Scott Sumner  

Statist policies in China

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I frequently read commentary on the Chinese economy. Often we are informed that the Chinese growth "miracle" was produced by a wise policy of rejecting laissez-faire and having the government direct much of the economy. The logic seems to run roughly as follows:

1. China has been growing very fast.
2. The Chinese government plays a large role in the economy.
3. Therefore Chinese growth is explained by statist policies.

I would hope I don't need to explain what's wrong with that logic, but just in case let's look at the Economist magazine list of the 10 fastest growing economies for 2015:

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OK, so how should we test the effect of statist policies on an economy? One method would be to compare the economic performance of highly statist economies like Greece with more laissez-faire economies like Switzerland. The problem here is that economic performance can vary for many reasons, such as cultural differences, natural resource endowments, etc. To the greatest extent possible, you'd like to compare different economic systems in culturally similar regions. Here are three possibilities:

1. Different countries with Chinese culture.
2. Different time periods within China.
3. Different regions within China (especially "Han" China.)

It's pretty well known that the other three ethnic Chinese economies (Hong Kong, Singapore and Taiwan) are all far less statist than Mainland China, and far richer.

It's pretty well known that China began growing fast after it started moving away from communism, and that further growth spurts followed the liberalization around 1992, and the liberalization around the time China joined the WTO in the early 2000s.

But what about regional differences? Once again the Economist, this time describing the most statist part of the Chinese economy:

The wrong mix Those efforts have borne fruit: state-owned firms produced more than two-thirds of the region's GDP in the early 2000s. That has fallen to about 50%, still above the national average of 30%, but progress nonetheless. The structure of the north-east's economy, however, has worsened in a more important respect. It has become ever more reliant on investment and manufacturing, both geared to the now-slowing property market. State companies and private firms alike have poured into mining, heavy-equipment factories and construction. Even the car industry, in which the north-east has been a national leader, is closely linked to property, as buyers of new homes also tend to buy cars. In any case, home-grown car brands such as Hongqi and Jinbei are falling further and further behind foreign rivals in popularity.

Whereas the rest of China's economy has become better balanced, with services now accounting for more of GDP than manufacturing, the north-east has gone in the other direction. Manufacturing's share of the regional GDP rose to 50% in 2013 from 47% a decade earlier, and the contribution of services declined--the opposite of what the original revitalisation plan called for. Even more striking, investment accounted for 65% of the north-east's GDP in 2013, roughly double its contribution a decade earlier. The national average is a shade under 50%, which is already high by international standards.

An hour's drive east of Shenyang to the new town of Shenfu offers a glimpse of how much spending has been misallocated. There, rising 150 metres into the air, is a giant upright steel circle--the "ring of life" (pictured on previous page), which was built as a landmark for the town even before anyone moved in. It is flanked by half-finished buildings and faded billboards advertising dream homes.

Shenfu was designed as a dormitory town, roughly equidistant between the cities of Shenyang and Fushun, to which it is well connected by multi-lane highways. But with heavy industry in the area struggling, and Shenyang and Fushun already weighed down by their own gluts of empty homes, Shenfu has not taken off. "Guys used to walk through the door and buy two or three homes at a go," says a saleswoman at Deshang International Garden, a large housing complex. Its occupancy rate is now about 50%, which, she says, makes it one of the most successful developments in town.

Over-capacity in heavy industry is also pervasive. The north-eastern provinces took the extraordinary step of ordering some 100 cement-production lines to close for four months this winter, in part to alleviate a supply glut. It is estimated that as much as half their capacity is unneeded. Cement production by itself is a tiny part of the north-eastern economy, but as a crucial input for construction, which accounts for 6% of regional GDP, it is symptomatic of the broader excess in heavy industry.

Poor investment decisions mean less money for spending on social services. In late November as many as 20,000 teachers went on strike over low pay and miserly pensions in towns near Harbin, the capital of Heilongjiang, the slowest-growing of the north-eastern provinces.

Old command-economy habits run deep. After the mass bankruptcies of state firms in the late 1990s, some cities decided they needed cash from officials in Beijing to fund yet more state companies. Liang Qidong of the Liaoning Academy of Social Sciences, a government research institution, even argues that the north-east is the world's best example of a Soviet-style economy, because its central-planning mentality has persisted for so long. "A lot of people still don't truly understand or believe in the role of the market," he says.


Of course if we looked at the least statist regions in China (Shenzhen, Zhejiang, etc.) we'd see exactly the opposite, dynamic growth and great flexibility.

Perhaps statist policies contributed to the economic "miracles" in New Guinea, Turkmenistan, Congo and Laos. But among the Han Chinese people, both across regions and over time, growth is inversely correlated with statist policies.

That's not to say that the Chinese government doesn't do anything well. They build infrastructure more efficiently than many other countries. I've enjoyed using their airports, subways and high-speed rail. But those projects only became affordable after the Chinese government unleashed the power of markets, and created an economic boom that provided the wealth necessary to build the infrastructure.

And to be honest, that infrastructure was also made possible by the exploitation of low-wage workers from the countryside, a legacy of Mao's policies. The workers were not free to move to the cities, and hence were essentially equivalent to our undocumented workers. Fortunately, wages and living standards are rising fast. I know a woman who lives in Beijing and pays her maid $4/hour, 10 times the wage of a few decades ago. The maid has a smart phone, and took the high-speed rail home to see her family 800 miles away. Even 5 years ago the US media was full of reports that the high-speed rail system would be a "white elephant", as the poor in China could never afford to travel that way.

Of course there are also lots of examples of infrastructure that is poorly designed and/or bad for the environment, notably the road system in urban areas and many water projects. And the SOEs are especially bad for the environment, as was the case in the old Soviet bloc. If the Chinese government were to give the Chinese people property rights over land and a say in local governance, it would greatly improve environmental conditions.


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COMMENTS (10 to date)
Levi Russell writes:

At the very least, I'd want to subtract government spending from China's GDP figures. The "ghost city" problem seems far too big to ignore.

Michael Fisk writes:

About the best that could be said for the Chinese government is that they have been able to free up catch-up growth by alleviating issues of resource misallocation in their economy - likely caused in the past by other statist policies. All that can really be said is that their current form of economic policy is considerably superior to their old one - and seeing the results of China in the past, that's not saying a whole lot.

Scott Sumner writes:

Michael, Exactly.

Lorenzo from Oz writes:

The Soviet Union managed to achieve considerable economic growth for a while simply by transferring resources from low productivity agriculture to higher productivity manufacturing. Once the productivity of the latter equalised with the productivity of the former, growth ground to halt, as "just add inputs" growth became exhausted and incentives were equally bad in both sectors.

Permitting higher productivity activities to expand will get you growth. Which is essentially the story of post 1978 China--the Party-regime feeling its way to allowing higher productivity activities to expand. It has been much more dramatic than Soviet growth, since it is not "just add inputs" growth and the technological catch-up has been more intense and broader. But both have occurred in part precisely because it has been much less statist than what the Soviet Union did.

So, another comparison to indicate that China is well within the range of less-is-better statism. (That there is a range within which more statism-is-better is indicated by the history of pre-state societies and examples such as Somali: outside Somaliland.)

tom writes:

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The book How China Became Capitalist by Ronald Coase and Ning Wang (2012), tells a complex story. The communist party, while retaining full control in major sectors, allowed experimentation and "learning from facts" in various regions and sectors. The result seems to be considerable economic freedom, exceeding that in the US, in many places and activities. It is a good book.

Jeff writes:

Of course, there are always the old stand-by examples of North vs. South Korea, North vs. South Vietnam, East vs West Germany, Haiti vs Dominican Republic, and so on.

Scott Sumner writes:

Lorenzo, I don't really think of places like Somalia as being "small government," but I suppose it depends how you define these terms. I'd guess Somalia doesn't rank very high in the various indices of economic freedom.

Richard, Yes, it's an excellent book.

Jeff, Good point. And at a more subtle level, Switzerland vs. Austria

Ray Lopez writes:

Economist:

"Whereas the rest of China's economy has become better balanced, with services now accounting for more of GDP than manufacturing, the north-east has gone in the other direction."

Sumner: "Perhaps statist policies contributed to the economic "miracles" in New Guinea, Turkmenistan, Congo and Laos. But among the Han Chinese people, both across regions and over time, growth is inversely correlated with statist policies."

C'mon please sir. You are drawing conclusions from one sentence in the Economist, and then conceding that statist policies contributed to economic 'miracles' in third world countries but that Han Chinese are not well served (from the single Economist sentence quoted)? Even with sarcasm noted, this article is not soundly reasoned. At best, the Economist article goes to the fact there's pollution externalities in China's north-east, nothing much more. BTW many people in China and Greece invest in buildings rather than save cash in banks, so "ghost cities" means little (Greece also has some).

Lorenzo from Oz writes:

Richard O Hammer: Yes, it is an excellent book.

Scott: Not so much small government as no stable government. You don't historically get much economic growth in stateless societies.

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