TIME brics

The BRICS Don’t Like the Dollar-Dominated World Economy, but They’re Stuck With It

World For Money
Thomas Trutschel—Photothek/Getty Images

The latest summit of the world’s leading emerging markets took more steps toward replacing the U.S.-led global financial system. But change will come very, very slowly

When the BRICS get together for their annual summit — as they did last week in Brazil — they always make a lot of noise about changing the way the global economy works. They have good reason to be frustrated. The BRICS (Brazil, Russia, India, China and South Africa) are gaining in economic power and crave the political clout to match, but standing in the way is a global financial system organized by the West and dominated by the U.S. They’re forced to conduct their international business in the unstable U.S. dollar, making their economies swing back and forth with the winds of policy crafted in Washington, D.C., and New York City. The West has ceded influence in institutions like the World Bank and the International Monetary Fund (IMF) only grudgingly. To them, today’s financial system is out of touch with the changing times, and ill-suited to support the world’s up-and-coming economic titans.

So in their summit, from July 14 to 16, the five BRICS announced two major initiatives aimed squarely at increasing their power in global finance. They announced the launch of the New Development Bank, headquartered in Shanghai, that will offer financing for development projects in the emerging world. The bank will act as an alternative to the Washington, D.C.—based World Bank. The BRICS also formed what they’re calling a Contingent Reserve Arrangement, a series of currency agreements which can be utilized to help them smooth over financial imbalances with the rest of the world. That’s something the IMF does now.

Clearly, the idea is to create institutions and processes to supplement — and perhaps eventually supplant — the functions of those managed by U.S. and Europe. And they would be resources that they could control on their own, without the annoying conditions that the World Bank and the IMF always slap on their loans and assistance. Carlos Caicedo, a Latin America analyst at consulting firm IHS, noted, for instance, that the New Development Bank “has the potential to match the role of multilateral development banks, while offering the BRICS a tool to counterbalance Western influence in international finance.”

In theory at least, the BRICS possess the financial muscle to make that happen. Four of the BRICS — China, India, Brazil and Russia — are now ranked among the world’s 10 largest economies. (South Africa, not a member of the original constellation of BRICs as conceived by Goldman Sachs, comes in a distant 33rd.) Yet the reality is more problematic. The BRICS at this point are simply not committing the resources necessary to make anything but a dent in global finance.

Research firm Capital Economics estimates that the New Development Bank, with initial capital approved at only $100 billion, could offer loans of $5 billion to $10 billion a year over the next decade. Though that’s not an insignificant amount, it’s far lower than the $32 billion the World Bank made available last year. The situation is the same with the currency swaps. Set at a total size of $100 billion, the funds available would be a fraction of those the IMF can muster.

That’s assuming these initiatives ever get off the ground. This sixth BRICS summit is the first to produce anything beyond mere rhetoric, and it remains to be seen if they can cooperate on these or any other concrete projects. Despite their common distaste for the U.S.-led global economy and desire for development, the BRICS share as many differences as similarities. They have vastly diverse levels of development and types of political systems, and the bilateral relations between some of them are strained. India and China, for instance, routinely spar over disputed territory, while Brazil sees China as much as an economic competitor as partner.

Beyond that, all of the BRICS have serious economic problems to deal with at home. The new government in India led by Prime Minister Narendra Modi will be hard pressed to implement the reforms necessary to jumpstart the country’s stalled economic miracle. Growth in Brazil, South Africa and Russia has been even more sluggish. China’s growth has held up, but it suffers from rising debt, risky shadow banking and excess capacity. And now Moscow has to contend with sanctions imposed by the U.S. and Europe over its aggressive policy toward Ukraine. It may soon face even greater isolation as the world probes its connections to the separatists in Ukraine, who reportedly downed Malaysian Airlines Flight 17 with the loss of nearly 300 lives.

Meanwhile, whether they like it or not, the BRICS will be stuck operating by the rules of the U.S.-led world economy for the foreseeable future. There is simply no other currency out there that can replace the U.S. dollar as the No. 1 choice for international financial transactions. China has dreams of promoting its own currency, the yuan, as an alternative, and has made some progress. But the yuan can’t truly rival the dollar until China undertakes some fundamental financial reforms — liberalizing the trade of the yuan and capital flows in and out of the country. That’s far-off. And until then, China’s massive reserve of dollars forces it to continually invest in dollar assets. Even as Beijing bickers with the U.S. over cyberspying and regional territorial disputes, it has been loading up on U.S. Treasury securities — buying at the fastest pace on record so far this year.

Still, the steps taken during this latest BRICS summit point to what may be the future of the global economy. Though their initiatives may be small and tentative now, they signal an intent to remake the global financial system in their own interest as they continue to grow in economic power. Perhaps one day it’ll be the U.S. that does the complaining.

TIME Asia

China’s Economy Continues to Defy Gravity. That May Not Be a Good Thing

A container truck drives past the container area at the Yangshan Deep Water Port,  part of the newly announced Shanghai Free Trade Zone, south of Shanghai
A container truck drives past the container area at the Yangshan Deep Water Port, part of the Shanghai Free-Trade Zone, on Sept. 26, 2013 Carlos Barria—Reuters

China announced better-than-expected growth over the second quarter. Despite optimistic official figures, there's plenty to worry about in the world's second largest economy

China announced its GDP figures for the second quarter on Wednesday and — surprise, surprise — they were better than expected. Growth clocked in at 7.5% — which just so happens to be the government’s official target. The statistics will likely give a boost to sentiment globally. Investors have been worried that a slowing China would hit the entire world economy. More buoyant Chinese growth will probably calm those jitters.

Yet China is also something of a puzzle. Somehow the economy continues to power through all sorts of issues that should be slowing it down. The all-important property sector, which accounts for some 16% of its GDP, is undergoing a major downturn. For most of the year, the government has tried to control dangerous levels of debt in the economy and clamp down on “shadow banking,” which encompasses alternative financial networks and lending practices. Tighter credit should translate into slower growth. Beijing is also supposedly on a mission to streamline bloated industries like steel by eliminating excess capacity, which, though healthy for the future prospects of the economy, should also act as a drag on short-term growth. So should President Xi Jinping’s ongoing anticorruption campaign, which in theory should be disrupting policymaking and creating uncertainty.

So how is China defying gravity once again? There is always the perennial suspicion that the numbers are inflated. Capital Economics looks at statistics that aren’t as easily manipulated as GDP, such as freight shipments and electricity output, to gauge the economy’s performance, and figures GDP has probably been expanding more like 6% in recent quarters. But economists are crediting the latest growth rate to government stimulus, carefully targeted at infrastructure and public housing, both investments the economy still needs.

This is a smart move. The Chinese government has ample ability to keep growth humming while it attempts to implement more substantial reforms. However, the reliance on stimulus also raises doubts about what might be ahead. Some economists see growth “bottoming out” and a revival continuing through the rest of the year. Others believe continued headwinds, especially the struggles of the property sector, are too strong for the government to counter — without even greater largesse. That might be on its way. New loans made in June were the highest in five years, according to research from Barclays, which suggests that the government is loosening up credit once again.

That begs the most important question facing China’s economy right now: Will Beijing sacrifice reform for growth? So far, China’s leaders have controlled their usual urge to pump up growth rates, an indication they realize the dangers lurking in the economy. Since the 2008 financial crisis, debt in China has risen to dizzying heights. A recent report from Standard & Poor’s calculated that China’s corporate sector has more debt outstanding than any other in the world. Combined with tremendous excess capacity, a risky increase in shadow banking and signs of a property bubble, the Chinese economy is rampant with problems that threaten its future. Some economists believe Beijing needs to address these ills and resist efforts to use credit and other stimulus to rev up growth — or else face a possible financial crisis.

Yet the reforms necessary to fix these problems are coming very slowly. Beijing has pledged to undertake a bold slate of measures — to liberalize interest rates and other prices, improve the performance of bloated state-owned enterprises, open protected markets to competition, strengthen the financial sector and allow private enterprise greater sway in the economy. All of these steps, if implemented, would make the Chinese economy healthier and more advanced. But so far, only the most minor of experiments have started, such as the approval of a handful of small private banks and the opening of a free-trade zone in Shanghai to tinker with more open capital flows. Even more, once the greater reforms fall into place (if they ever do), it could take years before they have an impact on the economy.

There are two ways of looking at what’s going on. One is that China’s policymakers are wisely going slow on potentially painful reforms while the economy works out some of its messiest problems in an environment of relatively stable growth. The other, less optimistic, view is that the problems rotting away at the Chinese economy are so complex and entrenched that policymakers are prioritizing continuing growth over tough reforms. In that scenario, China’s broken-down growth model will be kept alive with debt and government spending, while the fundamental change necessary to take China to the next level stalls.

I continue to be afraid of the latter. And with China the world’s second largest economy, we all should be too.

TIME China

The U.S. Has Good Reason to Be Fed Up With China’s Economic Policy

U.S. Treasury Secretary Jacob Lew listens during a panel discussion at the North American Energy Summit in the Manhattan borough of New York
U.S. Treasury Secretary Jacob Lew listens during a panel discussion at the North American Energy Summit in the Manhattan borough of New York, June 10, 2014. Adam Hunger—Reuters

Talks in Beijing between American and Chinese officials made little progress on key economic issues

No one expected big breakthroughs from the latest round of the annual U.S.-China Strategic and Economic Dialogue, held this week in Beijing. But the results didn’t even meet those lowly expectations. After two days of talks with Chinese officials, U.S. Treasury Secretary Jacob Lew left empty-handed. A much-coveted but long-discussed treaty to boost investment between the two countries only inched forward. Nor did China offer firm commitments to further liberalize its currency — an issue of great importance to Washington. That apparently left Lew searching for something positive to say to his Chinese hosts. “The commitments China has made here in Beijing over the past two days reflect the economic reform goals set forth” previously, Lew said on Thursday, “and we look forward to future progress.”

Washington has been waiting for progress for quite a while. U.S. officials have been repeatedly pressing Beijing to open markets wider to American companies, improve the protection of intellectual property, and make the economy more transparent and market-oriented. But in return, Washington just gets vague pledges and expressions of caution. Meanwhile, the two continue to bicker over trade practices — most notably these days, Washington’s punitive tariffs on Chinese solar panels. The stalemate in economic ties between the U.S. and China is symbolic of the greater strain between the two nations. China has responded angrily to U.S. charges that its military cyberspies on American companies, while officials from both sides have exchanged hostile barbs over China’s territorial disputes with Japan and other neighbors. Relations between the U.S. and China are arguably at their lowest point in years.

That’s bad news. What happens between the world’s two largest economies has ripple effects around the world. Each country, furthermore, needs the other for its own economic growth. U.S. companies require access to Chinese consumers to keep their profits growing, while China badly needs advanced U.S. technology to upgrade its industry. Still, the two sides often look upon each other warily. As China’s clout increases, the U.S. is frustrated that Beijing is not making the Chinese economy more open or playing by the perceived rules of international commerce. Beijing’s policymakers get upset when Washington badgers them on reforms they consider none of America’s business.

But the U.S. has good reason to be annoyed. Many of the issues that matter to Washington have been dragging on interminably with no resolution in sight. Take, for instance, the sticky issue of China’s currency, the yuan. Washington has complained for many years that Beijing manipulates the value of the yuan to promote its own exports, and during this week’s meetings, Lew again pressed his Chinese counterparts to make the process by which it is valued more market-driven. Though I have written on many occasions that the U.S. has exaggerated the impact the yuan’s value has had on the country’s trade deficit with China, Lew has a right to be fed up with the slow pace of change. The Chinese have been blabbering about allowing market forces to determine the yuan’s exchange rate for ages, and the reform is considered an integral part of China’s greater goal of liberalizing capital flows in and out of the country. But the government still wields tremendous influence over the direction of the yuan — a degree of control is has been reluctant to relinquish, promises aside. In this week’s meetings, China offered only more excuses. “If we move too fast, we will be tripped by the demons of details,” Chinese Vice Premier Wang Yang cryptically responded to Lew. Instead, Wang said Beijing was looking for “balance.”

“Balance,” however, has become Beijing-speak for “do nothing.” Currency reform is only one of many changes Chinese policymakers have promised, but never seem to implement. President Xi Jinping and his team have pledged to liberalize markets, fix the financial sector and allow private businessmen a bigger role in the economy. Economists swooned over a bold policy document released in November that committed the leadership to a sweeping reformation of China’s economic system. No one should expect such major changes to happen overnight, of course. But the fact is we’re still waiting for the process to really get started. Meanwhile, the Chinese economy is facing a host of unresolved problems that threaten its future. Growth has slowed, debt has mounted to dizzying levels, the financial sector is fundamentally flawed, and a property bubble appears to be bursting.

What Lew wants to see from China is a true effort to overhaul an economic model that is badly broken. That would be good for China, the U.S., and everybody else.

TIME India

India’s Modi (Barely) Passes His First Big Test on Economic Reform

Indian PM Modi walks in front of a picture of former Indian PM Vajpayee after a news conference in New Delhi
Indian Prime Minister Narendra Modi walks in front of a picture of former Indian Prime Minister Atal Bihari Vajpayee after a news conference in New Delhi on July 9, 2014. Anindito Mukherjee—Reuters

The new Prime Minister indicated change will come in steps, not all at once

Narendra Modi and his Bharatiya Janata Party (BJP) rode into office in May on a tidal wave of support created by hopes he would revive India’s stumbling economy. India, once one of the world’s best-performing emerging economies, has witnessed growth shrink under 5% — too low to rescue the hundreds of millions of countrymen still trapped in desperate poverty. Business leaders have had high expectations that Modi would push ahead with the long-stalled but painful reforms necessary to restart the country’s economic miracle.

In his first major policy pronouncement, however, Modi indicated change would come — but slowly. On Thursday, Modi’s Finance Minister, Arun Jaitley, presented the new government’s budget in Parliament in New Delhi. Indian budgets are considered a bellwether for the direction of economic policy. What emerged was a very gradualist approach, with some encouraging tidbits, but no signs Modi is in a big rush to remake the Indian economy. In his speech, Jaitley said the budget was “only the beginning of a journey” to bring growth back up to 7% to 8% over the next three to four years. “It would not be wise to expect everything that can be done or must be done to be in the first budget,” he said.

Investors got some items on their wish list. The government pledged to open the defense and insurance industries wider to foreign investors, bring down the budget deficit more rapidly, press ahead with much needed tax reform, improve the country’s inadequate infrastructure and support manufacturing to create more jobs. Jaitley also promised an overhaul of costly food and fuel subsidies, which are a huge burden on the strained budget, to make them “more targeted” on the most needy.

Yet for a government that has pledged to control spending and unleash the country’s growth potential, the budget was still puffed up with plenty of populist pork. The budget reiterated Modi’s campaign pledge to provide toilets for all. Jaitley also decided to maintain the previous administration’s expensive and controversial program to guarantee jobs for rural workers, though he suggested its oversight would be strengthened to ensure funds got utilized more wisely. On other issues, Jaitley seemed to fudge a bit. Widely criticized efforts by the previous government to impose retrospective taxes scared foreign investors, and though Jaitley said the Modi administration would limit any such taxes and “provide a stable and predictable taxation regime that would be investor-friendly,” he didn’t emphatically close the door on them, either.

The most disappointing aspect of the Modi budget is that it was no bold statement that a new era of economic policy was coming. Details on many of Jaitley’s proposals were sparse. For example, he did offer many specifics on such key issues as reducing subsidies. Other important reforms weren’t addressed, such as loosening up the country’s restrictive labor laws, which hurt job creation. “Nothing that was announced today marks this government out as being significantly different from the last,” complained Mark Williams, chief Asia economist at research firm Capital Economics. “If market enthusiasm for Mr. Modi’s government is to be sustained, that will have to change.”

Ultimately, though, Modi’s incremental methods may be simply good politics. Even though Modi scored a landslide victory in the last election, many of the reforms most critical to the economy are certain to face stiff opposition. If he charges ahead too quickly, his entire reform effort could get derailed. Modi has already been forced to reverse course on one of his initial reforms. In late June, Modi partially rolled back a hike in train fares aimed at putting the strapped railway system on a stronger financial footing after protests erupted and the BJP’s political allies objected.

At the same time, Modi has to play a delicate political game. If he moves too slowly on reform, growth won’t improve, and his support could suffer. Fixing India’s economy will take a huge amount of political will. We’re still waiting to see if Modi has it.

TIME China

China Escalates Its War on American Tech Firms

Microsoft celebrates upcoming Windows 8 in China
Guests try out the Microsoft Windows 8 operation system on touchable screens of desktop computers during the preview show of the new operation system and tablet computer Surface in Shanghai, China, Oct. 23, 2012. An Tu—EPA

The Chinese government, angered by Washington's charge that Beijing engages in cyberspying, is looking for some payback

U.S. technology firms have often found China a tough market. Microsoft has struggled with widespread software piracy. Facebook, Twitter and YouTube are all blocked by Chinese censors. That costs the American Internet giants untold numbers of potential customers. Now, in the wake of Washington’s charges against five Chinese military officials for cyberspying, a riled Beijing has intensified its criticism of U.S. tech businesses.

Chinese media this week attacked numerous U.S. tech firms for, in effect, acting as agents of American espionage. A report in the state-run China Daily on Wednesday warned that a range of American companies, including Cisco, Microsoft, Facebook and Yahoo!, could be used by Washington to spy on China. “Foreign technology services providers such as Google and Apple can become cybersecurity threats to Chinese users,” the newspaper asserted. A post on the official microblog of another state-owned publication, the People’s Daily, labeled American tech firms “pawns of the villain” and vowed to take stern action against any nefarious deeds. “For anyone who steals our information, even though they are far away, we shall punish them!” the blog promised. (Although the post was subsequently removed.)

The consequences of any effort by the Chinese government to restrict American technology businesses could be huge. China is a major market for all sorts of such products, from smartphones to software, and sales to Chinese companies and consumers are an ever more important source of sales for foreign firms. In its last fiscal year, for instance, Apple earned 15% of its revenues —­ more than $25 billion — from Greater China.

Beijing could move beyond mere rhetoric into active steps to prevent Chinese companies from acquiring U.S. technology. In May, even before Washington’s charges of cyberspying were announced, China’s state procurement center banned the use of Microsoft’s Windows 8 operating system on government computers. The reason was not made clear, but Chinese state media cited possible security concerns after Microsoft discontinued its support for Windows XP. Separately, one press report claimed that government officials are pressing Chinese banks to replace IBM servers with local brands as a security measure. (A spokesman for IBM in China says the company is unaware of any such policy.)

The U.S. is somewhat guilty of taking similar measures against the Chinese. Citing the potential security risk, Washington has effectively blocked China’s Huawei from selling telecom equipment to major American service providers or making acquisitions in the U.S. For China, though, the situation is slightly different. China is still a technology laggard and badly needs American know-how. Nor in some cases are there viable domestic alternative to foreign technology. (It is not exactly clear, for instance, what government computers will use for an operating system if not Windows 8.) Those realities may ultimately limit Beijing’s ability to shun American technology firms.

Still, the war of words is not helping already strained relations between the world’s two largest economies. American and Chinese officials have exchanged barbs in recent days over escalating territorial disputes between Beijing and its neighbors, including U.S. allies Japan and the Philippines. Trade disagreements also continue. The U.S. Commerce Department said this week it intends to slap steep tariffs on certain Chinese-made solar panels this week. The danger is that these percolating problems will eventually stifle the economic cooperation both sides need to drive growth. More than U.S. tech firms may then find themselves targets.

TIME China

The Legacy of Tiananmen Is Holding Back China’s Economy

A security guard stands next to pictures of China's former President Jiang Zemin and late paramount leader Deng Xiaoping at an exhibition in Beijing
A security guard stands next to the pictures of China's former President Jiang Zemin, right, and late paramount leader Deng Xiaoping at an exhibition to celebrate the 90th anniversary of the founding of the Chinese Communist Party in 2011 Jason Lee—Reuters

To maintain its growth miracle, the Chinese leadership can no longer separate political and economic reform

As tanks rolled through the pro-democracy protesters on Tiananmen Square on June 4, 1989, the message from the Chinese Communist Party couldn’t have been clearer: Beijing would tolerate economic change, but not political change. A decade earlier, paramount leader Deng Xiaoping had embarked on the free-market reform that would spark China’s economic miracle.

But on that fateful June day, when he crushed the Tiananmen movement, Deng also eradicated any hope that political liberalization would accompany the government’s quest for prosperity. In fact, Deng believed political reform would undermine China’s economic progress, and the primary purpose of his shift towards “capitalism with Chinese characteristics” was to strengthen the Communist Party’s grip on power.

Twenty-five years later, the attitude of China’s leadership has remained unchanged. President Xi Jinping has proposed a sweeping slate of economic reforms that would hand more influence to private companies and free up flows of capital. On the political side, however, there are no signs that Xi feels any differently than Deng had in 1989. Xi has (arguably) grasped more power in his hands than any Chinese leader since Deng himself. The government tosses critics in prison, squashes any independent social movement, and has even intensified censorship of the Internet and social media. The Communist Party insists on reigning unchallenged.

Looking solely at China’s economic record, the Communist Party can make the case that capitalist success is not linked to democracy, as many in the West have always believed. Since 1989, China’s authoritarian leaders have engineered one of the greatest economic achievements in history. The economy is 20 times bigger today and now ranks as the world’s second largest. Hundreds of millions have been lifted out of poverty. Chinese companies, from telecom giant Huawei to PC maker Lenovo to e-commerce behemoth Alibaba, have become world-beaters. However, that fundamental question ­— can economic and political reform be separated? —­ has not gone away.

In fact, 25 years after Tiananmen, it is more relevant than ever. After three decades of rapid economic development, the Chinese economy is a vastly different place. Its growth has been based mainly on plentiful labor, low costs, and a (restricted) opening to foreign business. But that model has run out of steam. In fact, the economy is facing its biggest challenges since the start of Deng’s reforms more than three decades ago. Wages have escalated, eating into the competitiveness of China’s export machine. Debt has risen to dangerous levels. A property boom looks about to bust. An uncontrolled shadow banking sector has sparked widespread fears of a financial crisis.

Excess capacity haunts many industries. Private businessmen remain starved of capital and opportunities. Many of these dangers are the result of incomplete market reform. The bureaucrats of China’s “state capitalism” maintain too much control over the activities of banks and companies. They protect uncompetitive state enterprises and politically connected cronies, apply regulations erratically, and influence who gets bank finance and who does not.

To get itself out of this mess, the Communist Party is going to have to do what it doesn’t do so well: let go. Banks must be allowed to allocate money based on financial fundamentals, not political guanxi or bureaucratic fiat. Companies have to become more innovative and creative, which requires greater freedom of information. Protected and subsidized state industries have to be opened to private and foreign competition. Money must be allowed to flow more freely in and out of the country. Rule of law must be ensured to convince businessmen to take risks and invest in new ideas. That demands a more independent judiciary. The Communist Party is aware of the need for further reform.

In an important party plenum in November, Xi and his policy team pledged to loosen up capital markets, reform the financial sector and the courts, and support the private sector. Yet the pace of implementation has been glacial. The party has to make uncomfortable choices between holding fast to the levers of control and fixing a broken economy.

China’s leaders can no longer have it both ways. The banks cannot be expected to both allocate money more productively and still take orders from meddlesome cadres. Entrepreneurs cannot be expected to launch the next Google in an environment where the Internet is controlled, creative thinking is discouraged and the courts can’t protect them.

The verdict of Tiananmen, then, is coming under strain. If China is to lift itself into the ranks of the most advanced economies and rejuvenate its competitiveness, its people require the freedoms Tiananmen’s protesters fought for 25 years ago. The Communist Party has to wake to the fact that Tiananmen’s legacy is holding the nation back.

TIME Asia

India’s Modi and China’s Xi: Frenemies, or Just Plain Enemies?

India's Prime Minister Narendra Modi comes out of a meeting room to receive his Bhutanese counterpart Tshering Tobgay before the start a bilateral meeting in New Delhi on May 27, 2014 Adnan Abidi—Reuters

With two nationalists in power, relations between the world’s two most populous nations could turn even frostier

Narendra Modi, the newly installed Prime Minister of India, has no shortage of problems to tackle. The slumping economy requires a hefty dose of difficult reforms to get moving again. Malnourishment, miserable health conditions and a lack of opportunity haunt hundreds of millions of poor. Corruption is out of control. Unrest is rampant in the country’s east. And then there is the pesky issue of foreign policy, especially the ongoing tensions with India’s neighbors. That means Pakistan, of course, but also that other Asian giant — China.

China and India would appear to have endless reasons to cooperate. The world’s two most populous nations are both developing nations eager to improve the welfare of their 2.6 billion people and attain their rightful position on the world stage. In the 1950s, in the early years of India’s independence, hopes were high that India and China would be close allies, a spirit captured in a phrase popular at the time — “Hindi, Chini, bhai bhai,” or “Indians and Chinese are brothers.” Those high expectations were dashed in 1962, when China armed forces invaded India over border disputes. The war was a humiliation for the Indians and left New Delhi’s relations with Beijing under a permanent dark cloud.

Still today, the two warily glare at each other over that contested border, their disagreements left unresolved. China continually presses its claims to pieces of Indian territory; India continues to annoy China by sheltering the Dalai Lama, the Tibetan spiritual leader Beijing considers a dangerous separatist. The last Indian administration, led by Congress’s Prime Minister Manmohan Singh, tried its best to appear friendly with China, smiling at BRIC summits and promoting greater economic exchange, but “Hindi, Chini, bhai bhai” remains a distant memory.

Now comes Modi. Though generally tight-lipped on foreign policy matters, India’s new leader is known as a nationalist figure, and therefore probably more prone to stand up to China, especially on sensitive issues like their continued border disputes. During a February visit to Arunachal Pradesh, a state in India’s far east that China claims as “South Tibet,” Modi took a hard line on the issue. “No power on earth can snatch away Arunachal Pradesh,” Modi boomed in a speech. “The world does not welcome the mind-set of expansion in today’s times. China will also have to leave behind its mind-set of expansion.”

On the other side, Chinese President Xi Jinping has been living up to his own reputation as a nationalist. He has embroiled China in a series of territorial disputes with Japan, the Philippines and, most recently, Vietnam. Xi made a similar stab at India only weeks after he formally took office. In April 2013, a contingent of Chinese soldiers set up a camp in a disputed region along the border between the two countries in Ladakh, setting up a tense confrontation that lasted several weeks. The incident eventually ended peacefully, but members of Modi’s Bharatiya Janata Party (BJP) were irate over what they saw as a wimpy response from the Congress government. “You may have some security options, you may have some diplomatic options, but being clueless is not an option,” the BJP’s Arun Jaitley, Modi’s Finance Minister, criticized at the time. Such strong words offer an indication of how Modi might respond in similar crises on his watch. “China has this inexplicable proclivity to needle India and test it with these minor provocations at inopportune times,” says Jeff Smith, a fellow at the American Foreign Policy Council and author of the book Cold Peace: China-India Rivalry in the Twenty-First Century. “If they continue you will have more pressure on a Modi government to respond with a little more machismo.”

Such an outcome, however, is not guaranteed. Beijing seems to be taking a surprisingly soft stance on Modi. After his strong comments in Arunachal Pradesh in February, the response from the often rabidly nationalist Chinese state media was unusually muted. A commentary in the state-run Global Times called Modi’s statement “harsh,” but went on to dismiss it as pre-election rhetoric. “There is no need to exaggerate the significance of Modi’s remarks,” the newspaper noted. China has so many other foreign policy headaches on its plate that it may not need to create another with Modi. Beijing is embroiled in a range of contentious issues with the U.S. — from cyberspying to trade spats — while its aggressive moves on territorial disputes in East Asia have alarmed many of its neighbors. Since Modi’s election, the Chinese press has been talking up the benefits of China-India cooperation. The China Daily, in an editorial congratulating Modi on his victory, stressed the two countries’ shared interests. “The common aspiration for prosperity and subsequent need for a peaceful environment for national development give the two neighbors additional reasons to forge a more constructive relationship,” the newspaper said.

Modi might feel the same. He swept to power on the hope that he could revive India’s economic growth, and Chinese investment and trade could help him do that. As chief minister of Gujarat, he already saw the value in tapping China’s economic strength. In 2011, he visited China and made a salesman’s pitch to woo Chinese companies to India. “Our job in the government is to create the right kind of environment for you to come and enjoy your creativity,” Modi pronounced in a speech in Chengdu.

There is even some talk that Modi’s nationalist credentials might make it easier for him to score a diplomatic breakthrough with China. One Chinese political commentator mused that Modi is “likely to become India’s ‘Nixon,’” referring to the hard-line U.S. President’s surprise accommodation with Mao in the 1970s. “There is a bigger window for material improvement in India-China relations under Modi, but there is also a bigger window for confrontation,” says Smith. Which route Modi and Xi choose will determine if “Hindi, Chini, bhai bhai” can become reality, or remain a distant dream.

TIME Thailand

Thailand Is Doing a Great Job of Screwing Up Its Potential

Thailand Politics
An antigovernment demonstrator cries before she leaves a protest site after soldiers staged a coup in Bangkok on Thursday, May 22, 2014. Sakchai Lalit—ASSOCIATED PRESS

And it's not alone. The coup in Thailand, and turmoil elsewhere, shows how developing nations are currently excelling at one thing: being their own worst enemies

For more than a half year now, Thailand has been gripped by chaos. Protesters from both sides of the political spectrum — the antigovernment Yellow Shirts and progovernment Red Shirts — have clogged the streets of Bangkok. The country’s highest court ousted the still widely popular Prime Minister, Yingluck Shinawatra. And, on Thursday, the military took control of the government.

The past six months of factional violence have seen some 28 deaths and 700 injuries. But there have been even wider casualties of another sort. The turmoil is sapping the nation’s economic strength, and everyone is hurting.

Months of uncertainty and effectively no functioning government have taken a toll on Thailand’s economy. GDP in the first quarter contracted by 2.1%. Investment, consumption and government spending were all down. Some $15 billion of fresh investment projects are on hold. Foreign tourists, a key source of jobs and income for many Thais, are being scared off.

Without a return to political stability, the situation may not improve. Research firm Capital Economics slashed its GDP forecast for 2014 to a mere 1% this week. Though the military’s intervention could prevent further violence, the outlook for Thailand’s political situation remains anything but clear.

“The military’s seizure of power does nothing for Thailand’s reputation among global investors or, indeed, tourists,” lamented Mark Williams, Capital’s chief Asia economist.

Thailand is representative of an alarming trend: politics are undermining the economic prospects of some promising emerging nations. Only a couple of years ago, the developing world seemed set to swamp the developed one. While the U.S. and Europe suffered through the fallout from the 2008 financial crisis, emerging economies like China, India, Brazil and Indonesia surged from strength to strength. But not anymore. The performance of the emerging world has tapered off. The IMF recently downgraded its forecast for growth in developing economies to 4.9% in 2014.

There are many reasons behind the slowdown. After years of rapid expansion, some economies have developed serious flaws that are dragging them down. In China, for instance, a distorted financial sector, rising debt and excess capacity are all weighing on growth. But politics are making matters much worse. Vietnam’s government has been left pleading this week with foreign companies to maintain their operations in the country after many factories were damaged in anti-China riots, sparked by a territorial dispute in the South China Sea. Without such foreign investment, Hanoi will have a harder time creating jobs and raising incomes. Russia’s aggressive designs on Ukraine have forced the U.S. and Europe to slap sanctions on the country, threatening to scare off much-needed investment in an economy already struggling with feeble growth. In Egypt, constant political upheaval since the start of the Arab Spring in 2011 has undermined growth, gutted the important tourism sector and left the government dependent on foreign aid.

The causes of all this upheaval are many, and in some cases, quite honorable — such as the quest of Egyptians for their proper democratic rights. Yet ultimately the fallout is the same. Businessmen won’t invest in startups or factories that spur growth and create jobs without security, confidence and clear policy direction. A paralyzed government like Thailand’s can’t provide any of that, while the significant geopolitical risk created by a regime like Russia’s often convinces executives to place their capital elsewhere.

For the poor, this is bad news. There has always been a link between good governance and accelerated development in the emerging world. Periods of exceptionally high economic growth in less-developed nations are often associated with periods of political stability and sound macroeconomic management. Sadly, too often that stability has been enforced by coercion — as in China. As the 25th anniversary of the crackdown on protesters in Tiananmen Square approaches in June, Beijing’s leaders still believe economic reform can only be achieved under an unreformed political system. Yet democracies have proved that they, too, can deliver the economic goods. India, Indonesia and, increasingly, the Philippines have shown that when democratic leaders display political will, build consensus and implement smart policies, they can generate growth rates that match the best produced by the toughest dictatorships.

The point is that the governments that have successfully raised incomes tend to put economics ahead of politics. But both democrats and autocrats are guilty of doing the opposite these days. Putin clearly possesses the power to implement much-needed reforms, but he’s chosen to pursue the foreign adventures that could undermine the economy rather than the foreign investment that could bolster the nation’s growth. The sad story of India over the past three years has been a government led by economic reformers that got too caught up in coalition politics and too divided on the direction of policy to press ahead with key reforms.

This week brought some hope that at least some political gridlock can be broken. The landslide election in India of a coalition led by the Bharatiya Janata Party has raised expectations that incoming Prime Minister Narendra Modi will be able to press through badly needed liberalization and restart India’s economic miracle. But such hopes can be dashed in a flash. In Bangkok, there had been optimism that the military would broker a settlement between the opposing Yellow and Red Shirts — then the coup squashed that hope.

The danger to the developing world is that its leaders will continue to place their narrow interests over the greater goal of economic progress. Improving the welfare of the common man is hard enough. Politicians shouldn’t spend their time making it even harder.

TIME China

Why Russia’s Putin and China’s Xi Want to Be Best Buddies

Russian President Vladimir Putin and Chinese President Xi Jingping attend a welcoming ceremony on May 20, 2014 in Shanghai.
Russian President Vladimir Putin and Chinese President Xi Jingping attend a welcoming ceremony on May 20, 2014 in Shanghai Sasha Mordovets—Getty Images

As relations with the West become increasingly strained, both leaders realize they can benefit a lot from setting aside distrust and forging closer ties

Vladimir Putin needs friends these days, and he has found at least one in China. The Russian President took a break from the crisis in Ukraine to visit Shanghai this week for the (creatively named) Conference on Interaction and Confidence-Building Measures in Asia. On Tuesday, he met Chinese President Xi Jinping, who, state media reported, “extended a warm welcome” to Putin. Xi said closer China-Russia ties were an “inevitable choice” and important for “realizing prosperity in both countries.”

Those words are much more than diplomatic politeness. Though Russia and China have routinely professed friendship over the past two decades, distrust has lingered between them, leftover from the ideological schisms and border disputes of the Cold War. But those old wounds appear to be healing. Calling China “our trusted friend” in comments ahead of his visit, Putin said the relationship between the two countries “has reached the highest level in all its centuries-long history.”

The warm sentiments will come as a relief to two leaders finding themselves increasingly isolated. Russia’s grab of Crimea from Ukraine led the West to slap sanctions on the country, while China’s aggressive stance on territorial disputes has alienated many of its neighbors, including Japan and the Philippines. Anti-China riots broke out in Vietnam last week, causing thousands of Chinese residents to flee, after a Chinese oil rig appeared in waters claimed by both nations. The disagreements have in both cases strained Russia’s and China’s ties with the U.S. That has left Moscow and Beijing in need of the diplomatic support on the world stage they can offer each other.

Economic necessity is also driving the two countries closer together. Russia’s once roaring economy is roaring no more. Growth was only 1.3% last year, and the IMF expects about the same meager performance in 2014. That leaves Putin in dire need of fresh investment and new customers for its exports, which China can readily supply. Trade between the two countries has exploded since the 1990s, while Chinese companies see Russia as a potential target of new business. Just this week, Chinese SUV maker Great Wall Motor announced plans to build a $340 million car factory in Russia.

From Russia’s perspective, the Ukraine crisis has only made boosting economic ties with China more imperative. Putin has already been signaling that he sees his country’s economic future in the East, not the West, writing in 2012 that Asia was “the most important factor for the successful future of the whole country.” The fallout from Putin’s moves in Ukraine has heightened the urgency of that shift. The European Union is Russia’s main trading partner and source of investment, and with relations strained, potential new cash from China is more important than ever.

China, meanwhile, is always on the lookout for new sources of raw materials like oil, timber and minerals for its manufacturing machine, and Russia has just what it craves. During his visit to Shanghai, Putin is hoping to finally complete a long-delayed contract for Russia’s giant Gazprom to supply natural gas to China for 30 years. That deal would include a new pipeline stretched between the countries. Even more, Russia and China can deal with each other free from an irritant they both encounter: the West. While the U.S. and Europe are always complaining about human rights, that doesn’t make the talking points when Russia and China are at the negotiating table.

A closer Russia-China relationship has major geopolitical implications for the West. Attempts by Washington and Brussels to pressure Putin over the Ukraine crisis will be made much more difficult as Moscow finds sources of investment, trade and diplomatic support from Beijing. China, meanwhile, has its own problems with the West,­ from trade disputes to cyberspying. On Monday, the U.S. Justice Department, in an unprecedented step, charged five Chinese military officers with hacking American computers to steal secrets. Fortunately for Putin and Xi, in this new world order, they have each other.

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