World Geostrategic Insights interview with Stefan Demetz on the concepts of engineering approach to economics and sovereign economic model, and how they applies to the current state of Russian and Chinese economies.
Stefan Demetz is an economist/economic advisor specializing in development economics for emerging and developing countries especially in Middle East, Asia and Africa. He is the author of the economic manifesto book “The Sovereign Economic Model” that advocates a sovereign hybrid economic model -using industrialization, state capitalism, import substitution and other policies – that is beneficial to a country and its people.
Q1 – In your book ‘The Sovereign Economic Model. A manifesto for rising nations’, you argue that the debt-fuelled liberal capitalist economic model is no longer fit for a sustainable future use and that ‘A nation that cannot control its economy is not a nation’. Instead, you propose a sovereign economic model based on sovereign decision-making processes. Specifically, you see the economy as a “complex engine comprising innumerable parts and many inputs and outputs, with mechanisms to lubricate the various processes and relieve excessive pressure, as well as sufficient cooling to disperse excessive heat, with safety mechanisms to prevent the failure of one part from bringing down the system”. Can you summarise here your concepts of engineering approach to economics and sovereign economic model?
A1 – Yes, the neoliberal capitalism is unsustainable.
Many left-wing professors of economics like Michael Hudson and Richard D. Wolff have been talking about it for a long time. Very recently two Nobel Prize laureates, Angus Deaton and Stiglitz, in his latest book, are saying the same. The neoliberal system has not been able to create wealth, just a system of accumulation of money by some via bubbles of asset valuations. So, on average, people do not own larger houses or more cars than before, just they seem richer because their assets cost more money.
The declination of Reagan’s’ quotation of border control to ‘A nation that cannot control its economy is not a nation’ is a political issue of statehood.
A national economy is regulated by many international organisations like WTO, IMF, WB and their economic and financial “rules”, trade treaties and affiliation to trade groups. Often these “rules” are mostly negative for most countries, especially developing and emerging countries. Acceptance of these rules were agreed up while in a“non-sovereign” state.
I admit, I didn’t dwell too much on politics or expand the topic in the book , as I preferred to stay on an economic track. Michael Hudson’s book “Super Imperialism” has described many of those non-sovereign economic issues in detail.
On the engine analogy, I tried to use a well-known physical item to represent an abstract highly complex system like the economy where different forces interact to produce an outcome. Both engine and economy can be represented and described by very complex mathematical formulas, physics for the first, econometrics for the second. The “engineering” approach stems from my passion for mechanical engineering, that besides the mathematical base needs a “hands on” approach, that I advocate also for tuning an economic system. The “scientific” approach to the economy is also inspired from the Soviet planning system, that tried to create an “Economic Ledger” to manage inputs and outputs of the economy, but failed mainly because of time lags of manual and missing data collection and lack of computers at the time. Russia and China now have almost real-time “Economic Management Systems”, run on supercomputers, that can alert imbalances in the economy. An engine, in the same way, includes many sensors that signal a big several KPIs values, malfunctions, lack of fuel or oil, pressures, excessive heat or other “states” of the system. At the moment it is supposedly still a passive system, but some think that with help of AI it could eventually evolve into a system that manages the economy by itself, including actions like setting interest rates,
The book itself is a manifesto, whose aim is to bring up new ideas, not targeting academia or expert economists, but decision makers, so it has generally simplified bites of information.
Q2 – The liberal capitalist economic model is widely adopted by Western countries. In contrast, you assert in your book that Russia and China use an engineering approach to their economies: “”They are constantly changing and modifying mechanisms to make their economies more efficient and resilient to shocks – reconfiguring, adjusting, improving or eliminating weak parts. These countries are accelerating economic growth and accumulating foreign exchange reserves, growing the real economy and the high-tech sector’. Russia, following the war in Ukraine, has been heavily sanctioned by Western countries. However, it seems to have managed to reconfigure its economy, adapting it to limit the effect of sanctions. In your opinion, what is driving Russia’s current economic resilience and growth? Can we rule out a future collapse, as some economic analysts still predict?
A2 – According to my estimates, Russia, before the war, had a 1.2 trillion, 50% higher than the official 830 billion reserves of the Central bank and NWF sovereign fund. That number was later also confirmed by acclaimed former Credit Suisse economist and markets strategist/analyst Zoltan Pozsar.
Secondly, Russia has been producing budget surpluses of 60 billion per year on average for the last 20 years.
On the other hand, Russia was “advised” by the IMF and WB to invest those surpluses in the Western financial system instead of investing parts of surpluses in the local economy. That drastically changed.
Also, Russia previously suffered from two/three major issues:
1) Most of the commodities trade was carried out with services from/in the West: trading, shipping, insurance, banking. Those services amounted to 10-15% of the trade. That often also included selling commodities, produced in Russia by Western subsidiary companies, at production cost or domestic prices to their own HQ, thereby depriving Russia from GDP and revenues for budget. Now trading, shipping, insurance, banking of the commodities trade is done exclusively by Russian domestic or controlled companies.
2) Similarly, many Russian domestic companies, especially those belonging to “oligarchs’ ‘ or partly owned by foreigners, were offshored to Cyprus, Netherlands or other countries for “tax optimization” where most dividends and profits flowed. Both voluntary and mandatory on-shoring/re-domiciliation brought the ownership and cash flows back to Russia.
3) Russia had also many long-term, 30-40 year, agreements, going back almost to the Soviet Union, of supply of commodities to former Soviet countries and allies at almost production cost prices. As a result of counter sanctions those agreements were cancelled and Russia now sells the commodities at market prices.
Both forms of tax avoidance above and capital flight above, and unprofitable contracts to former partners and allies have been suppressed, leading to Russia being now flush of cash. And that money is now invested in the domestic economy.
There are many other minor factors and policies that favour Russia’s economy
Russia, since 2019, so before the war, has established its strategic national economic development plan, that now runs to 2030.
It includes:
-42 strategic initiatives
-12 national projects(additional 5 might be added soon) that include 72 federal projects
The economic development plan is supported by 30 billion $ of annual government funds + the private sector. 30 billion $ in rubles buys 100$ billion in the West.
Besides this plan, there are other development projects like “Pharma 2030”, Proryv” (“Megascience” based on space, nuclear tech) and other more specific plans for some industries.
In the strategic development plan many opportunities are available for private investment of the cash rich Russian economy. A decision was made recently to build at least 238 thousand hotel rooms by 2030, mainly in tourist resorts. This number is twice Dubai, almost equal to the entire UAE tourism accommodation. This business opportunity is worth over 50 billion $ to investors. As an example, Sberbank has built and is building and financing hotels in Manzherok, a new upcoming skiing resort in Altai.
Q3 – Let us turn to China, another country that, according to your model, uses an engineering and sovereign approach to the economy. China’s growth seems to be slowing down after the double-digit growth of recent decades. A financial crisis and a possibly severe stagnation could be looming. Some foreign experts even talk of a possible collapse of the Chinese economy. Can you give us your opinion on the current state and prospects of the economy in China?
A3 – Indeed, China uses many strategic tools typical of a planned economy. One of the strategies employed by China is to make sure to depress costs of basic economic input like energy, commodities and food and flooding markets with goods to keep inflation low. It can be seen as a system of price control by oversupply of goods. It is excellent to stabilise inflation for consumers and producers, even if for the latter it brings deflation, which was -3% in 2023.
In the economy China faces a difficult economic reform and transition.
On one side, China decided to reign in on speculative and debt-fuelled economic sectors like real estate and finance. It is also limiting investments in infrastructure to deleverage some public debt. And it is divesting and offshoring high-labour/low-tech/low-margin business. That creates some losses for speculators of “easy money” and unemployment for low income workers at low end.
On the opposite side, it is corralling the funds and efforts to industrial production of higher added value goods and high-tech, especially chips.
The difficulty of transition is to switch from 3 major growth engines to only one(plus some smaller ones). Risks are the virulent geo-economic and political measures of threats, sanctions, trade war, tech embargo by the West, led by the US. Chips for China are a do-or-die situation as they underlie every electronics aspect of goods like cars, phones, appliances.
The reduction of growth by China is just a planned step(back) to make growth more sustainable and divert capital into the real economy.
On a purely industrial policy I am very optimistic about China’ plan: China has the will, brainpower and money to dominate chip production. In fact, at this time, over 50 chip factories are under construction in China. First it will saturate the markets with mature chips, then move to the most advanced chips. But the geopolitical plus economic risks are substantial.
China is also afflicted by flat consumption. On overall terms that is a consequence of the demographics and “1 child” policy. A Chinese millennial, mostly a sole child, needs to save as much as possible as he must financially support 3 generations: elderly parents(not all healthcare is free in China, depending on region), himself and wife, children(education and setup). That prompts “saving for a rainy day” and limits consumption of a millennial, that has the biggest spending power, to big ticket items like house, car and a few status items.
On a generic note, I have an economic negative bias regarding overuse of debt, I prefer more sustainable tools for economic development.
Even if China with its dual circuit currency(as the Soviet Union had) can sustain and manage high debt loads better than all other countries.
On the other side, Singapore is highly indebted, but is regarded by mainstream economists as a successful economy.
Q4 – Apart from Russia and China, which other major countries in the world are using an engineering approach to their economies?
A4 – Probably because of the past, Russia and China recognized, (re) adopted and adapted some excellent Soviet best practices of the past, while others either don’t know the tools of a planned economy or disregard them as a failure because of the Soviet Union’s collapse.
Many countries are reviewing or (re)adopting sovereign concepts of my book like industrialization, state capitalism, import substitution and protected markets. For example, recently Indonesia, the largest producer of nickel, banned unrefined nickel ore exports. This measure allows the country to add value to the ores and sell refined ores, creating jobs, industrialization and extra government income.
In general, the “proof is in the pudding” and the “pudding” shows that the neoliberal capitalist system is not working, and countries are looking to get away from it. For many it will be difficult, as decades of economic dogmas in academia and business make a change of mindset a very difficult task.
Stefan Demetz – Economist/economic advisor specializing in development economics for emerging and developing countries.