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China’s Economic Remodeling and Europe
by Paweł Świeboda
Chinese interlocutors often stress similarities between the country’s new five-year economic plan and the Europe 2020 strategy — both of which are focused on green, intelligent, and inclusive growth. The perceived parallels between the two programs can be usefully exploited in the EU-China dialogue in spite of differences concerning the mechanics of implementation. Economic planning in China is more illuminating than is often assumed. Policy decisions are the result of extensive negotiations between stakeholders with China’s provinces playing an important role. The value of this system lies in the competition it creates between cities. It also allows for experimentation. As one insider notes, “China is not like the West where you can’t close anything down. In China, you can experiment and if something doesn’t work, you close it down.” At the same time, there is a limit to the autonomy that the provinces are able to exercise as strategic decisions require a green light from the central government. Enforcement is an additional challenge: local governments prefer to focus on growth rather than follow policy guidelines. The Emperor’s New Clothes Andrew Shang rightly points out that one should think of the Chinese economy as a collection of different economies, rather than as a single entity. In his words, “The next dragon to take off is the inland areas.”1 Exporting companies are moving inland because of rising costs in coastal areas. The coastal areas, however, are not lying idle. They are adjusting sufficiently quickly to prevent the relocation of industries to other destinations where labor costs are lower. China has consolidated its competitive advantage through investments in education and infrastructure. The country’s additional strength lies in its size — there is a complete factory base in China, something which is not necessarily available in other locations. Economic remodeling in China is often seen as being necessitated by a) the likelihood of a constrained global demand, demonstrated in the wake of the economic crisis, b) the exhaustion of the extent to which rising investment can contribute to growth, and c) the dwindling demographic dividend. At the same time, a number of Chinese economists question whether the growth of investment, at an overall level of 47 percent of GDP, necessarily
Summary: China often stresses that there are similarities between its new five year economic plan and the Europe 2020 strategy — both of which are focused on green, intelligent, and inclusive growth. The perceived parallels between the two programs can be usefully exploited in the EU-China dialogue both to address areas of contention and to find areas for cooperation.
1744 R Street NW Washington, DC 20009 T 1 202 683 2650 F 1 202 265 1662 E firstname.lastname@example.org
In conversation with the author, Beijing, 22 April 2011.
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leads to inefficiencies. When measured in per capita terms, Chinese investment levels lag behind those of advanced economies. It is also evident that China’s demographic prospects are becoming increasingly unfavorable. As Weng Feng points out, China’s economic boom in the last two decades has relied on the crucial ingredient of a young and productive labor force. It was “a nonrepeatable historical product of the rapid demographic transition.”2 Assuming low-fertility rates continue, China will experience significant population decline and aging for the better part of the 21st century. If current trends continue and the fertility rate stays below replacement level then “by the end of the century China will have a population size only about half of what is now.”3 Even if the fertility rate were restored to replacement level, “China’s population decline will continue for another half century or more.”4 The Chinese economy will need to undertake a massive adjustment, with significant consequences for both labor productivity and domestic consumption. Despite the clear signals suggesting an inevitable need for economic remodeling, there are also a number of indications suggesting that the existing model will continue to deliver a strong economic performance in the short to medium term. China recorded a growth of exports in the range of 26 percent in the first quarter of 2011. Twenty million new workers enter the labor market annually. Accounting for the retirement of 10 million workers in the same period, this still amounts to as many as 10 million additional laborers each year. The labor supply will be sufficient over the next few years to fuel the economy, even if improvement in agricultural prices means that people are less eager to migrate than in the past. In this context, it can be concluded that the remodeling is more likely to be driven by rising income levels than by policy design. China is already moving into the lower middle income category. Parts of Shanghai are about to break into the upper middle income category. The government has the ambition of doubling salaries in five years. In real terms, this is mission impossible, although it may have
2 Wang Feng, “The Future of a Demographic Overachiever: Long-Term Implications of the Demographic Transition in China,” Population and Development Review 37 (supplement): 173-190 (2011). 3 4
nominal significance. Thus, a boost to private consumption (as a lever of a more balanced growth model) will need to be driven by weakening the incentives to save. Private consumption in China has grown for the last three decades at a significantly slower rate as compared to the growth of exports and investment. At 36 percent of GDP (2009), it is also much lower than that of other countries at a similar level of development. Some observers point to the likelihood of a substantial increase in private consumption, as was the case in Japan post-1969. In line with the “U-curve theory,” private consumption is often depressed during the early stages of industrialization when priority is given to investment. At the same time, it is possible that existing drivers of growth will run their course before the share of consumption in GDP increases. This will substantially depend on policies designed to induce a move away from precautionary savings — a tendency which is deeply ingrained in Chinese society. This tendency has been reinforced by the continually low levels of confidence Chinese citizens have in their own economic situation, despite favorable readings of the country’s economic prospects more broadly. 5 The EU should engage in a close economic dialogue with China aimed at addressing the underlying reasons for the high savings rate. Policy responses should include improving the social security system, and reducing labor taxation, along with reforms aimed at the supply side, such as strengthening the financial sector and reforming the household registration system. Measures taken by the Chinese government to fight inflation will be important in shaping the way that citizens approach savings. These measures are largely decided by the Communist Party and the timing of their application is often problematic. It is clear that, in the case of the current inflationary spurt, the Chinese government has been late in its response. This is partially a result of the fact that the central bank is not independent, which leads to a delayed reaction to economic signals.
Weng Feng, op. cit., 182-183. Ibid, p. 183
5 An excellent discussion of the precautionary savings phenomenon can be found in Annika Melander and Moritz Rudolf, “Reshaping the Chinese growth model — a formidable challenge of the 12th five-year plan,” ECFIN Economic Brief, Issue 12, February 2011.
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Key Elements of a New Growth Model Rising levels of income will naturally translate into a different pattern of demand with new levers of growth in the services sector. Media, design, and logistics will offer some of the most attractive opportunities. One of the main challenges will be providing a higher quality of basic education so that the labor force can meet these new demands. The process of urbanization will be a powerful driver of a new growth model. Between 12 and 16 million people move to China’s cities each year. There will be 100-200 second tier cities built and clustered around existing megacities.6 This is potentially a huge source of opportunity for European firms given their experience in city planning, water, waste management, and other services essential to urban areas. The way in which the process of urbanization is carried out will also have enormous consequences for ensuring China does not lock in high carbon growth. Future patterns of consumption will need to be less energy-intensive. Environmental concerns are a growing challenge given the water deficiencies and deforestation from which various regions of China suffer. In the context of the ongoing process of urbanization, Europe should capitalize on synergies and multilayered interactions with Chinese partners. Different stakeholders should be involved, including members of the local government. It should be understood that, in some areas, the Chinese are ahead of their European counterparts. For example, China has partially addressed the carbon footprint of its cities by encouraging the use of electric bicycles. Not only are motorcycles banned in more than 90 Chinese cities, they are also sold at very low cost, amongst other incentives. There are now 140 million users of electric bicycles in China. This, combined with the theme of “better cities, better life” referred to in the EU High Representative’s 2010 policy paper paves the way for a lasting EU-China engagement in this area. One of the most significant similarities between the Chinese five-year plan and the Europe 2020 strategy is the emphasis placed on low carbon growth. Decoupling economic growth and CO2 emissions is often referred to in both China and the EU as being equivalent to a 4th industrial revolution. For both, the purpose is to become technological leaders. In China, this marks a departure from the 11th five-year plan,
which made scarce reference to the concept of a low-carbon economy. Two of the more important targets detailed in the current plan are, 1) increasing clean energy generation to 11.4 percent of primary energy consumption by 2015, and 2) a 16 percent reduction in energy intensity as well as a 17 percent reduction of carbon intensity by 2015 from 2010 levels (well within the range of the earlier commitment of a 40-45 percent reduction by 2020 as compared to 2005 levels). Various steps are being taken toward that goal from regulatory changes to measures such as extending the capacity of the underground system in Beijing, the rapid adoption of smart meters to inform consumers of their energy consumption, and increasing gasoline prices and parking fees to encourage the use of public transportation.
One of the most significant similarities between the Chinese five-year plan and the Europe 2020 strategy is the emphasis placed on low carbon growth.
Coal will continue to be China’s dominant energy source. Although the importance of renewable energy in China’s energy mix will grow, it is unlikely to play a substantial role in the near future given its low starting point. This means that carbon capture and storage (CCS) technology has a huge potential market in China, despite the fact that Beijing does not currently have a position on the role CCS can play in its development. Currently, China is launching a pilot emissions trading scheme on a regional and sectoral basis, and has also implemented low carbon economy pilots in five provinces and eight cities. However, there is a need for reflection on how the market can help China achieve its targets. Europe should pursue joint projects with Chinese partners focused on technologies like CCS. These projects should not only be intended advance research but also to create a better understanding of the policy environment. The EU-China
“Preparing for China’s urban billion,” McKinsey Global Institute, 2009
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dialogue could usefully address issues such the impact of CCS on electricity pricing and energy security. Zero-Sum Logic or Mutual Gain? It is evident that the remodeling of Chinese growth offers opportunities for European firms. At the same time, there is a risk that both China and the EU will jealously guard their areas of influence. China has recently published an edited version of its “Foreign Investment Catalog,” first introduced by the National Development and Reform Commission and the Ministry of Commerce in 1995. The Catalog’s categories of “encouraged,” “restricted,” and “prohibited” investment have functioned as an important indicator of China’s strategy on market openness. Recent additions to the “prohibited” category relate to China’s current social issues and national interests. New foreign investors will be excluded from businesses such as domestic express mail delivery, for instance. This risks reducing the extent to which European and U.S. firms can be involved in the anticipated growth of the services sector in China. Brussels’ new mindset is not in favor of bargaining — a practice that the EU has never truly adopted. This poses problems for Europe. European firms, unlike their U.S. counterparts, have invested in China with the intention not only of exporting back to Europe but also of feeding the Chinese market (with good reason; as China has been quick to point out, more than 80 percent of European firms have turned a profit in China during the period of the economic crisis). Given that Europe made the strategic decision to keep its markets open, it will be unwilling to bargain with China over access. Bargaining is not a practice the EU has ever truly adopted. As such, conceptualizing EU-China relations on those terms will pose difficulties. Ground for new synergies between the EU and China has also been the result of China’s rapidly increasing desire to invest in Europe. Concerned about the complexity of the EU, Beijing is exploring how it can support Chinese investment. One idea has been to create a clearing house where information about investment opportunities in Europe could be exchanged. The China Overseas Development Bank plans to set up a separate fund to assist SMEs in their foreign operations. Beijing is also anxious about the European Commission’s internal discussion on a European investment review procedure, which would screen investment projects for compliance with national security requirements, as is done in the United States and Australia. Although the project is unlikely to be approved, Chinese officials have not wasted the opportunity to speak of the risk of European protectionism. There is a growing awareness in both China and the EU that degree of their interdependence far exceeds earlier assumptions. Better understanding of one another’s policy frameworks will help ensure a productive rather than insecure relationship.
About the Author
Paweł Świeboda is the president of demos-EUROPA — Centre for European Strategy.
About the Stockholm China Forum
This is part of a series of papers informing and informed by discussions at the Stockholm China Forum. The Stockholm China Forum is an initiative of the German Marshall Fund, the Swedish Ministry for Foreign Affairs, and the Riksbankens Jubileumsfond. It brings together policymakers, intellectuals, journalists, and businesspeople from Europe, the United States, and Asia on a biannual basis for an ongoing and systematic dialogue to assess the impact of China’s rise and its implications for European and U.S. foreign, economic, and security policy.
The German Marshall Fund of the United States (GMF) is a nonpartisan American public policy and grantmaking institution dedicated to promoting better understanding and cooperation between North America and Europe on transatlantic and global issues. GMF does this by supporting individuals and institutions working in the transatlantic sphere, by convening leaders and members of the policy and business communities, by contributing research and analysis on transatlantic topics, and by providing exchange opportunities to foster renewed commitment to the transatlantic relationship. In addition, GMF supports a number of initiatives to strengthen democracies. Founded in 1972 through a gift from Germany as a permanent memorial to Marshall Plan assistance, GMF maintains a strong presence on both sides of the Atlantic. In addition to its headquarters in Washington, DC, GMF has seven offices in Europe: Berlin, Paris, Brussels, Belgrade, Ankara, Bucharest, and Warsaw. GMF also has smaller representations in Bratislava, Turin, and Stockholm.
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