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中国和全球经济：中期问题和选择 美国哈佛大学国际发展中心 埃德温·利姆 等 2005年12月 China and the Global Economy: Medium-term Issues and Options China Economic Research and Advisory Programme A synthesis report Center for International Development at Harvard University Edwin Lim, Michael Spence, and Ricardo Hausmann December 2005 Foreword This is the second policy study supported by the China Economic Research and Advisory Programme (CERAP). The main recommendations of the first study on social security reform were presented to Premier Wen Jiabao in November 2004, as well to a broader audience at a seminar in Beijing. At the meeting with Premier Wen, it was agreed that the next study to be conducted by the CERAP should be on medium-term issues associated with China and the global economy. The counterpart institutions for this study are the Institute of World Economy and Politics in the Chinese Academy of Social Sciences, and the Research Institute of the People’s Bank of China. A number of prominent economists from different parts of the world were invited to write papers for this study, either on the general topic of China and the global economy or on more specific issues, depending on personal interests and expertise. A number of papers were also prepared by the Chinese counterpart institutions. This synthesis report was prepared by Edwin Lim, Michael Spence and Ricardo Hausmann on the basis of papers prepared by the following: A team of economists at the People’s Bank of China, led by Dr Tang Xu, Director of the Research Department, and a team at the Institute of World Economics and Politics, Chinese Academy of Social Sciences, led by Professor Yu Yongding and Dr He Fan. Olivier Blanchard (French), Professor of Economics, Massachusetts Institute of Technology (MIT), Member of the French Prime Minister’s Economic Advisory Council; Barry Eichengreen (American), Professor of Economics and Professor of Political Science, University of California, Berkeley; former Senior Policy Advisor, IMF; Francesco Giavazzi (Italian), Professor of Economics, Bocconi University in Milan; visiting Professor at MIT; Member of the Group of Economic Policy Advisers to the President of the European Commission; Ricardo Hausmann (Venezuelan), Professor of Economic Development, Kennedy School of Government, Harvard University; former Venezuelan Minister of Planning and Chief Economist, Inter-American Development Bank; Takatoshi Ito (Japanese), Professor of Economics, University of Tokyo; former Deputy Vice Minister for International Affairs, Ministry of Finance, Japan; Senior Advisor, Research Department, IMF; Michael Lipton (British), Research Professor, Poverty Research Unit, University of Sussex; Warwick McKibbin (Australian), Professor of International Economics, Research School of Pacific and Asian Studies; Director of Centre for Applied Macroeconomic Analysis at the Australian National University; Maurice Obstfeld (American), Professor of Economics, University of California, Berkeley; Jean Pisani-Ferry (French), Director, Brussels European and Global Economic Laboratory (Bruegel); Professor of Economics, University of Paris- Dauphine; Member of the French Prime Minister’s Economic Advisory Council; Dani Rodrik (American), Professor of International Political Economy, Kennedy School of Government, Harvard University; André Sapir (Belgian), Professor of Economics, Université Libre de Bruxelles and member of the Group of Economic Policy Advisers to the President of the European Commission; and Anthony Venables (British), Chief Economist, UK Department for International Development; Professor of International Economics, London School of Economics and Political Sciences; Christopher Allsopp (Reader in Economics, University of Oxford, formerly member of the Monetary Policy Committee, Bank of England), Professor William Hsiao (School of Public Health, Harvard University), Dr. Khor Hoe Ee (Assistant Managing Director, Economics, Monetary Authority of Singapore), Dr Cyril Lin (Managing Director, Development Initiatives, Ltd, formerly University Lecturer in Economics, University of Oxford), and Dr Tan Kim Song (Singapore Management University) also provided inputs to the synthesis paper. The work of CERAP was guided by the following advisory team, many of whom reviewed and provided comments on an early draft of this report: Chinese advisors: Liu Zhongli, Chairman, Economic Committee of Political Consultative Committee; Xiang Huaicheng, Chairman, National Council for Social Security Fund; Zhou Xiaochuan, Governor, the People’s Bank of China; Wu Jinglian, Senior Fellow, the Development and Research Center of the State Council; Li Jiange, Deputy Chairman, the Development and Research Center of the State Council; Lou Jiwei, Senior Vice Minister, Ministry of Finance; Guo Shuqing, Chairman, China Construction Bank; and Yu Yongding, Director General, Institute of World Economy and Politics, Chinese Academy of Social Sciences. International advisors: Stanley Fischer (Governor, Bank of Israel, formerly President, Citigroup International; First Deputy Managing Director, International Monetary Fund, Chief Economist, World Bank, and Professor of Economics, MIT); Caio Koch-Weser (Vice Chairman, Deutsche Bank, formerly Deputy Minister of Finance, Germany; Managing Director, World Bank); Edwin Lim, (formerly Director, World Bank, first Director of the World Bank office in Beijing and founding CEO of Chinese International Capital Corporation), Sir James Mirrlees (Nobel Laureate and Professor of Economics, University of Cambridge); Professor Michael Spence (Nobel Laureate, formerly Dean of the Graduate School of Business, Stanford University and Dean of the Faculty of Arts and Sciences, Harvard University); Sir Nicholas Stern (Second Permanent Secretary, UK Treasury; formerly, Chief Economist, World Bank, and Professor of Economics, London School of Economics); and Teh Kok-Peng (President, GIC, Special Investment Pvte, Ltd, Singapore; formerly, Deputy Managing Director, Monetary Authority of Singapore). Edwin Lim is responsible for overall management of CERAP. Core funding for expenses of CERAP is being provided by the East Asian Institute of the National University of Singapore. Additional funding for the China and Global Economy study is provided by the United Kingdom’s Department for International Development.
Executive Summary Introduction China’s economic and social achievements since the beginning of reform and opening is unprecedented in global history. Managing the growth process in this continuously changing environment has required great skill and the use of unconventional economic policy. The approach to economic policy has been characterized by pragmatism, gradualism, innovative experimentation and caution (‘moshi guohe’ or ‘crossing the river by feeling for stepping stones’), avoiding big-bang solutions and risky outcomes. The benefits of this growth have been spread widely, with hundreds of million of people lifted out of poverty. China, however, has entered a new era in its development process with a set of challenges largely different from those of the recent past. Some of these challenges – such as the continued need to reform and modernize the economy, generate employment and raise living standards – remain outstanding and will always persist in one form or another. But other challenges – such as growing internal and external structural imbalances, increasing income and regional inequality – have arisen from, or been exacerbated by the very pattern and success of high growth since reforms began. And there are still other challenges newly posed by rapid changes in the global economy. These challenges can best be tackled in an integrated and coordinated fashion. Some can only be met by being addressed simultaneously, while responses to others need to be properly sequenced. This report identifies the major, fundamental challenges facing China today and presents options for meeting them. Following an introductory chapter, Chapter 2 presents a comprehensive program to deal with internal and external imbalances, in ways that are consistent with China’s growth strategy and with the need to address emerging social and economic problems. Chapter 3 discusses the challenge of maintaining rapid growth while continuing to reduce disparity and persistent poverty. Chapter 4 proposes a dual-track approach to building a macro-management system capable of guiding the necessary process of growth and adjustment in the coming years. Chapter 5 examines how China may play a more active role and, in some cases, assume a stronger leadership position in the affairs of regional and international economies. The time frame of these discussions is medium term, say, over the next 3–5 years. Thus, the final chapter takes a longer-term perspective, identifying the emerging trends in the global economy over the next two decades, of which China needs to be conscious now. Dealing with Internal and External Balances The global economy faces serious imbalances today. In this context, attention on China has focused on its large balance-of-payments surplus and the latter’s implication for the country’s exchange-rate policy. This is, however, an incomplete and misleading view of the problem. In our opinion, China should deal with its external and internal imbalances simultaneously. What is needed is a package of policy measures which would deal with outstanding issues in a comprehensive and coordinated manner, contribute to the adjustment necessary in the global economy, as well as help China achieve its own priorities. China’s current-account surplus is a reflection of an excess of saving over investment.
This is an unusual and undesirable situation for a low-income country such as China, as it Both saving and investment in China today are very high compared to earlier years or to other countries. Investment, at about 46% of GDP, has reached a point of very low returns in some areas. Although more investment is still needed in some key areas, rapid growth could be maintained through more efficient investment while enabling a reduction in the overall level of investment. Eliminating the saving–investment gap, therefore, requires that saving be reduced and consumption increased. Since 1990, saving has risen rapidly, reaching 50% of GDP in 2004, one of the highest rates in the world. There is therefore ample room for raising consumption through a reduction in saving. An increase in consumption expenditures that would help achieve a more balanced development strategy would also increase imports from the rest of the world and reduce China’s dependence on external demand, thus achieving a better external balance. To achieve internal and external balances, consumption in China needs to increase from the current level of only about 50% of GDP to 55–60% in the coming decade, which would approach the average level in the world. Thus, the key recommendation of this report is a comprehensive package of policies with three main elements: (i) reform measures to promote growth of consumption in the longer term; (ii) a public expenditure program to stimulate domestic demand in the short and medium term; and (iii) a managed appreciation of the currency. Reform Measures to Promote Consumption Growth Household consumption in China has not risen in line with national income because the
household saving rate, although it seems to have stabilized in recent years, remains at one To remedy the situation, the social security system needs to be strengthened. At the core is the reform of the pension system. Recommendations to reform the urban-based pension system, made by an international team organised by this program in 2004, include reducing the fragmentation of the system and introducing pooling and administration at the national level; eliminating early retirement abuses; transferring shares of SOEs still owned by the state to the National Social Security Fund to finance obligations left by the old SOE system; and strengthening individual accounts by switching to a Notional Defined Contribution system. In addition, an urgent task is to provide old-age security for the rural population, strengthen the minimum income (Dibao) program and improve access to and sharing of risks in health and education. Financial-sector reforms will also be necessary to provide households with efficient instruments of saving which at present go mainly into low-return bank deposits. Over the past few years, another reason for the slow growth of personal consumption has been the declining share of disposable household income in GDP, which means that household consumption has grown significantly less than GDP, although household saving rates seems to have stabilized or declined somewhat (although still at a very high level). In the last few years, the net income of enterprises has grown sharply. Unlike other market economies, where a substantial share of the net income of enterprises flows to households in the form of dividends to finance private consumption, almost all the income generated by enterprises in China is saved and used for investment, either by the enterprise itself or within the sector, with limited mobility. More listing of enterprises in the stock markets and increased allocation of enterprise income to dividends will be necessary to allow Chinese households to benefit more from growing enterprise income. Government revenues as a percentage of national income have also increased sharply over the last few years, largely as a result of improved collection. In addition, government administrative reforms have led to a decrease in government consumption, while expenditures on education, health and other public services have not increased correspondingly. The improvement in fiscal balances has gone mostly into investment. Much of the increase in investment, especially by local government, has had low returns. To stimulate consumption in the economy, the government will need to increase the share of income going to households – through lower taxation of household income and increased transfers and subsidies – and to increase government consumption itself. Special Public Expenditure Program to Stimulate Consumption in the Medium Term To stimulate domestic demand over the short and medium term and respond to the macroeconomic objective of increasing consumption by 6–10% of GDP, a special public expenditure program covering the coming 3–5 years will be needed. The program should be used to facilitate the transition of the economy to China’s new ‘people-centered’ and comprehensive, coordinated development strategy by supporting social services and consumption. A large legacy of ‘debt’ in social development now exists and requires urgent attention. Such expenditures to support the improvement of health, education and other social services will by themselves help to stimulate private consumption and reduce the need for precautionary saving. The needs are very large and the following are areas that could be considered:
Conditions exist in China to implement such a public expenditure program. The fiscal position of the government is strong. Since the growth rate of the economy – at about 9%– is much higher than the average real cost of debt service of about 2.5%, China can continue to run substantial fiscal deficits over the next few years without having to worry about the debt burden. The challenge is therefore not financial, but more one of whether a fiscal adjustment program can be designed that is compatible with macroeconomic, social and regional objectives, and that also limits the risks imposed by possible government failures. In addition, the adjustment program should not become a permanent feature of the fiscal system. With rising budgetary revenues, many of the recurrent elements of the public expenditure program should be absorbed into the regular budget while still allowing the government to maintain a balanced current account budget. Managed Adjustment of Currency An appreciation of the RMB would not only help correct the trade balance, but will also help promote a balanced development of the domestic economy. By its dampening effect on the economy, it would enable the economy to avoid going into a state of overheating and high inflation as a result of the increase in consumption. It would also lead to an increase in the prices of traded goods relative to non-traded goods and thus promote faster growth in the non-traded sectors, such as services. The magnitude of appreciation desirable is impossible to estimate ex ante. Appreciation of the currency by itself could have adverse effects on growth and income distribution. Adjustment of the exchange rate should therefore be carefully managed and its impact on the economy closely monitored. Possible adverse effects can be overcome or mitigated, and the magnitude of appreciation necessary reduced, if the adjustment in the exchange rate is combined with the measures above. Over time, the government should be prepared to make substantial adjustments in the Finally, in the implementation of the above program to restore internal and external There are important lessons of international experience on the need to take advantage of China and Global Imbalances It is not yet possible to predict how the necessary adjustment in the global economy will take place in the next 3–5 years. It is, however, possible to identify the necessary components of an orderly and smooth adjustment. The United States should increase saving and reduce consumption substantially. Growth needs to accelerate in the EU and Japan. In the rest of Asia outside China, where saving is already high, investment needs to recover from the reduced level that followed the financial crisis of the late 1990s. Currency adjustment will facilitate this process of adjustment, including a significant depreciation of the US dollar and appreciation of the currencies in countries with substantial current account surpluses. In China, consumption should be the new engine of growth while the move towards a managed floating exchange rate will enable the exchange rate to adjust to market conditions. While contributing to an orderly and smooth adjustment of the global economy, this would be consistent with China’s new development strategy and increase the welfare of the Chinese people. Measures to Reduce the Capital Account Surplus China’s external imbalance is not limited to the current account surplus discussed above, The first step is to eliminate the differentiation in tax and other treatments according to These measures notwithstanding, a substantial inflow of foreign capital associated with
FDI will undoubtedly continue as long as China continues to grow at the current rate.
Thus, even ignoring speculative capital flows, a surplus in the capital account will
continue, and, unless China wants to run a current-account deficit, the build-up of
international reserves will also continue, and be of a size significantly larger than that Of course, the circumstances and needs of China are very different from those of these Maintaining Growth: Challenges and Opportunities Despite sustained and rapid growth over 25 years, China today faces broad-based Maintaining Export Dynamism Rising manufacturing productivity has been the main driver of China’s growth up to date Industrial policy should move away from generalized subsidies to export activities.
Instead, it should encourage experimentation into new areas and be willing explicitly or
implicitly to subsidize the process in order to compensate for the costs of adaptation,
labor training and supply-chain development, while at the same time making sure that
special requirements in terms of infrastructure, regulation or education are provided. This Promoting service sector growth Although the service sector has been China’s main source of employment growth since Increase the efficiency of investment China’s investment rate is the highest among large countries. The issue therefore is not
how to increase the investment rate but how to raise its productivity. The financial system In addition, a large part of savings in China does not even flow through the financial Investment in human capital While its rate of investment in physical capital has been the highest among large countries, China’s investment in human capital has fallen off significantly in recent years and could seriously undermine the country’s ability to compete in the global economy where trade will be increasingly skill-based services. This imbalance suggests that a major reallocation of the public sector’s investment effort from physical to human capital should be part of the new growth strategy. Health care is an area which has been adversely affected during the period of the ‘reform
and opening’ policy. The problem is most serious in rural areas. In the 1970s, 90 per cent
of the rural population was covered by community health insurance, but by 2003 this had
fallen to only 20 per cent. The absence of risk-sharing and high medical costs has resulted
in serious under-consumption of health care and a declining health status of the
population. Priorities in the health area are well known and would include funds to
support public health and basic prevention programs in low-income regions; a nutrition
program for the poor; expansion of the compulsory urban social health insurance scheme
to cover workers employed by small firms and the informal sector, particularly migrant
workers, and their families and restoration of a community-based insurance scheme for
the rural population. Many of these schemes are under consideration, but their
implementation is impeded by an apparent excessive attempt to rely on market forces as
well as the inability of a large section of the target population to pay, and of the poorer Agriculture, migration and internal integration China still has about half of its labor force in agriculture where its productivity is, on average, barely one-eighth of that observed in industry and about one-quarter of that observed in the service sector. A reallocation of labor away from agriculture and rural activities and into industry has been and will continue to be a major source of future aggregate increases in GDP per worker. China still remains very rural. In 2003, China’s rate of urbanization stood at about 40 per
cent of the total population, compared to the 60 per cent that would be expected from
international experience, given China’s income level. Recent research on international
experiences has stressed the importance of cities for modern growth, emphasizing the
agglomeration externalities that arise from the increased depth and variety of the markets In the same way as China has benefited greatly from its integration in the global economy
over the past decade, there are opportunities for efficiency gains and growth through
greater internal integration in the coming decade. There are many provincial and sectoral
barriers to internal integration which constrain the ability of resources to move to their The process of integration with the global economy has favored coastal provinces over the central and western regions, and cities over rural areas. Much of this is inevitable but it also reflects the fact that for precautionary reasons, policy-makers opened some regions to FDI and not others. A policy to homogenize investment policies should help lower policy-induced regional imbalances, while a policy that improves the quality of the transportation and communication infrastructure would reduce disparities caused by transportation costs. To promote these developments, the Government should consider policies in a number of areas. First is to increase labor mobility and facilitate migration by graduallyeliminating the Hukou policy. Preference might be given to the poorest regions where poverty will persist unless more workers are able to migrate. Labor mobility would also be enhanced by the reform of the social security system to enable portability of workers’ pensions across provinces. The government could also facilitate the urbanization process by investing in housing and urban infrastructure (utilities, urban transportation, social services, etc.) through a program financed by central government resources. Another potential source of growth and poverty alleviation is increasing agricultural productivity per worker. Value added per worker in agriculture, which amounted to US$349 per annum in 2000, is the lowest of any country at China’s income level. In all successful countries, increases in agricultural productivity and rural incomes have gone together with a rapid decline in rural population and with rising land/labor ratios in the countryside. Thus, policies should be pursued to help develop land rental markets and foster freer land markets, e.g. longer leases, more land security (against community seizures and transfers), more power for migrants to lease out. This should allow greater labor mobility, better use of land assets, and a reallocation of land to its most productive use. Special policies should be designed for the regional poverty islands, including agricultural research and extension, irrigation, rural infrastructure, and greater access to farm inputs and markets via transport and information. Agriculture-specific taxes should be replaced by taxes that are neutral among income sources. Rural finance is crucial for development and reform of the rural credit co-operatives should be a priority. Energy use and environment China is already the world’s third largest energy producer and second largest energy
consumer, accounting for 10 per cent of global energy use. Under plausible assumptions
this share is expected to rise to 15 per cent by 2025. It is aiming for increased energy
efficiency through a range of domestic programs, but these are likely to be outweighed by
economic growth. In most economies it is common for the energy intensity of GDP to fall
over time. This falling reliance on energy reflects a combination of more efficient use of With world energy prices reaching record levels, there will likely be significant supply responses in global energy markets in coming years. In particular, alternative energy sources will become more viable. Global energy markets are sufficiently open and regionally diversified that shortages are unlikely to result. However, there could be upward pressure on the level of and volatility in prices over the next few years. A more important issue may be the environmental consequences of rising energy use in China. In particular, China will continue to rely on fossil fuels (particularly coal) as the primary source of energy for many decades into the future, the environmental impact of which is a concern to China as well as regionally and globally. China accounts for 13 per cent of global emissions of carbon dioxide – a major greenhouse gas that may cause significant global climate change in coming decades. In addition, the emission of black carbon is estimated to be responsible for local climate problems in China, such as increased drought in northern China and summer floods in southern China. The different environmental issues associated with energy use in China require a mix of direct government intervention and market-based incentives. For example, to improve air quality, sulphur-trading systems that are already being implemented could be expanded. To address carbon-dioxide emissions, a longer-term strategy is required which acknowledges the need for China to continue to grow without a short-term carbon constraint but with clear pricing of the short-term and long-term costs of carbon dioxide. To reduce black carbon, a direct technology innovation in how households burn carbon (and agricultural burning practices) could be developed, with substantial health and economic benefits. A Dual Track Approach to Macro-management and the Exchange Rate Regime The challenges that China faces in the coming years – in maintaining rapid growth, in addressing issues of regional disparity and persistent poverty, and in dealing with internal and external imbalances – will place a heavy demand on the macro-management system. Notwithstanding the 25 years of reforms, the management system typical of a developed market economy is not yet fully in place. At the same time, the traditional tools of planning and direct controls are no longer fully effective, as a large part of the economy is now functioning on market principles. Hence the need to consider a new approach to macro-management. Inflation targeting There is likely to be little disagreement among economists about the final destination of the new approach. There has been a notable convergence among developed market economies, in their macroeconomic management policy framework, towards a system usually referred to as ‘inflation targeting’. Such a system involves focusing policy on the final objectives of inflation control and growth, and not on intermediate targets such as the money supply or the exchange rate (both of which have either proved of limited short-term use or led to unsuccessful results). Inflation targeting is aimed at achieving stable non-inflationary growth at potential rates – which is consistent with the objectives of China’s overall macroeconomic policy as usually described. Such a system, however, is not advisable for China in the short term. There would be a serious danger of a loss of control – the opposite of what is intended by adopting inflation targeting. Accordingly, the proposed dual-track approach would have the following two main elements:
This approach is designed to ensure that existing control systems are only given up when better methods are available and the direct methods are no longer needed. In the short term, the longer-term model of inflation targeting would be an important guide for policy making. Evolution of the foreign exchange regime A critical element of the dual-track approach in the coming years will be the evolution of Given the government’s stated objective for broader RMB convertibility in the longer run, a regime in which the RMB fluctuates – perhaps in a managed way – against trading partners’ currencies, is necessary. The transition from the present regime to such a regime will require two steps. The first is a move to a meaningful basket peg in which the currencies of major trading
partners receive weights proportional to the value of their trade with China. In practice, a
basket peg of this kind is equivalent to a movable peg of the RMB to the USD where the
peg’s daily value depends on the USD bilateral rate against the other currencies included The second step should be a progressive widening of the band over time, with the Capital controls The development of such a system would be ‘facilitating’, rather than implying an immediate change in policy – unless policy-makers so desired. But, with interest rates directed more and more towards domestic objectives, the capacity to manage the exchange rate (within limits) depends on the maintenance of capital controls. Indeed, the current health of China’s banking system does not allow a precipitous
opening of the financial account. A danger in abolishing capital controls in the near
future, especially given the very large amount of deposits held within the banking system,
would be the risk of very large outflows if conditions were to deteriorate and sentiment
about the RMB were to worsen. Another danger is the possible loss of control. An open
capital account would mean that the authorities either have to let the exchange rate float
subject to the vagaries of the market, or divert monetary policy away from domestic
objectives of macro control to exchange rate management, and in this last case take the
risk of speculative attack. Indeed, there are arguments for tightening capital controls, With capital controls in place and the possibility of intervention, macro policy (including, potentially, interest rates) can be assigned, as it should be, to the overall control of the economy, whilst at the same time selective intervention is used to control the exchange rate. But the process of exchange market intervention itself should avoid outcomes which may lead to pressure on the exchange rate caused by, for example, market perception of an undervaluation or overvaluation of the currency concerned. The need to deal with exchange rate pressure – manifested in huge speculative inflows of capital – could divert policy, undermine the development of indirect methods of macroeconomic management and hamper other aspects of financial and overall economic reforms. Alleviating or avoiding exchange rate pressures would allow interest rate policy – monetary policy more generally – to concentrate increasingly on its overall macro control function. China and Global Economic Governance For its own national interest and that of the global economy, China should play a more
active role and in some cases, assume a stronger leadership position than it currently does China is already a full member of various formal multilateral bodies such as the WTO, the IMF, the World Bank and the Asian Development Bank etc. Its presence and influence in these organizations will grow over time. In the near term, however, China should try to play a stronger role in informal groupings like G3, G7/G8 and G20 etc (at the international level) and ASEAN+3 and APEC etc (at the regional level). It should aim to join the G7/G8 Group of Finance Ministers and Central Bank Governors as a full member by the end of the decade, to help ensure that its own interests are sufficiently represented in any joint policy responses to global issues among the major economic powers and to strengthen the forces of ‘multilateralism’ in global economic governance. China should also help forge consensus on various longer-term issues facing the global economy among some of the largest developing economies (e.g. Brazil, India etc.) through a more active participation in G20. It can also help strengthen the global monetary and exchange rate arrangements by engaging more closely in the confidential, informal consultation process among the senior representatives (‘deputies’) of the G3 group thereby extending it to become a G4 Group. On regional matters, China has been actively pursuing free trade agreement (FTA)
negotiations with various countries or sub-regions in East Asia in recent years. But given Compared with the Sino-East Asia or even China-US ties, the China-EU economic relationship could potentially be filled with more tension. Production in the newer EU member economies, for example, remains largely labor-intensive, making for a more competitive economic relationship with China than exists between China and the USA, or for that matter, East Asia. Moreover, the EU labor markets are much less flexible than that of the USA, further increasing the likelihood of political pressure that trade liberalization with China may entail. China’s quest for more energy and raw materials, including using strategic foreign investment in some cases to secure access to such resources, would likely put pressure on the EU, which is just as import-dependent on these raw materials. Meanwhile, China’s rising economic strength could imply a diminished role for the EU in multilateral institutions and informal groupings. While many of these structural problems have to be solved by the EU itself, closer consultation and joint actions between China and the EU could help ease the pain. In some cases, tackling the problems requires significant policy adjustments for both. It is in the interest of both China and the EU to step up the dialogue process as early as possible, so as to identify potential tensions that could otherwise derail the continued expansion of the trade, investment and financial ties that have brought great benefits to both in the last two decades. Long-term Trends in the Global Economy Changes in the global economy are occurring at a very rapid pace and are already beginning to have profound implications for the future sources, patterns and rates of growth for developed and developing countries alike. It is therefore important for Chinese policy-makers to also anticipate the threats and opportunities posed by long-term trends in the global economy and to adopt a pro-active strategy for addressing them. The on-going preparation for the 11th Five-Year Plan (2006–10) and other policy-making arrangements provide Chinese policy-makers with a major opportunity for doing so. The world is entering its third century of growth driven by science and technology. Following eight hundred years of virtually no growth, average per capita global income in real terms grew by about 20 per cent in the nineteenth century and almost 90 per cent in the twentieth century. These impressive growth rates however obscure large differentials among countries. While we cannot see clearly far into the twenty-first century, it is reasonable to predict that the growth in the global economy will dwarf even that in the twentieth century while the differential may continue, with a sizeable number of poor being left behind. The global economy have quite clearly entered a period of more rapid growth and
productivity gains, based not solely but largely on the exploitation of information
technology (IT) to increase dramatically the efficiency of markets, supply chains, the
delivery of services and the accessing of valuable human resources without reference to
or bounded by geography or time. Played out over several decades, these technologies are
quietly revolutionary. In addition to increasing the efficiency of all domestic economies, As a result, human resources are much more valuable in the context of the global economy. It is as if the boundaries of labor markets were partially breaking down. Neither the magnitude nor the importance of this can be overstated. Anticipating and preparing to participate in these new trends and possibilities represents an additional source of growth. It also offers the opportunity to move up the technological ladder more quickly than would otherwise be possible. These trends driving the global economy represent huge opportunities for those developing countries, including China, that are able to make large and continuing investment in human capital. Though it is less often talked about, they represent large opportunities in the domestic economy. For example, in large countries like China, educated but under-used human resources in less developed provinces can be employed to deliver services in more advanced locations where the balance of labor demand and supply is very different and labor costs are much higher. This may reduce some of the pressures created by high rates of migration from rural to urban and from central to coastal areas. China, with its size and dynamism, could, with a sustained effort to build the
institutional and human capital infrastructure required for modern financial and capital markets,
become one of the leading financial centers in the world. In 25 years, China, with another
two to three doublings of its GDP, it will be a major economic power and a leader, along
with the USA, the EU and Japan, in setting international economic policies. China’s In the longer term, it is foreseeable that China with its large and growing economy will have an increasing impact on other countries and be increasingly powerful economically and in international economic relations. When this happens, as it will, China’s policies will gradually but steadily need to focus increasingly on matters that relate to what is good for the global economy generally, as well as what is needed internally. In an increasinglyintegrated global economy, what will be beneficial for the global economy will also be beneficial for China, and vice versa. This interdependence should be an important consideration in the formulation of China’s longer-term development strategy, just as it is important for other countries to take account of China’s emergence. This policy-making process can best succeed through greater dialogue and collaboration between China and the outside world. This report, hopefully, is a step in that direction. Chapter 1 Introduction China’s Economic Achievements in Historical Perspective 1.1 Since embarking on market-oriented reforms and opening up to foreign trade and investment in 1978, China has achieved growth rates that are unprecedented in an economy and a country of this size. Figure 1.1 below shows the 20 fastest growing countries in the 25-year period between 1978 and 2003, ordered by the rate of growth of GDP per worker1. It shows that China had the fastest rate of total GDP growth (9.4 percent), of per capita GDP growth (8.1 percent) and of per worker GDP growth (7.7 percent). The benefits of this growth have been spread quite widely, with hundreds of million of people lifted out of poverty. Figure 1.1 Fastest growing countries between 1978 and 2003 (average annual growth rate)
1.2.China’s achievement is especially impressive because its rapid growth is neither the consequence of a particularly rapid demographic transition, a fast urbanization process nor a particularly fast accumulation of human capital – as was the case in other 注1， Data is from the World Bank’s lWorld Development Indicators (2005). The data covers 157 countries for this period and excludes countries with a population of less than 1 million in 2003. East Asian countries when they experienced their respective growth miracles. In fact, 1.3. This productivity increase cannot be explained by a stellar performance in terms
of human capital accumulation. For a country of its income level, China does not have an
impressive or exceptional educational effort as measured in terms of enrollment rates. Its 1.4. The secret to China’s growth must be found mainly in its exceptional advances in manufacturing productivity. These were facilitated by strong competitive pressures arising from China’s open door policy which led to the country’s gradual but steady integration into the global market and the consequent incorporation of world-class technology through openness to foreign direct investment (FDI). China has been very successful in managing foreign direct investment and manufacturing growth to achieve significant inbound technology transfer, thereby increasing the potential growth of the economy. It has also diversified effectively into a growing number of manufacturing sectors and is in the process of moving back in the supply chain and up on the technological ladder. Export- and manufacturing-led growth has resulted in the Chinese economy doubling in size three times since 1978 and the economy is continuing to double every 8 to 9 years. 1.5. Through most of this period, China’s economy has been in various stages of transition from a centrally planned economy to an increasingly decentralized market economy. The transition process is still going on with many more stages to go. Managing the growth process in this continuously changing environment has required great skill, and the use of unconventional economic analysis. China’s approach to economic policy has been characterized by pragmatism, gradualism and caution (avoiding big bang solutions), avoidance of risky outcomes and experimentation. There have been bold moves along the way, including the initial launching of the reforms, and the entrance into the WTO with its attendant changes and commitments. Challenges to Sustainable Growth 1.6. China’s pattern of growth is unlikely to be sustainable in the longer term unless a number of emerging sets of challenges are addressed. The first set of challenges concerns the growing internal structural imbalances in the Chinese economy that have emerged or been exacerbated since growth accelerated in 1978. One major imbalance is the increasing income and regional inequality, which have worsened since the 1980s with the growth of manufacturing and the export sector. There continues to be a large flow of people out of rural areas and agriculture into urban areas and into the manufacturing and service sectors.. Reducing inequality and creating employment for these people is one of biggest challenges for Chinese policymakers. It is therefore essential to maintain a high rate of growth in output and employment in order to accomplish the goal of absorbing surplus labor and of reducing inequality. 1.7. But achieving robust and sustainable growth in the longer term will require tackling other issues such as the savings-investment imbalance (i.e. high rate of ‘precautionary’ savings and relatively low rates of household consumption) caused in large part by uncertainty over employment and by inadequacies in the pension and health systems. Growth in China has indeed been driven mainly by exports of industrial products, to a large extent financed by FDI (concentrated in the coastal regions), rather than by domestic consumption and by a proportionate and balanced development of other sectors and the inland region. Moreover, the system of macroeconomic management needs to be improved in line with the significant marketisation that have already occurred and with further market-oriented reforms, especially in financial market development, internal economic integration and competition policy, that are essential for raising efficiency in resource allocation across sectors and regions. Also, the level of economic activity has grown to the point that actual and potential environmental impacts are large and need to be addressed. 1.8. Another set of challenges concerns China’s increasing integration into the global economy, and derives in particular from China’s growing external imbalances as well as from exogenous trends in the global economy that pose both threats and opportunities for China’s long-term growth. External imbalances have arisen from China’s export-led growth strategy, which has involved an exchange-rate system pegged to the US dollar and resulted in both large current and capital account surpluses. China’s manufacturing sector is large and dynamic enough to put significant competitive pressure on its counterparts in developed and developing countries, often resulting in political responses from the former. China has become a major consumer of commodities, raw materials and energy, to the point that its influence on global prices at the margin is significant. In energy, because of the low elasticity of supply in the short to medium term, prices have risen dramatically. In addition, there is a real risk of a battle for energy security, through an attempt to buy up and control major sources of supply.2 注2， This situation has the incentive structure of the prisoners’ dilemma in which it is in the interest of each country to secure its own supply, but if every country does so then in the aggregate we are all worse off. 1.9. Rapid growth leads to rapid changes in prices, particularly of labor. This can be
delayed or slowed somewhat if there is a very large supply of labor entering the markets
every year. Nonetheless, prices will eventually rise, which in turn will lead to shifts in Managing China’s Growth and Global Integration 1.10. Managing the growth process in China has required great skill and the use of unconventional economic policy. The approach to economic policy has been characterized by pragmatism, gradualism, innovative experimentation (‘moshi guohe’ or ‘crossing the river by feeling for stepping stones’) and caution, avoiding big bang solutions and risky outcomes. 1.11. As mentioned above, China has entered a new era in its development process with a set of challenges largely different from those of the recent past. Some of these challenges, such as the continued need to reform and modernize the economy, generate employment and raise living standards, remain outstanding and will always persist in one form or another. But there are other challenges, such as growing internal and external structural imbalances, increasing income and regional inequality, that have arisen from -- or been exacerbated by – the very pattern and success of high growth since reforms began. And there are still other challenges newly posed by rapid changes in the global economy. The challenges in China’s development can best be met in an integrated and coordinated fashion. Some can only be met by addressing them in a simultaneous fashion, while others need to properly sequenced. 1.12. This report identifies what we regard as the major, fundamental challenges and presents options for meeting them. Chapter 2 presents a comprehensive program to deal with internal and external imbalances, in ways that are consistent with China’s growth strategy and with the need to address emerging social and economic problems. Chapter 3 discusses the challenge of maintaining rapid growth while continuing to reduce disparity and persistent poverty. Chapter 4 proposes a dual-track approach to building a macromanagement system capable of guiding the necessary process of growth and adjustment in the coming years. Chapter 5 examines how China may play a more active role and, in some cases, assume a stronger leadership position in the affairs of regional and international economies. The time frame of these discussions is medium term, say, over the next 3–5 years. Thus, the final chapter takes a longer-term perspective, identifying the emerging trends in the global economy over the next two decades, of which China needs to be conscious now. Chapter 2 Dealing with Internal and External Imbalances3 Overview 2.1. At present, much of the international discussion on global macro issues is centered on the Chinese balance-of-payments surplus and its implication for Chinese exchange-rate policy. Many abroad would like to see an appreciation of the Renminbi (RMB). Policy-makers in China, however, fear the negative effects on growth and employment of such an adjustment. 2.2. This chapter proposes a comprehensive approach to dealing with the problem. It starts from the observation that the key problem in China is excessive household savings, brought about largely by the collapse of the institutions that used to provide social security and basic health care and education. In addition, the share of household income in GDP in recent years has declined significantly, and the shares of enterprise and government incomes have increased and gone mainly into investment. As a result, the economy is forgoing consumption in order to accumulate assets – both in China and abroad – which have very low, even negative, returns. In principle, those resources could be better used in increasing the welfare of the current and future generations of Chinese. 2.3. A policy package is therefore needed to achieve a better balance in the economy by reducing the rate of savings in China, i.e. producing an increase in the rate of consumption. This would increase demand for all goods, causing, in principle, a reduction in the current account surplus. Employment would expand, lowering the perceived risk of excessive unemployment. The increased demand in China would raise the rate of return of investment projects in China, especially those that cater to the domestic market. 2.4. How to achieve a reduction in savings? First, by tackling the causes of the
unusually high rate of ‘precautionary savings’, particularly problems with the pension
and health systems. Policies should also be introduced to increase the share of household 2.5. These measures to reduce savings and stimulate consumption demand need also to be accompanied by a managed appreciation of the RMB. Without the dampening effect of an appreciation of the RMB on the economy, the increase in consumption would lead to overheating and inflation. This is a lesson China can learn from the experience of Japan in the 1960s and 1970s (see Annex B). As part of a comprehensive policy package, both the magnitude and the pace of currency appreciation would be moderated, and its adverse impact on the economy mitigated. This approach would also help the global imbalances, as the Chinese expansion in demand would give a positive push to world growth through increased imports. With a resulting improved trade balance and measures to address the surplus in the capital account, including measures to promote the domestic financing of FDI and active management of part of the foreign reserves, the need for the People’s Bank of China (PBC) to accumulate low-return foreign assets would be reduced. 注3， This section is based on a number of papers prepared for this study, including Blanchard and Giavazzi,‘China: A Three-handed Approach’, Hausmann, ‘Global Imbalances, Chinese Imbalances: A Fiscal Solution’, and He Fan, Zhang Bin and Cao Yongfu, ‘Rethinking China’s Development Strategy’. A Graphical Illustration of the Problem and Possible Solutions 2.6. Below is a diagram illustrating the conditions for achieving internal and external balances in an open economy.4 The vertical axis represents the real exchange rate5 expressed in terms of, say, US$ per RMB. The horizontal axis represents domestic expenditure, i.e. domestic consumption and investment. 注4， Such a diagram was first used by Swan in 1961 when he (and Salter) proposed a macroeconomic model of an open economy. Since then, the diagram (and a large number of variations) has been used in many texts on macroeconomics and has become a standard. A fuller explanation of the diagram, and the model behind it, is in the paper by Blanchard and Giavazzi, which also extends the model to the specific conditions of China. 注5， Since the diagram is concerned with the real economy, it is the real exchange rate that matters. The real exchange rate is the exchange rate after taking into account differences in inflation between the home country and the rest of the world. For example, if inflation is higher in, say, China than in the rest of the world, there is an appreciation of the real exchange rate even if the nominal exchange rate remains unchanged. This reflects the fact that Chinese goods are now more expensive in foreign countries because of the higher rate of inflation, even though there is no change in the nominal exchange rate. The real exchange rate is thus a measure of competitiveness. 2.7. The internal balance (IB) line in the diagram represents the different combinations 2.8. The external balance (EB) line in the diagram represents the different combinations of the exchange rate and level of domestic expenditure that would achieve trade balance. Consider, for example, a move to the left away from any point on the EB line, i.e. an exogenous decrease in domestic expenditure. A trade surplus would thus emerge as more goods are available for export and demand for imports is reduced. A trade balance can be restored by an appreciation of the currency – a move up to return to the line – which would reduce export demand and increase import demand. Thus the external balance line is downward sloping, as shown in the diagram. Figure 2.1
2.9. From the above, it can be seen that all points above the internal balance line represent the economy operating with less than full employment, while all points below the line represent overheating in the economy. All points to the left of the external balance line represent the economy with a trade surplus, and all points to the right represent the economy with a trade deficit. Thus all points on the diagram except those on the two lines represent a combination of overheating/unemployment and trade surplus/deficit. Adjustment to achieve balance A country can be at any point in Figure 2.1, depending on its level of expenditure As represented in the diagram by the three arrows, external balance can be As illustrated by the horizontal arrow in the diagram, external balance can also be The right approach to achieving simultaneous external and internal balances is The rest of this chapter discusses possible elements of a policy package to achieve Increasing Consumption As shown in the diagram, increasing domestic expenditure – consumption and
investment – is one way to reduce the trade surplus. There is another way of looking at
this. The trade surplus can also be seen as a surplus of saving over investment. In China Figure 2.2 Growth Rate of GDP and Household Consumption (%)
Source: China Statistical Yearbook, 2005. Therefore, correcting the imbalance means raising consumption. Increasing consumption expenditure is consistent with the government’s longer-term objective of relying more on domestic demand, particularly consumption, for future growth. As shown in Figure 2.2, over the past decade, private consumption has not risen in line with the growth of income, household consumption growth averaging nearly 2% less per year than GDP growth. A s shown in Table 2.1, in recent years, private consumption is less than half of GDP, significantly lower than in most other countries. Table 2.1
Source: Kuijs (2005). Raising consumption means reducing saving. As also shown in Table 2.1, private saving in China is much higher than in almost all developing and developed countries – more than double that of high-saving countries such as Japan and Korea – and is the major reason for the high national saving rate, contributing in recent years to more than half of total saving. Some of the reasons for the high rate of private saving in China are consistent with experiences in other countries, including the high growth rate of percapita income in recent years, and the demographic situation. In particular, the one-childfamily policy has meant that families have to invest more in financial assets for old-age security.6 Even allowing for these factors, private saving is still unusually high in China, even though household saving rates seem to have stabilized and may have declined somewhat in recent years. This is quite understandable, given the developments in the country over the past decade. Although income has risen substantially, the system of social protection has collapsed to a large extent. In the urban areas, the traditional ‘iron rice bowl’ has been broken, but the new system of social security is not yet fully established. In the rural areas, in particular, the family support system has weakened, and the collective education and health systems have largely disappeared and not been replaced. Throughout the country, growing prosperity has been accompanied by a rising degree of uncertainty owing to the rapid speed of change. As indicated in Table 2.2, household saving rates have increased substantially over the past decade, and at a much higher rate in the rural areas, where the rate is now higher than the urban areas, despite the much lower level of income and rate of income growth. Information given in interviews indicates that rural household savings are largely precautionary saving, for retirement and medical expenses and for life-cycle events such as children’s education, weddings and funerals. 6 Kuijs, L. (2005), ‘Investment and Saving in China’, World Bank Research Working Paper 3633, July; Kraay, A. (2000), ‘Household Saving in China’, The World Bank Economic Review, September; and Modigliani, F., and Cao, S. L. (2004),’ The Chinese Saving Puzzle and the Life-Cycle Hypothesis’, Journal of Economic Literature, March. While the very high level of household saving in China by international standard is beyond doubt, actual changes in the saving rates over the past few years and explanations of these changes are still not clear and require much further research. See the article by He cited below. Table 2.2
Source: Derived from National Bureau of Statistics Household Surveys. Accelerating the growth of private consumption – decreasing the level of precautionary saving – requires the strengthening of the social security system, which has not kept up with other changes in the economy. At the core of the social security system is the pension system. Reform of the urban-based pension system was studied by an international team in 2004 and its recommendations, which remain valid today, are summarized in Box 2.1. Box 2.1 Reform of the Urban-based Pension System7
In addition to the reform of the urban-based pension system discussed above, insecurity among the population can be reduced by widening and deepening the poverty-relief element in the social-security system. For example, the minimum-income guarantee for urban residents (Dibao) can be enhanced for the elderly. 7 ‘Social Security Reform in China: Issues and Options’ prepared by an international team led by Professor Peter Diamond and Professor Nicholas Barr for the China Economic Research and Advisory Programme, November, 2004. The urban pension system would at best cover only one-third of the population. An urgent task for China must be to provide old-age security for the rural population, whose traditional forms of security have been eroded over the past decade and who, with migration of the younger members into urban areas, face an aging problem more severe than the average for the country as a whole. In addition to the various experiments under way in different provinces, China might wish to study the experience of countries such as New Zealand and South Africa in addressing the old-age security of a poor population, particularly through citizen’s pensions and minimum-income guarantee schemes. For the rural population, improved access to and sharing of risks in health and education are probably some of the most effective ways of reducing uncertainty and thus precautionary saving among the population. Evidence from other countries has shown that improved public health can lead directly to an increase in household consumption, and this will undoubtedly be true also in China.8 A public expenditure program, to increase domestic demand in the short term while addressing these issues, is discussed in the section below. Over the past few years, another reason for the slow growth of personal consumption has been the declining share of disposable household income in GDP, which means that household consumption has grown significantly less than GDP, although household saving rates seems to have stabilized or declined somewhat, albeit still at a very high level.9 In the last few years, the net income of enterprises has grown sharply. Unlike other market economies, where a substantial share of the net income of enterprises flows to households in the form of dividends to finance private consumption, almost all the income generated by enterprises in China is saved and used for investment, either by the enterprise itself or within the sector, with limited mobility. More listing of enterprises in the stock markets and increased allocation of enterprise income to dividends will be necessary to allow Chinese households to benefit more from growing enterprise income. Government revenues as a percentage of national income have also increased sharply over the last few years. In addition, government administrative reforms have led to a decrease in government consumption, while expenditures on education, health and other public services have not increased correspondingly. The increase in revenues has gone mostly into investment. Much of the increase in investment, especially by local government, has had low returns. To stimulate consumption in the economy, the government will need to increase the share of income going to households – through lower taxation of household income and increased transfers and subsidies – and to increase government consumption itself. 8 A World Bank study of Viet Nam shows that the introduction of health insurance led to higher consumption of non-health items, such as food, etc. See Pradhan and Wagstaff (2005), ‘Health Insurance Impacts on Health and Non-medical Consumption in a Developing Countries’, World Bank Policy Research Working Paper 3563. 9 This section draws mainly from Xinhua He and Yongfu Cao, ‘Understanding the High Saving Rate in China’, Institute of World Economics and Politics, Chinese Academy of Social Sciences. A Debt-financed Public Expenditure Program to Increase Domestic Demand and to Address Social and Regional Problems The above are long-term measures whose impact on household consumption will be permanent, but can only be realized over time. There is a need for a short-term adjustment program to accompany the longer-term effort to reduce personal saving and increase consumption. In terms of instruments, the stimulus package could come from a fiscal expansion or a credit expansion program. There are disadvantages to using a credit expansion program. First, the banking system is not all that healthy and credit booms often end in losses. Second, a creditinduced consumption boom is likely to allocate the additional spending to those that are already well-off, and have assets and income to act as collateral. This may have the wrong distributive consequences both socially and regionally. By contrast, a public expenditure program has several advantages. It can be targeted socially and regionally and avoids the potentially distorted allocation that would come from a problem-ridden banking system. In addition, it can address other developmental and social goals, some of which, like the reform of the health and education services, will by themselves help to stimulate private consumption as well. A public expenditure program would also be more transparent than credit expansion, and its components and implementation be subject to scrutiny. These potential advantages have to be considered together with the risks of a fiscal program. These include many forms of government failure associated with patronage and corruption, but also poorly designed government programs, allocations that are not compatible with a sustainable development path, and the creation of entitlements that may be difficult to reverse. The challenge is whether a fiscal adjustment program can be designed that is compatible with macroeconomic, social and regional objectives but that also limits the risks imposed by possible government failures. In addition, the adjustment program should not become a permanent feature of the fiscal system. With rising budgetary revenues, many of the recurrent elements of the public expenditure program should be absorbed into the regular budget while still allowing the government to maintain a balanced current account budget. In the present Chinese circumstances, a public expenditure program thus seems preferable. To have the desired effect on the economy, the program should be financed by debt (deficit) rather than taxes. Indeed, conditions in China today are favorable to the use of debt. In 2004, public debt was only 33 per cent and the primary deficit less than 2 per cent of GDP. Since the growth rate of the economy, at about 9 per cent, is much higher than the average cost of debt service in real terms of about 2.5 per cent, the principle of debt dynamics tells us that China can continue to run substantial fiscal deficits in the medium term without having to worry about the debt burden. Moreover, if the proposed public expenditure will benefit the population in the future – which expenditure on health, education and the critical infrastructure bottleneck obviously will – then the so- called ‘golden rule’ of public finance would suggest funding the program through debt rather than taxes.10 Thus, to stimulate domestic demand over the short and medium term and respond to the
macroeconomic objective of increasing consumption by 6–10% of GDP, a special public The needs are very large and the following areas could be considered:
Appreciation of the Renminbi 2.28. As illustrated in Figure 2.1, reliance on an expansion of domestic expenditures in
an attempt to deal with the trade surplus will result in overheating of the economy. Thus, 10 See the discussions and the box on debt dynamics in Blanchard and Giavazzi. The question then is how much of an appreciation is desirable. Despite the efforts of some economists to calculate the necessary appreciation of the RMB to restore trade balance, on the basis of different analytical assumptions, the answer is that it is impossible to say. There is little reliable information on how Chinese exports and imports would respond to price changes. Much will depend on the response of countries competing with China in the export markets and supplying Chinese imports. Currency appreciation needs to be seen as part of the package and the extent of currency appreciation required would depend on what other policies are pursued – particularly policies to achieve the internal saving and investment balance described above – and how the economy responds to these policies. It is, however, possible to predict the direction of change that might be caused by Thus, because the magnitude of appreciation desirable is impossible to estimate ex
ante, and because of its possible undesirable effect on growth and income distribution, an Over time, the government should be prepared to make substantial adjustments in There are important lessons from international experience on the need to take advantage of the opportunities this new mechanism provides. In the early 1970s Japan was in a situation similar to China’s today. Instead of allowing a managed appreciation of the currency, Japan chose to increase the money supply in attempting to achieve external balance. This proved to be a major mistake, resulting in hyper-inflation and negative growth when the oil crisis hit in October 1973. The transitional arrangements possible under the new system are also consistent with the experiences in other emerging market countries, such as Chile and Israel, which have ultimately achieved healthy economic growth coupled with low inflation, financial stability, full currency convertibility, and a fully floating exchange rate. These should also be China’s goals. Finally, in the implementation of the above program to restore internal and
external balances, the relative timing and magnitude of the three possible elements of the Dealing with the Capital-account Surplus China’s external imbalance involves the so-called twin surpluses, the currentaccount surplus discussed above and the large surplus in the capital account. In recent years the surplus in the capital account has been much larger than that in the current account. In addition to capital inflows associated with foreign direct investment (FDI ) – amounting in 2004 to about the same level as the current account surplus, at 4 per cent of GDP – China has seen very large inflows of other types of capital, probably mostly speculative in nature, amounting to about $100 billion in 2004. Over the longer term, China may wish to have a reasonable capital-account surplus, equivalent to a currentaccount deficit, implying that the country would be a net borrower from the rest of the world. Meanwhile, however, policies are needed to deal with FDI inflows and to manage the large and growing international reserves. These are the subject of the following two sub-sections. Domestic financing of foreign direct investment Chinese policy-makers face a dilemma with regard to Foreign Direct Investment
(FDI) inflows. FDI has been a major source of productivity and economic growth for
China over the past decade. In the coming years, China will have to continue to tap into
the technology and management practices of foreign investors as it tries to move into the A possible approach to this dilemma is to separate the role of the foreign investors There are different channels through which local funding of foreign investment can be accomplished. Below are three possibilities and the constraints they now face.
For each of these channels to be successful in attracting domestic financing of FDI, changes in the regulations on capital flows and on the capital markets will be necessary. More generally, in an overall environment of strict control on both inflow and outflow, China has encouraged capital inflows associated with FDI and, in fact, has granted tax holidays and other incentives. This policy has been enormously successful, making China the largest recipient of FDI in the world, exceeding even the United States. And FDI has been a major factor in China’s success. In today’s circumstances, however, it may be desirable to review the regulations governing the capital account and foreign investment. Is it necessary to offer generous tax benefits and concessions simply because the investment is foreign funded? How can domestic saving be channeled to undoubtedly the most dynamic and productive area of the economy, that of FDI? The objective would be not only to deal with the capital-account surplus caused by FDI capital inflows, but also to move towards a more efficient allocation of savings and capital within China, thereby raising the returns on domestic savings. The problem of the capital inflows associated with FDI should be seen therefore as a problem of the inadequate financial markets in China today. Active management of foreign reserves These measures notwithstanding, a substantial inflow of foreign capital associated with FDI will undoubtedly continue as long as China continues to grow at the current rate. Thus, even ignoring speculative capital flows, a surplus in the capital account will continue, and, unless China wants to run a current-account deficit, the build-up of international reserves will also continue, and be of a size significantly larger than that indicated by the usual need for international reserves. The question is then how China can manage its reserves better for the benefit of the current as well as the future population. A possible approach is to put aside part of its reserves – after adequate provision of precautionary liquid reserves – to be more actively managed, with the objective of enhancing the investment returns and providing an additional source of fiscal revenue for the government. In countries such as Singapore, Brunei, Kuwait, Abu Dhabi and Norway, a separate investment company is set up outside the central bank to manage part of the foreign reserves. These companies behave much like a long-term global endowment fund and try to maximize long-term returns, subject to matching requirements of long-term liabilities. The set-up allows them to capture longer-term risk and liquidity premiums not available to the liquid reserves at the central bank. The more notable examples include the Government Investment Corporation of Singapore (GIC) and the Norge Bank Investment Management (NBIM) of Norway. Success of these companies goes a long way in fortifying a country’s external balance and creditworthiness positions. In addition, given the commercial orientation of these companies, they could provide considerable market-based economic and financial intelligence for policy-makers. Of course, the circumstances and needs of China are very different from those of these much smaller economies with limited opportunities for investment domestically. Such an initiative in China will likely be of a more temporary nature, until the economy’s ability to invest efficiently, through financial-sector and other reforms, catches up with the economy’s propensity to save. For the next 5–10 years, however, active management of partof the reserves may be desirable. Operational issues of such an initiative would include estimating the likely official liabilities on a 10–50-year horizon, and deciding on a return target and an asset mix based on policy risk tolerance. It will also have to look into developing the capacity for active asset management. The capacity could come from both internal and external sources (i.e. outsourcing fund management to other companies) and the government will have to decide on the extent of active management it wants the investment company to undertake, as well as the division of labor between the internal and the external management teams. A strong corporate governance structure will also have to be set up to ensure a high degree of professionalism in the management of the funds and rigorous standards for transparency and risk management. Experiences of more successful models, such as Singapore’s GIC and Norway’s NBIM, could be tapped on, if necessary, in helping to set up these companies. Chapter 3 Maintaining Growth: Challenges and Opportunities11 Despite sustained and rapid growth over 25 years, China today faces broad-based . urbanisation, Urbanisation Current situation China still has about half of its labor force in agriculture, where its productivity is Underpinning this opportunity is the fact that China still remains very rural. In
2003, China’s rate of urbanization stood at 40.5 per cent of the total population. This is 11 This chapter is based on the following background papers produced for this project: R. Hausmann, ‘China’s Growth Miracle in Perspective’; D. Rodrik, ‘What is so Special about China’s Exports’; M. Lipton and Q. Zhang ‘Reducing Inequality and Poverty During Liberalization in China: Rural and Agricultural Policy Options’; A. J. Venables, ‘Trade and Regional Inequalities in China’; Warwick J. McKibbin ‘Global Energy and Environmental Impact of an Expanding China’. The recent economic literature on growth theory has stressed the importance of cities for modern growth, emphasizing the agglomeration externalities that arise from the increased depth and variety of the markets for skills and complementary inputs and services. Peng, Zucker and Darby (1997)12 study the impact of urban spillovers |
