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Key Economic Policy Choices Facing Chinas New Leaders

(China Debate March 26, 2013)
Yukon Huang Senior Associate Carnegie Endowment Former World Bank Director for China

China is becoming a more normal economy

Moving to a more sustainable but slower growth and becoming more balanced regionally. Less reliant on central interventions and driven more by market driven forces influencing key prices and capital flows. But as a more normal economy China must deal with new risks. It is now more vulnerable to global cycles and less able to rely on state investments to drive growth. This could make the new leadership less secure than before.
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Many Views on Chinas Reform Agenda

China needs to rebalance its economy

It is about getting prices right interest rates are too low and the exchange rate is undervalued
Chinas trade surpluses and its undervalued exchange rate drive trade deficits in the West

Are these myths or realities?

First, a snapshot of Chinas growth pattern : Rapid and relatively stable growth led by the coast but now by the interior
GDP Growth Rates - national and regional
18% 16% 14% 12%

10%
8% 6% 4% 2% 0%

China

East

Central

West
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China- Regional Growth 2011 Center Now Rising

(1) China needs to rebalance its economy increase

consumption and reduce investment

(% of GDP)

But declining consumption share is characteristic of successful industrializing countries

China leads in growth of consumption

(2) Are Interests rates too low in China?: 3-month deposit rates and annual inflation rates
3-month rate China Japan Singapore 3.88 0.16 0.26 Inflation 2.0 -0.3 3.6

South Korea
Taiwan UK

2.76
0.94 0.49

1.4
3.0 2.7

US
Source: The Economist, March 8, 2013

0.28

1.6

(3) US - China trade balances are not linked

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China's trade balances with the US, EU, Canada, select Asian economies, and other commodity exporters
200

US
150

EU
100

Canada
Billions of U.S. dollars 50

Selected ASEAN*
0 1995 -50 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010

Japan

South Korea
-100

Taiwan
-150

-200
*Selected ASEAN includes Malaysia, Philippines, and Thailand. Other commodity exporters includes countries who had trade surpluses with China in 2010 and exported more than $1 billion in primary commodities to China in 2010, excluding Hong Kong, Singapore, and the other economies depicted.

Other Commodity Exporters*

Three key choices that would support growth and address increasing social unrest
Role of the state

Role of the banking and fiscal systems Pace and pattern of urbanization
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(1) Need a new growth model that disentangles the state from other economic agents
Past

GDP
Party/ Government SOEs State Banks

GDP
Future
Party/ Government Private Sector SOEs Banks (state and private)
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Promoting competition between state and private enterprises to drive future growth
Robust

China

Rest of the World

Globalization

Strong

Province A

Province B,C

Regional Competition

Weak

State Enterprises

Private Enterprises

State vs. Private Role of the State Firms

(2) Chinas banks play too large of a role

Money Supply (M2) as Percent of GDP, 2011

United States

South Korea

India

Brazil

China
0 40 80 120 160 200

Chinas budget plays too small of a role

(% of GDP) High Income OECD Total Expenditures Social Expenditures Other Middle Income Upper Lower

China

41.6

33.1

36.1

25.7

26.9 14.7

16.2 16.9

15.4 20.7

9.4 16.3

*Social expenditures include health, education, and welfare spending

3. Premier Li Keqiangs support for urbanization would help sustain rapid growth and deal with income disparities:

- Reform migration and urban management policies - Mega-cities should be larger and density needs to be increased in many cities

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80

Urbanization needs to accelerate

70

60

Percentage of Total Population

50

40

Unconstrained Migration
30

Current Path

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10 1980 1985 1990 1995 2000 2005 Year 2010 2015 2020 2025 2030

Urban density needs to be increased

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Risks are as much political as economic

For these three choices, strong vested interests militate against change: links between the Party and economic agents and between Beijing and the regions. Collective decision-making makes it difficult to address politically charged concerns. Will this change? Chinas regionally decentralized governance system has encouraged economic liberalization but retarded political liberalization.

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