Chinese Economy

Midterm Study Guide

Economic Geography and the Pre-1949 Chinese Economy
What are the geographic factors that are shaping the form and evolution of Chinas economy?
Comparable surface area with US except less arable land (China15% arable land)
Thus, China has adapted via labor-intensive agriculture
Aihui-Tengchong Line94% population live to right
Macro-regions
North China, Northeast, and Lower Yangtze Macro-Regions: contain 46% of population and 51% of farmland, and
produced 55% of GDP in 2003
North China
Contains Beijing
North China Plain predominantly rural and not irrigated so dependent on rain and subject to droughts and
floods
Produces around 30% of industrial output and crop (wheat) output of China
Lower Yangtze
Most developed part of China; contains Shanghai
10% national population, 7% farmland in China, 10% of crop output (wet rice), 21% GDP
Incomes and urbanization highest
Northeast (Manchuria)
Abundant resources: 10% population, 17% farmland (grain and soybeans), 10% GDP
Southeast and South: Maritime China
Cut off from much of rest of China by mountain chains that define narrow coastal strip
Communication thru boat
SEZs after 1978: Shenzhen, Zhuhai, Shantou, Xiamen
Rest of macro-regions less integrated into single national economic system
Land-scarce, labor-abundant
Uneven resources
Mineral reserves per capita half of worlds average
Uneven distribution of mineral and energy resources: 90% oil and 80% coal reserves in north and 68%
hydroelectric potential in southwest
In what ways are these legacies evident in contemporary China?
Shortage of arable land, forests, and water severe environmental problems
Permanent environmental crisis for next 50 years as economic growth pushes limits of what land can support
Macro-regions
Link between North China Plain and Lower Yangtze made China into single economic entity: Grand Canal built to
ship food grain surpluses of lower Yangtze to national capital region
Today, Beijing-Shanghai link still defines central axis of economy
Mineral and land resources of Northeast, along with creation of heavy industrial base, led it to be highly integrated
into socialist, industrializing China
Southeast and South oriented toward ocean-borne trade
Middle Yangtze exports grain surplus
Geographic constraints dictate that China must develop in labor-intensive and knowledge-intensive path.
North-south gap: south growing faster
Coastal regions center of Chinas integration with global economy
Development challenges: dense population pushes limits of water and land provisions
Chinas Economy Before 1949
How do the views of economists and historians differ on the continuity of the Chinese economy before and after 1949?
Discuss some of the evidence that economists present to support their point of view.
Historians Economists
1949 turning point because of radically
different government and rapid growth
Stress continuity between features of traditional
economy before 1949 and rapid growth experience after
1949
Economic development is long-term process
consisting of accumulation of human and physical capital,
evolution of institutions
Traditional Chinese economy well-suited to support
economic development and acceleration of economy
Chinese Economy
growth after 1949 could only occur if many favorable
conditions already in place
Limitation: datacan these be reliably
assumed?
Social discontinuitypresence of radically
different social conditions before and after 1949
Societal problems coming to head due to
increased population pressure on limited resources
prior to 1949: unfair land distribution, corrupt
government preventing growth, famine and disease
Sudden acceleration of growth after 1949
indicates new set of conditions introduced before
takeoff could occur
Evidence shows that China wouldve grown rapidly
under any economic system
Estimates of aggregate output: slow but steady
growth in per capita output after late 19
th
century
Dramatic acceleration of growth in Hong Kong and
Taiwan after 1950s support idea that conditions favorable
for capitalist growth
Did the Chinese economy fail before 1949, and if so, why?
Failed not because of characteristics or developments per se, but rather external factors such as imperialism, 1911
revolution, World War II
Features of traditional economy (1127-1911)
High-productivity traditional agriculture
People allowed to keep agriculture ways to increase yield cutting-edge technology like fertilizer and
irrigation
Commercialized countryside
Trade networks, sophisticated institutions such as paper money, competitive markets and real social
mobility
Was the Chinese traditional economy well-suited to economic development? If so, why was the actual response to the
Western challenge so feeble?
Historical focus; dont bother if pressed for time.
Was a basis laid in the pre-1949 era for the vigorous growth after 1949?
After 1911, developments under Nationalists
Nationalization of heavy industries were already started under Nationalists; communists actually benefitted from
this
Grounds laid for acceptance of socialism
The Socialist Era, 1949-1978: Big Push Industrialization and Policy Instability
What was the Big-Push Development Strategy?
Vision of socialism dealing with industrialization within command economy
Command economy subordinated individual decision-making to national strategy
Rapid industrialization made priority
Resources factory construction
80% investment in heavy industry, entire new industries created e.g. fertilizers, motor vehicles
Focused on industries at upper and middle stages of value chainsself-reinforcing and self-contained processes
(steel, iron, and coal)
Contrast w/ Hong Kong and Taiwan who focused on downstream parts of value chain such as textiles, light
consumer goods, export-oriented
Goal: rapidly build capacity to produce capital goods and military materials by skipping growth of light industry
Characteristics: long construction cycle, need to import equipment, large scale of investment
Why did Chinese leaders follow the Big Push development strategy?
Assert independence thru heavy-industry-oriented strategy
Inherited war-torn agrarian economy
Heavy industry sector symbol of power and economic achievement
Motivation of accelerating development of heavy industries
National security
Soviet Union model: success in adopted heavy-industry-oriented strategy
What set of economic incentives did it create?
Low interest rate policy, interfered with exchange rate to ensure key equipment could be imported, policy of low
nominal wages and low prices for energy and raw materials, policy of low prices for agricultural products
How was Chinas economy organized during the socialist era?
Adopted Soviet system to fit poorer Chinese economy
Factories/transportation/communications owned by government; land owned/managed by collectives
Chinese Economy
Mobility of farmers restricted
Central planning: production targets for firms, direct allocation of resources, price signals less significant in terms
of rationing function
Material balance planningsupplies allocated based on sources and uses of goods; no role for prices
Government controlled price system, setting relative prices to channel resources to itself and industrialization
Benefitted industry and state-owned enterprises (SOEs)
Control of economy reinforced through Party
Nomenklatura system: career paths dictated by Party
More decision-making by local officials: small firms more important; transportation/communications less controlled;
fewer goods allocated by central planners
Tighter ideological and social control
What were the five leaps of rapid investment growth during the socialist era?
Leapswaves of rapid investment growth when growth of investment in single year surpasses 20%
Radical/leftist phases of maximum social change and corresponds to period of political mobilization and
institutional change
Each followed by period of retrenchment
1953-57: First 5-Year PlanTwin Peaks 1953 and 1956
Intensive program of industrial growth and socialization after restoration of viable economic base post-war
Based on state ownership in modern sector, large collective units in agriculture, and centralized economic planning
1953 (first peak): investment ramped up but curtailed because of inflation
Soviet Union helped build new industrial plants and formulate plan
1955-56: collectivization of agriculture, private ownership of industry removed, investment growth accelerated
(second peak)
1956-57: RetrenchmentHundred Flowers
Chinese leaders focused on problems due to rapid change
1956: open political discussion about reforms and market mechanism thru Hundred Flowers movement,
undermined by Mao
1958-60: The Great Leap Forward
Second Five-Year Plan (1958-62)
Great Leap Forward in order to develop socialism differing from Soviet model
Communes established in countrysidelabor mobilized for construction, development of rural industries,
provision of social services
Monetary rewards rejected, SOE bonuses eliminated, rural markets shut down
Walking on two legs combined simple technologies with advanced industrial technologies even though skilled
operators limited
Leadership got good economic news that wasnt really accurate
Millions moved to rural industries such as backyard steel mills
Famine in 1960 due to local and regional food shortages as harvests and stocks declined
1961-63: RetrenchmentReadjustment
1961: leadership cut investment and 20 million workers returned to countryside
Communes restructured with agricultural production by smaller groups of households and rural industry cut
back
Recentralization of economy and rationing
1964-66: Launch of the Third Front
Mao shifted trategy and pushed for Third Front
Construction program focused on inland provinces to create industrial base for strategic independence
Re-established Big Push but halted again by Cultural Revolution
1967-69: RetrenchmentThe Cultural Revolution
Political disruption and factional conflict that had little effect of economy
Coincidence
Industrial production declined but fall was moderate
Guiding economic policies before Cultural Revolution quickly reinstated after worst disruption
The Maoist Model: New Leap in 1970
New leap forward focused on Third Front
Chinese people urged to give everything for construction
Systematic revival of GLF but austerity built into program
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Variant of soviet model
Militarization of economy
Decentralization of economy as rural industries encouraged
Relative autarky practiced
Absence of material incentives and few markets
Market-driven labor mobility virtually ceased, migration and urbanization halted, manpower directed inland
1972-76: RetrenchmentConsolidation/Drift
Industrial growth exceeded agricultural growth and too many resources in construction
Zhou Enlai: investment cut back and economy opened up to equipment imports
Deng returned to power but ejected again so economic policymaking paralyzed
Why was the Big-Push Development Strategy unsustainable?
Political instability
Policy emphasis: Soviet-like, Maoist model, or pragmatic
Mao changed economic policies to align with revolutionary ideals or struggle against opponents
Distorted market structure
Inconsistent with comparative advantage determined by factor endowments that impeded development and
standards of living
Economic growth rate depressed
If markets allowed to function, labor-intensive industries wouldve been competitive
Transfer of labor to non-agricultural sector slowed down as economic growth failed to provide sufficient employment
Living standards didnt improve much because of lack of focus on consumer goods
Inward-looking nature of economy reinforced
Market Transition: Strategy and Process
What were the key motivations for reforming Chinas economy?
Heavy-industry focus hadnt achieved goalsnational economy on verge of collapse
Neighboring countries had developed rapidly
SOEs and communes inefficient and had poor economic incentives
Opportunity cost of discarding Big Push strategy failed
What was the main approach to economic reform after 1978?
Solve problems as they were encountered
Incrementally at rate thought appropriate
Allowed individuals/organizations to satisfy unmet needs and earn extra income, even if it undermined command
economy
Minimal economic disruption and social upheaval
Pockets of unregulated activity: township and village enterprises (TVEs) and special economic zones (SEZs)
Focus moved to dissolving central plan, creation of uniform rules and tax rates across sectors, end of dual-track
systemone set of prices
Elements of transition
Dual-track system: coexistence of plan and market, implying two-tier
Growing out of plan: plan kept fixedfirms faced lump-sum subsidy and market prices at the margin in which,
after a period, plan became irrelevant
Allow private sector to keep more of output
What distinctions can be seen between the styles of economic reforms during the 1980s and 1990s?
Chinese Economy

Lin, Cai, and Li (1996)
What was the logic behind the economic reforms in China after 1978?
Micro-management system reform thru improved production incentives, increased autonomy, and profit sharing
Replacement of collective farming system with household-based farming system where farmers able to keep and
sell agricultural production in excess of state-planned quotas at market prices
Resource allocation mechanism reform
Increases in available finance from savings of farmers resulted in more resources that could be reallocated to
sectors repressed under socialism
SOEs, private enterprises, and joint ventures allowed to invest in formerly suppressed sectors
Macro policy environment reform
Conflicts between macroeconomic policy environment and reformed micro-management and resource allocation
system reform macroeconomic policy environment
Dual-track price system
When market track became dominant, plan track eliminated, and system converged to market track
Political and economic stability and sustained growth
Introduced to improve resources allocation, maintain survival of SOEs
Foreign exchange rate policyestablishment of managed floating system and unification of dual rate system
Final completion of transition depends on reduction of governments burden of subsidization and protection
To what extent was the reform process a top down versus bottom up process?
Basically bottom-up approach consistent with gradual approach
Given subsidies and high returns, capital goods would follow market prices
How was the Gradualist approach to transition adopted by China different from the Big Bang approach taken by many
countries of the former Soviet Union (FSU) and Eastern Europe (EE)?
Pursued economic restructuring (perestroika) to stimulate dynamism but has avoided political openness (glasnost) to
avoid governmental collapse
Growth and Investment
How reliable are official Chinese data?
Most reliable data available and no choice to use
Can adjust data
Problems affecting Chinese data: prices, coverage, politics
Official stats dont adequately correct for effects of inflation
Difficult for statisticians to account for expanding scope of economy
Fast-growing items like computers and TVs are often valued at their early, very high prices, which overweights
them and therefore overstates growth.
Data collection intertwined with politics in China in way that reduces accuracy of statistics
Is rapid growth in China real?
Chinese Economy
Yes: despite problems, Chinese economic growth far from illusory
Readily verified data series (e.g. exports and fiscal revenues) and by personal experience (skyscrapers, pollution)
After adjustment for inflation, GDP per capita growth still around 7% per year for entire 1978-2005 period which is
most sustained period of rapid economic growth in human history
Why is China growing so fast?
So much investment
Investment rate high and rising
Fixed capital formation: land improvements; plant, machinery, and equipment purchases; construction of roads,
railways, etc.
Investors responded to improved productivity of economy by increasing investment
Sustained growth over long period of time
1994: devaluation of yuan, countries had to deal with more competitive China
Growth Accounting
What are the two basic processes of economic growth according to the Solow growth model?
Factor accumulationincrease in size of capital stock and labor force e.g. more machines, factories, etc. and better
trained workers
Not sufficient for economic growth in long run because if capital increases w/o labor, therell be too many
machines operated by too few workers and each additional machine wont be that productive (diminishing
marginal production of capital)
Total factor productivity (TFP)increases in amount of output per worker via greater efficiency-specialization and/or
technological change; productivity gains is key because of diminishing returns to factor accumulation
Productivity growth drives long-run growth
Labor productivity increases because same amount of labor and capital used more efficiently
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Chinese Economy

How much has capital accumulation contributed to Chinas economic growth?
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How much has total factor productivity (TFP) contributed to Chinas economic growth?
TFP contributes slightly more to Chinas aggregate economic growth relative to capital accumulation over the 1978 to
2004 period, with its relative contribution slightly higher during the first phase of reform.
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Increases in TFP growth refer to increases in amount of output per worker for given level of capital via greater
efficiency-specialization and/or technological change
Growth and Structural Change: Structural Change
What are the sectoral patterns of growth in China?
By 1950s, most arable land already under cultivation and further increases in population and labor force contributed
little to increases in agricultural output; restrictions during socialism held rural-urban migration below whats required
to absorb surplus
Mid-1970s: labor surplus economy in rural sector with 2% population growth and over 70% population in agriculture
Chinese government had to accelerate transfer of workers from agriculture to industry and take steps to keep
agricultural pool of surplus labor from replenishing itself
Encouraged labor-intensive consumer goods to transfer workers out of agriculture
Implemented one-child policy to keep rural pool from replenishing itself
Labor surplus fully absorbed by 1980s
Overwhelming industrial boom
Chinas service sector lags behind explosively growing manufacturing economy
How much of the growth in aggregate output per worker can be attributed to the reallocation of labor and capital from
agriculture to non-agriculture? (Bosworth and Collins, 2007)
Reallocationtransfers of factors of production across primary, secondary, and tertiary sectors
Chinese performance dominated by industrial sector
How important was productivity change in the nonstate sector and the reallocation of labor from the state to nonstate
sectors to overall growth? (Brandt, Hsieh, and Zhu, 2008)
Reductions in barriers to labor reallocation between state and non-state during second phase of reform had more
significant effects on growth
TFP growth in nonstate sector is most important source of growth between 1978 and 2004
Reforms during second phase reduced size of state sector and contributed significantly to growth of aggregate labor
productivity