Friday, December 7, 2012

New shape of China’s economy


China’s leadership transition attracted global attention in 2012, and deservedly so, given the country’s global significance. But, more important, strategic transformations now underway seem certain to influence its future pattern of growth.

For three decades, the dividends from Deng Xiaoping’s initial decision to open China’s economy to market forces, and to the world, have fuelled rapid growth. Until recently, the key was China’s vast supply of low-cost labour, which provided the foundation for the country’s export-oriented model.

Concentrated in coastal China, this model produced an uneven distribution of output and established a unique pattern of high savings and low consumption. Indeed, China’s savings rate of rose steadily following the onset of market reforms, to 51 per cent of GDP in 2007 from 38 per cent in 1978.

Market-based system

Economic growth is determined not only by factors of production such as labour, capital, and technology, but also by institutional arrangements. Through 30 years of reform, China has successfully completed the institutional transition from a highly centralised planned economy to a dynamic market-based system.

Beginning from rural tiered management based on the household contract system, Chinese reformers supplemented public ownership with various other forms, with the market increasingly playing its fundamental role in allocating resources under the macro control of the state.

Reform coincided with increasing globalisation, unleashing forces that restructured not only Chinese industry, but also production processes around the world as China challenged established manufacturers and became part of global supply chains.

Developed economies’ massive outsourcing of traditional manufacturing, high-tech manufacturing, and even some low-end services has brought exciting opportunities for emerging markets that, like China, have resource and cost advantages, strong market potential, and industrial support capabilities.

Today, however, the catalytic power of Deng’s initial changes has waned, with rising wages, weakening external demand, and increasing competition from other emerging economies indicating the exhaustion of a growth model premised on exports and investment.

In particular, the 2008 global financial crisis and the subsequent eurozone debt crisis have forced Chinese officials to forge a new path for future growth.

Most important, export-led growth must give way to domestic economic drivers. This implies the need to upgrade China’s industrial structure, accelerate the formation of human capital, facilitate technological progress, and undertake further institutional reforms.

If successfully implemented, this agenda is likely to reverse global savingsand consumption patterns that have underpinned large imbalances in recent years.

China is responsible for the savings side, while the US disproportionately accounts for the consumption side, ultimately turning the Chinese into America’s creditors.

Of course, global savings and consumption patterns have undergone significant change since the financial crisis, with both the West and China trying to restore internal equilibrium.

This model presupposes that China will develop domestic capital, rather than simply relying on foreign investment. To be sure, the ability to attract and absorb external financing has been an important reason for China’s accelerated industrialisation, marketisation, and integration into the global economy.

Thirty years ago, this was the most efficient and practical strategic choice for China, owing to its lack of capital and advanced technology.

Zhang Monan is a fellow of the China Information Center, fellow of the China Foundation for International Studies, and a researcher at the China Macroeconomic Research Platform.