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Chinese Economic Reform: Past, Present, Future by Prof. Lawrence Lau

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Prof. Lawrence Lau is the former Vice-Chancellor of The Chinese University of Hong Kong (CUHK) and currently served as the Ralph and Claire Landau Professor of Economics at CUHK. He specialises in economic development, economic growth, and the economies of East Asia, including that of China. Prof. Lau has authored, co-authored, or edited seven books and published more than 190 articles and notes in international professional journals. On his recent publication The China-U.S. Trade War and Future Economic Relations, Prof. Lau will share his insights on the economic relationship between mainland China and the United States at the conference.

Prof. Lawrence Lau, Ralph and Claire Landau Professor of Economics, Lau Chor Tak Institute of Global Economics and Finance, CUHK

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Chinese Economic Reform: Past, Present, Future by Prof. Lawrence Lau

  1. 1. Chinese Economic Reform: Past, Present and Future Lawrence J. Lau Ralph and Claire Landau Professor of Economics, The Chinese Univ. of Hong Kong and Kwoh-Ting Li Professor in Economic Development, Emeritus, Stanford University CUHK Business School Global Alumni Forum The Chinese University of Hong Kong Hong Kong, 29 June 2019 Tel: +852 3943 1611; Fax: +852 2603 5230 Email: lawrence@lawrencejlau.hk; WebPages: www.igef.cuhk.edu.hk/ljl *All opinions expressed herein are the author’s own and do not necessarily reflect the views of any of the organisations with which the author is affiliated.
  2. 2. Outline  Introduction  Economic Reform and Opening in the Past  Economic Reform at Present  Economic Reform for the Future  Projections of the Future  Concluding Remarks 2
  3. 3. Introduction  The Chinese economy has been growing without any interruption at an average annual real rate of almost 10 percent since 1978, even though it has slowed down to an average rate of growth of around 6.5 percent in more recent years. Chinese GDP grew from US$358 billion in 1978 to US$13.1 trillion in 2018 (in 2018 prices and exchange rate), almost 37 times, to become the second largest economy in the world, with almost two-thirds of the GDP of the largest economy, the United States.  Chinese real GDP per capita grew from US$372, approximately equal to the United Nations minimum subsistence level of US$1 a day, in 1978 to US$9,415 in 2018 (in 2018 prices), at an average annual rate of over 8 percent, without any interruption, achieving a more than 25-fold increase. Even then, China as a country still only ranked below seventieth in terms of real GDP per capita in the world. And its real GDP per capita was still only 15% of the U.S. real GDP per capita of US$62,609 in 2018. 3
  4. 4. Chinese Real GDP and Its Annual Rate of Growth (trillion 2018 US$ and %) -28 -24 -20 -16 -12 -8 -4 0 4 8 12 16 20 24 28 -14 -12 -10 -8 -6 -4 -2 0 2 4 6 8 10 12 14 1949 1951 1953 1955 1957 1959 1961 1963 1965 1967 1969 1971 1973 1975 1977 1979 1981 1983 1985 1987 1989 1991 1993 1995 1997 1999 2001 2003 2005 2007 2009 2011 2013 2015 2017 Percent US$trillions,2018prices Rate of Growth of Chinese Real GDP, % (right scale) Chinese Real GDP (trillion 2018 US$) 4
  5. 5. Chinese Real GDP per Capita and Its Annual Rate of Growth (thousand 2018 US$ and %) -28 -24 -20 -16 -12 -8 -4 0 4 8 12 16 20 -14 -12 -10 -8 -6 -4 -2 0 2 4 6 8 10 1949 1951 1953 1955 1957 1959 1961 1963 1965 1967 1969 1971 1973 1975 1977 1979 1981 1983 1985 1987 1989 1991 1993 1995 1997 1999 2001 2003 2005 2007 2009 2011 2013 2015 2017 Percent US$thousands,2018prices Rate of Growth of Chinese Real GDP per Capita, % (right scale) Chinese Real GDP per Capita (thousand 2018 US$) 5
  6. 6. Economic Reform and Opening in the Past  From 1953 to 1978, China was a completely centrally planned economy with mandatory sector-, industry-, enterprise-, village- and farm-household-specific production targets, and was essentially closed to the rest of the world, except for the former Soviet Union and the Eastern European socialist countries before the Sino-Soviet dispute around 1960.  The economic reform in China which began in 1978 consisted of two major components—the introduction of free markets for goods in the Chinese economy (coupled with conditional autonomy for the producers, including the agricultural households) and the opening of the Chinese economy to international trade and inbound cross-border direct investment.6
  7. 7. Economic Reform and Opening in the Past  It is well known that there can be significant inefficiencies in centrally planned economies, with the economy operating well within the interior of its set of production possibilities—that is, far away from the frontier. As economic reform and opening proceeded successfully in China, the economy became progressively more efficient, and the point of operation of the economy began to move from the interior of the set of production possibilities to its frontier. During this process, the real output of the economy could be increased through increased efficiency alone without any increase in its inputs.  Thus, with the introduction of enterprise and household autonomy, output could increase much faster than inputs. How much slack was actually there in the Chinese economy before its economic reform in 1978? Lau and Zheng (2017) have estimated that the real output of the Chinese economy as a whole in 1978 could have been 50 percent higher if it were operating efficiently. 7
  8. 8. Movement of the Production Possibilities Frontier versus Movement to the Frontier 8
  9. 9. Economic Reform and Opening in the Past  It was in Xiaogang Village, Anhui Province, that the “household contract responsibility system” in the Chinese agricultural sector was first introduced, spontaneously, in December 1978, setting in motion the agricultural economic reform in Anhui Province initially and then in the rest of China.  The contract responsibility system basically divided up the responsibility of the commune to deliver fixed quantities of agricultural output and pay fixed amounts of taxes to the government among the individual households of the commune. As long as an individual household had delivered its quota of output and paid its share of taxes, it could produce whatever it wanted to produce, and sell any such additional output on the free markets, and retain all the proceeds for itself.  The commune itself, which no longer had any production responsibilities, began to organise other productive activities, forming what were known as “Township and Village (T&V)” enterprises, producing whatever goods that were needed with resources available to the commune, and selling the outputs on the free markets. 9
  10. 10. Economic Reform and Opening in the Past  Under the “contract responsibility system”, the commune’s obligation to sell a fixed quantity of output at a fixed plan price and to pay a fixed amount of taxes to the government remained unchanged, so that the government was no worse off.  The commune administration was also no worse off as individual households continued to be responsible for the deliveries of their allotted quotas of output deliveries and the payments of their pro- rata shares of the taxes to the commune.  The households of the commune were also no worse off because after they fulfilled their same pre-existing obligations, they could do anything else they wanted to do and retain any income they managed to earn. They could also do nothing extra, but they would not be worse off. It was therefore a “reform without losers”, one that no one should or would oppose. 10
  11. 11. Economic Reform and Opening in the Past  The contract responsibility system was subsequently extended to the urban non-agricultural sector in a gradual manner beginning in the early 1980s, province by province. Shanghai was the last to implement the contract responsibility system in the non-agricultural sector, in 1992.  Throughout this early reform period, the mandatory central plan continued to be enforced. The autonomy of the producers was conditional on first fulfilling their responsibilities under the mandatory central plan.  Typically a non-agricultural enterprise would continue to receive its allotted inputs under the central plan at fixed plan prices and would continue to sell the assigned quota of outputs to the planned recipients, also at fixed plan prices. However, after fulfilling these obligations, the enterprise would be free to produce whatever it wanted to produce and bear any profit or loss therefrom. 11
  12. 12. Economic Reform and Opening: Transition from a Centrally Planned to a Market Economy  This is referred to as the “dual-track” approach, that is, with the mandatory central plan continuing in force and the establishment of free markets coupled with producer autonomy in parallel. China did not adopt the ‘“big bang’” approach in its transition from a centrally planned economy to a market economy.  Under the dual-track approach, every individual, collective and enterprise is free to participate in the free markets provided that it has fulfilled all its obligations under the mandatory central plan.  One of the most important consequences of the “dual-track” approach is that no losers are created by the introduction of the free markets and producer autonomy, since everyone’s rights (and obligations) under the mandatory central plan continue to be enforced. 12
  13. 13. Economic Reform and Opening: Transition from a Centrally Planned to a Market Economy  In fact, a distinguishing characteristic of Chinese economic reform is its emphasis on assuring that there are no losers. Indeed, “reform without losers” was what made Chinese economic reform so successful and the economic transition so smooth. It maximised public support and minimised opposition.  In carrying out economic reform, China also frequently applied the “grandfathering principle”, that is, the principle of “new people, new way; old (existing) people, old way (新人新辦法, 舊人舊辦法)”. 13
  14. 14. Economic Reform and Opening: Transition from a Centrally Planned to a Market Economy  Moreover, as Lau, Qian and Roland (2000) have shown, the “dual-track” approach, with full enforcement of the pre-existing mandatory central plan, also results in full economic efficiency of the economy.  As a result, China underwent a very smooth transition to a market economy, without experiencing any decline in GDP in either aggregate or per capita terms or hyper-inflation, as almost all of the former Soviet Union and formerly socialist Eastern European countries did.  Eventually the value of the economic activities outside the mandatory central plan grew to be much bigger than those within the plan. The plan was then gradually phased out and became merely indicative and no longer mandatory (with the exception of environmental and poverty alleviation targets). 14
  15. 15. Economic Reform and Opening in the Past  Another major new economic initiative adopted by the Chinese Government in 1978 was opening the economy to both international trade and inbound cross-border investment. Machinery, equipment and raw materials which could not be produced in China at the time would be imported. In order to have the foreign exchange to pay for these imports, China would have to promote exports as well as inbound cross-border direct investment.  Opening the economy to international trade always increases aggregate welfare of the economy, as the following chart illustrates. (However, even though the economy benefits in the aggregate, both winners and losers are created in the process.)15
  16. 16. Opening the Economy Enhances Domestic Economic Welfare 16
  17. 17. Economic Reform and Opening in the Past  The international trade embargo against China that began with the Korean War was continued even after the fighting ended with an armistice in 1953. There was little international trade between China and the rest of the world, with the exception of the essentially barter trade between China and the former Soviet Union and the formerly socialist Eastern European countries, which dwindled beginning in the 1960s because of the then Sino- Soviet dispute.  However, with the secret visit of U.S. Secretary of State Henry Kissinger to China in July 1971, and the subsequent visit of U.S. President Richard Nixon in February 1972, international trade between China and the U.S. and other Western countries began to17
  18. 18. Economic Reform and Opening in the Past: Export Promotion  The promotion of exports and the attraction of cross-border direct investment required the setting of an internationally competitive exchange rate for the Renminbi, the Chinese currency. From the early 1950s to late 1971, the Renminbi exchange rate stood at a constant 2.46 Yuan per US$ (see the following chart).  During the period 1971-1978, the Renminbi exchange rate actually appreciated, reaching its highest level vis-a-vis the US$ of 1.46 Yuan in 1980, partially driven by capital inflows. Then China began to undertake a series of explicit or implicit devaluations of the Renminbi, which reached 8.7 Yuan per US$ at the beginning of 1994, when China unified its multiple exchange rates and adopted current-account convertibility.  The Renminbi then appreciated slightly to 8.3 Yuan per US$ until the East Asian currency crisis of 1997-1998, during which the Renminbi exchange rate held steady and remained unchanged with respect to the US$ even as all of the other East Asian currencies with the exception of the Hong Kong Dollar and the Japanese Yen underwent significant devaluations. 18
  19. 19. Economic Reform and Opening in the Past: Export Promotion  Then beginning in mid-2005, because of China’s large and growing current account surplus, the Renminbi began to appreciate significantly. However, this appreciation came to a halt in late 2008 because of the global financial crisis triggered by the collapse of Lehman Brothers in the United States and did not resume until 2010. Since then, the Renminbi exchange rate has fluctuated within a relatively narrow band between 6 and 7 Yuan per US$.  The Renminbi no longer follows the US$ but appears to be following the value of a trade-weighted basket of the currencies of its major trading-partner countries, in effect, keeping its exchange rate approximately constant vis-a-vis the average trading-partner country, and maintaining the average purchasing- power of the Renminbi abroad. 19
  20. 20. Nominal Exchange Rate of the Renminbi Since 1957, Yuan/US$, End of Month 1 2 3 4 5 6 7 8 9 Jan-57 Jan-58 Jan-59 Jan-60 Jan-61 Jan-62 Jan-63 Jan-64 Jan-65 Jan-66 Jan-67 Jan-68 Jan-69 Jan-70 Jan-71 Jan-72 Jan-73 Jan-74 Jan-75 Jan-76 Jan-77 Jan-78 Jan-79 Jan-80 Jan-81 Jan-82 Jan-83 Jan-84 Jan-85 Jan-86 Jan-87 Jan-88 Jan-89 Jan-90 Jan-91 Jan-92 Jan-93 Jan-94 Jan-95 Jan-96 Jan-97 Jan-98 Jan-99 Jan-00 Jan-01 Jan-02 Jan-03 Jan-04 Jan-05 Jan-06 Jan-07 Jan-08 Jan-09 Jan-10 Jan-11 Jan-12 Jan-13 Jan-14 Jan-15 Jan-16 Jan-17 Jan-18 Jan-19 20
  21. 21. The RMB Central Parity Exchange Rate and the CFETS Index, 29/12/2017 to the Present 95 96 97 98 99 100 101 102 103 104 105 106 107 108 29-Dec-17 12-Jan-18 26-Jan-18 09-Feb-18 23-Feb-18 09-Mar-18 23-Mar-18 06-Apr-18 20-Apr-18 04-May-18 18-May-18 01-Jun-18 15-Jun-18 29-Jun-18 13-Jul-18 27-Jul-18 10-Aug-18 24-Aug-18 07-Sep-18 21-Sep-18 05-Oct-18 19-Oct-18 02-Nov-18 16-Nov-18 30-Nov-18 14-Dec-18 28-Dec-18 11-Jan-19 25-Jan-19 08-Feb-19 22-Feb-19 08-Mar-19 22-Mar-19 05-Apr-19 19-Apr-19 03-May-19 17-May-19 31-May-19 14-Jun-19 The Central Parity Rate and the CFETS Index, 29 Dec. 2017 = 100 Index of CFETS Currency Basket (Yuan/Currency Basket) Index of Central Parity Rate (Yuan/US$) 21
  22. 22. Economic Reform and Opening in the Past: Export Promotion  In addition to setting a competitive exchange rate and making the Renminbi current-account convertible, China also applied to join the World Trade Organisation (WTO) as part of its export promotion strategy. It finally acceded to the WTO in 2001, after prolonged negotiations with the U.S. and other countries.  The growth of Chinese international trade since 1978, and especially after its accession to the WTO in 2001, was in great contrast to what happened in the pre- reform period (see the following chart). Since 1978, Chinese international trade grew almost every year until very recently, except in 1982, 1998 (the East Asian currency crisis), and 2009 (the global financial crisis). In particular, it grew by leaps and bounds since its accession to the WTO in 2001. China has become the second largest trading nation in goods and services combined in the world, just after the U.S. and the largest trading nation in terms of goods only.  The rate of growth of Chinese international trade has slowed down significantly in the past few years and a tariff war has broken out between China and the U.S. in 2018 and has yet to be ended. 22
  23. 23. Chinese International Trade in Goods and Its Annual Rate of Growth (US$ trillion and %) -25 -15 -5 5 15 25 35 45 55 65 75 85 -1.5 -1.0 -0.5 0.0 0.5 1.0 1.5 2.0 2.5 3.0 3.5 4.0 4.5 5.0 1950 1952 1954 1956 1958 1960 1962 1964 1966 1968 1970 1972 1974 1976 1978 1980 1982 1984 1986 1988 1990 1992 1994 1996 1998 2000 2002 2004 2006 2008 2010 2012 2014 2016 2018 US$trillions Rate of Growth of Chinese International Trade in Goods, % (right scale) Chinese International Trade in Goods (trillion US$) Percent 23
  24. 24. Economic Reform and Opening: The Relative Insulation of the Chinese Economy  China, as a large continental economy with a huge domestic market, has a relatively low degree of export dependence, and has always been relatively immune to external disturbances.  During the past four decades, while the rates of growth of Chinese exports and imports of goods have fluctuated like those of all other economies, the rate of growth of Chinese real GDP has remained relatively stable, and in fact has always stayed positive (see the following charts which display the quarterly rates of growth of exports, imports and real GDP of selected Asian economies from 1997 to the present, with China being represented by the red line). 24
  25. 25. 25 Quarterly Rates of Growth of Exports of Goods: Selected Asian Economies since 1997 25
  26. 26. 26 Quarterly Rates of Growth of Imports of Goods: Selected Asian Economies since 1997 26
  27. 27. 27 Quarterly Rates of Growth of Real GDP, Y-o- Y: Selected Asian Economies since 1997 27
  28. 28. Economic Reform and Opening in the Past  Moreover, over the past ten years, Chinese dependence on exports has been declining. The share of exports of goods in Chinese GDP has fallen from a peak of 35.3% in 2006 to 19.5% in 2018. The share of exports of goods to the U.S. in Chinese GDP has also fallen by half, from a peak of 7.2% in 2006 to 3.6% in 2018. (See the following charts.)  During this same period, the growth of Chinese exports to the world and to the U.S. has also slowed significantly. Chinese exports to the world grew at an average annual rate of 23.5% in the decade 1998-2007, but slowed to only 5.9% in the following decade, 2008-2018. Similarly, exports to the U.S. grew at 23.7% per annum in the decade 1998-2008, but slowed to less than 6.6% per annum in the most recent decade. Exports is no longer the engine of Chinese economic growth. 28
  29. 29. Chinese Exports of Goods and Services and Goods Only as a Percent of Chinese GDP 0 5 10 15 20 25 30 35 40 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 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018 Percent Exports of Goods and Services as a Percentage of GDP Exports of Goods Only to the World as a Percentage of GDP 29
  30. 30. Chinese Exports of Goods and Services and Goods to the U.S. as Percent of Chinese GDP 3 3.5 4 4.5 5 5.5 6 6.5 7 7.5 8 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018 Percent Exports of Goods Exports of Goods and Services 30
  31. 31. Economic Reform and Opening in the Past  Other reforms, such as the introduction of a value-added taxation system, the establishment of a commercial banking system, and the introduction of a stock market, were also initiated and implemented during this period. 31
  32. 32. Economic Reform and Opening in the Past: Crossing the River by Feeling the Stones  However, it would be wrong to think that there was an overall comprehensive blueprint for Chinese economic reform from the very beginning. As Mr. Deng Xiaoping, the late Chinese paramount leader, famously said, the process of Chinese economic reform was like “crossing the river by feeling the stones underneath (摸着石头过河)”. There was a great deal of uncertainty as to the right path. It was also not at all clear what would be found on the other side of the river. What was clear was that staying on the then existing side was not a viable option.  In Chinese economic reform, trial and error was the norm—there were many pilot experiments; pragmatism was the guide; and adaptability would be widely practiced. 32
  33. 33. Economic Reform at Present  The Chinese economy today faced a number of important challenges.  First, there is excess production capacity in almost every major traditional industry—steel, cement, plate glass, ship-building, solar panels, you name it, and excess residential housing units in almost every city with the possible exception of the three or four first-tier cities. There must be supply-side structural reform to reduce the excess capacity and to re-train and re-employ the affected workers.  Second, the forty years of rapid economic development has resulted in serious environmental degradation in the quality of air, soil and water.  Third, income disparity has increased dramatically. China today has reportedly the highest number of known US$ billionaires in the world, more than 600.  Fourth, the working-age population has begun to decline and the Chinese population has begun to age.  All of these are in addition to the on-going anti-corruption campaign, which is critical for letting the market play the decisive role. 33
  34. 34. Economic Reform at Present  The excess production capacities in the different industries are being gradually reduced.  The “one-child” policy has been replaced by a “two-child” policy a few years ago. In the long run it is probably best to aim at a net reproduction rate of one, that is, on average, each couple will have two children. This will result in a more or less constant level of population in steady state. However, in order to achieve a net reproduction rate of one, it will be necessary to have a “more than two child” policy. One possibility is to abolish restrictions on the number of children altogether. It is rare for any couple to want three or more children these days, especially in the cities. 34
  35. 35. Economic Reform at Present: Increase Energy Efficiency and Reduce Pollution  One measure of energy efficiency is the energy used per unit real GDP. In the following chart we compare the energy/GDP ratio of China, Japan and the United States in terms of million joules per unit real GDP in 2010 U.S. Dollars. (The Joule is a unit of energy and is equal to the more familiar 0.000948 BTU (British Thermal Unit)). It is clear that China has been improving its energy efficiency over time, which implies that overall carbon emission per unit real GDP is being reduced. However, it still has significant room to improve.  Another measure of the quality of economic growth is the quantity of PM 2.5 particles in the air. Here we can also see from the data on Beijing the gradual improvement. As the quality of air has become a mandatory key performance indicator in the Thirteenth Five-Year Plan, it will likely continue to improve over time. 35
  36. 36. Final Energy Consumption/GDP Ratio for China, Japan and the U.S. (Million Joules/2010 US$) 0 5 10 15 20 25 30 35 MJ/USDin2010prices Final Energy Consumption / GDP Ratio for the U.S., Japan and China (MJ/ constant 2010 US$) China Japan United States 36
  37. 37. The Incidence of PM2.5 in Beijing: Daily Data from 2013M2 to 2018M11 0 50 100 150 200 250 300 350 400 450 500 2013/12/2 2014/1/1 2014/1/31 2014/3/2 2014/4/1 2014/5/1 2014/5/31 2014/6/30 2014/7/30 2014/8/29 2014/9/28 2014/10/28 2014/11/27 2014/12/27 2015/1/26 2015/2/25 2015/3/27 2015/4/26 2015/5/26 2015/6/25 2015/7/25 2015/8/24 2015/9/23 2015/10/23 2015/11/22 2015/12/22 2016/1/21 2016/2/20 2016/3/21 2016/4/20 2016/5/20 2016/6/19 2016/7/19 2016/8/18 2016/9/17 2016/10/17 2016/11/16 2016/12/16 2017/1/15 2017/2/14 2017/3/16 2017/4/15 2017/5/15 2017/6/14 2017/7/14 2017/8/13 2017/9/12 2017/10/12 2017/11/11 2017/12/11 2018/1/10 2018/2/9 2018/3/11 2018/4/10 2018/5/10 2018/6/9 2018/7/9 2018/8/8 2018/9/7 2018/10/7 2018/11/6 The Incidence of PM2.5 in Beijing 37
  38. 38. Economic Reform at Present: Share Prosperity  The poverty headcount rate of China has been declining continuously since the economic reform began in 1978. According to the 2010 standard of poverty, over 95% of the Chinese population was below the poverty line in 1978. Today that share would be below 5%. It is expected that by 2020, poverty according to the 2010 standard will have been completely eradicated. 38
  39. 39. Poverty Headcount Rate of China, 1978- present 0 10 20 30 40 50 60 70 80 90 100 Percent Poverty Headcount Rate of China, 1978-present 1978 Standard 2008 Standard 2010 Standard 39
  40. 40. Economic Reform for the Future  There are three major directions:  Continuing to strengthen the role of the market in the allocation of resources;  Enhancing the quality of growth and de-emphasizing the quantity of growth;  Opening the economy further to international trade and cross- border direct and portfolio investment, both inbound and outbound. This is especially important because China cannot afford to become isolated in the world, given the ongoing trade war and economic and technological competition with the U.S. 40
  41. 41. Economic Reform for the Future: Letting the Market Play the Decisive Role  Implementation of the “rule of law”.  Improving the social safety net.  Reform of the income taxation system.  Reform of the pension system. 41
  42. 42. Letting the Market Play the Decisive Role: The Goods and Services Market  The efficiency of the market system depends on both free entry and effective competition. Free entry requires openness and effective competition requires a level playing field for all enterprises. It is the responsibility of the government to ensure that there is sufficient effective competition in every market. This means the enforcement of anti-monopoly and anti-unfair competition laws, which are already on the Chinese law books. Local protectionism should be actively forbidden. A level playing field can be achieved by the elimination of subsidies and implementing national treatment for all enterprises. 42
  43. 43. Letting the Market Play the Decisive Role: The Goods and Services Market  It is also possible for the government to be more pro-active in creating the appropriate infrastructure. A concrete example is the national oil and gas pipeline system that China is in the process of creating out of the existing pipelines of the three major Chinese oil companies--China National Petroleum Corporation (CNPC), China Petroleum and Chemical Corporation (Sinopec), and China National Offshore Oil Corporation (CNOOC)--that will serve all users on an equal basis. While the pipeline network itself will be a monopoly, and will have to be regulated as a public utility, its creation should minimise wasteful duplications and lower transportation and transaction costs to all users, thereby greatly reducing the costs of entry into the oil and gas industry by both upstream and downstream firms.  For example, an independent shale-oil explorer and producer can sell its oil to any refinery or any petrochemical processing plant in the country through the pipeline network. Thus, exploration, production, refining, petrochemical manufacturing and distribution can all become more competitive and many smaller enterprises can enter the oil and gas industry. 43
  44. 44. Letting the Market Play the Decisive Role: The Goods and Services Market  The same effects are also true of the national electricity grid and of a network of wireless communication base stations (for example, for 5G). In a broader sense, a national network of public highways also serves the same purpose of facilitating market competition and reducing local monopoly power.  National standardization and quality assurance and certification will also enhance competition in the goods and services markets. 44
  45. 45. Letting the Market Play the Decisive Role: The Capital Market  Increase equity financing to replace debt financing and thus reduce the overall leverage in the economy.  Mandate cash dividends for profitable state-owned enterprises to encourage investors to hold equity long-term. This should also decrease corporate leverage, improve governance, decrease wasteful investment, enhance government revenue as a major shareholder, reduce volatility of the stock market and provide automatic market support for the stocks. This should also put pressure on privately-owned enterprises to pay cash dividends to their shareholders. The payment of cash dividends will also make it very difficult to falsify accounts credibly.  This should also provide Chinese households reliable and safe investment instruments. 45
  46. 46. Economic Reform for the Future: Enhancing the Quality of Growth  Survival is no longer a problem for the Chinese people. By 2020, absolute poverty according to current standards would have been completely eliminated. Altogether an estimated 740 million Chinese people have been lifted out of poverty since 1978.  The focus is on the preservation, protection and restoration of the environment, on blue sky, green mountains and clear waters, and other public goods such as education, health care and elderly care.  Chinese people are also taking much more leisure—the average number of work hours has been declining continuously and life expectancy has increased significantly. Conventionally measured GDP cannot reflect these improvements in welfare.46
  47. 47. Economic Reform for the Future: Opening the Economy Further  Reduction of tariff and non-tariff barriers to international trade in goods and services.  Facilitation of cross-border direct and portfolio investment, both inbound and outbound.  Further and fuller opening-up is also about the introduction and adoption of new institutions, new processes, new systems and new ways of doing things in China.  “The Three Zeros Strategy: zero tariffs, zero barriers and zero subsidies”.  Internationalisation of the Renminbi by maintaining a stable exchange rate on average. 47
  48. 48. Facilitation of Cross-Border Direct Investment, Both Inbound and Outbound  A new foreign investment law has been passed by the Chinese National People’s Congress. Market access by foreign direct investors will be considerably improved, with a substantially shortened “negative” list, the elimination of the requirement of a fifty-fifty Chinese joint-venture partner, and national treatment for all enterprises irrespective of ownership in the open sectors. 48
  49. 49. Is “Reform without Losers” Still Possible?  In 1978, China was extremely poor, and there were no significant vested interests. In any case, the vested interests were adequately protected, for example, by the dual-track system.  Today, there are many significant vested interests and reform without losers has become much more difficult, if not impossible. China is not unlike the developed economies, in which economic globalisation and innovation create both winners and losers. The free market on its own cannot compensate the losers.  Chronically uncompensated losers will eventually turn against the establishment in frustration and anger. This is what has happened in the U.S. and in Western Europe (the U.K., France, Germany, Italy, etc.).  In China, income disparity has also increased significantly. However, most Chinese people still remember how bad things were in 1978, and realise how much improvement there has been. But in another decade or two, another generation with no memory of the hard times may decide to vent their anger and frustration more openly. 49
  50. 50. Projections of the Future  It is assumed that the Chinese economy will continue to grow above 6% per annum for a few more years, declining gradually to between 5% and 6%, and that the U.S. economy will grow at an average rate of 3% per annum between now and 2050.  In 2018, the Chinese economy grew 6.6%. The 2019 target growth rate for the Chinese economy is between 6% and 6.5%. In 2019Q1, the Chinese economy grew 6.4%, despite the China-U.S. trade war. The target rate of growth of the Chinese economy for 2019 is a range between 6.0 and 6.5%, indicating the confidence and resolve to achieve at least 6%.  In 2018, the U.S. economy grew at 2.9%. But both the U.S. Federal Reserve Board and the U.S. Congressional Budget Office expect 2.3% growth for 2019. 3% per annum has been the long-run rate of growth of the U.S. economy.  It may be thought that the Chinese economy will be unable to sustain an average annual rate of growth of between 5% and 6% for such a long time. Experience shows that the rate of growth of an economy declines as its real GDP per capita rises. But given the still relatively low level of real GDP per capita in China, and the low level of its capital per unit labour, such a rate of growth should still be possible for at least a couple of decades (see the following chart in which the experiences of China, Japan and the U.S. are compared.) 50
  51. 51. Growth Rate vs. Level of Real GDP per Capita (2017 tril. US$): China, Japan and the U.S. -30 -20 -10 0 10 20 30 0 10 20 30 40 50 60 Percent Real GDP per Capita, thousand USD, in 2017 prices Rate of Growth of Real GDP vs. Real GDP per Capita (in 2017 US Dollars) China USA Japan 51
  52. 52. Projections of the Future  The Chinese national savings rate is very high, which enables a very high investment rate. The tangible capital stock of China will therefore continue to grow rapidly. The capital-labour ratio of the Chinese economy is still very low compared to both the U.S. and Japan. There is a great deal of room for it to rise and to raise the productivity of labour.  In addition, there is still significant surplus labour in the Chinese economy. The share of employment in the primary sector is just below 30% whereas the share of GDP originating from the primary sector is below 10%.  The Chinese manpower problem can be alleviated by increasing the mandatory retirement ages from their current 55 for women and 60 for men.  China has significantly increased its investment in human capital and Research and Development. It already has the largest number of internet users in the world. Moreover, it still has significant room to grow. 52
  53. 53. Chinese National Saving and Gross Domestic Investment as Percents of GDP 10 15 20 25 30 35 40 45 50 55 1952 1953 1954 1955 1956 1957 1958 1959 1960 1961 1962 1963 1964 1965 1966 1967 1968 1969 1970 1971 1972 1973 1974 1975 1976 1977 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 2008 2009 2010 2011 2012 2013 2014 2015 Percent Chinese National Savings and Gross Domestic Investment as a Percent of GDP since 1952 Savings Rate Investment Rate 53
  54. 54. Comparison of National Savings Rates: China, Japan and the U.S. 10 15 20 25 30 35 40 45 50 55 Percent The United States China Japan 54
  55. 55. Comparison of Capital-Labour Ratios: China, Japan and the U.S. 0 20,000 40,000 60,000 80,000 100,000 120,000 140,000 160,000 180,000 200,000 1947 1949 1951 1953 1955 1957 1959 1961 1963 1965 1967 1969 1971 1973 1975 1977 1979 1981 1983 1985 1987 1989 1991 1993 1995 1997 1999 2001 2003 2005 2007 2009 2011 2013 2015 US$,in2016prices The United States China Japan 55
  56. 56. The Distribution of Chinese GDP by Sector Since 1952 0% 10% 20% 30% 40% 50% 60% 70% 80% 90% 100% 1952 1953 1954 1955 1956 1957 1958 1959 1960 1961 1962 1963 1964 1965 1966 1967 1968 1969 1970 1971 1972 1973 1974 1975 1976 1977 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 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 The Distribution of Chinese GDP by Originating Sector Since 1952 Primary Sector Secondary Sector Tertiary Sector 56
  57. 57. The Distribution of Chinese Employment by Sector Since 1952 0% 10% 20% 30% 40% 50% 60% 70% 80% 90% 100% 1952 1953 1954 1955 1956 1957 1958 1959 1960 1961 1962 1963 1964 1965 1966 1967 1968 1969 1970 1971 1972 1973 1974 1975 1976 1977 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 2008 2009 2010 2011 2012 2013 2014 2015 2016 The Distribution of Employment by Sector since 1952 Primary Sector Secondary Sector Tertiary Sector 57
  58. 58. Scatter Diagram between the Shares of Employment and GDP of the Primary Sector 0 10 20 30 40 50 60 70 80 90 0 5 10 15 20 25 30 35 40 45 50 55 ThePercentageofthePrimarySectorinNationalEmployment The Percentage of the Primary Sector in GDP China Taiwan, China South Korea Japan 58
  59. 59. The Number of Internet Users in Selected Economies 0 50 100 150 200 250 300 350 400 450 500 550 600 650 700 1990 1991 1992 1993 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 millionpersons The Number of Internet Users in Selected Economies, million persons China United States Japan India Germany Korea, Rep. Taiwan 59
  60. 60. The Number of Internet Users as a Percent of the Population in Selected Economies 0 10 20 30 40 50 60 70 80 90 100 1990 1991 1992 1993 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 Percent The Number of Internet Users as a Percent of the Population in Selected Economies China United States Japan India Germany Korea, Rep. Taiwan 60
  61. 61. Projections of the Chinese and the U.S. Economies  In his work report to the Nineteenth National Congress of the Communist Party of China, President XI Jinping identified several Chinese development milestones at 2020, 2035 and 2050.  The first milestone is to become a moderately well-off society by 2020. Our projections show that by 2020, Chinese real GDP per capita (in 2018 prices) will exceed US$10,582 (compared to US$65,541 for the U.S.).  Our projections also show that by 2033, Chinese real GDP will surpass U.S. real GDP (US$32.7 trillion versus US$31.9 trillion), making China the largest economy in the world. However, in terms of real GDP per capita, China will still lag behind significantly, with US$22,088 compared to US$89,363 for the U.S.  By 2050, Chinese real GDP will reach US$83 trillion compared to US$53 trillion for the U.S. In terms of real GDP per capita, China will reach US$53,408, still below the current (2018) level of U.S real GDP per capita of US$62,609, compared to US$138,693 for the U.S.  It will not be until the end of the 21st Century for the Chinese real GDP per capita to catch up with the U.S. real GDP per capita. 61
  62. 62. Actual and Projected Levels and Growth Rates of Chinese and U.S. Real GDP (2018 tril. US$) -3 0 3 6 9 12 15 18 21 24 -5 0 5 10 15 20 25 30 35 40 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 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018 2019 2020 2021 2022 2023 2024 2025 2026 2027 2028 2029 2030 2031 2032 2033 2034 2035 Percent USDtrillions,2018prices Actual and Projected Chinese and U.S. Real GDPs and Their Rates of Growth (trillion 2018 US$) Rates of Growth of U.S. Real GDP (right scale) Rates of Growth of Chinese Real GDP (right scale) U.S. Real GDP, in 2018 prices Chinese Real GDP, in 2018 prices 62
  63. 63. Actual and Projected Chinese and U.S. Real GDP/Capita and Their Annual Rates of Growth (1,000 2018 US$ & %) -4 -2 0 2 4 6 8 10 12 14 16 -25 -20 -15 -10 -5 0 5 10 15 20 25 30 35 40 45 50 55 60 65 70 75 80 85 90 95 100 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 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018 2019 2020 2021 2022 2023 2024 2025 2026 2027 2028 2029 2030 2031 2032 2033 2034 2035 percent USDthousand,2018prices Actual and Projected Chinese and U.S. Real GDP per Capita and Their Rates of Growth (thousand, 2018 US$) Rates of Growth of U.S. Real GDP per capita (right scale) Rates of Growth of Chinese Real GDP per Capita (right scale) U.S. Real GDP per Capita, in 2018 prices Chinese Real GDP per capita, in 2018 prices 63
  64. 64. Actual and Projected Levels and Growth Rates of Chinese and U.S. Real GDP (2018 tril. US$) -3 0 3 6 9 12 15 18 -20 -10 0 10 20 30 40 50 60 70 80 90 100 110 120 1978 1980 1982 1984 1986 1988 1990 1992 1994 1996 1998 2000 2002 2004 2006 2008 2010 2012 2014 2016 2018 2020 2022 2024 2026 2028 2030 2032 2034 2036 2038 2040 2042 2044 2046 2048 2050 Percent USDtrillions,2018prices Actual and Projected Chinese and U.S. Real GDPs and Their Rates of Growth (trillion 2018 US$) Rates of Growth of U.S. Real GDP (right scale) Rates of Growth of Chinese Real GDP (right scale) U.S. Real GDP, in 2018 prices Chinese Real GDP, in 2018 prices 64
  65. 65. Actual and Projected Chinese and U.S. Real GDP/ Capita and Their Rates of Growth (1,000 2018 US$) -4 -2 0 2 4 6 8 10 12 14 16 -40 -20 0 20 40 60 80 100 120 140 160 1978 1980 1982 1984 1986 1988 1990 1992 1994 1996 1998 2000 2002 2004 2006 2008 2010 2012 2014 2016 2018 2020 2022 2024 2026 2028 2030 2032 2034 2036 2038 2040 2042 2044 2046 2048 2050 percent USDthousand,2018prices Actual and Projected Chinese and U.S. Real GDP per Capita and Their Rates of Growth (thousand, 2018 US$) Rates of Growth of U.S. Real GDP per capita (right scale) Rates of Growth of Chinese Real GDP per Capita (right scale) U.S. Real GDP per Capita, in 2018 prices Chinese Real GDP per capita, in 2018 prices 65
  66. 66. Projections of the Future: Technological Competition with the U.S.  Technological competition with the U.S. is motivated by national security considerations as well as commercial considerations.  No individual or firm will want to give away or sell its core competence. In old China, masters typically do not teach their apprentices everything, unless they are male lineal descendants. It should therefore not be surprising that nations will protect their core competences.  In the case of the atomic bomb—the former Soviet Union developed it independently; China developed it independently, without any foreign assistance; the U.K., France, India, Pakistan and even North Korea developed their nuclear bombs independently. 66
  67. 67. Projections of the Future: Technological Competition with the U.S.  China will have to continue to develop its own advanced semiconductor, artificial intelligence, and aircraft industries as it may not be able to import the best available from other countries.  The U.S. restrictions on U.S. enterprises in their trade with Huawei is a Sputnik moment for China, just as the successful launch of the Sputnik satellite by the former Soviet Union in 1957 spurred scientific and technological developments in the U.S. which finally won the race of putting the first man on the moon. China will have to accelerate its indigenous R&D. 67
  68. 68. Concluding Remarks  China will continue in its efforts to further its economic reform and open its economy. It should be win-win for both China and the world.  Based on its economic fundamentals, the Chinese economy should be able to achieve a real rate of growth of at least 6% in 2019 even though the level of its exports may decline. In the long run, it should be able to continue to grow at between 5% and 6% per annum for at least a couple of decades.  The competition between China and the U.S. for economic and technological dominance, whether friendly or unfriendly, can be assumed to be an ongoing and long-term one. It is the “new normal”. The trade dispute is only a symptom of the potential possible conflicts between the two countries.  However, this competition/rivalry is not existential, unlike the rivalry between the former Soviet Union and the U.S. China has no intention of promoting its political and social system in other countries as the former Soviet Union did. 68
  69. 69. Concluding Remarks  It is likely that the China-U.S. trade negotiations will be stretched out, perhaps with an interim “understanding”, and that the U.S. tariffs on the remaining approximately half of Chinese exports of goods to the U.S. (US$290 billion in 2018 according to U.S. data) will be put on hold. I believe a complete rupture of the China-U.S. relation is unlikely as the U.S. still needs Chinese cooperation on such issues as North Korean denuclearization and large U.S. corporations still have significant interests in the large and growing Chinese market. China also needs the U.S. to supply critical semi-conductors and semi-conductor manufacturing equipment.  To reduce the probability of an armed conflict between China and the U.S. down the road, China-U.S. relations must be carefully managed going forward. Both countries should promote greater mutual economic interdependence, to make their relations win-win, so that a war between them would be unthinkable, just as another war between France and Germany, which fought three wars between them, in 1870, 1914 and 1939, is not possible today. 69

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