Most people don’t get China.
It’s far away. They speak a different language. Their culture, philosophy, religion—everything is super different.
Because of this, or perhaps because of China’s historical isolation, academics compartmentalize Chinese history.
They treat it separately: there’s a box for Western history and a box for Chinese history, and there’s not much overlap.
This is a problem—there’s a lot we can learn from Chinese history.
Especially when it comes to the economy.
- China used to be rich. Super rich.
- China did it without opening their borders and markets to the world—they avoided globalization’s pitfalls that are currently undermining America’s economy.
Silk & Silver: The Canton System & Chinese Mercantilism
Trade between China and the West goes way back. Ancient Roman senators, and later emperors, enrobed themselves in Chinese silk—the ultimate luxury.
However, the vast geographic distance, and harsh terrain, separating Europe and China limited trade to nothing but the most valuable, transportable, and resilient of products. Only goods that could make the perilously journey down the silk road were traded.
From the East this was silk (it was lightweight, precious, and non-perishable); from the West this was gemstones (particularly amber).
That being said, it was not until the first Portuguese ships arrived off China’s coasts in 1522 that trade with Europe began to significantly impact the Chinese economy.
But when it took off, did it ever.
Europeans loved Chinese stuff. They bought as much silk and porcelain as they could afford.
China’s mandarins, conversely, weren’t interested in European goods—they saw them as a threat to China’s domestic industry. As a result, silver was the preferred, and eventually only medium of exchange.
So how big was the Sino-European trade?
In the second half of the 1500s, Europeans bought some 50 tons of silver’s worth of Chinese goods per year—by the first half of the 1600s, this increased to 115 tons per year.
Trade was lucrative, and it grew fast.
The Silver Kingdom
The economic impacts of this trade were fairly predictable: the Chinese textile and pottery industries experienced a boom, which increased employment and production.
This had spillover effects on the economy as a whole— China’s economy as a whole benefited from increased production and liquidity.
In an effort to crack down on smuggling, and ensure European manufactured products didn’t permeate China’s market, the Canton System evolved.
Basically, China only accepted payment for their products in silver, and limited all international trade through the port of Canton.
An interesting aside: almost all of the silver mined in Spanish America (from their great mines, like Potosi) eventually ended up in China—China was the final destination for Europe’s colonial wealth.
The takeaway here is that China was greatly enriched by trade with the West.
But it wasn’t just any kind of trade: China deliberately (and exclusively) exported value-added, refined products (silk and porcelain) in exchange for exotic raw materials (they lacked sufficient domestic silver supplies)—this is called mercantilism.
Importantly, exporting cloth to Europe supported Chinese workers, and Chinese industries, while importing silver displaced no Chinese industry—what made China rich wasn’t a hoard of silver, it was increased economic activity caused by the export boom.
In Europe, the gains were less clear-cut.
On the plus side, Europeans got more silk, and since most of them did not produce silk themselves, there were relatively few labor displacements.
For the most part, it was a win-win.
However, the trade itself was fundamentally unsustainable and asymmetrical.
While Chinese industry was supported by European markets, Europe was slowly emptied of its silver reserves. This meant that when the silver ran out, so did the silk.
The good times for Europe were numbered.
Addicted to Opium: Free Trade & China’s Decline
By the early 1800s, during the height of the Industrial Revolution, the British ran out of silver to balance their accounts. This was a problem, for which they found an ingenious solution.
They began smuggling Indian opium and cotton into China, forcing their customers to pay in silver. This started to balance the books.
The Chinese were not amused, and cracked down on the opium trade.
Eventually things came to a head in the First Opium War (1839-42). The British won, and forced China to give up the city of Hong Kong. They were also granted the right to sell their manufactured goods to China.
This was great for Britain, who gained access to the massive Chinese market, but bad for China—Chinese industries couldn’t compete with Britain’s more advanced products.
It didn’t take long before the Chinese realized that their economy was dying, and took measures to staunch the flow of British goods.
This resulted in the Second Opium War (1856-60). The British won again.
This time European merchants gained the right to travel in China, and dozens of ports were opened for foreign trade. Additionally, British goods were exempt from import taxes.
At this point the Chinese market was flooded with cheap European goods and their industry, and economy, crumbled.
A New Canton System—China’s Economic Miracle
China remained an economic backwater until its modern resurgence.
Often hailed as an “economic miracle”, the causes of China’s recovery are fairly obvious—there’s nothing miraculous about it.
China simply copied what worked in the past. In other words, they created a modern-day Canton System, and focused on exporting value-added goods, while importing raw materials—China adopted mercantile trade policies.
They worked (to no one’s surprise, save the odd crotchety libertarian economics professor).
China’s neo-mercantile economic rebirth tentatively began in 1971, when President Nixon lifted America’s embargo on China (imposed due to Mao’s communist takeover).
However, trade remained fairly insignificant until 1980, when President Carter conferred “most favored nation” status on China, thereby exempting Chinese products from the Smoot-Hawley Tariff, which imposed higher tariff rates on hostile states.
Trade grew, slowly.
But it was not until China’s policy pivot in the mid-1980s that trade really began to pick up.
In 1985, China reoriented its market to cater to Western (especially American) consumers, by investing in export-oriented industries in the coastal cities of Dalian, Guangzhou, Shanghai, and Tianjin (very similar to the old Canton System).
This was a winning strategy: Americans happily bought Chinese products, which fueled China’s industrial growth.
Furthermore, since President Reagan had recently reclassified China as an American ally (which loosened American prohibitions on technology exports), China was able to buy up updated American industrial equipment.
In the end, America’s insatiable appetite for cheap goods fueled China’s industrialization—Americans bought over $5.2 trillion in Chinese goods since 1985.
That’s the history, but why is it important?
History tells us what works and what doesn’t—it gives us examples of what to copy or avoid.
China’s economic history in particular is important for two reasons.
- It proves that highly protective trade policies can yield positive results (the opposite of what the free trade brigade at the Mises institute erroneously claim).
- It shows that mercantile trade policies (like the Canton System) evolved independently in both Europe and East Asia.
The first reason falls in line from what we already know when looking at the history of other rich states, such as Renaissance Venice or Industrial Revolution Britain—even America succeeded under heavy protectionism for most of its history.
The second reason is the more interesting of the two.
Time is our most important intellectual tool: it shows us what works and what doesn’t—given enough time, bad policies will die out, while good policies will thrive.
In this case, mercantilism (raw materials in, manufactured products out) evolved separately, both in Europe and in China’s Canton System—it was the most successful trade regime.
America would be wise to study economic history, and learn how the economy actually grows—our current system’s a mess.
Bureau of Economic Analysis, “Direct Investment & MNEs.” & United Nations Conference on Trade and Development, “World Investment Report 2016: Annex Table 1.”
Reinert, Eric. How Rich Countries got Rich and Why Poor Countries Stay Poor. New York: Carroll & Graf, 2007.
Shafaeddin, Mehdi. “How did Developed Countries Industrialize? The History of Trade and Industrial Policy: the Cases of Great Britain and the USA.” Paper presented at the United Nations Conference on Trade and Development, Kiel, Germany, December 1998.
von Glahn, Richard. The Economic History of China. Cambridge: Cambridge University Press, 2016.