The Real Costs

These are boom times for China! For example, Shanxi province in northern China produced 25% of the country's coal in 2005 at a time when coal prices were soaring. Shanxi's economy grew by 12.5% in 2005, well ahead of even the astonishing 10% growth for China's economy as a whole.

However, the province is home to Linfen, Yangquan and Datong, the three most polluted cities in China. Life expectancy in Linfen is 10 years below the Chinese national average. The province closed 4,800 illegal mines in 2005 -- and the drilling of illegal wells for water have created a chronic water shortage and a steady loss of farmland as it subsides into underground mine shafts and drained aquifers.

If you subtract the costs of air and water pollution from Shanxi's growth rate, officials have told Deutsche Bank, the province's real economic growth rate is close to zero. It's easy to find economists who are even more pessimistic. The World Bank puts the costs of China's pollution at 8% of GDP. Some economists peg it as high as 10% of GDP. According to this accounting, China isn't growing at all.

Polluting the air or water, releasing toxic amounts of mercury, using so much water that a river runs dry -- these are all what economists call externalities. The costs of these externalities are paid by the general public, in the form of increased illness or higher death rates, and they remain external to the country's GDP accounts.

However, today's externality has a way of becoming tomorrow's on-the-books cost. Just ask any U.S., European or Japanese company about what it costs them to clean up their wastewater, scrub their emissions and safely dispose of their toxic waste today. Those were once externalities but now disposal is part of the cost of doing business.

The environmental figures out of China, even the official ones, are appalling. More than 400,000 of China's 1.3 billion people die from air-pollution-related illness each year, according to the Chinese Academy on Environmental Planning. About 300 million Chinese don't have access to clean drinking water, and 400 of the country's 668 largest cities are short of water. Acid rain falls over 30% of the country. Of the 20 most polluted cities on earth, according to the World Bank, 16 are in China.

Unfortunately, the part of the environment nearest to crisis also presents the toughest nut to crack. China is rapidly running out of water. Industries can't get enough. City dwellers can't get enough. Farmers can't get enough. Parts of the country look like they're headed into permanent drought as surging demand teams up with falling supply to produce scarcity no matter how much water the clouds bring. For the past 25 years, China has been able to feed itself, but the water shortage is bad enough to put this in doubt. According to James Kynge in his 2006 book, "China Shakes the World," China uses seven to 20 times more water per unit of GDP than the developed countries of the world.

The alternative is business as usual in China, with growth at all costs. Go far enough down that road, and the costs of paying for those environmental externalities gets big enough so that even China's booming economy can't pay it.

Is the Playing Field Level?

Below are some thoughts to consider. Again I do not come from a place of protectionism but rather fair competition. Most of the statistics below come from MSN Money's Jim Jubak. Numbers are one thing but the important part here, I believe, is the costs the numbers are not showing. Too often we operate from a position of always fixing past wrongs instead of being aware and thoughtful as we move forward. I don't believe it is too late but time marches on...

China's economy grew 10.7% in 2006, the fourth consecutive year of double-digit growth and the highest growth rate since the 10.9% recorded in 1995. And the Chinese economy did it last year without even breaking a sweat: Inflation came in at a core rate of just 1.5%.

While China certainly is not about to slip backward into global economic insignificance, it appears that the current growth has been built on nonrenewable human, environmental and capital resources. And when those resources have been mined for the easy gains, China's rate of growth will fall back to something like "normal."

What's more, the central government has tolerated an internal migrant worker system that assures Chinese industry of an even-larger army of even-lower-cost workers. It works like this. A peasant looking for a better life can move to a city or an industrial zone and get a job. But they can't get a "hukou," the certificate of residence required to access public services such as schools, health care and unemployment benefits. These migrant workers live crammed in company dormitories, usually earning far below the official minimum wage and sometimes as little as $1 for a 12-hour day, doing the dirtiest and most dangerous work that no worker with a certificate of residence wants. And quite often, the company refuses to pay the migrant worker even those wages. Official Chinese government figures say that more than 70% of the country's migrant workers were owed pay by their employers last December.

Estimates of the number of migrant workers in China range from 110 million to 120 million. With a population of 7.5 million registered residents, a city such as Guangzhou, the export capital of southern China, couldn't run without its 3.7 million migrant workers. Whole industries would come to a halt: Migrants make up 80% of all urban construction workers and 68% of workers in manufacturing, according to UNESCO (the United Nations Educational, Scientific and Cultural Organization).

China's migrant workers don't have access to the financial and legal systems. Workers who have filed claims for back pay have been beaten or arrested and charged legal fees so high that they couldn't pursue their claims. That's left them waiting for government action.

The situation isn't sustainable. Acts of protest are increasing: In 2004 there were 74,000 protests (not all by migrant workers) involving 3.8 million people, up from 10,000 protests in 1994. Some migrant workers are simply going home to protest bad working conditions and a lack of pay. Either the Beijing government will find some way to force local officials and employers to share the wealth more evenly or the costs to the economy -- in protests and workers who vote with their feet -- will continue to rise.

Just as important - or more so - traditional accounting doesn't consider the cost of environmental damage. MSN Money's Jim Jubak suggests that investors should be considering these off-the-balance-sheet costs, and their long-term effects on production, as global warming and pollution become bigger issues.

There is Hope

Under the auspices of the Global Compact initiative established by U.N. Secretary-General Kofi Annan, NGOs, international business and labor organizations as well as representatives from the world of science and politics are working closely together with the aim of forging a global economy based on the principles of sustainable development.

The Ten Principles of the Global Compact

Principle 1:
Support and respect the protection of international human rights within the sphere of influence;

Principle 2:
Make sure corporations are not complicit in human rights abuses;

Principle 3:
Freedom of association and the effective recognition of the right to collective bargaining;

Principle 4:
The elimination of all forms of forced and compulsory labor;

Principle 5:
The effective abolition of child labor;

Principle 6:
The elimination of discrimination in respect of employment and occupation;

Principle 7:
Support a precautionary approach to environmental challenges;

Principle 8:
Undertake initiatives to promote greater environmental responsibility;

Principle 9:
Encourage the development and diffusion of environmentally friendly technologies;

Principle 10:
Work against corruption in all its forms, including extortion and bribery.