Challenge of Reform: Moving from a Command Economy to a Global Market Ren Mu Challenge of Reform: Moving from a Command Economy to a Global Market Ren.

Challenge of Reform: Moving from Challenge of Reform: Moving from a Command Economy to a Global a Command Economy to a Global MarketMarket

Ren MuRen MuGeorge Bush School, Texas A&M University

Nov 30, 2007Nov 30, 2007

China Today K-12 Teacher Workshop College Station, Texas

22

IntroductionIntroduction

China’s growth performance is impressive over the past 25 years.China’s growth performance is impressive over the past 25 years.

- Average annual GDP growth was 9.6% in the 1978-2005 period.Average annual GDP growth was 9.6% in the 1978-2005 period.

- GDP reached US$2.25 trillion in 2005, and China became the fourth GDP reached US$2.25 trillion in 2005, and China became the fourth largest economy in the world.largest economy in the world.

China is sill a struggling developing country.China is sill a struggling developing country.

- 2005 GDP per capita is $1,700, compared to $40,000 for the U.S.2005 GDP per capita is $1,700, compared to $40,000 for the U.S.

- 8% of China’s total population was in absolute poverty in 2001.8% of China’s total population was in absolute poverty in 2001.

Dual transition and two types of challenges Dual transition and two types of challenges

- the transition from a socialist command economy to a market the transition from a socialist command economy to a market economy, and the challenges of market transitioneconomy, and the challenges of market transition

- the transformation from a rural to an urban society in the the transformation from a rural to an urban society in the industrialization process, and the challenges of developmentindustrialization process, and the challenges of development

33

Outline Outline Understanding the last twenty-five yearsUnderstanding the last twenty-five years

- three phases in China’s economic reform

- major institution changes: decentralization, rural reforms, and experimentation and innovation with new enterprises

- successful evolutionary approach to the transition, in contrasts to less successful reforms elsewhere.

New challengesNew challenges

- poverty and inequality

- ability to cope with external shocks

- environmental issues

- ……

Policy implications for the U.S.Policy implications for the U.S.

Three phases in China’ economy Three phases in China’ economy reformreform

55

The first phase (1979-1985)

The agriculture reformThe agriculture reform: from commune production to household responsibility system

-bottom-up experiments and scaled-up by the government (in contrast to “legislate” approach)

- impacts on rural poverty

66

Incidence of Rural Poverty in China

0.0

10.0

20.0

30.0

40.0

50.0

60.0

70.0

1978

1979

1980

1981

1982

1983

1984

1985

1986

1987

1988

1989

1990

1991

1992

1993

1994

1995

1996

1997

1998

1999

2000

2001

2002

2003

2004

2005

2006

Perc

ent o

f Rur

al P

opul

atio

n

Chinese Official Estimates

Ravallion and Chen (World Bank) Estimates

77

The first phase (1979-1985) (cont’)

Initial economic opening policy: the establishment of Initial economic opening policy: the establishment of special economic zonesspecial economic zones

first four SEZs (1979)

88

The first phase (1979-1985) (cont’)

The establishment of The establishment of special economic zonesspecial economic zones

- foreign investment encouraged by lower tax rates, foreign investment encouraged by lower tax rates, fewer regulations, duty-free imports of inputsfewer regulations, duty-free imports of inputs

- a strikingly visible signal of commitment to a strikingly visible signal of commitment to economic openingeconomic opening

- test beds for domestic economic reform under test beds for domestic economic reform under dualistic systemdualistic system

99

The second phase (early 80s to mid 90s)The second phase (early 80s to mid 90s)

The fast development of rural industry: the township-village The fast development of rural industry: the township-village enterprises (TVEs)enterprises (TVEs)

- TVEs increased rural incomes, and absorbed rural labor released TVEs increased rural incomes, and absorbed rural labor released from farms. from farms.

- The entry of TVEs provided competition to state-run industrial The entry of TVEs provided competition to state-run industrial enterprises.enterprises.

- TVEs played the catalytic role in transforming the economy from a TVEs played the catalytic role in transforming the economy from a command economy to a market economycommand economy to a market economy

1010

The second phase (early 80s to mid 90s)The second phase (early 80s to mid 90s)(cont’)(cont’)

The development of rural industry and the township-village enterprises is The development of rural industry and the township-village enterprises is another example of “build the road as one travels” another example of “build the road as one travels”

In the June 13, 1987 People's Daily, Deng Xiaoping said: “Generally speaking, our rural reforms have proceeded very fast, and farmers have been enthusiastic. What took us completely by surprise was the development of township and rural industries. All sorts of small enterprises boomed in the countryside, as if a strange army had appeared suddenly from nowhere. This is not the achievement of our central government. Every year, township and village enterprises achieve 20% growth. This was not something I had thought about. Nor had the other comrades. It surprised us.”

[Quoted in: Becker, Jasper 2000. The Chinese. New York: Free Press. p. 68]

1111

The second phase (early 80s to mid 90s)The second phase (early 80s to mid 90s)(cont’)(cont’)

More opening to foreign trade and capitalMore opening to foreign trade and capital

more SEZs (1984 and later)

1212

The third phase (mid 90s to present)

Transforming corporate governance in the state sectorTransforming corporate governance in the state sector

Pure Plan 1996-current Pure Market

Organization Form element of hierarchical bureaucracy

reorganized into corporations

multiform strategic corporations

Managerial objective plan fulfillment

profit, but with qualifications profit

Price systemplanned price

market prices, with government invervention

market prices, with regulation

Budget constraintsoft

hard, but with qualifications hard

Industrial enterprise transition

1313

The third phase (mid 90s to present):

Deeper opening to the global economyDeeper opening to the global economy

Exports and Imports (Share of GDP)

0%

5%

10%

15%

20%

25%

30%

35%

40%

45%

1978

1979

1980

1981

1982

1983

1984

1985

1986

1987

1988

1989

1990

1991

1992

1993

1994

1995

1996

1997

1998

1999

2000

2001

2002

2003

2004

2005

2006

2007

-H1

Perc

ent o

f GDP

Exports

Imports

Source: Naughton (2007)

Summary of China’s achievement Summary of China’s achievement and its approach to transitionand its approach to transition

1515

Annual GDP Growth, 1978-2006

0%

2%

4%

6%

8%

10%

12%

14%

16%

19

78

19

79

19

80

19

81

19

82

19

83

19

84

19

85

19

86

19

87

19

88

19

89

19

90

19

91

19

92

19

93

19

94

19

95

19

96

19

97

19

98

19

99

20

00

20

01

20

02

20

03

20

04

20

05

20

06

An

nu

al P

erc

en

tag

e In

cre

as

e

Source: Naughton (2007)

Summary of China’s achievement: sustained Summary of China’s achievement: sustained economic growtheconomic growth

1616

Summary of China’s achievement: progress against Summary of China’s achievement: progress against povertypoverty

Poverty In China (1981 – 2001)Poverty In China (1981 – 2001)

52.84

75.6

6.017.9712.49

0.50

10

20

30

40

50

60

70

80

China Rural China Urban China

Headcount index (%)

1981 2001

Source: Ravallion and Chen (2006)Source: Ravallion and Chen (2006)

1717

Economic reforms in China: an evolutionary Economic reforms in China: an evolutionary approach to the transitionapproach to the transition

Step-by-step progressStep-by-step progress

- Is this approach too “gradual” or “slow”?Is this approach too “gradual” or “slow”?

Build the road as one travels Build the road as one travels

- Is the process of following fixed blueprint better?Is the process of following fixed blueprint better?

Climb the mountain by a Zigzag pathClimb the mountain by a Zigzag path

-Should the reform path be more linear?Should the reform path be more linear?

More challenges aheadMore challenges ahead

1919

Poverty remains a challengePoverty remains a challenge

2020

Where are the poor?– Sectoral and gWhere are the poor?– Sectoral and geographic eographic characteristics of poor peoplecharacteristics of poor people

Source: Stern (2001)Source: Stern (2001)

2121

Poverty and inequalityPoverty and inequality

Poverty reduction is related to a focus on income growth, but it requires more Poverty reduction is related to a focus on income growth, but it requires more than that. than that.

Bringing greater opportunity to lagging areas and excluded groups is Bringing greater opportunity to lagging areas and excluded groups is

crucial for poverty reduction in China and remains a challenge.crucial for poverty reduction in China and remains a challenge.

2222

Increasing inequalityIncreasing inequality

Evolution of Gini Coefficient

0

5

10

15

20

25

30

35

40

45

50

1980

1981

1982

1983

1984

1985

1986

1987

1988

1989

1990

1991

1992

1993

1994

1995

1996

1997

1998

1999

2000

2001

2002

Gini

Coe

fficie

nt

National

UrbanRural

Source: Naughton (2007)

2323

How to make economic growth more inclusive? How to make economic growth more inclusive?

Raising agricultural productivityRaising agricultural productivity

Creating more job opportunitiesCreating more job opportunities

Expanding educational opportunity Expanding educational opportunity

Establishing an well-functioning social safety net, in particular Establishing an well-functioning social safety net, in particular pension systempension system

2424

High growth rate of international tradeHigh growth rate of international trade

2525

More reliance on exportMore reliance on export

2626

Potential external risks facing Chinese economyPotential external risks facing Chinese economy

Sudden stop or reversal of capital inflowsSudden stop or reversal of capital inflows

- This phenomenon has been associated with a large This phenomenon has been associated with a large number of emerging market crisesnumber of emerging market crises

-How serious it could be to Chinese economy?How serious it could be to Chinese economy?

Plunge in the value of the US dollarPlunge in the value of the US dollar

- relative depreciation of RMB?relative depreciation of RMB?

- slowdown in us demand?slowdown in us demand?

Collapse of external demand from the USCollapse of external demand from the US

U.S. trade sanctionsU.S. trade sanctions

2727

Environmental issuesEnvironmental issues

Degradation of farm land is a substantial cause of the Degradation of farm land is a substantial cause of the reduction of farm land.reduction of farm land.

High energy consumption along with industrial High energy consumption along with industrial development in general has major implications for the development in general has major implications for the environment. environment.

-Air pollutionAir pollution

-Water pollutionWater pollution

-Costs of pollution (World Bank 1997)Costs of pollution (World Bank 1997)

Broad impact of pollution and global warmingBroad impact of pollution and global warming

2828

Implications for Unites States PolicyImplications for Unites States Policy

China will be on the regular agenda of American trade China will be on the regular agenda of American trade negotiators. negotiators.

-Probably no revaluation of RMB could solve the Probably no revaluation of RMB could solve the U.S. trade deficit.U.S. trade deficit.

-Negotiation of property rights is in the interest of Negotiation of property rights is in the interest of both, but may involve tension.both, but may involve tension.

The environmental situation require government The environmental situation require government action, and the US has the widest economic and action, and the US has the widest economic and technological discretion to help.technological discretion to help.

Whether or not continued rapid growth in China is Whether or not continued rapid growth in China is itself in America’s interests? ---YESitself in America’s interests? ---YES