limit” growth+consumption scenario that Pettis lays out, it turns out that — to his credit — the answer would have been yes, despite the much lower GDP growth associated with this scenario. Here is a useful comparison table²:

Methodology / Sourcing

• China’s actual GDP growth determined from the World Bank series up to 2024 and then using the China NBS growth figure of 5% for 2025.

• China’s real per-capita disposable income averaged from the NBS publications of this stat for each year in the time period (2014, 2015, 2016, 2017, 2018, 2019, 2020, 2021, 2022, 2023, 2024, 2025).

• The Covid shock to GDP under the Pettis scenario estimated by assuming the same Covid-era shortfall in baseline growth that China experienced between 2020-22, of about 6.1% (derived conservatively from actual cumulative growth of ~14.5% over 2020-22 versus 2014-19 pre-Covid growth trend of 22%). A similar exercise gives a shortfall of ~7.0% for real disposable income. Rather than taking this figure as given, the income adjustments in the table conservatively assume a shortfall range of 6-7%.

So we must concede to Pettis that if things unfolded exactly as per the midpoint of his “upper limit” scenario then the average worker income may have been 12-13% higher (after Covid adjustment).

On the other hand, China as a whole would be far poorer! If you run the numbers based on the above assumptions for the Covid-adjusted Pettis model, you get a 2025 GDP figure of 100.38 trillion yuan, versus the actual 2025 GDP figure of 140.1879 trillion yuan, i.e. a 28.4% smaller economy. And who knows what this equates to in terms of what China would have missed out on! What would be the size of its car industry if it dramatically shifted its economic model? Would BYD be where it is today? What would be the size of its Green tech industry? Would China be electrifying at the same rate? Would CATL be where it is today? What about cutting-edge chips — SMIC and Huawei? DeepSeek? Comac? Would China’s geopolitical positioning be anywhere near as strong?

Importantly, the higher GDP growth that has taken place, and the fact that it has largely avoided rebalancing according to the Pettis prescription, means that China still has the capacity to rebalance in the years to come. In an optimistic long-run scenario, it means that worker incomes can reach far higher heights than they ever could under Pettis’ preferred scenario, because the pie is much bigger.

This is not to mention the fact that Pettis’ scenario isn’t particularly plausible as an alternative history — after all, this scenario is an “upper limit” even on Pettis’ telling. To carry out such an aggressive rebalancing strategy for 10 years straight would require an enormous force of political will and everything going exactly to plan.

So while I can believe that Pettis has always been sincere in his advocacy that China’s economic model shafts the worker at the expense of economic elites, it is unclear whether his prescriptions were in the interests of Chinese workers in the longer sweep of history. In saying this, I don’t mean to imply that the CCP has not shafted workers. The huji system is a moral travesty. And if you are a Chinese worker nearing retirement now, you clearly would have been better off with faster income growth (a more Pettisian scenario). The point is simply this: if China gets serious about growing worker incomes now, then the average mid-career worker will likely end up better off than if China had rebalanced earlier, and doubly so for an early-career worker. Furthermore, the country has better future growth prospects due to the sectors of the economy boosted by its high-investment model (green tech, computing, robotics, etc).

I think the main root cause of the pessimism of Pettis (and similar critics) about China’s growth model in the early 2010s was the idea that a systematically high ratio of I/C ultimately creates an unsustainable burden of inefficient capital allocation. To put it simply, even if you don’t outright “run out” of good opportunities, a lot more money ends up chasing bad than good.

This is a very natural way of thinking, especially for people schooled in finance and economics, but the fatalistic conclusion makes a number of strong assumptions.

Before I explain the failure modes of this mental model, let me acknowledge that China’s economic model has resulted in a vast amount of inefficient capital allocation. The most obvious thing to point to is Chinese real estate developments. The “Ghost Cities” narrative that we’ve encountered in Western media for decades has been inflated, because a lot of the developments termed “Ghost Cities” eventually turned out fine. (The Wiki page, Underoccupied developments in China, documents a number of massively overstated examples.) But there’s a reason that Evergrande collapsed, and there’s a reason that China’s property market has been anaemic in most places since 2020.

An important catalyst for the Evergrande collapse was Xi’s “three red lines” policy. Introduced in 2020, the rules restricted developer borrowing according to three balance-sheet tests: liability-to-asset ratio, net gearing and cash-to-short-term debt. Evergrande breached all three and thus rapidly fell into a liquidity crisis. In one sense this was not simply the spontaneous bursting of a bubble: it was a deliberately induced deleveraging shock, consistent with Xi’s earlier insistence that “housing is for living in, not for speculation”. At the same time, the fact that a regulatory tightening could trigger such a systemic crisis indicates that the fragility was already there. For years, the model had rested on a self-reinforcing chain: local governments sold land to developers; developers borrowed against ever-rising land and apartment prices; households bought unfinished apartments as both shelter and investment; and local governments used the resulting land revenues, directly or through local-government financing vehicles, to fund infrastructure, industrial parks and growth-target politics.

The unwind since 2021 has therefore been severe. According to the Reserve Bank of Australia, by the end of 2023, Chinese residential investment was around 20 percent below its 2019 average and national new housing sales were almost 50 percent lower. In 2024, real-estate development investment fell 10.6 percent and sales value fell 17.1 percent (NBS); and in 2025, the downturn deepened again, with real-estate development investment falling another 17.2 percent to 8.28 trillion yuan, while sales value fell 12.6 percent (NBS).

The deeper point is that real estate is only the most spectacular version of a more general local-government incentive problem. Chinese local officials have long been judged on their ability to deliver growth, investment, employment, fiscal revenue and visible development. That gives them a structural bias toward land conversion, infrastructure buildout, subsidised industrial parks and the courting of favoured industries, even when too many other jurisdictions are doing the same thing. This helps explain why the Chinese state can be extraordinarily effective at scaling strategic industries, but also why it so often produces “involution”. Beijing appears increasingly concerned with this problem, with recent moves to tighten oversight of local-government subsidies explicitly framed as a response to involution (see this Reuters article).

And yet, somehow — despite all this distorted investment — the net result is that China still grew very rapidly in the latter part of the 21st Century and is the most advanced country in the world.

How?

The first thing to understand is that, as much as Chinese local governments and state banks face strong incentives to pursue government-favoured goals — and that these goals may be at odds with a pure financial return lens — these institutions are still beholden to financial pressures. We are not talking about some kind of infinite money spigot for favoured industries. So while the higher land revenues driven by the real estate bubble may have funded a higher proportion of sub-optimal investments, this was by no means limitless.

But there is a deeper point, too. A naive Neoliberal frame sees state investment as an inherently distortionary force, “crowding out” rational private capital allocations. When carried out on a Chinese scale, the logical conclusion is, well, a disaster: a rapid saturation of high-growth opportunities and a build-up of unsustainable debt. Yet this mental model relies on several assumptions that are much less robust than they look.

Assumption 1: There are no categories of investment that are slow to saturate at a national scale

In other words, it assumes that a national-scale mobilisation of capital, land, policy support, engineering talent and firms around one broad investment theme will inevitably result in rapidly diminishing returns. But this is not always true. Some investment categories are better conceptualised as ecosystems, and ecosystems can absorb a huge amount of capital before the opportunity is exhausted.

The transformation of China into an electric vehicle superpower is the obvious example. This was not just ‘investment in EV companies’; it was investment in batteries, charging infrastructure, consumer subsidies, software, power electronics, manufacturing process know-how and export capacity. This connects to the “economic complexity” idea referenced earlier. In both frames — “ecosystem” and “economic complexity” — a key idea is that this complexification process generates its own positive feedbacks. More charging infrastructure made EVs more attractive; more EV sales made charging infrastructure more commercially viable; more battery demand improved scale and learning; and more domestic competition forced firms to improve cost, quality and speed.

Since the Chinese car industry now faces its own involution problem, we can in hindsight say that the dial was turned too far, at least in recent years. But it was probably worth overshooting the mark to realise the payoff of global industrial dominance in such an important sector.

Assumption 2: Redundant or wasted investment is never worthwhile (even for enormous upside)

This assumption violates a core tenet of Venture Capital and Industrial Policy alike: capturing one ‘winner’ with enormous upside can be worth wasting a lot of capital on losers. This is a balancing act but one that can work so long as feedback about failure arrives quickly, so that bad investments can be abandoned.

I will not make a detailed argument for it, but I believe this is a big part of the story of China’s success across various categories: solar panels, EVs, batteries, and some other parts of advanced manufacturing.

Assumption 3: Geopolitical and trade-coercion advantages are not to be factored into the investment payoff equation

A narrow financial-return model struggles to assign value to control over supply chains. But this control can be enormously valuable even if the activity itself is low-margin.

Rare earths are a useful example. Mining and processing rare earths has historically been highly polluting and low-margin, and therefore unattractive to rich countries operating under normal private-sector return constraints. Yet China’s dominance in rare-earth processing and permanent magnets has become a major geopolitical asset. The Centre for Strategic and International Studies has warned that China’s rare-earth and magnet export controls threaten US defence supply chains.

The final comment I’d make is that this frame of thinking tends to neglect that the underlying conception of “overinvestment” may not actually be overinvestment with respect to non-economic values. Government investments in education, healthcare or infrastructure may be justifiable according to non-economic dimensions of value even if their economic benefits aren’t commensurate with the expenditure involved. A clear-cut case would be something like investment in disability support — morally justified even if its net economic benefit is neutral or negative. Even big infrastructure projects are sometimes defined less in terms of pure economic benefit than in terms of intangible values like “national prestige” or the aspiration of becoming a “world-class city”. At least some of the time these intangible values reflect deeper considerations that are valid even if hard to quantify in economic terms (e.g. a quality-of-life effect or long-run feedbacks invisible to short-run econometric analyses).

Again, I am not saying that China’s capital allocation hasn’t been warped by its growth model, nor am I trying to minimise the manifestation of those distortions in the Chinese property market. What I am trying to say is that the catastrophists have been proven wrong because they were labouring under an overly simplistic model of investment. And I think this applies to Pettis himself.

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To summarise this section:

• Pettis has always framed his criticism of China’s growth model as supportive of Chinese workers. But with the benefit of hindsight, this solidarity is less clear. Older workers today would (in theory) be better off had China followed the sort of radical rebalancing trajectory favoured by Pettis, but the country as a whole would be poorer and weaker. And younger workers today will hopefully end their lives better off as a result of delayed rebalancing.

• China’s model has resulted in a vast amount of inefficient / distortionary capital allocation, most notably in the property sector.

• While a naive, Finance-101 model says that China’s heavy-investment model was doomed to fail across the board, this way of thinking makes non-robust assumptions:

  • that all national-scale investment strategies quickly saturate;

  • that redundant investment is never worth it, even if the process generating redundancy is necessary to find the rare exception of enormous upside;

  • that we shouldn’t factor geopolitical advantages into the payoff structure;

  • and that economic values are the only relevant values.

On the ethical status of modern mercantilism

I implied in the previous section that Pettis’ critiques have long been motivated by a strong normative agenda, but needless to say I do not myself embody the “view from nowhere”. Indeed, I’ve made the uncomfortable realisation in writing this essay that my own feelings about China are much more confused than Pettis’.

Pettis has a strong line: China’s growth model is inherently bad. It has serious domestic costs for workers and it has major spillover effects for other countries. On the other hand, I have historically considered myself an advocate of the Nordic model — high welfare, high wages (supported by widespread collective bargaining), low inequality — but I just spent the previous section (partly) justifying the sacrifice of China’s workers on the altar of investment-led growth.

Later in this section, I will describe the new reflective equilibrium I have arrived at to resolve this dissonance. But before I do so, I want to acknowledge another way in which my views have been challenged during the writing of this essay.

I started the essay with an attitude of unmixed opposition towards Pettis. My initial working title was “The Sophistry of Michael Pettis”. I felt negatively disposed towards him in large part because I regarded him as an intellectual footsoldier of the geopolitical rivalry between America and China. More specifically, I perceived his ideology as the most respectable and academic version of a genre that I regarded with disdain: the “China Collapse” narrative. My own feelings about America and China should not be indulged in this essay (an earlier draft included a stream-of-consciousness diatribe about my white-hot anti-American feelings and my inevitable gravitational drift into pro-China sympathies (and also the impact of travelling to China and becoming interested in the language and history)). Without indulging these feelings, let me give a summary that is directly pertinent to this essay: when every American and their dog was complaining about Chinese “overcapacity” a couple of years ago, they mostly sounded like whinging losers to me.

Again, I can now admit that the moral question is a little more complicated than that. But my feeling of contempt for this rhetoric didn’t come from nowhere. Leaving aside my broader feelings about America and China (again, please don’t indulge me), it was anchored in a couple of specific gripes as follows:

What is Green tech “overcapacity” in the context of climate breakdown?

When extended to Chinese Green tech, as it usually was, I felt that the “overcapacity” demonisation was associated with an unserious or uncaring approach towards climate change and the energy transition. For those who view climate breakdown as the defining issue of the century, China’s enormous productive capacity in the realms of solar panels, EVs and batteries has presented one of the few sources of hope. The fact that China realised this productive capacity by means of multi-decade state support does not diminish this evaluation in the slightest. After all, if you do regard climate change as an impending planetary catastrophe, it becomes less a sin than an obligation for governments to subsidise industries that might help reduce the worst effects of this disaster. (By contrast, it was clearly the case that for many Western politicians and pundits the perceived negative geopolitical and trade effects of this Green-tech overcapacity trumped the positive effects for the energy transition.)

From “Industrial Policy doesn’t work!” to “Industrial Policy is unfair!”

I felt that many Neoliberals and establishment figures were quietly changing their narrative in a way that very much bothered me. Ever since the ascendancy of the monetarism and the Chicago School in the 1970s, and especially after the collapse of the Soviet Union, the Western establishment narrative about state-led investment has been one of extreme pessimism or dismissiveness. Don’t you know that Industrial Policy is inherently inefficient — if it works at all, only in specific historical cases. Don’t you know that state-led investment automatically causes waste and unsustainable debt burdens? It was this kind of ideology that originated and sustained the “China Collapse” narrative. And suddenly I felt as if the establishment narrative had transitioned, almost overnight, from “This doesn’t work!” to “This is unfair!”. And at the same time as saying “This is unfair”, Western governments promptly got to work on their own industrial policies!

I get that this is a vaporous accusation. Who, specifically, am I talking about? But I’m sure that I could back up this impression with a quantitative analysis of articles on such topics in publications like the FT and The Economist since about 2016 (when the shift started happening). I’ll leave this task to a sympathetic reader.

But while I still have these gripes, I now recognise that it’s unfair to pin them on Michael Pettis. I now recognise that (a) Pettis’ stance predates these more recent trends in discourse, (b) he has always been metronomically consistent and (c) there appears to be a fundamental earnestness in his critiques.

More importantly, I’ve realised that I cannot comprehensively refute his ideas. As much as I’ve cast aspersions on facets of Pettis’ ideology and presentation in this essay so far, I wouldn’t say I’ve come close to dismantling his worldview. There’s no question he was overly pessimistic about China’s growth model, no question that he’s wrong about the causal relationship between a country’s balance of trade and its manufacturing share of GDP, and no question that he understates China’s world-historical Industrial Policy triumph. But the core of his ideology is not any of these things, but rather the simple proposition that the world is overall worse off because of “high savings” regimes like China’s. This core doctrine does not strictly depend on any of these other views.

Before I explain this point, let’s first coin a new term. I hereby propose to replace the bland and confusing Pettisian term “high savings model” with the much more evocative “modern mercantilism”.

The word “mercantilism” has a lot of historical baggage, associated as it is with the Early Modern Period of European capitalism. Shorn of this historical context, it can be loosely defined as a growth strategy that privileges the sustenance of a large trade surplus. One can therefore define “modern mercantilism” as the employment of one or more of the strategies that Pettis bundles into his “high savings” model: high levels of state investment, ‘suppression of consumption’ (a weak labour rights regime, high taxation, low welfare), and currency devaluation.

With this new term in hand, let’s restate Pettis’ core normative claim:

Pettis’ Core Normative Claim

Modern mercantilism is a net negative force in the world.

This doctrine can be broken into two pillars: the domestic and international. The domestic harms mostly come from the fact that modern mercantilism involves, by definition, a policy regime where workers reap a relatively low share of output. Maintaining this state of affairs requires maintaining one or more things that are obviously bad from an Egalitarian point of view: low wages relative to GDP, weak labour protections, low social welfare. As I argued in the previous section, China’s example illustrates that a sufficiently sophisticated and powerful investment-led growth model may end up ‘worth it’ in the long run, even if workers do poorly along the way. But this is still just a hypothesis, even for China (it requires that they do, in fact, start to rebalance in the coming years and successfully combat involution). It is also a cruelly Utilitarian way of viewing the world.

The other pillar is the claim that modern mercantilism distorts other countries in a negative way. Perhaps the most obvious harm is the potential for eroding the competitiveness of export industries within countries that are more Egalitarian (countries that do not practice any of the labour-suppressing facets of modern mercantilism). Another, subtler harm is the idea, discussed in the first section, that the “excess savings” generated in surplus countries can be used to perpetuate a vicious cycle. To wit, the surplus countries have too much output relative to investment opportunities in their own country so they buy treasuries and other safe financial assets in deficit countries — most obviously, America — which tends to exacerbate the gap.

While I have addressed both these pillars throughout the course of this essay, I haven’t fully undermined either.

With that said, I certainly don’t subscribe to either pillar in quite the same degree as Pettis. Since Pettis never really believed China’s growth model would work in the long-run, he could only see serious moral harms in China’s weak labour regime. I, on the other hand, think that China’s example reveals real, if uncomfortable, tradeoffs. To be clear, I am not myself saying that China shouldn’t have strengthened the status of workers and the social safety net over the last decade or two. Nor am I saying that doing so would have fundamentally undermined their economic model. In that sense, I think (/ want to believe) there was a middle-ground in the 2010s between Pettis’ medicine of radical rebalancing and the path they actually chose. But I also can’t deny that China’s path to becoming the world’s manufacturing superpower has been helped by the weak labour regime — more specifically, the fact that Chinese people work incredibly hard for relatively low wages.

(And how does this update my stance on the Nordic model? It doesn’t invalidate it, it just suggests that there are tradeoffs that need to be accounted for. In particular, structurally high wages do vitiate export competitiveness (unless you achieve a world-leading degree of industrial automation and efficiency in a given sector). Either way, I would strongly advocate for China to become more social-democratic in its welfare and wage regime over time.)

On the international side, I similarly differ from Pettis in subtle respects. Pettis would say that the way modern mercantilism renders other countries less competitive is inherently bad. This is the case regardless of which specific mechanisms are involved, whether ‘just’ state subsidisation and currency devaluation, or those things plus a suppressive labour regime. The bundling of these mechanisms together in one ‘bad’ basket is one of Pettis’ key moves. As I’ll explain, I think this move is informed by a way of looking at the world that comes from (neoclassical) economics.

For a layperson without this education, there’s no obvious reason why state subsidisation and currency devaluation are bad in themselves. It’s clear enough that successful state intervention of this kind will, if it works, hurt the interests of industrial workers in less subsidised countries, but it’s also clear that there are positive offsetting effects: the more competitive country gains jobs and the world’s consumers benefit from the lower-priced products. This point is only strengthened if the state subsidisation helps support genuine innovation. A similar pre-theoretic argument could be made for currency devaluation, viz., it’s not inherently bad because it just shifts competitiveness from one country to another, meaning the net welfare effect should be roughly neutral.

Pettis, on the other hand, holds the economist’s view that such moves are typically “unproductive” from a global point of view and, furthermore, tend to encourage a vicious cycle of unproductive responses. The thinking behind this can be illustrated with a simple thought experiment.

Suppose that two countries both manufacture the same kind of good, the “Geejaw”, at roughly the same level of technological sophistication. In country A, the wages are lower but the workers are also less productive than in country B, and the net effect is that the two countries are roughly equal players in the global market. Now suppose that country A starts giving out tax credits to their Geejaw industry and B doesn’t respond. The result is that country A will be able to charge less to buyers on the global market and, in so doing, increase their share. This is a good outcome for country A, whose GDP goes up, and bad for country B, whose GDP goes down. But if these state subsidises have not made country A’s industry any more productive, then the world has a whole has gained nothing meaningful. Furthermore, there are other, potentially negative effects:

• Country A may have worsened its fiscal position (if the cost of the tax credits isn’t perfectly offset by the tax revenue from the higher export profits).

• Its example has set a precedent for other countries to follow suit with their own similar, non-productive responses.

The argument against deliberate currency devaluation follows a similar logic: currency devaluation carries a fiscal burden, because it requires selling your own currency and buying other currencies, and it doesn’t make the world more productive, only shifting the balance.

I do not pretend to have a knock-down argument against this way of thinking because the internal logic is fairly sound. But there are some strong assumptions in play here.

The first strong assumption is the idea that these state interventions are, by default, unproductive. We have already rebutted this proposition at an earlier point in this essay, but the point is worth making briefly again. The classic scenario from the history of Industrial Policy is the role of the state in nurturing fledging industries until they reach the economies of scale necessary to become self-sustaining. From that point, productivity gains can compound on their own. This is a massively simplified version of what has happened over and over again in (mostly) Asian countries in the latter part of the 20th Century and early 21st Century — Japan, Korea, Taiwan, China, Vietnam. (And note that, even for established industries, there is nothing to prevent government subsidises from successfully going after productivity-improving gains.)

The other way of pushing back is the Green tech objection. China’s enormous subsidisation of solar panel and battery production has mostly not been “productive” in a narrow economic sense, and yet it has created a huge boon (I would claim) for the long-run fate of the world. These technologies help us accelerate the energy transition, and accelerating the energy transition is the only way we can mitigate the transformation of the biosphere due to climate change and the long-run ravages it will wreak on human civilisation (by means of declining agricultural productivity, desertification, extreme weather events, eroding coastlines, heat deaths, disease burden, and so on). So even though China’s scale of investment has begun to look quite “unproductive” as its Green tech industries have faced involution, this is only because global financial and political incentives are not well-attuned to the risks of climate breakdown. In a different world — one without enormously powerful fossil fuel interests, with a global carbon tax and committed governments — the profit margins for these goods might still be high at the current scale of production.

Pettis may concede some ground on these points. I imagine he would concede at least that not all government interventions are unproductive, and that Green tech may be somewhat of an exception. But he would still insist that China’s modern mercantilism — and modern mercantilism in general — tends to be a net negative force in the world.

On that point, my own view remains more agnostic.

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In some ways, I think the question we’ve been answering in this section was the wrong one to ask.

Is modern mercantilism a net negative force in the world? If you don’t have a strong theoretical view one way or another, it feels impossible to answer. Admittedly, the focus is sharpened when we ask, “Is China’s modern mercantilism a net negative force on the world?” But the radically different emotional register of that question is also where we get into trouble. Making the debate specifically about China makes everything feel incredibly high-stakes and emotive. It feels as if one’s stance on this question says everything — about one’s views on America, on Trump, on China, on Xi Jinping, on J.D. Vance, on Pete Hegseth, on the lunatic war in Iran, on Clavicular, on China’s crimes against humanity in Xinjiang, on Mr Beast, on the Gaza genocide, …

(The most fundamental difference between Pettis and me is that when I think of America, I experience a parade of repulsive associations and feel an upwelling of bile so strong that I can hardly keep it in. This bile has multiple times threatened to ooze onto the pages of this essay in the form of a stream-of-consciousness Beat Poem about my anti-Americanism.³)

So, if we really care about a better world, I propose we go beyond this framing and ask a different question instead. Not “Is China’s modern mercantilism a net negative force in the world?” but “Can we design a healthier international trade and monetary system — one that places barriers in the way of all highly imbalanced growth models, and one that is more conducive to global co-operation?” I believe the answer is “Yes”. What’s more, I believe that this righteous moral vision can be found in Pettis’ own work.

On the harms of an imbalanced world, and Keynes’ alternative vision

In the rare moments that Pettis drops his own focus on China (and its mirror, America), a righteous, international vision can be found. As Pettis and Klein say in the conclusion of Trade Wars are Class Wars: “All the peoples of the world suffer from this arrangement”.

In the most general version of the story, “this arrangement” effectively means the fact we live in a global financial regime that puts minimal pressure on persistent trade-surplus countries to reduce their balance of trade. So Pettis and Klein have a diagnosis, but what is the cure? The answer, they suggest, is a new global regime in the spirit of John Maynard Keynes’ Bancor proposal at the Bretton Woods Conference of 1944.

To explain all this requires a historical detour.

The Bretton Woods System

Between 1950 and 1971, the world of global trade looked quite different from today. Today, most major currencies “float”, but under the regime of the time, the so-called “Bretton Woods system”, countries agreed to maintain fixed exchange rates against the US dollar, while the US promised to convert dollars held by foreign monetary authorities into gold at $35 an ounce. Although the mechanics of this system came undone in the 1970s (for reasons I will shortly describe), the core institutions of this order are still very much with us today — most notably, the IMF and International Bank for Reconstruction and Development (IBRD).

Before I explain why the exchange regime came undone, let me first describe the mechanisms in a bit more detail.

Under Bretton Woods, countries were required to establish a parity of their national currencies in terms of the reserve currency (a “peg”) and to maintain exchange rates within plus or minus 1% of parity (a “band”) by intervening in their foreign exchange markets. In practice, this meant buying foreign currency and selling their own when their currency came under downward pressure, and doing the reverse when it was pushed above the peg. Importantly, the pegs were not fixed for all time but could be changed with the approval of the IMF. The IMF would accept an adjustment up to 10% under ‘normal’ circumstances and more than 10% if they agreed that a country’s balance of payments was in a “fundamental disequilibrium”. Notably, this flexibility allowed Bretton Woods to avoid the worst pathologies of the pre-1914 gold standard. Rather than forcing deficit countries into prolonged deflation to defend their parity, the system gave them a formal escape valve: they could devalue and thus restore external balance without grinding the domestic economy into recession.

So did it work? Well, at a superficial glance, yes, as this regime was associated with a period in history often termed the “Golden Age of Capitalism”, when global growth was considerably higher than the post-1980 period, inequality much lower and the world experienced fewer financial crises. Admittedly, the “fixed but flexible” exchange rates of Bretton Woods were but one factor in that mix and probably a relatively small one. Of perhaps more importance was the global adoption of capital controls during this period which, though not a formal stipulation of Bretton Woods, was a load-bearing assumption of this fixed-exchange architecture. Keynes was an important figure in this regard. He believed that capital controls should be a permanent feature of the international monetary system because free capital flows tended to destabilise fixed exchange systems and made it harder for governments to pursue a steady, full-employment regime.

Later economists have vindicated this Keynesian perspective on the relationship between fixed exchange rates and capital controls, formalising it as the Impossible trinity. This trinity or “trilemma” states that the following three ingredients are jointly unstable:

• a fixed foreign exchange rate;

• free capital movement (absence of capital controls);

• an independent monetary policy.

So one positive framing for why Bretton Woods worked is precisely that it avoided the Impossible trinity by minimising free capital movement. This gave countries the freedom to pursue Keynesian, full-employment economics without worrying about capital leaving the country, and thereby helped secure a world of high growth.

Many economists believe that the higher capital controls of this period also explains the higher financial stability of this period, and the relatively better fortunes of developing economies in particular (read more in the Capital Control Wiki). The basis of this argument is simple to understand: capital controls dampen the effect of downturns by suppressing rapid capital outflows. The 1997 Asian Financial Crisis is often cited as a major vindication of this basic logic, as the lack of capital controls in most countries intensified the massive outflows.

So the broader Bretton Woods regime (“fixed but flexible” exchange in combination with capital controls) definitely had good aspects. However, as I’ve hinted, it also came undone in a spectacular fashion. Importantly, the nature of this collapse revealed a structural flaw in the design — one whose elucidation will bring us back to Pettis.

Why Bretton Woods Collapsed (and whether Bancor would have done better)

What brought Bretton Woods undone?

The Wikipedia page for the “Nixon shock” gives a very nice summary of the timeline.

First, several participating nations started to chafe at the position of the US dollar in the system. It was France’s Minister of Finance, Valéry Giscard d'Estaing, who coined the term “exorbitant privilege" in the 1960s.

Next, the rise in American inflation in the late 1960s (associated with Vietnam) eroded faith in the US dollar and drove increasing redemptions for gold. The London Gold Pool, a major stabilising institution, collapsed in 1968 under the pressure of these redemptions.

Finally, the system somehow limped along until 1971, when the dam broke. West Germany and Switzerland abandoned the Bretton Woods system, and at the same time France and Britain were demanding huge gold redemptions. America’s gold reserves dwindled to the point of catastrophe. Backed into a corner, Nixon and advisers decided on August 15 to unilaterally abandon a central pillar of Bretton Woods: the convertibility of the dollar to gold. From that point, the demise of the fixed exchange rate regime was soon to follow.

There are two ways of reading this timeline. One is to view this as a contingent story of American failure: the US brought this on themselves by losing control of inflation in the late 1960s (fighting a pointless war) and then, as the temperature rose, not taking decisive actions to restore confidence. The most obvious thing they could have done differently is mitigated the late-1960s inflationary spiral by giving up on Vietnam or raising interest rates more sharply. Moreover, with the benefit of hindsight, there were a few moves they could have made even after inflation started to rise:

• Raising the dollar price of gold from $35 to reflect the falling subjective valuation of the US dollar (which they ended up doing anyway in December 1971, after the Nixon shock).

• Imposing stronger controls on capital outflows.

• Expanding IMF Special Drawing Rights (SDRs), introduced in 1969, to provide reserves without requiring U.S. deficits.

But it is also possible to view this timeline as the manifestation of a latent structural flaw in the design of Bretton Woods. This can also be viewed as America’s fault, but for a subtler reason. Namely, it was the Americans at the Bretton Woods conference who engineered this flaw by rejecting Keynes’ Bancor proposal in favour of elevating the US dollar as the reserve currency.

Why did the position of the US dollar in this system amount to a structural flaw? The most general explanation is due to the Belgian-American economist, Robert Triffin, This explanation, known as the Triffin dilemma, goes as follows:

• A country whose currency is the global reserve currency, held by other nations as foreign exchange (FX) reserves to support international trade, must somehow supply the world with its currency in order to fulfil world demand for these FX reserves.

• This supply function is nominally accomplished by international trade, with the country holding reserve currency status being required to run an inevitable trade deficit.

• But this naturally leads to the reserve currency becoming overvalued in relation to gold.

This creates problems even in the absence of a major inflationary spiral in the reserve-currency country. It turns out the US dollar had already become overvalued in relation to gold by 1959! According to the Triffin dilemma Wiki, “By the autumn of 1960, an ounce of gold could be exchanged for US$40 in the London market even though the official rate in the United States was US$35.”

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So that was a brief history of the Bretton Woods system and how it came undone. Now let us turn to Keynes’ alternative proposal: what it was and why it wouldn’t have failed in the same way.

The “Bancor” was Keynes’ name for a new global reserve currency, used in international trade as a unit of account within a new, multilateral clearing system, the International Clearing Union. The way this was supposed to work is as follows:

Goods exported would add bancors to a country’s account in the Clearing Union, while goods imported would subtract them. Each country also had a “quota”, effectively a measure of size, calibrated using recent trade volumes and/or broader measures. This quota was used to formulate a set of rules designed to incentivise balanced trade. To wit:

• If a country’s bancor surplus exceeded a defined fraction of their quota at the Clearing Union, they would pay interest on the excess and face escalating pressure to adjust, including currency appreciation or domestic demand expansion. Persistent surpluses were ultimately subject to partial confiscation into the Union’s Reserve Fund.

• In the case of an excessively negative bancor balance (i.e. a deficit exceeding a similar fraction of quota), the country would initially draw on an automatic overdraft facility but, beyond threshold levels, would face interest charges and be required to devalue its currency.

This proposal trivially avoids the Triffin dilemma — because no one country supplies the reserve currency — but it does something far more dramatic than this, too. Of particular relevance to the Pettis story, this system imposed serious disincentives for persistent trade surpluses, thereby undermining the space for “modern mercantilism”.

Of course, this description remains very abstract. So the final thing I want to do in this essay is make the Bancor vision more vivid. How would the world be different under Bancor? How would China’s path have changed (and that of other 20th Century surplus nations, like Germany and Japan)? And, most importantly, would this be a better world or worse?

The World under Bancor

Under the mechanics of Bancor, both deficit and surplus countries face pressure to adjust. Deficit countries wouldn’t be forced into immediate contraction — they’d have access to automatic financing — but surplus countries wouldn’t be able to sit indefinitely on excess claims. That single change would reshape a lot of second-order outcomes.

One immediate difference is the pattern of global demand. In the actual late-20th and early-21st century system, a small set of countries (especially the U.S.), accounted for a massive amount of the world’s consumption — or in Pettisian terms, “soaked up the world’s excess savings”. In a Bancor world, that absorption would be more distributed. Countries running persistent surpluses would face automatic incentives to correct it, which would push them towards boosting domestic consumption by some mechanism or other. So instead of a world where growth is heavily mediated through access to the U.S. consumer market, you’d get a more multi-polar demand structure. Export-led growth could still happen, but it would tend to transition earlier into domestically driven growth.

China would not be the only country affected by this. West Germany in the 1950s and 60s and Japan from the 60s to the 80s produced large and persistent current account surpluses. In the previous section, we discussed our worry that if China had rebalanced its economy much earlier it may not have gifted the world with quite the same level of Green tech innovations. Adding the examples of West Germany and Japan only extends this worry, as both countries produced unique technological gifts in the midst of such massive surpluses. (Need I mention the examples? All of our lives have been touched by German and Japanese industrial innovation.) The Economic Complexity lens introduced earlier only lends further weight to this anxiety, as it clarifies that the most fertile environment for industrial innovation is a concentrated and diverse industrial ecosystem — precisely the situation for nations like these. These thoughts raise a serious question: would Keynes’ world experience a slower pace of global industrial innovation?

Providing a rigorous answer to this question is beyond the scope of this essay. Firstly, we would need to be much more precise about the Economic Complexity hypothesis. Secondly, we would need to construct precise counterfactuals extrapolating the trade trajectories of each of these countries and how the Bancor incentives would have bitten at each stage.

With that said, I think that we can gain a partial handle on this by assessing how things would be different for China specifically.

An important counterpoint is that the early phase of Chinese growth, like German, Japanese or Korean growth before it — mobilising labour, building manufacturing capacity, plugging into global markets — didn’t inherently require large, persistent surpluses. Even in practice, China’s balance of trade only started to spike around 2005 (see this graph).

At the same time, and without going into the mathematical minutiae of the Bancor incentives, my understanding is that China’s model would have been seriously impinged in the years after 2005 (say, from the late 2000s onwards). From the standpoint of 2026, this naturally raises some fears. If the rebalancing model that resulted is the one Pettis advocated in his early blogs, then the Chinese economy would be far smaller today. There is also no question that a China with structurally higher consumption would have less ability to drive investment through the state. This is for a few reasons:

• Lower consumer savings would drive higher deposit rates and therefore higher capital costs.

• Profit margins would compress due to a higher wage share.

• Real exchange rate appreciation would reduce export competitiveness.

• Higher household income would drive a structural shift towards services (and this would also result in lower productivity growth).

• The political economy would likely shift as citizens felt more empowered to demand things in their own interests, rather than the state’s. This conceivably could have tilted things further in the pro-consumption direction.

Due to my own biases, a lot of this does worry me (not that I’m against ordinary people having more money, it’s more so about imagining a world where America still doesn’t have a geopolitical counterweight and Chinese Green tech is much less of a thing). Yet I also think we should resist the idea that there are only two poles here: either extreme modern mercantilism or a slide into neoliberal consumerism. Contra Pettis, China’s state-led investment model has achieved successes not merely by virtue of its sheer scale, but because (in many areas) it really did support enormous productivity gains. Important strategic decisions in the realm of industrial policy still would have paid off. For example, China’s dominance today in EVs is the result of farsighted industrial policy dating all the way back to the early 2000s (as I described in my energy essay). Equally, China’s dominance in strategic technologies (as referenced earlier) was not the mechanical result of their growth model but related to deeper factors about Chinese society — notably, the cultural importance of education.

Another counterpoint is that countries like Japan and Korea today illustrate at least the possibility of retaining cutting-edge manufacturing prowess without being as distorted as China.

Finally, there is always a great danger in allowing our focus on China to obscure the bigger picture.

If we can get past our worries about a world without BYD or CATL, there are a lot of other things that are appealing about this world. For example, there’s good reason to think that Keynes’ world would have a much smaller Wall Street. You’ll hopefully recall my mockery of Pettis and Klein’s suggestion that the GFC was caused by “the world’s savers” rather than America’s own rampant criminality and corruption, but the broader point they were getting at is not so stupid as it sounds. America’s financial sector has grown incredibly bloated since the 1980s for various reasons: privatisation, the rise of consumer credit, securitisation, deregulation, private pensions and asset management, the globalisation of corporate funding, IT-enabled economies of scale in finance and, since the GFC especially, the extraordinary attractiveness of U.S. equities and venture-backed tech. However, the extraordinary growth of America’s financial sector has ultimately been backstopped by two things: the demand for US safe financial assets, and the extraordinary spending propensity of American consumers. Both of these are driven by America’s “exorbitant privilege” in ways we discussed in the first section.

Keynes’ world would likely have much greater financial stability as well. Because countries would have access to overdrafts at the Clearing Union and because capital flows would be more managed, you’d likely see fewer sudden-stop crises in emerging markets, less need for massive self-insurance via reserve accumulation, and potentially a weaker feedback loop between capital flows and asset bubbles.

The world would also be more equal. If the above claim about Wall Street is true, then obviously there’d be a lot fewer millionaire assholes in America, but the more substantial factor comes from the dis-incentivisation of current account surpluses (and especially modern mercantilism). The best way to reduce one’s current account surplus is to divert more output towards consumption, and that tends to be associated with things that reduce inequality — raising wages and expanding welfare.

Geopolitically, the effects are more ambiguous but tantalising. A system that institutionalises symmetric adjustment reduces one recurring source of tension: the perception that some countries are “free-riding” on others’ demand. That could plausibly lower the intensity of trade conflicts and currency disputes. On the other hand, a Clearing Union with real enforcement power introduces a different kind of politics — countries arguing over quotas, thresholds, and whether someone is in “excess” territory. So you trade market-driven conflict for more institutional negotiation.

It could easily go the other way, but there’s a chance that this helps undergird a more co-operative world in general. The main channel would be indirect: if countries are less preoccupied with defending exchange rates, accumulating reserves or managing crises, they may have more policy space and political bandwidth for collective problems like climate. And a system that already requires ongoing co-ordination over imbalances could, in principle, spill over into deeper habits of multilateral governance. (At least one can hope.)

All in all, given how awful the world is today, I’d take my chances in Keynes’ world over this one.

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The process of writing this essay has amounted to a journey of intellectual and personal discovery for me. I started out intending to write a polemic and ended up with a relatively even-handed critique that acknowledges the righteous moral vision at the core of Pettis’ worldview. I was also forced to reckon with the fact that my hatred of America was distorting my moral compass.

Is that a lesson for the rest of you out there? Very probably.

1. Ikebe, R. (2023), 'Foreign Direct Investment and the Industrialisation of Viet Nam', in Kimura, F. et al (eds.), Viet Nam 2045: Development Issues and Challenges, Jakarta: ERIA, p. 134. Sourced specifically from this PDF link.

2. Yes this is a ChatGPT-generated table. For full transparency, here’s a link to my conversation.

3. I’m allowed to use the Beat Poem format, even though it is American, because America wasn’t as bile-inducing in the 1950s.