Download China and the Current Imbalances

One Hundred Million Jobs for the Chinese Workers!:
Why China’s Current Model of Development Is Unsustainable and How A Progressive
Economic Program Can Help the Chinese Workers, the Chinese Economy, and China’s
Environment
CHIARA PIOVANI
Ph.D. Candidate (Corresponding Author)
Department of Economic, University of Utah
Mailing Address: 813 East 100 South, Apt #3
Salt Lake City, Utah 84102
Phone: 801-413-4209; E-mail: [email protected]
MINQI LI
Assistant Professor
Department of Economics, University of Utah
Phone: 801-581-7697; E-mail: [email protected]
Abstract
This paper argues that China’s current model of development led by exports and
investment is not sustainable for economic, social, and environmental reasons. The accumulation
of economic, social, and environmental imbalances could potentially lead to a major crisis for
China and the global economy. The paper proposes a progressive economic program that could
help China move towards a more equitable and ecologically sustainable model of development.
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JEL classification: E60, O53, P30
Keywords: Chinese economy; export-led growth; investment; sustainability; progressive
economic program
1. Introduction
Since 1978, China has undertaken the transition from a socialist centrally planned
economy to a system, which the Chinese leadership refers to as the “socialist market economy”.
Over the period of market-oriented economic reform, China has accomplished rapid economic
growth. Between 1980 and 2006, the Chinese economy grew at an average annual rate of 9.5
percent. Measured by purchasing power parity, China is now the world’s second largest
economy and, if the current trend continues, China could overtake the U.S. to become the
world’s largest economy in the next decade or so.
Despite these impressive achievements, the development process in China has been
characterized by serious social, environmental, and economic imbalances. These imbalances, if
not addressed effectively and timely, could evolve into major crises in the coming years.
Back to the early 1980s, China was one of the most egalitarian countries in Asia. Since
then, China has experienced substantial worsening of income and wealth distribution, as well as
growing tensions between different social classes and groups (Khan and Riskin 2001; Zhang and
Wan 2006). Economic liberalization and the dismantling of state-owned enterprises have led to
substantial urban unemployment, increasing gender disparities, and declines of living standards
for large sections of the population (Berik, Dong, and Summerfield 2007).
China’s economic growth has been highly energy and resources intensive, and has led to
serious environmental degradation. China has now among the world’s worst air and water
pollution problems. Land degradation is taking place at alarming rates. China’s massive
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resources demand contributes to the rapid depletion of the world’s remaining nonrenewable
resources, and China has already become a major contributor to the global greenhouse gas
emissions (Tisdell 2001; Wen and Li 2006).
At the macroeconomic level, China’s economic growth has been primarily driven by
investment and exports, whereas consumption has steadily declined as a share of China’s
economic output. As the U.S. economy moves into recession and the US current account deficit
starts to correct, China can no longer rely upon rapid growth of exports as a major engine of
growth and China’s excessively high level of investment cannot be sustained for long without
leading to major macroeconomic difficulties.
Thus, China’s current model of development cannot be sustained for social, ecological,
and macroeconomic reasons. This paper argues that China’s current model of development is
characterized by serious social, ecological, and macroeconomic imbalances. For China’s
development to be sustained, China needs to undertake major transformations that restructure the
Chinese economy in accordance with equitable and ecologically sustainable principles. We
propose a progressive economic program that would allow China to take the initial steps to move
in such a direction.
Section 2 reviews the structural and institutional evolution that led to the emergence of
China’s current model of development. Section 3 discusses the social and environmental
consequences of China’s market-oriented economic reform and economic growth. Section 4
examines the macroeconomic structure of the Chinese economy, and argues that rapid expansion
of exports can no longer serve as a major engine for China’s future economic growth. Section 5
argues that China’s current level of investment is excessively high, and provides an estimate of
the likely sustainable level of investment. Section 6 proposes a progressive economic program,
which is designed to transform China’s macroeconomic structure so that the future economic
growth is to be led by domestic consumption rather than investment and exports. The
macroeconomic transformation is to take place in such a manner that it simultaneously advances
the goals of social equity and ecological sustainability.
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2. The Structural and Institutional Evolution towards the Current Model of Development
Economic reforms began in China with the Third Plenum of the Eleventh Congress of the
Chinese Communist Party in late 1978. Initially, the official goal of economic reform was to
build a “socialist commodity economy with planning”. State and collective ownership were to
remain dominant, and central planning would continue to play a prominent role in resources
allocation and capital formation.
The economic reform began in the rural-agricultural sector with the dismantling of the
people’s communes and the adoption of the “household responsibility system”, which
represented a de facto privatization of agricultural production in China. The return to family
farming was followed by a period of rapid growth of agricultural output. The infrastructure built
during Mao's era, rapid increases in the use of chemical fertilizers, and higher state procurement
prices for agricultural goods also made important contributions to the agricultural growth in this
period.
During the 1970s, rural collective enterprises known as “communes and brigade
enterprises” emerged and started to grow rapidly. These became the institutional roots for the
later well known “town and village enterprises” at the onset of the reforms. The town and village
enterprises remained collectively owned throughout the 1980s and were considered by many as
constituting China’s most dynamic economic sector (Riskin 1987; Lin 1988; McMillan,
Whalley, and Zhu 1989; Naughton 1995).
Incremental reforms were applied to the urban industrial sector. In contrast to the reform
strategy pursued in agriculture, in the 1980s no state owned enterprise was privatized. Until
1990, the state owned enterprises and the collective owned enterprises combined stilled
accounted for 90 percent of the industrial output (NBS 1992). The initial restructuring of the
industrial sector focused on the managerial system. State enterprise managers were given more
autonomy in price and output decisions, and firms were allowed to retain a portion of the profits.
A more radical step in this direction was undertaken in 1987 when the “contract
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responsibility system” was introduced in all state owned enterprises. Under the contract
responsibility system, managers were given the exclusive power to determine workers’
compensation and duration of employment. Until the early 1990s, managers rarely exercised the
power to dismiss workers. The new system, however, represented a break with the historical
socialist commitment to equality and employment security. The balance of power within the state
owned enterprises started to change to the workers’ disfavor.
With respect to international trade and investment, the so-called “open door policy” was
introduced in 1978 with the objective of expanding foreign trade and allowing foreign companies
to invest in China. With the rationale that modernization could not be achieved while
maintaining closure towards the outside world, special economic zones were established in the
coastal regions. Preferential policies, such as special tax incentives for foreign investment and
greater freedom to conduct foreign trade for international partners, were implemented in the
special economic zones.
Despite the rapid expansion of trade following the adoption of the open door policy, the
impact of external markets on China’s economy remained modest. Until the end of the 1980s, the
contribution of exports as a component of aggregate demand and foreign investment as a source
of capital formation remained relatively small in magnitude. In this period, China’s economic
growth was largely driven by internal demand (to be further discussed in section 4).
During the 1980s, the Chinese economy grew at an average annual rate of near 10 per cent.
The economy was still dominated by state and collective owned enterprises, and the economic
gains associated with the growth process tended to be broadly shared across the society.
Nonetheless, rapid growth also led to widespread corruption and emerging social and economic
imbalances. Income distribution became more unequal. In the state sector, the traditional
employment security and other welfare programs, referred to by the Chinese workers as the “iron
rice bowl”, started to be undermined. In addition, the dismantling of the people’s communes in
the countryside led to a deterioration of the rural public infrastructures.
After the 1989 political turmoil, there was a short-lived attempt by sections of the Party
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leadership to reorient the Chinese economy towards more central planning and state guidance.
However, after Deng Xiaoping’s notorious Southern Tour in early 1992, the internal debate
within the Party was settled once and for all 1. At the Fourteenth Party Congress in October 1992,
the Party was officially committed to the objective of transforming the Chinese economy into a
“socialist market economy”. The commitment opened the way for full-scale market liberalization
and privatization.
By the end of the 1990s, most of the state owned enterprises and virtually all of the
collective owned enterprises had been privatized (Hart-Landsberg and Burkett 2005). The
remainders were restructured into corporations with shares held by both domestic and foreign
capitalists. This widespread privatization was accompanied by massive lay-offs that reduced the
state sector employment by more than 40 percent (Naughton 2007: 105)
China has also taken major steps towards trade and financial liberalization. In 1996, the
Chinese currency (renminbi) was made fully convertible on the current account. In 2001, China
was admitted into World Trade Organization with a full range of commitments of further trade
liberalization. In the financial sector, state owned banks were required to become fully
commercial, and a large number of new banking institutions were established. The stock market
also developed rapidly during the 1990s, which resulted in an increase in total market
capitalization as a share of GDP from 10 percent in 1993 to 48 percent in 2000 (Naughton 2007:
468). China has also been taking steps to open its capital account to allow for freer cross-border
capital flows.
The post-1992 reforms inspired by greater market orientation continued to generate rapid
economic growth. However, in comparison with the earlier phase, the market reforms led to
1
In the spring of 1992, Deng Xiaoping’s visited Guangzhou, Shenzhen, and Zhuhai, cities that had pioneered
opening to foreign capital and capitalist-style economic reform.
Deng’s tour reconfirmed the direction of market-
oriented reform. For further details, see Meisner (1999: 516).
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serious social and environmental problems. In the urban sector, many workers experienced
declines in living standards due to the withdrawal of the employment security and other welfare
programs. The rural residents faced major deterioration in access to basic health care and
education, which used to be provided by people’s communes (Cook 2002; Li and Zhu 2004) 2.
As the workers’ and peasants’ incomes fall behind the overall economic growth, household
consumption declines as a share of China’s GDP and China’s economic growth has been
increasingly driven by investment and exports (see section 4 below). China’s economic growth
has also led to serious environmental degradation, and has been heavily dependent on the use of
fossil fuels and other non-renewable resources.
Since 2003, the new Chinese leadership has demonstrated the intention to tackle China’s
social, ecological, and macroeconomic imbalances by broadening its political agenda to focus
greater attention on social equity and the sustainable use of natural resources. The new
leadership promised to pursue a “scientific perspective of development” in order to achieve
"common prosperity" and a “harmonious society”. However, there has been no change in the
general commitment to privatization and liberalization. The effects of the new government
policies have been modest thus far, and have not yet been able to contain the general tendency
towards rising inequality, environmental degradation, and macroeconomic imbalances.
3. The Social and Environmental Consequences of China’s Current Model of Development
The economic reform in China has been applauded by many as a great success. During
the reform period, the Chinese economy has been growing at an annual average rate of nearly 10
percent. In 2005, there were 600 million fewer people living below the poverty line than 1978,
measured by an income of purchasing power parity $1.25 per day (Chen and Ravallion 2008).
2
For further details on the deterioration of China’s rural health care system, see Hossein (1997), WHO (2000), and
Wen (2005 and 2007).
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From 1978 to 1996, the per-capita consumption of rural residents nearly quadrupled, and the percapita consumption of urban residents tripled (Chow 2007).
However, as China is becoming the world’s second largest economy, imbalances in social,
ecological, and economic areas have also emerged. The current processes of privatization,
liberalization, and retreat of the State from social security have generated in the Chinese
economy a sharp increase in inequality along different dimensions. Growing income and wealth
inequality has been reflected by greater disparities between coastal and inner provinces, between
urban and rural areas, between sexes, and between different social classes and groups (Khan and
Riskin 2001; UNDP 2005; Lin 2007; Naughton 2007). In the urban sector, the income gap
between the richest 10 percent of households and the poorest 10 percent increased from 3.3 times
in 1992 to 7.9 times in 2002. As a reflection of these disparities, the Gini coefficient shows that
China’s inequality in household income distribution increased from 0.38 in 1988 to 0.47 in 2004
(World Bank 2007). By this measure, China is now more unequal than the United States and the
majority of Asian developing countries. The radical acceleration of liberalization and
privatization has thus imposed a radical departure from the traditional socialist commitment to
equality.
Inequality in China is also rapidly increasing with respect to non-monetary indices. In
recent years, health care, education, and housing costs have escalated, which have had a dramatic
impact on the budget of ordinary working families. According to a survey conducted by the
Chinese government, about 50 percent of the urban residents and almost 90 percent of the rural
residents cannot afford any health insurance. In some poor provinces, it is estimated that from 60
to 80 percent of the people who died because of diseases could have survived if they had been
able to pay for the medical treatments (Zhu 2005; Quinlan 2007). Inequities in the distribution of
entitlements and capabilities have also had a gender dimension. Compared to men, women have
less access to health care, face poorer working conditions, and have fewer market opportunities
due to their greater responsibilities in household activities (Hart-Landsberg and Burkett 2005;
Berik, Dong, and Summerfield 2007).
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The outcome of the reforms in terms of increasing inequalities represents a key challenge
to the sustainability of the current strategy of development pursued by the Chinese leadership.
According to China Human Development Report 2005, “Inequity, if unaddressed, could penalize
China’s economic development and undermine the extent and sustainability of future progress”
(UNDP 2005: 6). Since the late 1990s, rising inequality has also led to a slowdown in poverty
reduction. Half of the decline in poverty was achieved in the first few years of the 1980s.
Addressing the problem of rising inequality is therefore crucial to restore the past rate of poverty
reduction (Ravallion and Chen 2004; Yao, Zhang, and Hanmer 2004; Naughton 2007).
The Chinese government has taken steps to address the inequities in health care access. In
2002, the Chinese government introduced the new cooperative medical system in the rural areas,
under the intention of replacing the previous cooperative medical system that collapsed with the
dissolution of the people’s communes. The new insurance scheme is run on a voluntary basis,
and it entitles participants to be at least partly reimbursed for their medical expenses with the
payment of a participation fee. The practical design and management of the program is left to the
discretion of local governments so that significant differences can be observed across different
parts of the country. The effectiveness of such measures cannot be fully assessed yet. The
implementation of the program is proceeding at a slow pace. As of 2006, the rural cooperative
medical system was only available in 10 percent of China’s villages. Some also point out that the
current insurance scheme fails to provide people with sufficient incentives to participate. As a
result, most of the rural residents are still responsible for their own health care expenditures,
which are often reserved for emergency needs given the poor quality that generally characterize
health care services in the rural areas (Brant et al. 2006; Brown, de Brauw, and Theoharides
2008).
China’s economic growth under the market-oriented reform has also been characterized
by intensive use of resources with destructive effects on the internal environment and potentially
also on the global environment. The current pattern of resource and energy utilization is likely to
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be unsustainable not only for economic and social reasons, but also in light of the natural
resource endowment of the country.
China is characterized by scarcity of land and water availability in relation to its
population. China’s per capita arable land is one-third of the world average, and its fresh water
availability is only one-quarter of the world average. Measured by the concept of ecological
footprint (the areas of cropland, grassland, pasture, forests, and fishing grounds required to meet
people’s material consumption), China’s per capita bio-capacity is only about 45 percent of the
world average. China’s current per capita ecological footprint, while still being lower than the
world average, is already twice China’s own bio-capacity (WWF et al. 2006).
In other words, China’s current level of economic activities has already overshot China’s
ecological capacity, and is now imposing unsustainable burden on China’s own environment.
Seven of the most polluted cities in the world are located in China. About 60 percent of the water
in the seven major river systems is considered dangerous for human contact. Due to soil erosion
and industrial pollution, 40 percent of China’s arable land is now degraded. Desertification is
advancing at an annual rate of 10,400 square kilometers (Wen and Li 2006).
China depends on coal for 70 percent of its energy consumption. As coal emits more
greenhouse gases than other fossil fuels, China’s emissions of greenhouse gases have been
growing rapidly and China has already overtaken the U.S. to become the world’s largest emitter
of greenhouse gases. It is now well established and widely accepted that the emissions of
greenhouse gases contribute to climate change with potentially catastrophic consequences for the
humanity. Thus, China’s current model of development, if not transformed, would threaten not
only to bring about a national environmental crisis but also precipitate a global environmental
crisis.
4. China’s Macroeconomic Structure and the Limits of Export-Led Growth
Figure 1 demonstrates the changing macroeconomic structure of the Chinese economy
from 1978 to 2006. From 2000 to 2006, household consumption as a share of GDP fell from 46
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percent to only 36 percent, probably one of the lowest consumption shares in the world. By
contrast, during the same period, the investment share rose from 35 percent to 43 percent, the
share of exports of goods and services surged from 23 percent to 37 percent, and the share of net
exports rose sharply from 2.4 percent to 7.5 percent. Thus, in recent years, China’s economic
growth has clearly been led by investment and exports.
While the absolute living standards of the population have improved over the years, with
rising inequality, the income (and therefore the purchasing power) of the great majority has
lagged behind the growth of national output. The great majority of the population depends
primarily on labor income to make a living, and the relative decline of labor income has largely
paralleled the relative decline of household consumption.
Figure 2 compares the household consumption and total labor income as a share of GDP.
The relative decline of household consumption largely parallels the relative decline of labor
income. There are no official statistics on China’s total labor income. China’s National Bureau of
Statistics conducts surveys of rural and urban households that provide data of household
incomes. We estimate the total labor income as the sum of the wage incomes of urban residents
and the total peasant net income. For the urban areas, the total wage income is derived by
multiplying the urban population by per capita wage income of urban residents. For the rural
areas, the total peasant net income is calculated by multiplying the rural population by the
peasants’ per capita net income. The peasant net income includes farming income, wages earned
by migrant workers, and a limited share of supplementary sources of income. The data for the
urban wage incomes and peasants’ net incomes are from National Bureau of Statistics of China
(NBS 2007 and previous years). Using this approach, our own estimates show that the total labor
income, which constituted about 50 percent of GDP in 1990, declined to 37 percent of GDP in
2005. During the same period, household consumption fell from 49 percent of GDP to 36
percent.
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How long can China continue to run large trade surpluses relative to its economy?3 In
2007, the European Union as a whole actually overtook the U.S. to become China’s largest
exports market. The European Union accounted for 20 percent of China’s total merchandise
exports, and the U.S. accounted for 19 percent. However, in term of net exports, in 2007,
according to the Chinese data, China had a bilateral trade surplus against the European Union of
$134.2 billion, whereas in the same year China had a bilateral trade surplus against the U.S. of
$162.2 billion. As China’s total trade surplus in 2007 was $262.2 billion, by this measure, the
United States accounted for 62 percent of China’s total trade surplus (NBS 2008).
According to the U.S. Bureau of Economic Analysis, in 2007, the U.S. ran a bilateral
trade deficit with China of $256.3 billion (BEA 2008). Thus, on the basis of the U.S. statistics,
one could argue that China’s entire trade surplus depends on the bilateral trade between China
and the U.S.4
In recent years China’s trade with Asian countries has been growing rapidly. However,
under the current trade pattern China tends to import machines and equipment from Japan and
South Korea, and raw materials from Southeast Asian countries, processing within China and
exporting the final products to the U.S. and European markets. As a result, China has been
running trade deficits against other Asian countries. In 2007, China ran a merchandise trade
deficit of $3.2 billion against Japan, $4.8 billion against South Korea, and $1.4 billion against
ASEAN countries (NBS 2008).
Since the 1990s, the U.S. has been running large and rising trade deficits, which peaked
at near $800 billion or more than 6 percent of GDP in 2006. The U.S. trade deficits have
3
As we are mainly interested in China’s macroeconomic imbalances, in the following discussions, we will focus on
the sustainability of China’s net exports position rather than the total exports.
4
The difference between the U.S. trade statistics and China’s trade statistics mainly results from that the U.S.
counts the goods manufactured in China but re-exported through Hong Kong, Macao, and Taiwan as Chinese
exports to the U.S., while China does not.
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reflected the internal imbalances of the U.S. macroeconomic structure. In recent years, the U.S.
economic growth has been driven primarily by household consumption. On the other hand, over
the neoliberal period, the U.S. working class has suffered from declining real wages and
stagnating family incomes. In this context, the growth of household consumption has been
largely financed by explosive growth of household debt.
Now with the burst of the housing bubble, the U.S. economy is moving into recession,
which is likely to be followed by persistent stagnation. Moreover, with the sustained depreciation
of the U.S. dollar, the U.S. trade deficit has been shrinking. It is unlikely that the European
Union can replace the U.S. to become a major engine of the global economy and provide an
ample space for the rest of the world to pursue export-led growth. Within the European Union,
the Euro-zone exports and imports are actually roughly in balance. While the U.K. has been
running relatively significant trade deficits, like the U.S., it is now also struggling with the
economic consequences of a bursting housing bubble (Kotz 2008; Li 2008).
For China to continue running large trade surplus, there has to be some other large
economy that is able and willing to run large trade deficit on a sustained basis. As the U.S. sinks
into stagnation and Europe cannot fill the vacuum, in the coming years the expansion of the
Chinese exports is likely to slow down dramatically and in all likelihood, China’s trade surplus
will have to shrink in relation to China’s GDP.
5. What Is A Sustainable Level of Investment?
Since the 1980s, the Chinese economy has experienced three investment-led booms as
measured by investment to GDP ratio. The first peaked in 1985, the second peaked in 1993, and
the third boom started in 2003 and may have already peaked. China’s current level of investment
is excessively high with respect to both international standards and China’s own historical
records.
Excessively high levels of investment have potentially dangerous consequences. First, a
significant share of the current level of investment could eventually prove to be excess
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investment, which could translate into massive amounts of excess capacity. Until now, much of
the additional production relative to domestic demand has been absorbed by exports. However,
given that export-led growth cannot be sustained much longer, as China’s exports slow down, a
large portion of the industrial production capacity could have great difficulty to find readily
available markets (Wang 2007). Secondly, China’s high level of investment has generated very
high demand for energy and raw materials, which is not sustainable (to be discussed below).
Thus, the excessively high level of investment could potentially lead to massive amounts of
excess capacity as well as potentially serious shortage of energy and raw materials. This would
in turn lead to falling rate of return on capital and, if the problem is not corrected in time, China
could potentially be confronted with a major economic crisis.
The rate of return on capital depends on the profit share of output and capital productivity
(or the output-capital ratio). In the long run, if there is no major change in the profit share, then
the rate of return on capital is primarily determined by capital productivity. Thus, from a purely
economic point of view, a “sustainable” investment level should be one that is consistent with
stable capital productivity. In other words, at equilibrium, investment should be just enough to
compensate for depreciation of fixed capital and to cover the net investment required for the
capital stock to grow at the same rate as GDP. The relationship between the sustainable level of
investment as a share of GDP and the equilibrium capital-output ratio (the inverse of the outputcapital ratio) can be calculated as follows:
Equilibrium capital to GDP ratio =
Investment to GDP ratio / (Sustainable growth rate of GDP + Depreciation rate of fixed capital)
There are no official statistics on China’s capital stock. We made our own estimates of
China’s capital stock (defined as the economy-wide net stock of fixed assets), and used these
estimates to calculate China’s capital productivity. There are two different types of capital stock:
productive capital stock (such as the capital stock in the profit-making business sector), and
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infrastructure capital stock (such as the capital stock in transportation, communications, public
utilities, and general social services). Infrastructure capital stock contributes to society’s longterm economic and social development, and a case can be made that it should not be treated in
the same category as general productive capital stock.5
Figure 3 presents two different measures of China’s capital productivity from 1992 to
2006, with capital measured by total capital stock and total productive capital stock. For the data
sources and the estimating procedures, see Appendix. Both measures of capital productivity have
tended to fall since the mid-1990s. From 1995 to 2006, the output to total capital ratio fell by 16
percent and the output to total productive capital ratio fell by 9 percent. But the output to total
productive capital ratio seems to have flattened since 2002, suggesting that the recent decline of
total capital productivity primarily reflects an increase in the infrastructure capital stock.
Assuming China’s long-term sustainable economic growth rate being 7 percent (which
could be too optimistic) and the depreciation rate being 8 percent, for total capital to GDP ratio
to stabilize at 2.5 (that is, for the capital productivity to stabilize at 0.4, lower than the current
value), then the investment to GDP ratio needs to stabilize at [2.5 * (7 percent + 8 percent)] =
37.5 percent.
It may be argued that since much of the recent increase in capital stock has to do with
infrastructure investment, China’s current very high level of investment (now approaching 45
percent of GDP) is nevertheless sustainable despite falling output to total capital ratio. However,
5 A related issue has to do with the role played by foreign direct investment in China’s capital stock growth.
Arguably, foreign direct investment contributes to technological progress and may be more desirable than domestic
investment. In fact, foreign direct investment accounts for only a small proportion of China’s total investment and
therefore is not a significant part of China’s capital stock. Foreign direct investment played a relatively significant
role only in the early phase of market reform. The ratio of foreign direct investment to total fixed capital formation
reached a peak of 17 percent in 1994. Since then, it has tended to fall, having stayed below 10 percent since 2000,
and was only 6 percent in 2005 and 2006 (NBS 2007).
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China’s very high level of investment has not only led to falling capital productivity, but also
very high demand for energy and mineral resources that simply cannot be sustained.
Investment in fixed capital includes investment in buildings and structures, and
investment in equipment. The former requires building materials (such as steel and cement) that
are energy intensive to produce. The latter, such as the production of tools and machines, also
requires large amounts of energy and materials. According to China’s Energy Development
Report, the following industries are generally considered to be highly energy intensive industries
with energy-to-output ratios much higher than other industries: chemical industry, ferrous metals
industry (iron and steel industry), non-ferrous metals industry, and the building materials
industry (Cui ed. 2008: 230). Among the four energy intensive industries, three clearly have to
do with fixed capital investment.
As shown in Figure 4, between 1995 and 2006, investment growth and the growth of
production of coal, steel, cement, and electricity were closely correlated. The correlation
coefficients between the growth rate of real fixed capital formation and the growth rate of coal,
steel, cement, and electricity production are, respectively: 0.67, 0.44, 0.71, and 0.68. The
correlation coefficients between the GDP share of fixed capital formation and the growth rate of
coal, steel, cement, and electricity production are, respectively: 0.67, 0.81, 0.70, and 0.69.
China now consumes one-third of the world’s steel and one-quarter of the world’s
aluminum and copper (Wolf 2008). If the current trend continues, by 2020 China is expected to
consume about 40 percent of the world’s aluminum, copper, nickel, and 70 percent of the iron
ore (Financial Times, August 1, 2008, p. 12, “Chinese Commodity Crunch”).
China consumes nearly 20 percent of the world’s total energy supply, and will soon
overtake the U.S. to become the world’s largest energy consumer and, as is discussed earlier, is
already the world’s largest greenhouse gas emitter.
In 2007, China produced 1.3 billion tons of cement, or half of the world’s total cement
production (USGS 2008). Cement production is highly energy and pollution intensive. It is
estimated that world cement production is responsible for about 8 percent of the world’s annual
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emissions of carbon dioxide (WWF et al. 2008).
All of these trends are clearly unsustainable. One way or the other, in the coming years,
China’s energy and materials demand will have to adjust towards more reasonable levels. Given
the high correlation between fixed capital investment and the demand for energy and materials,
China’s investment as a share of GDP will have to adjust accordingly.
6. Towards A Progressive Economic Program: One Hundred Million Jobs for the Chinese
Workers
Since the early 1990s, the Chinese economy has become highly dependent on exports and
investment as drivers of economic growth. This model of development has been responsible for
the accumulation of economic, social, and environmental imbalances that could potentially lead
to major crisis for China and the global economy.
Over the last few months of 2008, there were signs that the Chinese economy was
decelerating rapidly. As the world leaders went to Washington D.C. to discuss the global
economic crisis, the Chinese government announced a fiscal stimulus package with a massive
headline figure of four trillion Yuan ($570 billion).
However, later it was revealed that the central government was committed only to a total
spending of one trillion Yuan, and the rest of the stimulus package was expected to be made up
with extra spending by local governments and state owned enterprises. Some economists worried
that local governments and enterprises might not be willing or able to provide the extra spending.
Moreover, it is not clear what proportion of the announced stimulus package represents new
spending in addition to pre-existing spending plans. Thus, the actual size of the fiscal stimulus
package could be a lot smaller than what the headline figure suggests (Dyer 2008a).
About 80 percent of the expected four trillion Yuan spending is expected to be
investment in infrastructure projects, such as roads, railways, and nuclear power plants. As these
projects generally take years to prepare and build, some economists questioned the stimulus
effect of these projects in the near term. Some worried that these infrastructure projects could
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turn out to be low quality projects that would lead to wasteful spending and rising corruption
(Dyer 2008b).
Some economists warned that unless carefully controlled, infrastructure investment could
encourage even more investment in the manufacturing sectors in later years, resulting in excess
capacity and unsustainable demands for energy and materials. Thus, there is a risk that the
Chinese government’s fiscal stimulus package, in its current form, could actually exacerbate
China’s existing macroeconomic and environmental imbalances in the medium- and long-run.
Concerned about these problems, many Chinese economists are now calling on the government
to focus on stimulating domestic consumption rather than investment and exports (Dyer 2008c).
Currently, China’s investment to GDP ratio is about 45 percent and net exports are likely
to reach 10 percent of GDP in 2008. The above analysis argues that in the coming years, China’s
investment to GDP ratio needs to fall back to about 37 percent and given the developments in the
global economy, China will no longer be able to run large trade surpluses. If China’s trade
surplus were to return to 0-5 percent of China’s GDP, then the combined share of investment and
net exports in GDP would fall by 13-18 percent. It follows that the combined share of household
and government consumption needs to increase by the same amount.
As the majority of the population depends on labor income for their living hoods, the
level of household consumption has been closely related to the level of labor income. For
consumption to rise by 13-18 percent, then the labor income and government social spending
need to rise by a similar amount. Will the Chinese leadership be wise and enlightened enough to
pursue such a transformation? What policies could help such a transformation to take place?
One policy the Chinese government could consider is to implement a large-scale public
employment program that offers all unemployed and underemployed workers a living wage.
Public programs of this sort could help to absorb the unemployed and underemployed labor
force, set an effective income floor, and greatly increase the workers’ bargaining power in
general.
In 2006, the average wage for urban sector workers was 21,000 Yuan a year (NBS 2007).
18
If a living wage is set at about half of the current average wage, then the annual living wage is
approximately 10,000 Yuan (around $1,400). By comparison, the minimum guaranteed per
person annual income (similar to the government poverty line) for urban residents in Beijing in
2005 was only 3,500 Yuan (Tang and Zhang 2005).
If the Chinese government is committed to such a program, then to offer one hundred
million Chinese workers with an annual living wage of 10,000 Yuan would cost about one
trillion Yuan (or $140 billion). This would amount to about 4 percent of China’s current GDP or
7 percent of China’s current foreign exchange reserves.
In recent years, the Chinese government has enjoyed rapid growth in fiscal revenue. In
2007, the Chinese government fiscal revenue grew by 32 percent and ran a surplus of 165 billion
Yuan, or 0.7 percent of GDP. By the end of 2007, China's government debt to GDP ratio was
only 22 percent of GDP, far lower than the 71 percent debt to GDP ratio for the US, 67 percent
for the Euro-zone, or 163 percent for Japan (China Daily, December 27, 2008, “China’s
Economic Fundamentals in Good Shape”, http://www.chinadaily.com.cn/bizchina/200812/27/content_7346667.htm). Thus, in the short run, the Chinese government should have little
difficulty to run a fiscal deficit of a few percentages of GDP.
In the medium run, a public employment program of a magnitude suggested above will
have to be financed by more regular sources of fiscal revenue. Preferably, the new sources of
fiscal revenue will facilitate China's rebalancing of macroeconomic structure and contribute to
the long-term social and ecological sustainability.
To reorient China’s economic structure towards domestic consumption, China needs to
reduce its excessive dependence on trade surplus. An appreciation of the Chinese currency would
help to discourage exports and encourage imports. However, cheaper imports would tend to
make imported capital goods and luxury consumer goods cheaper. This would primarily benefit
the upper classes, which consume the imported consumer goods and could lead to further
investment bubbles. A more desirable policy is to impose a general export tax that would allow
the government to capture some of the value added generated by China’s exports and use the
19
revenue for social and environmental policies. An export tax would certainly increase costs for
exporters, reducing in turn the volume of production for foreign markets. However, if the goal is
to transform China’s macroeconomic structure by raising internal demand, this taxation policy
will facilitate the transition towards a domestic consumption-driven model of development.
In the medium- and long-term, China will also have to take measures to reduce its
intensive use of fossil fuels. The fossil fuels are nonrenewable resources that are being rapidly
depleted and the consumption of fossil fuels is the major factor behind greenhouse gas
emissions. According to the Association for the Study of Peak Oil and Gas, global oil production
either is near the peak or may have already peaked (ASPO 2008).
By discouraging the use of fossil fuels, China could be better positioned to deal with the
coming global energy crisis while making a major contribution to the global effort against
climate change catastrophes. The Intergovernmental Panel on Climate Change (IPCC 2007)
estimates that to provide sufficient incentives for the greenhouse gas emissions to fall along a
trajectory that would help prevent climate catastrophes, the global carbon price needs to be at
$20-80 per metric ton of carbon dioxide. Over the past year, there has been a growing consensus
among the scientists that global warming and its potential consequences are in fact more severe
than what has been suggested by the IPCC (Hansen, 2007).
Thus, the carbon price required is
likely to be near the high end of what is recommended by the IPCC.
According to the International Energy Agency (2007), in 2005 China emitted more than 5
billion metric tons of carbon dioxide and China’s emissions have been growing at 10 percent a
year. In the coming years, China – as the world’s largest emitter – will almost certainly be under
strong pressure from the international community to reduce its share of global emissions. The
European Union is currently pressing emerging economies, such as India and China, to cut their
emissions by 15-30 percent in order to reach the global targets set for 2050 (Sandhu 2008). If
China could consider charging a carbon tax on all fossil fuels consumption, then a carbon tax of
350 Yuan ($50) per metric ton of carbon dioxide would generate 1.75 trillion Yuan in tax
revenue.
20
Thus, with a general exports tax, a carbon tax, or a combination of both and other tax
policies, the Chinese government should be able to generate an additional fiscal revenue of more
than one trillion Yuan, which could in turn be used to finance a public employment program that
offers living wages to one hundred million workers. These workers could in turn work on
socially and environmentally beneficial projects.
A public employment program for one hundred million workers would help to absorb the
entire urban unemployed workforce and nearly all of the underemployed in the rural areas. It
would directly redistribute several percentage points of national income to the workers and
peasants. Indirectly, through its positive impact on the workers’ bargaining power, it could lead
to further income redistribution to labor’s favor and help China to rebalance its macroeconomic
structure.
For the Chinese government, the implementation of such a program would represent
important and significant steps towards the building of a socially and ecologically sustainable
model of development.
21
Appendix: Estimating China’s Capital Stock, 1992-2006
Estimating China’s Total Capital Stock
The real value of the capital stock can be estimated as follows:
KT = K1992 + Σ1992T(NIT)
Where KT is the level of real capital stock in year T, K1992 is the level of real capital stock in
1992, and Σ1992T(NIT) is the sum of real net investment from 1992 to year T.
Real net investment equals real gross investment (real fixed capital formation) less real
depreciation.
The National Bureau of Statistics of China (NBS 2007 and previous years) provides data
for fixed capital formation. Real fixed capital formation is derived by deflating nominal fixed
capital formation with the fixed investment price index.
The National Bureau of Statistics also provides data for depreciation of fixed capital in
1992, 1995, 1997, and 2000. The share of depreciation in GDP can thus be calculated for these
four benchmark years. For the years in between, shares of depreciation in GDP can be assumed
to move along a straight line, which means that they can be calculated as weighted averages of
the benchmark years. For instance:
Depreciation share 1993 =
Depreciation share 1992 + (Depreciation share 1995 – Depreciation share 1992) / 3
Depreciation share 1996 =
(Depreciation share 1997 + Depreciation share 1995) / 2
The nominal value of depreciation from 1992 to 2000 is then calculated by multiplying
22
the depreciation share in each year by GDP. Real depreciation is then derived by deflating
nominal depreciation with the fixed investment price index.
Assuming that the depreciation rate (the ratio of depreciation to capital stock) did not
change between 1992 and 1995, the depreciation rate can be calculated as the ratio of the
difference between the real depreciation in 1995 and the real depreciation in 1992 over the
cumulative real net investment from 1993 to 1995. The resulting value is 0.074937. The real
capital stock in 1992 then can be calculated from the real depreciation and the depreciation rate.
After estimating the real capital stock in 1992, the real capital stock for each year
between 1993 and 2000 can be calculated using the following formula:
Kt = Kt-1 + NIt
By calculating the depreciation rate in 2000 (which is calculated to be 0.08406), and
assuming that it remains constant in the following years, it is possible to estimate the value of
real capital stock from 2001 to 2006:
Kt-1 = (Kt + It+1) / 1.08406
Where I is real gross fixed capital formation.
After the value of real capital stock is derived for each year from 1992 to 2006, nominal
value of capital stock for each year is derived by re-inflating the real capital stock with the fixed
investment price index.
Estimating China’s Productive Capital Stock
The productive capital stock is estimated in a similar way as the total capital stock. The
share of the productive capital stock in the total capital stock in 1992 is assumed to be the same
as the ratio of the cumulative real fixed investment in the productive sectors from 1980 to 1992
23
over the cumulative total real fixed investment. The share of the productive sectors in the real net
investment for each year after 1992 is assumed to be the same as the ratio of the real fixed
investment in the productive sectors over the total real fixed investment.
With the real capital stock in 1992 and the real net investment in the following years for
the productive sectors estimated, the real capital stock in the productive sectors in the remaining
years can be estimated accordingly.
The investment in the productive sectors is defined as the difference between the total
investment and the investment in the infrastructure sectors. The infrastructure sectors include the
following:
- Production and supply of electricity, gas, and water;
- Transport, storage, and post;
- Scientific research, technical services, and geological prospecting;
- Management of water conservancy, environment, and public facilities;
- Education;
- Health care, social securities, and social welfare;
- Culture, sports, and entertainment;
- Public management and social organizations;
- International Organizations.
24
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Figure 1
Macroeconomic Structure of the Chinese Economy
Share of GDP, 1978-2006
60
50
40
30
20
10
0
-10
1978
1982
1986
Private Consumption
Exports
Investment
1990
1994
1998
2002
2006
Government Consumption
Net Exports
Sources: National Bureau of Statistics of China (NBS 2007 and previous years).
30
Figure 2
China's Labor Income: Rural and Urban Population
Share of GDP, 1990-2005
55
50
45
40
35
30
1990
1995
Total Labor Income
2000
2005
Household Consumption
Sources: National Bureau of Statistics of China (NBS 2007 and previous years).
31
Figure 3
China's Capital Productivity, 1992-2006
0.8
0.7
0.6
0.5
0.4
1992
1994
1996
1998
Output to Total Capital Ratio
2000
2002
2004
2006
Output to Productive Capital Ratio
Sources: Authors’ calculations. See Appendix for data sources and construction.
32
Figure 4
Investment, Minerals and Electricity Production
Rate of Growth, 1995-2006
0.3
0.25
0.2
0.15
0.1
0.05
0
-0.05
-0.1
1995
Coal
1997
Steel
1999
Cement
2001
Electricity
2003
2005
Investment Growth
Sources: National Bureau of Statistics of China (NBS 2007 and previous years).
33