China’s Turning Point and Implications for ASIA and the Rest
February 27, 2011
China’s Turning Point
by Stephen S. Roach
New Haven–In early March, China’s National People’s Congress will approve its 12th Five-Year Plan. This Plan is likely to go down in history as one of China’s boldest strategic initiatives.
In essence, it will change the character of China’s economic model – moving from the export- and investment-led structure of the past 30 years toward a pattern of growth that is driven increasingly by Chinese consumers. This shift will have profound implications for China, the rest of Asia, and the broader global economy.
Like the Fifth Five-Year Plan, which set the stage for the “reforms and opening up” of the late 1970’s, and the Ninth Five-Year Plan, which triggered the marketization of state-owned enterprises in the mid-1990’s, the upcoming Plan will force China to rethink the core value propositions of its economy. Premier Wen Jiabao laid the groundwork four years ago, when he first articulated the paradox of the “Four ‘Uns’” – an economy whose strength on the surface masked a structure that was increasingly “unstable, unbalanced, uncoordinated, and ultimately unsustainable.”
The Great Recession of 2008-2009 suggests that China can no longer afford to treat the Four Uns as theoretical conjecture. The post-crisis era is likely to be characterized by lasting aftershocks in the developed world – undermining the external demand upon which China has long relied. That leaves China’s government with little choice other than to turn to internal demand and tackle the Four Uns head on.
The 12th Five-Year Plan will do precisely that, focusing on three major pro-consumption initiatives. First, China will begin to wean itself from the manufacturing model that has underpinned export- and investment-led growth. While the manufacturing approach served China well for 30 years, its dependence on capital-intensive, labor-saving productivity enhancement makes it incapable of absorbing the country’s massive labor surplus.
Instead, under the new Plan, China will adopt a more labor-intensive services model. It will, one hopes, provide a detailed blueprint for the development of large-scale transactions-intensive industries such as wholesale and retail trade, domestic transport and supply-chain logistics, health care, and leisure and hospitality.
Such a transition would provide China with much greater job-creating potential. With the employment content of a unit of Chinese output more than 35% higher in services than in manufacturing and construction, China could actually hit its employment target with slower GDP growth. Moreover, services are far less resource-intensive than manufacturing – offering China the added benefits of a lighter, cleaner, and greener growth model.
The new Plan’s second pro-consumption initiative will seek to boost wages. The main focus will be the lagging wages of rural workers, whose per capita incomes are currently only 30% of those in urban areas – precisely the opposite of China’s aspirations for a more “harmonious society.” Among the reforms will be tax policies aimed at boosting rural purchasing power, measures to broaden rural land ownership, and technology-led programs to raise agricultural productivity.
But the greatest leverage will undoubtedly come from policies that foster ongoing and rapid migration from the countryside to the cities. Since 2000, annual rural-to-urban migration has been running consistently at 15-20 million people. For migration to continue at this pace, China will have to relax the long-entrenched strictures of its hukou, or household registration system, which limits labor-market flexibility by tethering workers and their benefits to their birthplace.
Boosting employment via services, and lifting wages through enhanced support for rural workers, will go a long way toward raising Chinese personal income, now running at just 42% of GDP – half that of the United States. But more than higher growth in income from labor will be needed to boost Chinese private consumption. Major efforts to shift from saving toward spending are also required.
That issue frames the third major component of the new Plan’s pro-consumption agenda – the need to build a social safety net in order to reduce fear-driven precautionary saving. Specifically, that means social security, private pensions, and medical and unemployment insurance – plans that exist on paper but are woefully underfunded.
For example, in 2009, China’s retirement-system assets – national social security, local government retirement benefit plans, and private sector pensions – totaled just RMB2.4 trillion ($364 billion). That boils down to only about $470 of lifetime retirement benefits for the average Chinese worker. Little wonder that families save out of fear of the future. China’s new Plan must rectify this shortfall immediately.
There will be far more to the 12th Five-Year Plan than these three pillars of pro-consumption policy. The Plan’s focus on accelerated development of several strategic emerging industries – from biotech and alternative energy to new materials and next-generation information technology – is also noteworthy.
But the emphasis on the Chinese consumer is likely to be the new Plan’s defining feature – sufficient, in my opinion, to boost private consumption as a share of Chinese GDP from its current rock-bottom reading of around 36% to somewhere in the 42-45% range by 2015. While still low by international standards, such an increase would nonetheless represent a critical step for China on the road to rebalancing.
It would also be a huge boost for China’s major trading partners – not just those in East Asia, but also growth-constrained European and US economies. Indeed, the 12th Five-Year Plan is likely to spark the greatest consumption story in modern history. Today’s post-crisis world could hardly ask for more.
But there is a catch: in shifting to a more consumption-led dynamic, China will reduce its surplus saving and have less left over to fund the ongoing saving deficits of countries like the US. The possibility of such an asymmetrical global rebalancing – with China taking the lead and the developed world dragging its feet – could be the key unintended consequence of China’s 12th Five-Year Plan.
Stephen S. Roach, a member of the faculty of Yale University, is Non-Executive Chairman of Morgan Stanley Asia and author of The Next Asia.
Copyright: Project Syndicate, 2011.
www.project-syndicate.org
First it was the Great Leap Forwards that became Backwards.
Then 1 child policy, now 1 dog policy (Shanghai).
Then unbridled Capitalism under the guise of Communism leading to the massive urban-rural divide.
Is there any possibility of a large scale remodeling, economically, to service driven economy? Nah..
Ain’t enough natural resources and all they will ever have is brute man-power. Best to remain technicians, cuz they don’t have the capacity to do things better than what has already been tested and tried.
C.L. Familiaris - February 27, 2011 at 11:05 pm
PS, I don’t think the present leadership gives a F to whatever developed nations are suffering from, except that the malaise will affect their domestic stability.
Iron face PM Wen will remain an enigma. Also Newsweek named President Hu jitao the “Last Apparatchik” in their 12/01/11 issue. But that’s Western biasness eh?
I really think Engineers shouldn’t run countries, neither should Drs.
C.L. Familiaris - February 27, 2011 at 11:15 pm
“… growth driven by domestic consumers…” Yes, a sensible next step but China (and India) will have to come up with as yet untried targets of lifestyle if it is to achieve a sustainable egalitarian society. The rural/urban divide mentioned above is perhaps the biggest danger facing China.
Two billion people about to become consumers… Enough to give anyone sleepless nights.
Isa Manteqi - February 28, 2011 at 2:02 pm
“Two billion people about to become consumers”
Not to worry, Isa. Often they consume themselves first. Autophagy. That is when they become belligerent. I say educate and emancipate the women and the world population will fall. Easier said than done, as Sisters in Islam is finding out.
C.L. Familiaris - February 28, 2011 at 2:27 pm
I read somewhere that when China enters the world stage, it is like Maria Callas.
I thought to myself where do Onassis figure in this equation.
China is on a spending binge buying high rise buildings in New York and Chicago, much to the consternation of the Americans.
The Chinese new money makes them a part of America buying.
Pak Abu - February 28, 2011 at 3:29 pm
It is quite dangerous to assume that China’s consumers are going to save the rest of the western economies from falling into their own abyss of their own making. This dangerous assumption perhaps has one of its roots in the B.R.I.C. conundrum by some US scholars.
Many are hoping that China would start importing or allow massive investments (FDIs) and sell all things foreign into the country.
Of course, at this point in time, foreign companies are already jostling for space and market opportunities.
From this activity, comes the prospect of intense competition, and the international convertibility of the Rmb.
The rising Chinese consumption that is coincidental with its celeberation of being the second largest economy may easily mislead analyst into concluding that Chinese consumers are ready to rescue the world, and those in the western world would be forgiven for their financial mismanagement, and the threat of moral hazards summarily dismissed.
Initial successes in Beijing, Shanghai, Guangzhou, Hanzhou, and Shenzhen, are simply adding to the illusion.
It is the pull and push of these perceptions that are forcing the rest of the world into thinking this way – this is an illusion. This illusion is compounded by the reports of success by foreign companies oerating in China, which have reported huge profits in these few years – China is such a big country, and the market share of these foreign companies are mere specks in the entire market though, individually, the profits appear to be miracles in the account books, after a long spell of dismal performance in their home markets.
Start by examining the GDP per capita of China, it is about one tenth of Japan. This means that most Chinese are not as rich, though the total wealth of China may be the second highest in the world.
Unless those exporters are ready to reduce prices (they will get some reprieve with the rising Rmb), that are not able to get to the mass market at all. To reduce prices, they need economies of scale, and it means huge investments. I do not see such huge investments coming from Europe or America which have their own parochial interest to attend to.
For strategic purposes, many foreign companies are wary enough not to put too much investments into China, and hence become too economically dependent on Chinese consumers and manufacturers. This may be one of the reasons the Obama is now courting India from the Chinese orbit.
On the other hand, China would always want to be an exporting country because of its unique provincial administrative system. Beijing central would not want its provincial rivalry as one provinces wants to ‘export’ to other provinces, and it is possible, that is may be a negotiated ‘export’ in return for some corresponding ‘import’.
For the foreigners, they tend to see the whole monolith of China, and would prefer to deal with BJ central, but reality lies mostly at the provincial level.
BJ central are holding on the financial and taxation matters. It has also SOEs that has operations nationwide.
Foreigners favour financial news from BJ central about improvements, but the real physical investments and production lies at provincial levels. It is quite incredible to see how some people make astronomic conclusions from the release of economic and financial figures.
China is constantly worried about inflation, and food prices are on the rise. China has always prided itself being self sufficient in food production. This means tha encroaching into farmlands and turning them into non farm economic entities would face stiff restistance.
The Chinese population who have been traditionally big savers are not too quick to become big spenders. They are facing rising prices in housing, and with their low GDP per capita, they know that they have to save and at least buy an apartment.
The recent actions by the Chinese government to cool the housing market is to allow many more Chinese to catch up. It is not to channel savings for consumption.
In addition, many Chinese consumers are learning lessons from the recent financial failures of the US and Europe which have its roots in overspending, and the Chinese consumers are getting into the savings high gear again.
They have pride that they would not want their country to slide into any economic or financial problem, and which requires external help from bodies like the IMF. It was not too long ago in 1998 that the IMF lorded over small countries such as South Korea, Indonesia, and Thailand in the aftermath of the Asian Financial Crisis in 1998.
The Chinese government has push overseas investments, and these investments are meant to relief inflationary pressure in China when the investments target critical resources.
Very few Chinese investments have gone into overseas production. But it is believable, when capacity is nearing in China, Chinese investments will seek overseas foreign production centers to export back into China and other parts of the world.
If rising consumerism theory holds water, the investments will mostly land in developing countries rather than developed countries for the goods to price competitive in China, and at the same time let China improve its international relations standing with third world countries.
The action announcement, and initiatives by the Chinese government, may be just to relief social and politcal pressures for change.
Tang Loon Kong - March 1, 2011 at 7:45 am
Mr. Tang, your last sentence says it all.
There are attempts by Chinese industry to challenge the big MNCs like Philips, DuPont, BHC etc, but they are just able to haul in minnows.
In fact the Indians and Koreans, are much more attuned to the Western model of doing business and have successfully established themselves in UK and Europe, if not in the US.
The Chinese banking and finance sectors are still dinosaurian (both in size and speed). They can’t compete globally, mainly because they have the impression that Cash (a Chinese word), is the end-all. It is not so. Strategic corporations are jealously guarded. PRC will for the time being remain the Factory of the World, while the marketing, packaging and other value added materiel’ are done overseas. The cost of production does not normally exceed 40% of sales price, and the Chinese factories are geared to that ratio. Any loss of purchasing power by the rest of the world, causes immense hardship on Chinese entrepreneurship. If you had been to Shenzhen in the fall of ’08- early ’09 you’d be horrified at the number of fore-closures in factories. They look fine outside, but empty inside.
Individual provinces are competing amongst themselves, with the second tier like Guangxi, Hainan and Fujian getting aggressive. They have been scouting around for Overseas Chinese to help them open doors. Guangxi even offered our gomen a trade center in Nanning (site of CAEXPO), but our chicken-lily livered officials were too worried to splurge.
C.L. Familiaris - March 2, 2011 at 12:53 am