Making sense of China growth numbers

An international comparative perspective is useful in assessing China’s growth

performance. So far the record holders of high growth are Taiwan and Korea,

which have experienced high economic growth lasting for about 40 years. Japan’s

high growth period lasted for 18 years. By comparison, China’s high growth

period has so far lasted 27 years. This puts her ahead of Japan, but still short of

Taiwan and Korea.

China’s high growth has been achieved through high rates of fixed capital

investment and of export growth caused in turn by a large amount of foreign dir-

ect investment. In addition to the equipment and machinery investment, the fast

pace of infrastructure build-up and investment in real estate and urban housing

construction (induced by rapid urbanization) have contributed to China’s high

investment ratio. The trinity consisting of local governments, developers, and

four state-own banks, has been one of the main propelling forces behind this

investment spree.

China’s high economic growth and rapid urbanization have however given rise

to some new contradictions that cannot be ignored. Among these are: (a) decline

of the rural economy (especially in inland and mountainous areas, which are trad-

itionally not rich), manifested in large-scale depopulation (b) emergence of a class

of landless peasants, and (c) emergence of urban poor, including peasant migrants.

These contradictions have already graduated from being economic problems into

becoming social problems. Unless the government deals with these problems,

these may turn into political problems. In fact, the number of various distur-

bances has been increasing over the past years. More than half are related

to land expropriation by governments and developers. It will be difficult for China

to sustain high growth without resolving those newly emerging contradictions.

Changing population dynamics will also affect China’s economic growth pros-

pects in the near future. There are three anticipated changes. First, new supply

of young labor will decrease sharply in the near future owing to the continued

enforcement of the “one child policy” and the rapid spread of education at senior

high school level and above. The growing tightness of the labor market finds

manifestation in the fact that wages have been rising since 2002. This is bound to

affect China’s exports. Second, the Chinese society is aging at the fastest rate in

human history. Taking care of the aged, who will now comprise a higher propor-

tion of the population, will entail a greater financial burden on the government

and the society. Third, the total population of China will reach a stationary state

around 2020, much earlier that previously projected.

In view of the emerging contradictions and the population dynamics, it is

necessary for the Chinese government to bring about changes in its policies. In

particular, it has to change the financial redistribution system, which has so far

favored the trinity comprised of local governments, developers, and state-owned

banks, and make it work more in favor of the poor and the needy. At the same

time, China needs to change her industrial policy to make it more congruent

with the goal of sustainable development.

Future prospects seen from the viewpoint of population dynamics

It is necessary to emphasize two points in making judgments about China’s long-

term future. The first is the rapid ageing of the population. Internationally, a soci-

ety is said to have become an “ageing society” when the ratio of the population

above 65 years of age to the total population reaches 7 percent. When this ratio

crosses 14 percent, the society is called an “aged society.” In comparison with

Japan, which is considered to have become an aged society at the fastest pace,

however, China may soon surpass Japan’s record. Shanghai is already approach-

ing Japan in this regard.

In earlier article, depopulation of Chinese rural areas caused by exodus

of the young, we observed that 73 percent of county and county-level cities have

already entered into a depopulation phase. Taking care of the older folks left

behind in depopulated rural areas is therefore emerging as a serious new prob-

lem. Since urbanization has proceeded so rapidly, China as a whole has not yet

prepared itself for tackling this emerging problem.

It also needs to be emphasized that according to the projections, China will

reach a static population stage some time between 2020 and 2023. Many Chinese

scholars on population issues anticipate that the population will stabilize in or

around 2030, at a level of approximately 1.6 billion. However, we think that this

projection involves overestimation.

If we look at the changes in the total fertility rate of Japan and China,

approximately 30 years or so after the total fertility rate falls below the 2.1 line,

the population of a nation begins to decrease. Japan’s total fertility rate fell below

2.1 in 1974, and in 2005 its total population began to decrease. China’s total

fertility rate is now around 1.15, a figure far below Japan’s 1.25 in 2005. China’s

fertility rate seems to have fallen under 2.1 around 1993, although the statistics

are not always accurate. Taking these points into consideration, we think that

China’s population will stabilize sometime between 2021 and 2023, at 1.52 bil-

lion. Thus, China will arrive at the stationary stage of population earlier, unless

the Chinese government changes its “one child policy.”

These two factors, namely rapid aging of the population and cessation of popu-

lation growth, will work to slow China’s economic growth down. One important

policy for avoiding a fall in the economic growth rate in the coming 10 to 15

years is to implement in China’s financial system a drastic change aimed at redis-

tribution of the dividends of the rapid economic growth to the poor and poor

areas. This policy will require a struggle against the current formidable trinity of

local bureaucracy, developers, and state-owned banks.

Two factors slowing down export expansion

There are two factors that may potentially slow down China’s export expansion.

One of these is the possible appreciation of the value of the Chinese currency

Yuan, by at least 10 to 20 percent in the near future.

The other factor is the rise in wages. During the rapid economic growth periods

in Japan, Taiwan and Korea, land prices, wages and retail prices rose simultan-

eously. In China, though land prices in urban areas have generally increased,

retail prices and wages have not kept pace with this increase. However, this is

changing. If we compare the annual nominal GDP growth rate and annual

increase in the nominal wage in urban areas, we see that since 1998, the annual

rate of increase in wages has surpassed the nominal GDP growth rate. It is to be

noted that this happened 20 years after rapid economic growth started in China

in 1978. Such a long delay in rise in wages was possible because China had a large

surplus labor in rural areas.

Until 1998, wages rose only for high-class staff or skilled laborers, or in new

industries, such as finance, real estate, and media, but not in manufacturing. The

wage levels in export industries, such as textile, miscellaneous industries, and

even electronic appliances, have remained unchanged. With the beginning of

the twenty-first century, this situation has changed. A general labor shortage is

surfacing. This represents the effects of China’s one child policy and the spread

of compulsory education. If we check out official projections about incremen-

tal labor supply in China up to the year 2010, we see

a gradual decline leading to a negative value in 2010. Anecdotal evidence also

points to the emergence of a situation of labor shortage in certain parts of China

For example, in 2004, the regulated minimum wage was

raised by 20 percent to 40percent in many cities. Most observers agree that since

2002 Guangdong area has been experiencing a shortage of young labor, and this

shortage is gradually spreading to the Shanghai economic zone.

These two factors, namely the appreciation of yuan and the increase in

wages will surely raise the cost of export unless China is able to implement

technological innovation at a sufficient pace. China is now at a turning point,

where it may no longer be possible to increase exports on the basis of low

wages alone.

Declining efficiency of fixed capital investment

If we look at the efficiency of fixed capital investment, measured as additional

GDP divided by total fixed capital investment undertaken in that year, we see

that fixed capital investment efficiency has declined over time. While the effi-

ciency measure ranged between 0.7 and 0.4 until mid-1990s, it has since declined

to values ranging between 0.3 and 0.1 in more recent years.

This decrease may be a result of wasteful and lavish designs in public infra-

structure projects. Roads, for example, are planned so that each side has three

lanes, then a green belt, and then one or more extra lanes, sometimes for tractors

or bicycles. What is more, gorgeous memorials can be found at each crossroad

or roundabout. However, there are often very few cars on these roads. Similarly,

Chinese local governmental office buildings are often larger and more splendid

than those of the Japanese central government! Different local governments seem

to be competing with one another in terms of grandeur and lavishness.

How is it possible that the Chinese local governments can construct such big

and gorgeous roads and buildings? One possible reason is that they do not have

to pay for the land they acquire for the construction purposes. This is a form

of institutionalized wastage. This system lowers the efficiency of fixed capital

investment.

Structural Contradictions: Landless peasants

If we compare rural-urban populations, since 1990s, the annual growth rate of

urban population in China has been 4.8 percent or more. This is fairly high by

international standards. Such rapid urbanization automatically

leads to expansion of urban city areas. It is estimated that a 1 percent increase in

urban population leads to an expansion of urban area by 2.26 percent in cities that

are above middle scale. Gigantic infrastructure projects also require land. How is

the land for such urban expansion and infrastructure construction obtained?

Under the land law, arable land is collectively owned, and cannot be sold or used

for another use. Only if the land is reclassified as to be under state ownership, can

it be legally expropriated for non-agricultural use.

If a town or village devises a plan to develop a certain land area for industrial

or commercial use, it must get administrative permission from a higher govern-

ment level. The level differs depending on the acreage, but it was generally the

county level or the provincial-level government which used to grant the

permission. However, in order to prevent abuses, the central government in 1999

moved the right to give permissions from the county level to the provincial level.

When permission is granted, the land is placed under state ownership. Once local

governments get the permission for development, the peasants on that land lose

all rights and are merely paid a certain sum for compensation prescribed in the

land law. The sum paid for compensation is usually six to ten times the annual

revenue derived from the land. In coastal areas an additional sum equaling to

four to six times of annual revenue is paid for resettlement.In the central and

western areas, the compensation is lower. The compensation is far lower for land

to be used for public use, such as infrastructure or construction of government

buildings. Since arable land cannot be marketed, peasants cannot reap capital

gains. The local governments choose the developers, and when the development

is completed, they sell the land to users. As already mentioned, most of the rev-

enue from sale goes to developers, local governments, and banks, leaving very

little for the peasants. In the case of land for public use, the land price is fixed at

negligible levels. This is one reason for the construction of wide roads and monu-

mental governmental and university buildings in China.

By the beginning of 2005, applications for the development of more than 850

industrial parks or commercial sites had been made by various local govern-

ments, including those of towns. This is because local governments hoped to gain

revenue through land management to pull themselves out of financial crisis. In

1994, the central government introduced a new tax system eliminating taxes that

had been lucrative for local governments. As a result, the financial performance

of local governments, especially town- and village governments, deteriorated rap-

idly. The accumulated debt of town and village governments is estimated to be

about 1 trillion yuan in 2005, equaling to 7.2 percent of GDP. This may be com-

pared with its 1998 value of 326 billion, equaling to 4.1 percent of GDP in that

year. More than 60 percent of these debts are considered to be bad loans. No

wonder that local governments try to generate revenues from land sales in order

to improve their financial position.

This is the background of the emergence of landless peasants. Their

emergence is the other side of the coin of the real estate investment wave. The

number of landless farmers increases as more fixed capital investment is carried

out. Their total number is now estimated to be between 40 and 50 million. They

receive no social welfare support from the central government and have difficulty

finding new occupations, as most of them are over 40 years old. Some scholars

call these people sanwu nongmin (peasants with no land, no social welfare, and

no occupation).

At the People’s Congress in March 2006, the central government decided to

abolish the agricultural tax and to give financial support to compulsory educa-

tion in rural areas. This is an epoch-making step in the Chinese history. However,

these two policies will not be sufficient to stop the immiserization of peasants.

The abolition of the agricultural tax will lead to a further deterioration of the

financial situation of town- and village governments, as this tax was one of their

most important sources of revenue. For many years,

education in rural areas was financed by rural communities rather than by the

central government. Given this background, the new policy represents a step for-

ward. However, it comes too late. This kind of policy should have been introduced

in the 1980s. There is still policy discrimination between rural and urban areas.

For example, people in rural areas have to construct infrastructure at their own

expense and receive no social welfare from the central government. The question

now is whether or not the central government will adopt a policy to redistribute

the gains from high economic growth to the underprivileged classes. If it fails to

do so, the new contradictions will become social or political issues. To prevent

this possibility, a basic financial reform is needed aimed at dissolution of the trin-

ity of local bureaucrats, developers, and state-owned banks.