Ambassador's speech to Confucius Institute Scotland

Sir Sebastian Wood, British Ambassador to China,delivered a speech to Confucius Institute Scotland.

This was published under the 2010 to 2015 Conservative and Liberal Democrat coalition government

Sir Sebastian Wood KCMG

It’s surprising how many pundits who have never been to China write books about it – a couple come out every week, it seems. Experts who visit regularly are a little more cautious – they tend to write articles and opinion pieces. People who have lived in China for several years struggle even to write a paragraph about the country.

After 5 years in China myself, I understand why this is. The longer you live in China the more you become aware of its complexity and contradictions. It defies generalisations.

One of my Ambassadorial colleagues put it more pithily: the term “China expert” is an oxymoron, and anyone who describes himself as a China expert is a moron.

So I step onto this podium with some trepidation, not as a China expert but as someone who has had 5 years of stimulating, confusing and contradictory experience of that extraordinary country.

Just a week or two ago, the World Bank quietly published a report which noted that China, measured by a yardstick which economists call Purchasing Power Parity, was now the world’s largest economy – larger, even than the United States.

This is an extraordinary, even shocking, fact. Over a period of some 200 years we have become entirely accustomed to a world in which the world’s leading economy (first the UK, then the US) had a language, culture, politics and values with which we were familiar, and comfortable. China has a very different history, civilization and political system, and in the space of just a few years, has now moved at least on this one measure of purchasing power, into the front position. Extraordinary. But it’s worth remembering that what we are seeing is, in a sense, re-establishment of normality. For 18 of the last 20 centuries, economists tell us, China has been the world’s leading economy, not least by virtue of its sheer size. The 19th and 20th Centuries were, in a sense, an aberration.

But, as this new economic reality dawns on the world in the years ahead, it will have a profound impact on all of us: not just political, economic and social; but also psychological and emotional. How will we respond?

Today I will highlight briefly three dimensions of this seismic shift: an opportunity, a need and a risk. And I will begin with opportunity, because I think that for the UK in particular the next few decades of China’s development offer historic and unprecedented opportunity. To explain why I must engage in a bit of amateur economics.

When I arrived in China at the beginning of 2010 I found the country hovering at the threshold of crucial but difficult reforms.
Since Deng Xiaoping had inaugurated the era of reform and opening up, China had been through a quite extraordinary transformation – with a speed and scale unmatched in modern history. The leaders had taken a series of far reaching strategic decisions. They had greatly relaxed State control over people’s lives, allowing farmers first to run small businesses, and then to migrate to cities for work; allowing individuals to choose their own employment and travel not just in China but overseas; opening the country up to foreign investment; privatising and modernising huge numbers of inefficient State-owned industries; giving urban residents the right to purchase and sell their apartments and creating in the process an entire new class of urban consumers; joining the World Trade Organisation and opening large areas of China’s industry to the discipline of international competition.

Cumulatively these bold moves had changed China out of all recognition, lifting half a billion people out of poverty.

If you look at it through an economic lens, this great transformation had been based on two things. Mobilising idle resources, as peasant labour moved into the factories; and catching up with Western technology, as foreign companies exploited the new investment freedoms and moved their manufacturing to China.

For three decades this dynamic process drove Chinese growth at amazingly fast rates – China’s economy doubled in size every 7 or 8 years.

But as we approached the end of the noughties, China’s leaders understood that the juggernaut was running out of road. The supply of labour to China’s factories was getting tighter. Wages were rising. Other emerging economies were offering cheaper locations for manufacturing. Many Chinese factories now had state of the art technology. China’s heavily controlled banking system acted in effect like a gigantic conveyor belt moving wealth from individuals and families to State owned enterprises who were building more and more infrastructure, real estate and factories on which the rate of return was lower and lower. The trends had been accentuated by the stimulus which was necessary after the global financial crisis. It looked increasingly unsustainable.

By late in the last decade, China’s leaders were pretty clear on what was needed. Investment needed to decelerate and financial leverage to reduce. Consumption needed to increase. More had to be done to protect the environment. China’s people needed to save less and spend more. The services sector needed to develop to provide employment. And, having imported most of the technology necessary for a modern economy, China would now need the ability, like other modern economies, to innovate in order to keep growing sustainably. It needed to move from “made in China” to “invented and designed in China”.

But all that is much easier said than done. Making these changes required tackling very powerful vested interests in China’s heavily State directed economy. For several years, there was rather more talk than action. And then in 2008 the global financial crisis struck. China’s investment led response to this was extremely effective at supporting both domestic and global growth during this challenging period, but it also reinforced China’s unsustainable economic imbalances.

Then the leadership changed. This happened in 2012, halfway through my time in China. It was a big event for the country, and indeed the world.

It is now clear that China’s new leadership under Party General Secretary Xi Jinping are taking a bolder approach. They have articulated an inspiring goal for China’s next phase of reform. In future, the market should play “a decisive role”.

In the context of China’s political system, this is bold because China’s reform process up until now has been heavily State directed, and that has given enormous economic power, and indeed created the opportunity for direct financial gain, for an entire generation of senior Party and Government bureaucrats. What the new leadership were effectively saying was that this had to stop. A State directed, top down system was fine for a country which was engaged in a systematic process of catching up technologically with the West. But now China had more or less caught up, the role of the State had to shrink. It had to change from command and control to support and enabling. Only this way could China be more innovative, reduce waste and environmental damage, and invest its resources more wisely.

Today, reform is beginning to match rhetoric. It’s already clear that there has been considerable acceleration since the new leaders took office in 2012. Xi has centralised power. To show that they mean business, Xi’s leadership is taking strong action against corruption, even at the highest levels of the Chinese Government.

Allowing the market a decisive role means permitting some investments to fail and some enterprises to default. It means giving banks more freedom to vary deposit and lending rates. It means allowing the Renminbi greater freedom to move against other currencies. It means progressively liberalising energy and land prices. It means abolishing regulations and permissions. It means further opening China’s market to foreign participation, particularly in the services sector.

Step by step these things are now beginning to happen. They are not yet making big headlines in the West. We have not yet seen big bang changes, like allowing peasants to sell their land, breaking up the biggest State owned monopolies or fully opening China’s markets. There are significant, big challenges ahead. But make no mistake – a series of important, systemic economic changes are underway.

Growth has been allowed to slow markedly, from well over 10 percent in 2010 to a little over 7% now - a big deceleration. With the growth in services, employment remains strong. And with less red tape, there is a boom in the establishment of private companies.

Of course, there are risks to the outlook. The property sector, a major contributor to growth, is undergoing a slowdown, following years of rapid growth. Though credit growth has slowed significantly, China’s debt-to-GDP ratio is still increasing. And the financial sector is becoming increasingly complex, which presents a challenge to China’s different financial regulators.

But on the whole we remain optimistic about China’s growth prospects. And this makes me very excited about future opportunities for the UK. Let me explain why.

The last phase of China’s development, with the installation of industrial capacity and the building up of export industries, played very well to the economic strengths of Germany, which is why Germany’s trade relationship with China is so far ahead of other European countries.

But the next phase of China’s development plays very much to the strengths of the UK. China needs to develop its services, and UK service companies are a great strength of our economy, including here in Scotland, and globally competitive. China needs more innovation, and this plays to UK strengths in education, research and innovation. Chinese companies need to internationalise their brands and businesses, and the UK – notably the City of London – is an ideal platform for them to do so. They need to diversify their foreign investments, which are currently dominated by US Treasury Bonds and investments in resources in developing countries – and the UK is more open to foreign investment, including Chinese, than any other Western country.

Just as the UK can provide the things which China needs, so China can provide the things which, at this stage of our development here in Britain, we need: we need to rediscover our export mojo, and China is, by a country mile, the world’s fastest growing major market; we need major investment in our infrastructure, and China has the capital and the capabilities to help. An entire generation of Chinese are travelling and studying abroad for the first time, and we want them to choose the UK.

What does this mean? It means that, if all goes well, the next two decades or so should be a golden period for the economic relations between our countries.

The UK Government has recognised this for many years. And so has the Chinese Government. As long ago as 2011, the leaders of our two countries coined a phrase: “partnership for growth”. By the time Premier Li Keqiang visited London last June, the Chinese had developed this concept further: he called it a “partnership for growth, reform and innovation”.

So much for the theory. Is it happening in practice?

The answer is yes:

  • over the course of this parliament British goods exports to China have more than doubled. Premier Li Keqiang noted last June that, as China’s own growth had slowed, so had the growth of most Western countries’ exports to China – except for the UK. We have bucked that trend. This includes exports running into hundreds of millions from some of Scotland’s very best companies, including Howden, AMEC, and Weir Group; not to mention exports of Scotch Whisky;

  • while export growth has been impressive, the explosion in Chinese investment into the UK has been positively eye-watering. China has noticed how open to foreign investment we are. In some other countries, big Chinese investment moves have provoked knee-jerk protectionist responses. Not in the UK. We offer transparency, a genuinely level playing field, doorstep access to the world’s premier centre for financial and business services, and a fast route into China’s largest overseas market – the EU. This penny has dropped. Over the last couple of years we have seen more Chinese investment into the UK than in the previous 30 years – from sovereign wealth funds, State owned enterprises and increasingly from China’s dynamic private sector. And a significant chunk of that has come to Scotland not least the billions of pounds that Sinopec and CNOOC have invested into the Oil and Gas sector here;

  • the education relationship just keeps booming. There are now some 130,000 Chinese students in the UK – far more than any other foreign nationality. There are now almost equal numbers of Chinese postgraduate students in the UK as there are British postgraduate students. British universities have more than 230 different joint partnerships with Chinese universities – and other exchanges range from academic and faculty links through to Nottingham’s trailblazing campus in Ningbo;

  • tourism is also booming. China’s own figures, published only last week, are that 490,000 Chinese people travelled to the UK last year, more than to any other European destination, and 20% more than the previous year;

  • Chinese scientists now co-author more peer reviewed research with UK scientists than with any other international partner other than the US: the Royal Society of Edinburgh, with their effective efforts to develop collaboration in crucial new areas, such as stratified medicine and biotechnology, have played a valuable role;

  • Britain is already the fastest growing market in Europe for RMB payment, more than doubling volumes from July 2013 to July 2014. And over three quarters of Europe’s RMB payments are done via the UK.

These then are established areas of booming success. Even more exciting, in a way, are the areas of untapped potential. The new markets that are only now developing in China as a result of the huge changes underway in the Chinese economy and society.

Take healthcare. China is experimenting with bold reforms to improve public health. Private investment, including from abroad, is encouraged and just a month ago, it lowered the threshold for foreign companies to build and operate hospitals. Britain’s National Health Service has a very strong brand in China, as well as a model that closely fits Chinese needs. The British Government team in China is working energetically on two fronts – with Chinese policymakers and regulators who are helping to define the rules of this new market; and with British companies, not just in China but also, with Healthcare UK, back in Britain too, to help them address this exciting new opportunity. It is early days but there are signs that this could be an immensely valuable new area of cooperation for both sides. For example, in the first six months of this year, we recorded wins for UK business in healthcare of £390 million.

There are other exciting new areas opening up. Energy and the environment is one example. Urbanisation and infrastructure is another. Financial and professional services is a third. And this is not an exclusive list.

What is exciting about these areas is that they are markets which are still in their infancy in China - new markets in which Britain can be the first mover – in which we can become in effect China’s knowledge economy partner of choice.

What have we been doing in China to help realise these opportunities? We are pursuing an innovative, pioneering approach which blends diplomacy and business. This works because Chinese policymakers are pragmatic and open-minded. They constantly look around the world for best practice and new ideas. They respect certain things about the UK: the fact that we were the first country to industrialise and therefore have the deepest experience of any modern economy; the fact that we have a gift for building stable institutions and creating rules; our education and financial services; the fact that we are genuinely open and do not discriminate against Chinese investment; the fact that we have been one of the most successful countries at tackling pollution over recent decades. All these factors give the UK a head start in China and mean that Chinese policymakers want to talk to us.

So what my Embassy team have discovered in China is that by sharing our experiences with the talented officials who are making China’s new laws and regulations, by sharing the lessons of our successes and failures, we can support Chinese reform, help create markets, and help British companies to enter those markets, ahead of the competition.

That’s why the British Government has invested substantially in its network in China in recent years. At a time of austerity and shrinking budgets, I have seen continuous and rapid growth in the team under my leadership in China – Foreign Office staff numbers alone have increased by around a quarter. We are investing in this relationship because we have a unique opportunity at this moment in China’s history, and the British Government is determined to take it.

So my main message to businessmen today is: embrace the opportunity of China. It’s the world’s best consumption story, and fastest growing major market. It’s spending huge resources on research and innovation. It has enormous amounts of money to invest. Whether in China, in the UK, or indeed in partnership in third countries, we can and should do much more business together. Every UK business should ask whether they could export their goods or services to China, or whether they could benefit from Chinese investment. Think China. And come to UK Trade and Investment or the China Britain Business Council for advice on how to access these amazing opportunities.

And to young people I say: get some China experience. Check out the British Council’s scheme to support more young Brits to visit China for study and internships – it’s called Generation UK. Consider studying Chinese at University. Or perhaps choose a 2 + 2 or 2 + 1 degree course which will give you a year or more studying in China – many UK universities offer them. Knowledge of China, and Chinese, is likely to be the best investment you ever make – an anchor for your career.

Up until now I have spoken exclusively about opportunity. I do believe that our relationship is defined primarily by opportunity. But I also want to refer, if a little more briefly, to two other vital areas: an area of need and an area of risk.

Need first. China is big. It’s about one-fifth of humanity. Even with over 100 million people still living in poverty, and relatively low per capita income, the aggregate impact of China on the world is now vast.

To take just a couple of examples: China’s investment and export driven growth model generated huge current account surpluses in the years leading up to 2008. This helped inflate a huge debt bubble amongst the developed economies, contributing to the global financial crisis. I am not assigning blame here. This is not about right and wrong. It’s just an illustration of the interconnectedness of the global economy, and the scale of China’s impact on it.

Another example: China now emits more greenhouse gasses than the United States and Europe combined. China’s policies have a massive impact on the global fight against dangerous climate change. And China’s appetite for resources is huge. Fluctuations in Chinese demand have had a powerful impact on energy and commodity prices, and therefore on livelihoods and living standards in all the world’s major commodities producers, including much of the developing world.

Which brings us to the need. The international community now needs China to be actively involved in our collective efforts to address and manage key global challenges – from macroeconomic policy coordination in the G20, to maintaining open trade and upholding the WTO, to preventing global warming and preserving the biodiversity of our planet, to combating the spread of anti-microbial resistance, to supporting development in the world’s least developed countries, to preventing conflict and combating sources of terrorism in the Middle East.

We, China’s partners in the West, understand that this is challenging and difficult for China. After all, China is a systemically important player in the global economy at an earlier stage of its development than we have previously seen in modern history. It’s absolutely understandable that China remains deeply preoccupied with the domestic challenges of its own development. After all this is still a country where scores of millions live in poverty, and per capita wealth is still only a fraction of what we enjoy in the West.

But China’s aggregate impact is now so large that the calls for China to show greater leadership are becoming more urgent and insistent. And as China passes new milestones – the world’s largest PPP economy, per capita CO2 emissions overtaking those of the EU, and so on – the international politics will shift, and the pressure on China to take greater responsibility will increase.

In some areas, such as climate change, China is already pursuing a lot of the right policies domestically – by making an ambitious national contribution within a binding international framework to limit emissions, China will be able to take full international credit for the brave and important domestic policy choices it has made, as well as contributing to a vital cooperative international effort.

And the risk. Historically, big shifts in relative power have led to tension and conflict. Thucydides first observed this in his famous study of the Peloponnesian Wars. In East Asia, China’s dramatic growth is affecting the balance of power. There are unresolved territorial disputes in the region, and lingering historical grievances.

The countries of the region still have an overwhelming shared interest in avoiding conflict and pursuing cooperation. Their economies are in many cases deeply intertwined. We now live in an age of global supply chains, when the prestige of nations is no longer measured by the number of their imperial possessions. So noone wants conflict, and conflict would be in noone’s interests.

But it’s vital even so that China and its neighbours work hard to manage tensions, resolve disputes peacefully, and build stronger mutual understanding over time. The UK does not take a position on the merits of individual territorial dispute. But we do have a vital national interest in the continued peace and security of East Asia, a region which is now on many measures the centre of the global economy, where hundreds of thousands of British people live, and where our companies have billions of pounds invested. So we encourage all countries in the region to avoid unilateral moves which might increase tensions. We hope they can resolve territorial disputes peacefully, in line with international laws. And they need to set up the channels of communication which are necessary to deal with crises and prevent the escalation of any unintended confrontations.

Finally, I want to say a word about Hong Kong. I had the privilege of working in the Joint Liaison Group in the years running up to the handover of Hong Kong in 1997. This was the UK/Chinese body which discussed the detailed transitional arrangements.

Hong Kong has emerged as an extraordinary success story in UK/China relations. It tells us something very important about our relationship. In the run-up to the handover in 1997 there were many outside China who doubted China’s will or ability to abide by the extraordinary constitutional innovation of One Country, Two Systems. They were wrong. The British Government has repeatedly assessed, in its regular reviews of Hong Kong, that the principle of One Country, Two Systems is being broadly upheld in Hong Kong. But there was mistrust on the other side too. Many on the Chinese side were convinced that the UK would somehow siphon Hong Kong’s wealth back to Britain, or sabotage Hong Kong in some way, before handing it over to China. But Britain too abided by its commitments in the Joint Declaration. We handed Hong Kong back to China a prosperous, well-administered city teeming with enterprise and ingenuity.

So if our experience of Hong Kong tells us anything, it tells us that the UK and China can and should trust each other.

As for the demonstrations that have taken place recently, the British Government has made its position clear. Hong Kong’s prosperity and security are underpinned by its fundamental rights and freedoms, including the right to demonstrate. It is important for Hong Kong to preserve these rights and for Hong Kong people to exercise them within the law. Hong Kong’s prosperity and stability are now best served by a transition to universal suffrage. The British Government has encouraged all parties to engage constructively and take part in discussions to produce arrangements that will allow a meaningful advance for democracy in Hong Kong, and allow universal suffrage to be implemented in 2017.

An opportunity, a need, and a risk.

The world has seen alarming and challenging developments recently – instability across much of the Middle East; Russian aggression towards its neighbour, Ukraine; deep political and economic challenges in the EU; the terrible public health crisis of Ebola in West Africa. But I feel confident that when historians look back a century from now, the re-emergence of China at the heart of global economics, politics and culture will be the event that most defines our times. I’ve been privileged to have a ringside seat on that process for the last 5 years. My main message today is that the UK and China have an historic opportunity today – to be partners for growth, reform and innovation. We have started to take that opportunity, but we are still only at the take-off phase of a relationship which could soar very high indeed, making a big contribution to China’s transformation to a knowledge economy and bringing an enormous new source of vitality to the UK in return. I hope that the young people here today, the next generation, will be able to play your own role in taking the relationship to new heights in the future.

Published 23 October 2014