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Era of “Reform and Opening,” 1978 – now?
• Third Plenum (of 11th Party Congress) in December 1978.
• What did it do?
“The official view of the Third Plenum, too often echoed in
foreign studies, exaggerates the meeting. ….It ignores Hua Guofeng’s
achievements in moving the country away from Maoist orthodoxies and
refocusing on the economy, underplays initial reform efforts before the
Plenum, and oversimplifies a complex process that saw Deng emerge as
paramount leader over the next two years……..the word “market” did
not appear in the official communiqué from the 1978 meeting; the word
“reform” appeared twice. Only some six years later did the slogan
“reform and opening up” become widely used.”
–Professors Fred Teiwes and Warren Sun.
The Third Plenum of 1978
1. Declared that the focus of Communist Party work had now shifted to
“economic construction.” Class struggle was over, and economics
were in command.
2. Incremental efforts are economic “reform” were already under way,
but who knew what that would mean. System exploration was ratified
and accelerated: what are the rules that decide resource allocation.
3. Economic strategy was dramatically altered. The effort to accelerate
industrial construction by squeezing farmers and exporting oil was
abandoned. The alternative was to give farmers “room to breathe,”
reduce imports and relax the economy.
4. The leadership changes associated with these policy changes took
place: Chen Yun joined the Standing Committee and Hua Guofeng lost
power.
What economy did Chinese leaders face in 1978?
• The Cultural Revolution wasn’t all bad, but…
1. A youth wave was breaking on the society, and there weren’t enough
jobs. Plus 17 million sent-down youth coming back to the cities, and
perhaps 2 million political prisoners to be rehabilitated. Looking
back, we can call it a “demographic dividend,” but at the time….
2. Food supplies were inadequate and nobody knew if they could be
increased. Rural poverty was widespread.
3. Huge industrial investments had failed to be brought into production.
There were no foreign exchange reserves, and efforts to expand oil
production had failed.
4. In the city, service were non-existent; everything was either provided
through the work unit
or were unavailable.
Question 1: How do you feel about
Economics?
A)
B)
C)
D)
E)
I like Econ! I want to take more Economics classes at UCSD.
Econ is pretty interesting, but tough! All that math.
Most economics is irrelevant to the real world.
Meh. Boring.
I actively dislike Economics.
Question 2: If you had been watching China in 1979 (after the
Third Plenum), which would have been your prediction for the
Chinese economy?
A) It will Struggle, because the political issues are so deep.
B) It will Grow, but be held back by agricultural shortages; not
clear if China can feed itself.
C) It will Grow, but be held back by the difficulty—the impossibility
—of reforming command economy (socialist) systems.
D) It will Grow rapidly, and become economically successful.
E) It will Grow explosively: faster, longer than any economy in
history
The Outcome: A combination of structure
(“Growth Miracle”) and system (“Market
Transition,” or Reform and Opening.
Clearly, market transition succeeded, through a two-phase
“gradualist” reform program. What is “market reform”? A policy
that increases fair market competition by lowering barriers to
entry or creating better rules.
Phase 1 (1978-1991): Allow entry, experiment, create a “dual
track”: Special Economic Zones.
Phase 2 (1993-2002): Create a (mostly) uniform tax system,
central bank, financial system, foreign trade system, join W.T.O.
Are we now in a “Post-Transition” Phase?
20%
15%
10%
2018
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1979
1978
0%
Budgetary Revenues
The first phase of
reform
led to a fiscal crisis….
Percent of GDP
Can we capture the reform experience in one
graph?
35%
30%
Budgetary Expenditures
25%
5%
20%
2018
2017
2016
2015
2014
2013
2012
2011
2010
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1981
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1978
0%
Budgetary Revenues
15%
Percent of GDP
35%
30%
That was resolved through further reforms…..
25%
Budgetary Expenditures
10%
5%
I. The High Speed Growth Era:
There have only been a few “miracle” economies, mostly in East Asia.
These few “miracle” economies have all combined multiple
conditions. China is the same:
1. Demographic dividend: rapid labor force growth and low
dependency.
2. Rapid rural-to-urban migration, urbanization, and structural
change.
3. High saving and investment.
4. Manufacturing growth “leads” with rapid productivity (TFP)
growth.
5. Export orientation (prevents market saturation)
Labor force growing much more rapidly than
population; opportunity but also employment
pressure.
300
2. Chinese-style Rural-Urban Migration:
the
“Floating
Population.”
250
Million
200
150
100
50
0
1982
1987
1990
1995
2000
2005
2010
2014
2015
2016
2017
2018
1952
1954
1956
1958
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1962
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1976
1978
1980
1982
1984
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1988
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1996
1998
2000
2002
2004
2006
2008
2010
2012
2014
2016
3. High and Rising Investment: A
Fundamental Feature of the Entire PRC
50%
45%
40%
35%
30%
25%
Gross Fixed Capital Formation
20%
15%
10%
5%
0%
2016
2015
2014
2013
2012
2011
2010
2009
2008
2007
25%
2006
2005
2004
2003
2002
2001
2000
1999
1998
1997
1996
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1991
1990
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1986
35%
1985
1984
1983
1982
1981
1980
1979
1978
Percent of GDP
50%
Investment Share of GDP
45%
Gross Fixed Capital Formation
40%
China
30%
Upper-Middle
Income (incl. China)
20%
High Income
15%
10%
5%
0%
4-5. External Orientation
• All growth miracle economies have been export oriented
(except perhaps Brazil, 1950-1980).
• In the simplest sense, the highly elastic demand on the world
market implies that expansion of labor-intensive manufacturing
can continue almost without limits. Domestic demand does
not constrain development.
• Inflows of external technology and saving can be large.
Imitation and “learning by doing” are both rapid.
35%
15%
1978
1979
1980
1981
1982
1983
1984
1985
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1989
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1991
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1998
1999
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2004
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2007
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2016
2017
2018
Percent of GDP
Exports and Imports (Share of GDP)
40%
Exports
30%
25%
20%
Imports
10%
5%
0%
Market Reforms fading as Growth Drivers:
By 2005-2008, the most dynamic reform measures had been
completed:
1. State-owned enterprise system downsized (from 75 million to about 35 million);
collective enterprises shrink even more.
2. Membership in WTO (World Trade Organization). Agreement with new sets of
rules and influence of world prices.
3. Modern fiscal and financial system: Tax reform (1994); PBC (Central Bank:
1995); CBRC Regulator (2003). Last step is the restructuring of state-owned
banks from 2004-2006. Massive bad loan write-off, restructuring, foreign
strategic partners, stock market listing. (Even the laggard Agriculture Bank
completed in 2010).
All three of these achieved in the context of an expanding market economy. These
three milestones of restructuring ensured the core of the economy also
marketized.
Growth Surge amid Secular Slowdown
• Why did China’s GDP
growth first accelerate (in
2005-2007) and then
resume secular slowdown?
• Because of successful
economic reforms and
entry into W.T.O.
• It seems that successful
reform should have
consolidated China’s policy
direction.
China Annual GDP Growth
16%
14%
12%
10%
8%
6%
4%
2%
0%
1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018
China’s WTO Commitments were substantial, but still
much less than those made by developed countries.
2. Search for New Growth Drivers
• For a while, we hoped to find new growth drivers in the growth
of Chinese domestic consumption.
• In fact, Chinese consumption has grown rapidly, about 6-8% per year in
the last decade.
• But as a share of GDP, consumption has not increased very much.
• Exports have grown, but declined even more as a share of GDP.
• The has left Chinese policy-makers looking at investment and
ambitious new industrial policy programs as the main growth
drivers.
Question 4: Clearly, China’s growth miracle phase is over. No
more growing at 10% per year. Between now and 2030, China is
likely to grow at:
A)
B)
C)
D)
E)
8% per year.
6% per year.
4% per year.
2% per year.
Stagnate or decline.
How do you manage the end of the Miracle
Growth era?
• Earlier “Miracle Growth” economies have had difficulty. Japan
ran into a decade of stagnation; Korea hit the Asian Financial
Crisis.
• But these economies also shifted to “light touch” government
policy.
• Corporations took over technology development.
• Societies became more democratic.
• China’s path has been quite different, and it is accelerating.
Accelerated Industrial Policy
1. China’s industrial policy today is focused on—but not limited to
—the “fourth wave” of technological change. It is:
A. The “keystone” of current development strategy: a great deal depends
on it.
B. Big and Growing Rapidly
C. Government “Industrial Guidance Funds” will play a main role.
2. Success is far from certain: this is an enormous gamble.
A. China has many of the pre-requisites of success, and will clearly emerge
from this wave of technological change as one of a small handful of
global leaders.
B. Industrial policy will be quite wasteful, and is already distorting
valuations.
C. China’s pursuit of industrial policy is one of the main causes of the
Trump Administration’s “trade war.” What are the rules under which
international technological competition will take place?
“Innovation-Driven Development Strategy” (2016)
• Endorsed by a key joint Communist Party Center and State
Council (government) document in May 2016. It is the most
authoritative type of policy that the Communist Party issues.
• A broad program, with many distinct components. Many of the
better-known industrial policy programs with—such as “Made in
China 2025”—are in fact components of this broader strategy.
• A broad strategy, rather than a tightly controlled plan.
Supports multiple, opportunistic approaches to technology
acquisition.
• Signals a new level of commitment and a dramatic increase in
the volume of resources devoted to industrial policy.
Broad Program with Many Components
Innovation-Driven Development Strategy
(IDDS)
Megaprojects
(from 2006)
Strategic Emerging
Industries (SEIs)
(from 2010).
Made in China 2025
(2015)
Internet Plus (2015)
Military-Civilian
Fusion (2017)
Artificial
Intelligence and
AI 3-Year Action
Plan (2017)
Smart Solar
Power Action
Plan (2018)
Selected Quotations from “Innovation-Driven Development
Strategy”:
“A new round of global technological revolution, sectoral change and military
change is accelerating … A group of revolutionary new technologies—
intelligent, green and ubiquitous—are reshaping the global competitive
landscape and changing the relative strength of nations … We not only face a
rare historical opportunity to catch up and surpass, we also face the serious
challenge that the gap might widen again.”
“The basis of national strength is technological innovation capacity… a
nation with weak innovation is in peril. A main reason China was weak and
preyed upon in the modern era was that we had missed out on successive
technological revolutions; we were technologically weak and a weak nation.”
“Traditional development drivers are steadily weakening … we must rely on
innovation to create a new engine for development, to nurture new growth
poles, to continuously raise quality and efficiency …. and to achieve the
“twin objectives” of maintaining medium-high-speed growth and advancing
toward medium-and-high tech levels for individual sectors.”
Extremely rapid growth in outlays for Industrial Policy
• Fifteen years ago, China spent almost nothing on industrial policy.
• In the immediate wake of the global financial crisis (2009), the new 16
“Mega-projects,” were getting $5 billion annually.
• In 2010–the next year—the Strategic Emerging Industries (SEI) program
was launched, probably approached $100 billion annual support within a
year or two.
• Today, industrial policy commitments are in the hundreds of billion US
dollars.
• Semiconductor Funds: $300 billion (?)
• Electric vehicles: $150-300 billion (??)
• Many Individual sectors: Advanced manufacturing ($3 billion); Merics identified
$6-7 billion in support for industrial robotics.
• The old funding commitments don’t disappear: this is largely
cumulative.
[Comparison: US government annual support for innovation is about $50
billion.]
Value of Government Guidance Funds
12
Cumulative Value: Fund-raising Scope
10
10.3 trillion RMB
= USD $1.5 trillion
Trillion RMB
8
8.75 trillion RMB
6
4
Source: Zero2IPO and
company websites.
2
0
2010
2011
2012
2013
2014
2015
2016
2017
2018 Q2
Policy Instruments: Multiple, Overlapping,
Cumulative
• After 2006, Chinese industrial policy-makers rapidly developed a basked of
overlapping targeted polices:
•
•
•
•
•
Subsidies and tax breaks to producers;
Demand-side subsidization (e.g., electric vehicles);
Technical standard-setting that privileges domestic firms;
Procurement preferences;
Strategic targets that serve a coordination function
• Since 2014, rapid roll-out of
• Programs such as Innovation-Driven Development; Made in China 2025; and Internet
Plus. These are in principle better, because they are less targeted and envisage
raising capabilities throughout the economy.
• Establish funding mechanisms that have some role for competitive project selection
and rates of return analysis.
• However, none of these instruments are “sunset,” they all persist and overlap.
Result:
• Nobody really knows how much money is being spent;
• There are evaluations of the effectiveness of programs, but
they are never public and we don’t know the criteria or the
outcomes. Nobody knows how effectively the money is being
spent.
• How do the incentives and protectionist measures affect
upstream and downstream industries?
• Do these policies actually end up fostering high tech industrial
development?
• Semiconductor industry fund: equivalent to $50 from every
man, woman and child in China.
A new type of technological frontier:
• Artificial intelligence is enabled by Big Data
• Artificial intelligence: Don’t think of IBM’s Watson, a stand-alone genius
computer.
• Artificial intelligence: Think of cheap, on-demand processing services, like
a utility, that makes many products work (or work better).
• The operator with the biggest data set has an intrinsic advantage: Google
is the leader.
• China has the largest data sets because:
• 1.32 billion mobile phone users, who conduct, on average more business on their
phones than Europeans or Americans do.
• Government that actively cooperates with internet businesses to collect and
analyze data (Cf. MERICs “Social Credit” Report).
• Absence of privacy protections.
Industrial Policy is complementary to the enormous
investment effort of the Chinese Government
• China continues to make an extraordinary investment effort. China’s
fixed investment ratio, at 42.7% of GDP is by far the highest in the world.
Moreover, although it has come down slightly from its 2013 high point (of
45.4%), it is still much higher than it was before the Global Financial
Crisis.
• China has almost 40% of GDP available to government under the broadest
possible definition, including social insurance revenues, local government
land revenues, and state enterprise profits. Yet China today has none of
the social welfare burden that weighs on an aged society like Germany.
China’s aging is a crucial future problem, that will start to weigh heavily
around 2030. Right now, China has a window of opportunity.
• Industrial policy will insure that the investment ratio stays high: China is
not “rebalancing.”
B. Massive Physical Constructions and
Reconstructions
1. The “Belt and Road Initiative” has gotten the most attention.
This is important, but don’t think of it in terms of “belts,”
think of it in terms of “hub and spoke.”
2. Completion of China’s high-speed transport infrastructure
3. Reconstruction of *Three* Major Urban Areas
a. Beijing-Tianjin-Hebei through construction of new urban center in
Xiong’an District.
b. Lower Yangtze Urban Belt
c. Pearl River Delta “Greater Bay Area” – Hong Kong-Macau-ShenzhenGuangzhou-Zhuhai
China is to be the hub of six transport
spokes
Eurasian Land Bridge
Corridor
Russia Corridor
Mideast Corridor
BurmaIndia
Corridor Southeast Asia Corridors
Pakistan Corridor (First)
High Speed Railway to Southeast Asia
Grand Designs for China’s Largest Cities
• Driven partly by air pollution concerns, Beijing and Shanghai have both
adopted new population caps.
➢ Beijing: total 2020 population capped at 23 million
➢ (from 2015 population of 21.7 million).
➢ Beijing central city population (existing 6 urban districts) to be capped at
10.85 million in 2020
➢ (down from 2015 population of 12.8 million).
➢ Beijing: build new urban center at Tongzhou and completely new city at
Xiong’an.
➢ Shanghai: cap total 2030 population at 25 million
➢ (from 2016 population of 24.19 million).
• New version of traditional policy of restraining growth of the largest
cities, channeling growth into smaller cities.
Xiong’an New District
Built-up core will be low-density (< 10,000/km2), green,
universal broad-band. (Singapore as a whole is ≈ 8,000/
km2)
By 2035, a green, harmonious city with excellent
infrastructure, in which high tech sectors will lead
development and effectively take over the non-capital
Guangdong Greater
Bay Area:
Plan Released February 2019
Highway Bridge
here
Opened October
24, 2018
3. Conclusion: A Huge Gamble
• China’s economy is slowing; but China’s leaders do not accept the
full magnitude of this slowdown, and are hitching development
strategy to a new technological revolution.
• These programs are all reasonably well conceived. They envision
changes that are likely to take place under market conditions and
create polices to accelerate them.
• Some will certainly succeed: it is unquestionable that China will
emerge as the world’s largest economy (at market exchange
rates) and a primary technology power over the next twenty
years.
• However, the scale, direction, and acceleration of these policies
creates substantial sources of risk.
• Prepare for a wild ride. China is the world’s most competitive
economy, and it is moving upwards fast in a range of sectors.
These policies try to “push the river,” moving China faster to
where it will go in any case.
• It is unusual to see industrial policy adopted as a way to seize
advantage at the technological frontier; past industrial policy (Japan,
Korea) has been targeted at catching up, by late developers.
• These policies compete with many other priorities for the
Chinese people, in particular health care and provision for an
aging society.
• They have contributed to a significant backlash against China:
will the “trade war” really come to an end this month? The
trade deficit issues are easy to resolve, but the industrial ...
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