Rising power, anxious state

1by The

Economist

A Special Report on China:

Rising power, anxious state

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• A rising world power, China is experiencing both economic and political growth but it should also be anticipating and harnessing emerging problems.

• The hukou system shackles the rural dwellers from settling in the city, thus limiting further urbanization and putting the transformation from an export-led to consumption-led economy in peril.

• Reforms, such as land certificates and lank tickets, are introduced to benefit the peasants but these endeavors are only partially covered and are subject to manipulations from the local governments and developers.

• The aging population is drying up the labor force surplus and is inhibiting the economy transformation.

• With its investment-led growth and the widening between the rich and poor and, China faces a grey economic outlook and probable rural turbulence if it maintains the status quo.

• China will embrace its new generation of leaders—most of the them being the sons of past and present officials—in late 2012, granting much economic freedom but ceding nothing on the politics like the last generation in spite of a growing and more demanding middle class.

• The government’s support on SOE’s in developing new technologies and discriminating against their foreign competitors is questionable and

• Peace and prosperity may depend on the very sort of political reform the Chinese government has tried so hard to avoid

Summary

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Table of contents

• Overview• China & itself• China vs. the

world

• Analysis• Urbanization• Demography• Growth prospects• China’s new

leaders• Government’s role• Ideological battles

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1997-2010 urbanisation: ↑ 18% GDP 2010: $5.9 trillion 1992-2010 average annual growth:

10.3% Modest budget deficit of 2.5% of GDP

in 2010 More than $3 trillion foreign-exchange

reserves

China itself

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China surpassed America and became the world’s biggest manufacturer in 2010

China is ranked 17th in global league of “national competitiveness” - Versus India at 42nd - ↑ 56 ranks from 73rd in 1990

Some predicts that by the end of this decade, GDP per person in Shanghai could be almost the same as the average for America in 2009

China vs. the world

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“In less than a decade China could be world’s largest economy. But its

continued economic success is under threat from a resurgence of

the state and its resistance to further reform.”

-James Miles, China Correspondent for The Economist

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Confronting issues

Urbanization Demography Growth prospect

Government’s role China’s new leaders

Ideologicalbattles

9Urbanization

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The hukou system The hukou (户口 ) system, or household registration

system, has been much eroded since the Mao era because of the need for cheap labor to fuel China’s manufacturing boom

The hukou system is often seen as a form of discrimination against people from rural areas by a privileged class or urbanites

Chinese officials define the population as being already nearly 50% urban but the number of urban hukou is only around 35%

The hukou system plus the still collective ownership of land will retard China’s urbanization in the years ahead--just when the country is most in need of its consumption boosting benefits

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As many as 20m workers returned to the countryside when the crisis broke in 2008 and China’s exports slumped

Having farmland to go back to kept the unemployed migrants from taking to the streets

It is time to start returning land to the peasants, both to spur consumption and to help defuse growing rural unrest

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New land reform: Land certificates Certificates that show the exact boundaries of farmers’ fields and housing and confirm their rights to use them

A survey in mid2010 showed that only one in three had no documents at all

The central government urged the whole country to finish issuing the certificates by the end of 2012

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New land reform: Dipiao (地票 ) Rural land derivatives are

introduced

• Farmers who create new land for agricultural use (i.e. by giving up

some of their housing plots) can sell the right to use an equivalent amount of rural land for urban development

• A developer who wants to build on a green field site that has already been approved for urban construction bids first for a “land ticket”, or dipiao, which certifies that such an area of farmland has been created elsewhere

• The regulations say farmers get 85% of the proceeds

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Never-never land

However, the system is open to abuses as the notion of collective persists

Higher-level officials worried that dipiao were being traded without land having first been converted to agricultural use

In the name of building a “new socialist countryside”, local government have been “arranging” farmers into new apartment blocks--to free up land which they can use for profitable purposes

Reform might quickly be exploited by the very forces it is meant to constrain: local governments and developer

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Chengdu and Chongqing have declared that holders of rural hukou in the countryside surrounding these cities can move into urban areas and enjoy the same welfare benefits as their urban counterparts without giving up their land entitlements

But grand plans for hukou reform in other cities, such as Guangzhou and Zhengzhou, have been halted because of cost concerns

Local governments don’t have the incentives or resources to implement such measures to encourage greater integration of migrants into urban life

And if more taxes is raised, urbanites will only resist

Reform of the hukou

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Due to distortions in the labor market caused by barriers to migration between cities (not just between rural and urban areas) big wage differences are noticed in the same Chinese provinces

Majority of the rural hukou holders prefer to stay in the countryside

Most young people who had moved to urban areas want to go back to the countryside when they got older

Urbanisation will be slower and harder in the future To ensure a continuing net inflow of migrants into the cities will

mean to attract migrants in sufficient number and find ways to turn them into permanent city-dwellers, with the consumer power to match

Lower the bars

17Demography

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China’s primary-school enrolment dropped from 25.3m in 1995 to 16.7m in 2008

In the next decade the number of people aged 20-24 will drop by 50%

Over the next few years, the share of people over 60 in the total population will increase from 12.5%in 2010 to 20% in 2020

By 2020, their number will double from today’s 178m

China’s “demographic dividend”--the availability of lots of young workers--which helped fuel its growth will soon begin to disappear

The overall population will start to grow faster than that of working ageAn ageing population

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Wage rises are beginning to accelerate “Lewis turning point”: named after a 20th-century economist

Arthur Lewis, who said that industrial wages start to rise quickly when a country’s rural labor surplus dries up

Standard Chartered have risen wage rate by 9-15% this year in the Pearl River Delta around Dongguan, Guangzhou

The new five-year plan also calls for increase in wages averaging 13% annually (twice as fast as the target for GDP growth)

Meanwhile, pension of the fast-rising population of retired people will have to be paid for by contributions from a shrinking working population

The consequences of an ageing population

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Young urban couples, many of them without siblings, will find themselves with four parents to look after and will themselves have only one child

This is known as the 4-2-1 phenomenon They will more likely save hard to prepare for such a

future Against the government’s efforts to shift China

towards more consumption-led growth

The 4-2-1 phenomenon

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Optimists believe China still has several more years before the economic impact of an ageing population becomes apparent

In a report last year, Morgan Stanley pointed to 80m-100m surplus laborers in the countryside who could be employed in urban areas

The official retirement age of 60 for men and 50 for women should be increased (it is around 56 in practice)

Many fear that it could make it even harder for university graduates to find jobs

Last year 6.3m students graduated from Chinese universities, up from 1m in 1999

Competition is fierce Are we there yet?

22Growth prospect

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Three decades of nearly 10% average annual GDP growth

Growing population and urbanization Manageable public debt and modest bad debt Appreciating yuan against the dollar by more

than 10% a year (because of the China’s higher inflation rate)

Too much of a good thing?

Past & present

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Grey outlook Exports will be constrained by depressed Western markets China could be approaching a boom in exports and investment

along with bubbly property markets, followed by many years of stagnation

Fear of not only stagnation, but also turbulence because China has not yet got rich

Only a lower-middle-income country with GDP per person at $4,400 in 2010

China’s roaring growth cannot last indefinitely

A divided nationThe country has become increasingly divided between rich and poorWorry about falling into a “middle-income trap” - Lose competitiveness in labor-intensive industries - Fail to gain new sources of growth from innovation

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What’s ahead China’s economy has become “seriously distorted” by

prolonged dependence on high levels of investment China is at risk of an economic downturn “unprecedented in

the past 30 years” with possibly damaging consequences for China’s social and political stability

To the rescue Economic slowdown will be less pronounced if the

government succeeds in boosting consumption as a new growth engine

At present, strong rising wages should help boost consumption

China will have to persuade rural dwellers to keep coming to the cities as its population ages ever more rapidly

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It’s all about money

Investment problem The new five-year plan emphasizes big investment to boost

domestic demand and household consumption But some economists believe that

- Investments are becoming inefficient- Looming problem of government debt - Asset bubble from using land as collateral for borrowing

China is heading towards a “brick wall” of government debt The brick wall will most likely be hit between 2013 and 2015 No country could be productive enough to invest nearly 50% of

GDP in new fixed assets without eventually facing “immense overcapacity and a staggering non-performing loan problem”

27China’s new leaders

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Biggest shuffle in China’s leadership for a decade will happen in late 2012

President Hu Jintao and Prime Minister Wen Jiabao will step down

A new generation of privileged political heirs—“princelings”—will take over

Leadership shuffle in 2012 that brings a younger generation to power

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Party of the Princelings

Princelings are the offspring of senior officials, including Mao’s old comrades-in-arms

In the 1990s, the princelings were viewed with great suspicion by many in the party

But recently party leaders appear to have rallied around them

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Meet the princelingsBo Xilai (top left) Current CPC* Chongqing

Committee Secretary Son of Bo Yibo (bottom left), a

Communist revolutionary elder and a hero in the Long March in the 1930s

Possible position offer in 2012: internal security chief

Xi JingpinBo Xilai

Bo YiboXi Jingpin (top right) Current top-ranking member

of the Secretariat of the CPC, Vice President

Son of Xi Zhongxun (bottom right), a Communist veteran and also a Long Marcher

Possible position offer in 2012: president, party chief, and military commander

*CPC – Communist Party of China Xi Zhongxun

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Left is right

Diehard MaoistsSupport a

strong role of government in the economy

Social Democrat

sResent the inequalities

that have risen from the country’s

embrace of capitalism

China’s “Leftists

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Bo Xilai & “The Chongqing Model” Fostering a mini-cult of Mao

- Singing of “red songs” - Sending of “red instant messages”

Denounce the “original sin” of private entrepreneurs who got rich by shady means

Prefer a bigger role for the state rather than a freewheeling “special economic zone”, such as Shenzhen

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Government’s role

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39 of the 42 mainland Chinese companies in the 2010 Fortune 500 list of the world’s biggest firms were owned by the government--that’s nearly 93%

The government-owned enterprises in these 39 state-dominated sectors control 85% of the total assets of all the 500 companies in China’s won list of the 500 biggest Chinese companies

According to the researches from the China Enterprise Confederation in 2010, 3 in 4 of the biggest publicly traded Chinese firms were controlled by the government

Chinese government has been devising market-access rules that favor state firms

The state advances and the private retreats

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The government has been widely accused of twisting rules in favor of its state-owned or, sometimes, private-sector favorites

Some Chinese economists worry that the government’s stimulus spending in response to the global financial crisis will bolster state enterprises and their bad habits when they urgently need reforming

Local government sometimes play a decisive role in determining which firm succeed and which fail

the State .

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Challenges for foreign business

“Steeped in suspicion of outsiders” Government supports Chinese companies that develop new

technologies and discriminates against their foreign competitors

“A blueprint for technology theft” Government scheme of “indigenous innovation”: creating new

Chinese technologies on the back of the foreign ones supplied by companies eager for a share in the government’s massive spending

Foreign business have fought most bitterly over a new procurement policy that favors products listed in catalogues of “indigenous innovation” technologies

Because of “indigenous innovation” policies 25% of the members of American Chamber of Commerce in

Beijing said they were already losing business 40% expected business to suffer in the future

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Ideological battles

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Accusation of trying to replace enlightenment values of democracy, freedom and individual rights with “Chinese” ones--such as stability and the interests of the state

The Arab revolutions showed that no matter how well a country’s economy performed, “people do not accept dictatorial, corrupt government”

China: phobia of political reformNew battle lines in China’s politics

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Universalists vs. exceptionalists

Universalists- Universalists believe China must eventually converge on democratic norm

Exceptionalists- Exceptionalists believe that China must preserve and perfect its authoritarianism

- Having an effect of inward-looking conservatism on CPC

- For now, exceptionalists have the far stronger hand

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As China becomes ever more engaged with the rest of the world, the message it still convey to its own people is that the West is implacably hostile to the country’s rise

Some argue that China is still maturing as a power and learning to cope with the world’s rapidly growing expectations of it

However, China tends to brood animosity towards competitors that can be self-destructive

It is time to focus on transforming the country’s politics

The growing pain

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China’s leaders insist that political reforms is on the agenda—but it is not enough

A trigger of sharp economic slowdown could make the middle class more demanding

Government will find itself under growing pressure from the less well off to distribute wealth more effectivelyHere we go

again

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Well-off city dwellers have traded political choice for fast-growing prosperity

But as the economy slows over the next decade, the party will face a politically demanding middle class

The new leaders who will begin to take over next year will most likely to be more of the same: granting economic concessions but ceding nothing on politics

Peace and prosperity may depend on the very sort of political reform the party has tried so hard to avoid

Moving on