China’s Economy Needs Spending Power, Not Steel Factories
Expect some “sky is falling” headlines on Friday when China releases its most recent figures on economic growth, estimated to clock in at an annualized 7.7 percent, the slowest rate in three years.
The more important issue is what China’s leaders should, or can, do about it.
China has produced a tattoo beat of disquieting news since March, when Premier Wen Jiabao lowered the government’s growth target for 2012 to 7.5 percent, down from the 8 percent target in place since 2005. Real estate prices, trade growth, construction and luxury watch sales are all declining. The government has issued stern edicts for officials to cut back on flashy cars, banquets and other perks.
Overseas, the global economic slump and the persistent crisis in Europe have left China’s mighty export engine revved up but with fewer places to go. Increasing exports to the U.S., which just displaced the European Union as China’s biggest foreign market, risks even greater trade tensions in a U.S. election year.
As a result, Wen is focusing on homegrown methods to boost growth, such as promoting domestic investment. This strategy risks repeating the excesses of the 4 trillion yuan ($586 billion at the time) stimulus package of 2008, which fueled inflation, pushed credit beyond sustainable levels and led to a property bubble. It also favors large, and often inefficient, projects by state-owned enterprises over small and medium-sized companies: Witness the government’s decision in May to approve an $11 billion steel plant, for an industry in which there is already excess capacity.
A better approach would be for China’s government to help its people and their economy by putting more money into public goods. According to World Bank data for 2008, China spent only about 1 percent of its gross domestic product on health, 3.7 percent on education, and 4.7 percent on pensions and other forms of social protection. The averages among members of the Organization for Economic Cooperation and Development are 6.3 percent, 5.4 percent and 15.2 percent, respectively. With more than $3 trillion in foreign reserves and a relatively light public debt burden, China is in a better position than most to shoulder such expenditures.
Beyond that, China needs to rely more on domestic consumption -- a point Bloomberg View has argued. To some extent, this is already happening: In the first quarter of 2012, domestic consumption accounted for 43 percent of GDP growth, versus 28 percent a year earlier. Rather than trying to support this trend artificially with cheap credit, China should put in place the kind of structural reforms that will create real spending power.
One promising area is labor market liberalization. Wages are on the rise as demographic trends shrink China’s labor force. Revising or eliminating China’s notorious residential registration system, known as hukuo, would enable more rural workers to migrate legally to the cities, improving productivity, spurring consumer spending and reducing inequality.
Another option is to enable ordinary Chinese savers to access investments other than low-paying bank deposits. This would allow them to achieve market returns, alleviating concerns about retirement and freeing up spending money. The government recently took a small step in this direction by slightly widening the band for deposit rates. Unfortunately, the positive effects of that step were undermined by two cuts to China’s benchmark rate over the last five weeks.
More broadly, the state has the power to spur competition and economic growth by liberalizing the terms under which entrepreneurs and private companies can buy land and access financing. A pilot program started in Wenzhou this March supports the creation of various new private funding mechanisms, including village banks, small lending companies and the issuance of securities. Opening the market to foreign banks would also expand financing opportunities -- according to the International Monetary Fund, they hold less than 2 percent of assets in China, the lowest share among major emerging markets.
After the Bo Xilai scandal and with a changing of the guard ahead, China’s leaders are even more stability-minded than usual. Nonetheless, they’ve managed to take some important steps over the past six months toward transforming their economy, such as widening the band for the yuan’s exchange rate against the dollar and relaxing rules for foreign direct investment. Initiatives such as changing deposit rates and promoting small- business lending might not capture the public imagination like an $11 billion steel plant, but they’ll ultimately make more of a positive difference.
Today’s highlights: the editors on why outsourcing is (mostly) good; Caroline Baum on the presidential outsourcing debate; Edward Glaeser on why Australia’s mineral wealth does little to create jobs; Michael Kinsley on the glories of outsourcing; Ezra Klein on Obama’s tax gamble; Laurence Kotlikoff on Social Security’s solvency.
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