China’s socioeconomic prospects: between a rock and a hard place

Photo: JERRYANG, flickr.com

Krishna Tripathi

Introduction

While China has promoted export-led growth as part of its longstanding policy for achieving economic development, the emergence of various developmental difficulties threatens the future sustainability of such an approach. In 1979, China possessed a labour-intensive market and was scarce in capital. However, when capital rich countries such as the US shifted their manufacturing bases to China, transnational corporations gained competitive advantages and the Chinese manufacturing sector saw exponential growth.

Given significant increases in China’s domestic wages and GDP per capita over the past decade, Beijing has been increasingly looking to invest in research and innovation to boost productivity and sustain the competitiveness of their manufacturing sector. China has also taken initiatives to develop its banking and financial services sector, while simultaneously relaxing IPO norms to boost the growth of the domestic IT industry.

While China is on the path to economic domination, its economic imbalance, paternalistic political and legal system, and reputation as an unreliable trading partner may contribute to increased developmental difficulties moving forward.

Accordingly, Beijing’s policymakers should consider adopting a policy which advocates for inclusive and sustainable growth initiatives, while distancing themselves from political conflicts and diplomatic trade disputes to ensure a slowed but sustainable strategy geared towards future growth. It is recommended that Chinese policymakers consider the recommendations outlined within this brief, to ensure sustained economic growth, stable development and prosperity.

Key Issues

The rise of China represents one of the most significant phenomena witnessed throughout the 21st century. While the world was impressed by China’s rapid development, what remained hidden from public eye was the great social cost at which such rapid growth had come. Socioeconomic inequality rose, the central government engaged in reckless spending on useless projects, family units fell under massive debt, and the government engaged in currency manipulation while interfering in the free-market in an attempt to sustain export quotas.

Presently, the Chinese economy has entered a stage of reduced growth – while the IMF has revised its GDP forecast for China for the year 2019 to 6.3% (from 6.2%), this growth rate is still lower than the 7% maintained over the past decade.

Further, China’s balance of payments surplus has been shrinking gross government debt stands at 55.4% of GDP, national unemployment is rising (3.8%), major domestic companies are retrenching employees en-masse, citizens have less disposable income on-hand, inequality is rising, the housing market is in decline with many property owners selling property at a loss, personal savings are falling, and air pollution is on rise. The looming demographic crisis of an aging population has only served to compound such issues.

Major issues in the central government’s growth policy which have contributed to the present situation are outlined below:

1. The unequal distribution of resources

The rapid growth of the economy has resulted in an uneven distribution of resources across the country, with major provinces (Shenzhen) and cities (Shanghai, Beijing) attracting the majority of major foreign investment. Within these concentrated areas, a select portion of the population has exclusively benefited from the best in education, government facilities, and exposure to the western market, with the concentrated development of specialist skills contributing to the rise of wages in these areas, as well as increased inequality.

As a result of noted increases in labour costs, China is presently losing its comparative manufacturing advantage vis-à-vis developing countries, and is shifting its own manufacturing capacity to countries such as Vietnam, Ghana and Nigeria.

Seeking to address unemployment rates, the central government’s strategy to spend billions of dollars in various infrastructure projects has paradoxically only intensified the unemployment issue. While the government has invested in housing, theme parks, and monuments, most of these facilities are now abandoned or in ruins (i.e. “Ghost Cities”). While these projects provide temporary employment to people for set periods, the government failed to invest in skill development initiatives, preventing people who once held jobs within the construction in steel or cement factories from attaining gainful employment in other sectors.

2. Excessive government interference in the market

Excessive government involvement in the domestic market has made it difficult for foreign firms to operate in China, and resulted in increased suspicion of corporate espionage and spying by Chinese companies operating overseas. Huawei has been a noted victim: firstly, its technology products and services have been banned in numerous countries, and now, due to the recent blacklisting by USA, Intel and Google has declared to stop supply of its parts and services to Huawei with Microsoft expected to follow the suit in supply of its software. On one side, it will be an opportunity for in-house development of Huawei parts and technology, but the huge drop in global demand will likely significantly affect its capacity to expand and alleviate China’s domestic unemployment issues.

To attract foreign investment, the central government has planned to develop a strong finance sector while promoting IPOs of domestic companies. As per a study by Helen Wei Hu, professor in University of Melbourne, the effects wrought by the government’s change in IPO policy three years after its inception have correlated with a change in corporate governance structures. However, this has had little impact upon domestic regulations surrounding IPOs. As a result, while most IPOs started out great, many lost money immediately after release or in the space of a few years.

3. The demographic trap

Among the various issues generated by the 1979–2015 one-child policy, an apparent shortage of people within the younger working-age brackets of the population has resulted in a deteriorating dependency ratio of workers supporting an expanded ageing population.

While the government has since transitioned to a more relaxed two-child policy, the prevailing cultural preference for male children has contributed to a significant gender imbalance, which has negatively impacted the new policy’s potential to bridge the dependency gap in the immediate future.

4. Geopolitical challenges

China’s confrontational policy in the South China Sea, its actions in the ongoing trade war with the US, and its committed pursuit of economic dominance through initiatives such as “One Belt, One Road” have contributed to growing international concerns that China is attempting to institute a “Beijing Consensus” and overtake the US as the new global hegemon.

China’s foreign policy priorities and strategy of geopolitical dominance have resulted in a Thucydides trap – one where an established power feels threatened by the rise of a new challenger, resulting in conflict. This has been illustrated by attempts by the US and its Asian partners to establish the Trans-Pacific Partnership, or cooperate in the formation of a “Quadrilateral” alliance bloc.

Policy recommendations

Option 1 – Adopt a policy of inclusive and sustainable growth, while avoiding political rivalry

1. Improve employment and bridge the inequality gap:

Encouraging skills development for workers is necessary in creating a productive and agile workforce which is adaptable to work in differing industries.

Additionally, increased investment in research and innovation will give rise to new labour processes and increase overall employment levels by making manufacturing more competitive.

Curbing endemic corruption should be made the foremost priority to ensure that resources are equally distributed and the income gap minimised.

Advantage: This will re-establish public trust in government, reinvigorate the reach and reputation of the Chinese manufacturing sector on the global stage, and promote sustainable growth.

Disadvantage: Economic development will be delayed as the institutional changes need to come from grass root level.

2. Limit government control in the market, and promote independent industry regulations:

Winning the trust and confidence of the international business community requires that the central government facilitate a balanced playing-field by limiting its intervention in the market in relation to state-owned enterprises. This includes ceasing financial support, as well as legal immunities and privileges available to Chinese companies.

Further, in the absence of increased government regulations, strong corporate governance rules are required to facilitate increased transparency and information disclosure. The “visible hand” of central government should be tied to allow the function of the “invisible hand” of the market.

Advantage: The increased confidence of international entities to conduct business in China will attract more FDI, and domestic industries will gain access to better technologies, increasing domestic productivity. China will increase its influence across multilateral business platforms, and the volume of overall criticism of the government by businesses will decrease.

Disadvantage: The government will lose its tight control on the market, increased volatility in the market will result in difficulties for policymakers implementing Five-Year Plans, and the free market may worsen the existing inequality gap.

3. Incentivise the return of Chinese diaspora, and promote inward immigration:

A decrease in the population of working-aged persons, coupled with the rise of an increasingly large elderly population requiring government support will paralyse the government’s long-term developmental plans. This immediate working-age/elderly gap must be addressed by promoting the inward immigration of foreign talent, and by better incentivising the return of overseas Chinese diaspora. A diverse workforce will not only offer competitive edge to domestic business but also attract increased foreign business into China.

Advantage: The policy change will contribute to a self-balancing economy, lead to the inward flow of FDI, and tap into a diverse talent pool of returning Chinese people. Having such persons in leadership will provide Chinese companies increased knowledge of foreign cultures and an improved chance of success conducting business internationally.

Disadvantage: Adjusting to the influx of increased immigration into the country may place increased strain on socio-political stability, and require an adjustment in spending on infrastructure and social welfare.

4. Intensify the incentivisation of international involvement in “One Belt, One Road” (OBOR):

Where the US and other western countries have appeared averse to the OBOR – alleging it to be a form of debt entrapment for developing countries – Beijing must strive to emphasise and illustrate the mutually beneficial nature of the initiative and its positive results. The success of the OBOR will be determinative of China’s soft power reach, and indicative of China’s ambitions as a rising superpower.

Indeed, the OBOR will provide a direct transportation route to ease the flow of trade and commerce between all partners – building a new Silk Road that brings resources to various untouched regions of China and its developing partner states (e.g. Ghana, Nigeria), while promoting the successes of China’s rapid development under the Beijing Consensus.

In an increasingly globalised world, economics plays a significant role in China’s presence on the international stage, and is a preferable strategy to increase its international influence – as opposed to the use of military influence, which has increasingly placed it at odds with the US in areas such as the South China Sea or Taiwan.

Advantage: The continued proliferation of OBOR projects in developing nations provides an unparalleled opportunity to facilitate the equal distribution of resources, promote international trade and reduce poverty. The OBOR provides China improved means to challenge the economic dominance of the US.

Disadvantage: The continued success of the OBOR will require significant amounts of capital, which predicates the involvement of more developed partner states. China cannot fund the initiative alone – it will require billions of Yuan in investment – and most partner states do not have sufficient resources to engage in infrastructure development.

Option 2 – Hard power domination

China could pursue a hard power strategy of economic and military domination to alleviate its growing domestic issues. This involves exploiting its media and social control over its citizens to instil intensified nationalistic sentiments among the general populace, which will in turn enable increasingly confrontational policies abroad. The extent of this control has been illustrated by the Great Firewall of China, the Hukou system, and its social credit scheme.

Such confrontational strategies abroad might involve intensifying its economic expansionist policies by aggressively seizing maritime facilities in Sri Lanka and Pakistan, feeding into Beijing’s core national interest in achieving basic safeguards for ensuring sustainable domestic economic development.

China could also adopt a more confrontational policy in the South China Sea, by recommencing its island building projects and unilaterally engaging in the exploration and exploration of oil and gas reserves in the region. This would feed into Beijing’s core national interest of economic development, and territorial integrity.

Indeed, China’s hard power pursuit of its stated core national interests would provide a more convenient, though risky, route to achieving international dominance while maintaining its internal social and economic stability.

Advantage: The wealthy and politically elite of Chinese society, consisting primarily of Chinese Communist Party members, stand to gain the most from China’s pursuit of hard power strategies. The pursuit of such strategies will ensure that President Xi Jinping is able to fulfil his ambitions of transforming China into a modern socialist nation by 2049.

Disadvantage: While Beijing’s use of strategies to redirect internal conflict may achieve short-term results, it is not a sustainable solution to the achievement of long-term stability. While the government may tout the successes of its foreign policy and its growing prosperity through its annual increases of 11% in foreign aid contributions, the domestic populace will become restless where Beijing’s foreign initiatives do not translate into domestic results.

Unlike its achievement between 1981 and 2012 of lifting 500 million people out of extreme poverty, China’s economic development over the past decade has resulted in increased inequality. China’s GINI coefficient rating was 46.5 in 2016, on par with the ratings of the US, Bolivia and Rwanda – nations with glaring socioeconomic inequality.

Summary

It is recommended that China adopt a policy of inclusive and sustainable growth, while distancing itself from a hard power strategy of domination, in the achievement of prolonged domestic economic stability and prosperity.

According to the World Trade Organisation, countries can maximise the benefits of trade liberalisation by becoming active partners in the global value chain. This requires moving towards higher value-adding activities (investment in research and innovation), lowering trade cost and establishing more PTAs, and adopting an inclusive collaborative approach towards these value chains.

In a globalising world, where leading economics that were once pioneers of free trade are now adopting short-term protectionist measures to secure themselves, the international community is in need of new leading nations and their economies to serve as spokespersons for the benefits of free trade. While the world already acknowledges China as the most prominent beneficiary of free trade, its deteriorating domestic situation is evident in an increasingly uneven distribution of income, resources and opportunity.

The adoption of the aforementioned recommendations will thus enable policymakers in Beijing to stabilise China’s economy, and for the country to stand as an international role model and advocate for trade liberalisation within an increasingly interconnected age.

Krishna Tripathi is currently studying a Masters of International Business at the University of Melbourne. He was previously a Policy Research Intern with the Federation of Indian Chambers of Commerce and Industry. He is also a former mechanical engineer who worked in India with PepsiCo India and ITC Ltd for over three years in Technical Operations and Projects. His interest areas are trade relations, economy, business strategy and corporate governance.