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Friday, Aug 27, 2004

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How China keeps defying the doomsayers

K. Subramanian

SIGNS of extraordinary growth dazzle tourists, especially Indians, visiting China. They are stupefied when their buses move smoothly on interminable highways, criss-crossed by winding flyovers. There are many, perhaps too many, modern airports in the interior, even in seemingly remote locations. High-rise structures, apartment complexes and rows of bungalows leap into sight as the bus rushes past towns and villages. At night, ornate neon signs glitter like newly cut diamonds. There are universities, libraries and research centres dot the landscape. Is this a backlash of the years of Cultural Revolution when any thinking outside the Red Book was frowned upon. Places of historical importance, then the objects of ridicule or destruction even, have been renovated and turned into centres of tourist interest. The guide narrates their story without any ideological hang-up.

Indeed, for an Indian, a visit to China is cathartic and Chinese achievements are a puzzle. What astonishes him is that all these were accomplished in the last two decades. More striking is that the programme was substantially funded from public sources, especially domestic savings. Foreign loans, multilateral or bilateral, and foreign direct investment (FDI) played a marginal or supplemental role.

In some other quarters, the China model is a convenient alibi for the pursuit of unpopular reforms. In his earlier stint as the Finance Minister who steered the reform process, Dr Manmohan Singh lamented that India could not secure FDI on the scales attracted by China.

Now, as the Prime Minister heading a new coalition, he cites the Chinese experience and pleads for substantial investment in rural infrastructure.

In a conference on Poverty Reduction organised by the World Bank in Shanghai in May, the Bank President, Mr James Wolfensohn, referred to China as a role model for poverty reduction for other developing countries. However, he wondered whether it could be replicated elsewhere.

There are neoconservatives in the US who look upon China as an aberration and predict its early doom. They await the demise of the authoritarian Communist Party of China (CPC). Last year, many leading analysts, including Mr Alan Greenspan of the US Fed, blamed China for exporting deflation and manipulating its exchange rate. Now, they charge that China is `overheated' and wait for a crash landing.

There are economists who describe the fault lines in China's economic terrain — corruption, pollution, energy shortage, unemployment, growing inequality and the fragility of the financial system and state-owned enterprise (SOEs). Some accuse China of making exaggerated claims of high growth, FDI, and so on, on fudged data.

Doomsayers notwithstanding, multinational corporations, including those in the so-called Fortune 500 list, are moving into China like locusts from Saudi deserts into the plains of Rajasthan and Delhi.

A recent study by Boston Consulting Group (China and the new rules for global business, Wharton, University of Pennsylvania) says, "... MNCs simply must begin to factor China into their strategic thinking even if they have not yet entered into that market." Though, from time to time, gory accounts are published in reputed financial papers about non-performing loans crippling the Chinese banks, major international banks are queuing up to get a stake in the same banks.

Financial Times (January 13) reported that JP Morgan has retained Henry Kissinger to lobby with the Chinese government, and Citibank is leaning on Mr Robert Rubin, the former US Treasury Secretary, to get a place in the sun. These are strong and conflicting signals of the lure and loathing of China. How does one unravel the phenomenon?

It has a lot to do with China's transitional process. In the early years, much of the research work on China by US scholars was confined to issues connected with the grant of permanent normal trade relations (PNTR). PNTR was a condition precedent to China's accession to the World Trade Organisation. China negotiated with the US for 15 years and concluded the agreement in 2001.There were lobbies in the US working strongly for and against its entry and research work reflected their bias. The attempt, by and large, was to pressure China, a centrally-planned economy, to adopt the market model. Remember that the planned economies in Eastern Europe had collapsed earlier and were under the intensive care of the IMF and the World Bank. They had to move to market - the `end of history' did not permit them any other option!

China, in its turn, was seen to play the game willingly though Premier Deng had his own longer-term strategic vision of how his country should integrate with the global economy. He looked upon entry into WTO as a stage to achieve that goal. Thus, unlike many other countries, China was in no hurry to join and would do so on its own terms and at a time of its choice. Those long years of negotiations were also the years when the Chinese economy reached exceptionally high rates of growth and international competitiveness. In the interregnum, China was able to get a number of its officials and engineers trained abroad under aid programmes. It helped them to access western technologies and also understand market rules, regulations, practices, etc. These are subsumed as analytical and advisory services (AAA) under World Bank's rubric.

Overall, the research work on China's entry into the WTO was rich and valuable. But many missed the more intriguing phenomenon of China's transition to the market system and how the negotiations moved in tandem.

The neo-classical economists either misunderstood its transition process or misread the message. Sadly, they could not relate it to the tenets of liberalisation/stabilisation strongly held by the Bretton Woods twins. Avoiding the `shock' therapy then universally advocated, China opted for a longer-term remedy more suited to its politico-economic ground realities. Indeed, it has been a long way and continues till date. Beginning in 1978, there were five phases of reform.

The first phase of China's economic reform started in 1978 and went on up to 1984. The major emphasis was on decentralisation of agriculture which led to the formation of Household Responsibility System coupled with dual pricing. During this period, government-owned commercial banks were established.

The second phase (1984-88) liberalised the price and wage-setting operations of enterprises, introduced enterprise taxation and permitted private commercial banks to break the monopoly of government banks. These years witnessed extraordinary growth of town and village enterprises. Special economic zones were created in coastal areas facilitating foreign trade and investment. Foreign banks were permitted to operate in these zones.

The third phase (1988-91) fine-tuned the reforms and introduced new institutions to service the growing market segment.

The fourth phase (1992-97) was a watershed as it led to the unification of foreign exchange rate, establishment of specialised banks, stock exchange, etc. It was in this phase that, for the first time, the CPC formally accepted Deng Xiaoping's idea of the combining socialism with the market or the ideology of socialist market economy. It was not a verbal gimmick as, by then, the SOEs had begun to yield ground to the private sector.

The CPC was the first communist party in the world to combine the market ideology with socialism. The new approach provided the basis for speeding up enterprise, financial and social reforms and set the stage for the next phase, which commenced in 1998 and continues till date.

Since 1980, China has had the highest sustained rate of growth estimated at an average of 10 per cent per annum. This record is unmatched by any other country. Even those who doubt the Chinese statistics agree with this. Between 1980 and 1990, per capita GDP doubled; and doubled again between 1990 and 2000. Exports in dollar terms rose from $18 billion in 1980 to $249 billion in 2002.

Per capita income was estimated at $1,000 by end-2003. It was a target sent by Premier Deng in 1983 and was repeatedly mentioned in at the Shanghai conference. Over the past two decades, China accounted for 75 per cent of poverty reduction in the developing world. Truly, this was the reason for holding the poverty reduction conference in Shanghai.

Another significant feature is that, unlike other transition economies in East Europe or elsewhere, China avoided instability and output declines. Its policy of high rate of growth was to ensure stability with equity. It could not have social stability unless it maintained high rate of growth. The other adjunct to this policy was the exchange rate. It maintained a stable exchange rate for over 20 years and successfully weathered attacks on its currency.

It has also diversified its trade. It reduced dependence on the US by increasing its trade with Asian neighbours. Thus, it has become the hub of Asian trade by its integration with the neighbouring East Asian economies. Thereby it nurtures the emerging Asian trading system and acts as a stabilising force. When Premier Deng announced the reform in 1983, he did not have a road map. He was too pragmatic to make any attempt. He did not wish to have a single package of reforms a la Washington Consensus. He was too cautious and realistic.

Unlike big-bang proponents, he did not want to leap over a chasm in two steps. He counselled instead that "you can only walk across a river by feeling first for the stones." It was gradual, incremental and often experimental. Since last year, the Chinese experience has gained great international attention and many developing countries are attracted by it. This was evident in the Shanghai Conference when Latin American and African delegations expressed their admiration for the Chinese model. Mr Joshua Cooper Ramo of the Foreign Policy Centre, London, brought out a study titled "The Beijing Consensus: Notes on the New Physics of Power" in April.

He has labelled the Chinese path the "Beijing Consensus" which is "a development approach not driven by a desire to make bankers happy, but by the more fundamental urge for equitable, high-quality growth — because no other formula can keep China from exploding." Thus, the area no longer remains a Chinese puzzle. It is relevant for developing countries such as India and deserves a closer study. Specifically, there is need to explore the stages of the reforms and the circumstances leading to them as also the manner of implementation. The special or transitional institutions that evolved would need to be studied.

The secret of success in China was that the resistance to reform was won over by distributive mechanisms, which ensured that there was distributive justice and no fear that the reforms benefit any special group or groups. Central to the growth process was the extraordinary emphasis on investment in infrastructure.

This, again, was linked to its banking system and its special role in infrastructure funding. The banking reform had its impact on the reform process in the context of opening and external pressures such as from the World Bank, BIS and international banks. Again, there are myths about the role played by FDI in China's development. But China's growth story has reinforced that exchange rate maintenance, along with fiscal and monetary policies, needs to be fundamentally linked to growth and stability.

(The author, a former Finance Ministry official, has experience in international, financial and trade issues.)

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