Understanding China’s Economy

In his latest book, ‘Understanding China’s Economy’, Dr Lin Yifu traces back the key incidents affecting the economic development in China before and after the reform and opening-up in 1978. The book portrays the economic hardships faced by the country soon after the Communist party took office and how the ‘the Reform and Opening-up’ put China on the fast track of economic growth.

During the initial years of the founding of the People’s Republic of China, party leaders imitated surpassing policies adopted by most developing countries, pushing the development of heavy industry, hoping that it would lead to promising economic growth and lay the foundation of national defense. Owing to the lack of technology and expertise, Chinese government must inject enormous amount of capital to introduce technology from the West to kick-start heavy industry. Unlike light industry, heavy industry is capital intensive rather than labor intensive. China, a labor-rich but capital-poor nation had no comparative advantage in developing heavy industry. The heavy industry in China was not viable at that time without direct support from the central government. The hope that heavy industry would bring promising economic growth to China was in vain and people’s quality of life had deteriorated.

Heavy industry is capital intensive and offers less employment opportunity than what could be provided by export-led economy. During the difficult years, unemployment rate was high for city dwellers, not to mention the aggravation caused by tens of thousands of rural job seekers flooding to the cities. To stem the mass flow of people and relieve the employment pressure in the cities, the central government launched a registration system called ‘Family register’ to separate rural residents from urban dwellers. The system has directly and indirectly widened the income gap between the urban and rural population and the social problems associated with the income disparity stills haunts China today.

Before 1978, farming in China was under strict state control. Its operation was based on the model of planned economy. The lack of incentive was to blame for the low productivity at that time. The dire consequence was a large scale famine claiming millions of lives. Reform and opening-up in 1978 reversed the situation. Agricultural reform was initiated by a small group of farmers. Under the reform, farmers were allowed to sell surplus produce to the market after retaining the necessary portion for the tax. This policy was proven to be effective. Agricultural productivity was increased by many folds and the policy was launched all over the country soon after.

Besides agricultural reform, the Chinese government opened 14 coastal cities to foreign investments in 1984. The central government reversed from the surpassing strategy and restructured economy based on the country’s comparative advantages - low labour and land costs. As a result, the booming of light industry and exports has become the locomotive of China’s economy. The export-led economy has also helped absorb surplus labor in the rural areas. Villagers got high income jobs in the cities and this would subsequently benefit the economy of rural areas as a whole. The strategy was a proven success as it had lifted millions out of poverty and contributed a lot in the accumulation of stunning amount of foreign currency reserve that laid the ground for the economic transformation in the future and helped cushion the impact of economic downturn in the wake of financial tsunami.

Projecting from the present status, exports will still be the major growth engine of China’s economy. The contribution of service sectors and domestic consumption to the GDP is still low when compared with other OECD countries. It is time to channel revenues accumulated from exports to upgrading technology and transforming low efficient industry to technology rich industry. Multiple strategies should be adopted to release the purchasing power of villagers so as to enhance the contribution of domestic consumption to the GDP and make a more balanced economic structure. Injecting resources to refine the social services especially in education and health care, launching infrastructure projects in the rural areas are possible solutions. Implementing policy favoring the establishment of small banks in the villages can help channel capital to aid the development of small to medium businesses, which provide the major employment opportunity and are vital to the development of a vibrant and diverse economic structure.