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China 2030: An Analysis of the World Bank’s Reform Strategy

Post Series: 2012: Volume 11, Number 1
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China 2030: An Analysis of the World Bank’s Reform StrategyChina has achieved remarkable economic success since Deng Xiaoping initiated economic reforms in the late 1970s. For more than three decades, China’s GDP growth rate averaged 10% per year, accompanied by drastic declines in poverty rates, rising sophistication in manufacturing, improvement in infrastructure and the re-inventing of enterprises into globally competitive companies. The question now is how China can move to the next stage of development and continue to grow. In its 2012 report, “China 2030: Building a Modern, Harmonious, and Creative High-Income Society,” the World Bank, in cooperation with a high-level Chinese research team, systematically reviewed the country’s successes and coming challenges and recommended further reforms for lifting the Chinese economy to a higher level.

A key aspect of China’s success has been the opening of the domestic economy to international trade and investment while promoting exports. According to the World Bank’s World Development Indicators 2011, the value of China’s exports in 1978 was US$9.8 billion while imports amounted to US$10.5 billion, accounting for less than 0.6% of the world’s total. By the end of 2010, however, Chinese exports reached US$1.58 trillion, 161 times higher than in 1978, while the value of imports reached US$1.40 trillion, 133 times the 1978 figure. Today China is the world’s largest exporter (accounting for 10% of the world’s total) and second-largest importer (accounting for 9% of the world’s total). This dramatic increase in trade has helped the Chinese economy become the second largest in the world, trailing only the U.S.

But heavy reliance on exports for economic growth may not be sustainable in the long run, especially for a country as large as China. In the recent global economic crisis, numerous factories and companies in China shut down. Unemployment rose, particularly in the coastal region where most of China’s exports were manufactured. Weakness abroad dragged China’s economic growth to its lowest level in years. In November 2008, the Chinese central government launched a 4-trillion-yuan (approximately US$586 billion) stimulus plan, one goal of which was increasing domestic demand and expanding internal markets. This decision represented an important shift in China’s development strategy.

In its report, the World Bank suggests that China is near an inflection point of its economic growth and offers six recommendations to move the country forward. They are: strengthening the foundations for a market-based economy, fostering innovation, going “green,” expanding and promoting social security for all, improving the fiscal system and seeking mutually beneficial relations with the world. According to Reuters, at the launch of “China 2030” in Beijing on February 27, 2012, World Bank President Robert Zoellick was blunt, saying, “As China’s leaders know, the country’s current growth model is unsustainable.” He urged China to get ahead of events and adapt to major changes in the Chinese and world economies.

The World Bank report has been the subject of intense debate within China. As with policy changes anywhere, winners and losers will emerge if the recommendations are implemented. Therefore, further reforms will depend on their political feasibility.

Wind Farm

China must face many tough issues immediately as well as down the road in order to foster sustainable growth. For example, urbanization has been and will continue to be a gigantic challenge. China’s urban population exceeded 50% of the country for the first time at the end of 2011, and is expected to reach 70% by 2030 (China Daily, April 4, 2012). The CIA estimates that China’s rate of urbanization between 2010 and 2015 will be 2.3% per year. And with rapid urbanization comes ever-growing construction. High-rise residential buildings are mushrooming in China’s cities. Yet urbanization requires more than housing. In an interview with Xinhua News Agency, Zheng Xinli, vice-chairman of the China Center for International Economic Exchange, points out that each additional percentage-point increase in urban population means more than 10 million rural residents becoming city dwellers — and each new arrival requires at least 100,000 yuan (US$15,873) in infrastructure investment. Huge migration and rapid urbanization will undoubtedly pose great challenges, not only for infrastructure but also for the environment, social security and government budgets. Yet in his speech at the 2012 annual meeting of the Boao Forum for Asia (BFA) in China’s Hainan Province, Robert Zoellick said if carried out properly, urbanization could be the foundation of China’s future growth.

At the opening of the annual meeting of the 11th National People’s Congress on March 5, 2012, Chinese Premier Wen Jiabao announced that China’s GDP growth will slow to 7.5% in 2012. This target is the lowest in more than 30 years. The aim is to allow China to adjust macroeconomic structures and promote quality growth instead of speedy growth for its own sake.

The Chinese are fully aware that they are facing major issues with energy use and pollution. World Bank data show that China’s energy use per capita (in kilograms of oil equivalent) was 618 kg in 1978 but reached 1,695 kg in 2009. According to the Worldwatch Institute’s Worldwatch Report (2011), however, China has prioritized green development in almost all leading economic sectors in the past decade, especially during the 11th five-year period of 2006-2010. With the enactment of a landmark renewable energy law in 2005, China made the development of renewable energy a national priority. By 2007, the country had the world’s largest number of hydroelectric generators and was obtaining 8% of its energy and 17% of its electricity from renewable sources. In China’s western region where wind, sunshine and other natural resources are abundant, sizable windmill farms have been built, solar hot-water heaters are the norm in households and taxi cabs run on natural gas rather than gasoline. China has made important progress in the area of renewable energy.

China Gas TankAnother critical area of reform relates to the role of government. Government interference is highest in China’s financial sector, which has been monopolized by a few large banks with severe barriers to private capital. In addition, bank loans to local governments for development and construction pose potential threats to China’s financial stability. Although China is one of the world’s largest creditor nations, local governments have accumulated worrisome amounts of debt, and some already are having difficulty paying it back.

So far, the Chinese currency, the renminbi (RMB), still is not convertible. But it is in China’s interest to fulfill its global responsibilities and make the RMB a convertible currency as soon as it can. The People’s Bank of China (China’s central bank) recently proposed an acceleration of capital controls aimed at making the RMB a global reserve currency (People’s Daily, February 23, 2012). In a statement published on its website on April 14, 2012, the People’s Bank announced that the daily floating band for the RMB in the inter-bank foreign exchange spot market would be expanded from the previous 0.5% to 1% effective April 16. Premier Wen Jiabao, meanwhile, told reporters that the Chinese central government had unified its thinking and decided to break the monopoly of a few large banks and allow private capital to enter China’s financial sector (Southern Metropolitan Daily, April 4, 2012). He further said that financial reforms piloted in Wenzhou would be implemented across the country, some of them immediately.

Still, the World Bank’s recommendations by no means will be easily put in place or accepted without challenge. Strengthening the foundations for a market-based economy has set off particular disagreement and debate. At a press conference during the launch of “China 2030” in Beijing, an angry Chinese demonstrator, Du Jianguo, interrupted World Bank President Zoellick’s speech on privatizing state-owned enterprises (SOEs) by storming onto the podium, handing out pamphlets and yelling that the World Bank is poisoning China. Du claimed to be an “independent” scholar, i.e. not affiliated with any Chinese institution or organization. But he is not alone; many Chinese, including government officials, oppose the World Bank’s report.

China Housing ComplexAt the press conference, Zoellick revealed that the project to study China’s economic challenges was initiated 18 months earlier with the support of Vice Premier Li Keqiang. The project was done under the authority of China’s Ministry of Finance, with the cooperation of the Development Research Center of the State Council (DRC), a top think-tank that advises China’s cabinet. According to a behind-the-scenes account that has been reported in China (http://business.sohu.com/20120229/n336252696.shtml), the Finance Ministry sent the draft report to all relevant ministries and agencies for comment. The Ministry of Education and Ministry of Health praised the document, saying that it provided productive recommendations for further reforms and development in China’s education and health care system. But the State-owned Assets Supervision and Administration Commission of the State Council (SASAC) strongly opposed it, claiming the recommendation to privatize SOEs and reduce the profile of SOEs in the Chinese economy was unconstitutional. The commission offered to debate the question with the World Bank and the DRC. Resulting negotiations between the SASAC and and DRC produced a softened final report.

Advantages afforded to SOEs long have been a source of controversy. Critics have argued that undue government protection has given state enterprises market power and easy access to bank loans and other financial resources, shielding them from competition. Despite their shrinking share in the economy, SOEs still play an important role. According to the Second National Economic Census (2008), assets held by SOEs accounted for about 30% of the 208 trillion RMB in total assets of industrial and service-sector companies, while the number of SOEs accounted for only 3.1% of total enterprises. These numbers suggest that the average size of SOEs is much greater than that of non-SOEs.

Employment is an important social function for SOEs. State enterprises still are a vital source of jobs in China even though their share of total urban employment has been shrinking. When economic reforms were just starting in 1980, SOEs employed 76% of China’s urban workers, while urban collectively owned enterprises (UCOEs) employed the remainder. In 2000, only 35% of China’s urban workers were employed by SOEs. Their share was further reduced to 19% in 2010 when they employed more than 65 million urban workers. Despite this reduction, in some areas SOEs are China’s most important employers. For example, a total of 58,000 new urban workers were added in Qinghai Province in 2010. Almost one-fourth, or 14,900 workers, were hired by SOEs.

China is known to have abundant labor, but economic growth in the past three decades has pushed labor costs up. The “population dividend” is gradually disappearing, hurting China’s SOEs the most. Private companies in China have reacted to rising labor costs by mechanizing, innovating and moving out of the higher-cost coastal areas to the lower-cost interior. Some foreign companies have even pulled out of China entirely. Yet there is not much evidence that China’s SOEs have adopted similar strategies. SOEs still provide a significant percentage of urban Chinese workers with employment, social security and health care that underpins access to a decent life. The impact of SOEs on the Chinese economy cannot be underestimated. The debate about how to reform China’s state enterprises will surely be contentious.

The World Bank’s report stops short of being overly prescriptive, as it is a joint product between the World Bank and the DRC of the State Council. But the implication of its broad recommendations is easy to see. Although it does not say so explicitly, some recommendations clearly require political and social reforms as well. Therefore, the participation of the DRC is significant. With a semi-official stamp of approval, reformers in China can better prepare to move forward, and, as noted earlier, some changes already have started.

For obvious reasons, the Chinese government must balance what is economically superior with what is politically and socially practical. Economic growth through heavy investment and cheap labor alone is not sustainable in the long run because diminishing returns will eventually kick in. Therefore, the importance of establishing a sound economic system is self-evident. Without much-needed reforms in the six vital areas, it will be very difficult, if not impossible, for China to improve its overall economic efficiency. The Chinese government and public eventually will have to make tough choices concerning the issues outlined in the World Bank’s report. The question is, after decades of reforms initiated by Deng Xiaoping, how China will move forward.

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