The Chinese Economy: Introduction

1. The Chinese Economy: Introduction Lecturer: Zhigang Li

2. Organization and Evaluation of the Course Each student should choose a topic (or a question) he/she is interested in. Students with related interest will be grouped together. We shall meet one week ahead and assign readings for each group. Students would then need to present in the class. The lecturer and the rest of the class will participate in the discussion. Each group�s performance will be graded. Each student will also be graded by others (anonymously) in the same group for his contribution. By the end of the semester, each student should submit an essay. Requirement will be announced later. A closed-book final exam will test your understanding of course materials. In-class: 30%. Essay: 30%. Final: 40%.

3. Possible Topics Economic structure Demographics Institution Important policies Fiscal structure Legal structure Important markets: goods, labor, finance Inequality Growth performance Risks Living quality

4. China

5. China

6. China Labor-abundant (20% of world) Land-scarce (7% of world) Resource-scarce Coal: 11% of world Petroleum: 2.3% Natural gas: 0.8% Suggest labor-intensive and knowledge-intensive economic structure. (dependence on trade and energy?)

9. Current Status (2003) GDP per capita reached $4,726 (2000 price) Industrial sector accounts for 40.5% of GDP 41% of people lived in cities. Life expectancy and literacy are not much higher than countries with similar income level. �China becomes more open and easier to analyze.�

10. Important Years 1911: End of traditional economy 1937: Wars 1949: Communist party taking control 1978: Reform and opening

11. Questions to address Is 1949 a turning point for China�s growth? Why China has chosen the reform-and-opening path in 1978?

12. 1949 Radical change in government Radical change in economic performance Before 1949: Mediocre or poor economic performance After 1949: Rapid and modern economic growth (sometimes turbulent).

13. Is 1949 a turning point for China�s growth? Historians (traditional view) Yes Social discontinuity Economy after 1949 wouldn�t have grown rapidly without the new government. (Some) Economists (new view) Maybe not Economic continuity Rapid growth after 1949 is a natural process and the new government is not crucial.

14. Social Discontinuity Before 1949: Unfair distribution of control over land and other income-producing assets. Corrupt political power prevented the emergence of economic growth. After 1949: The Revolution solved some of the problem (unfair land and asset distribution), unleashing a rapid acceleration of economic growth.

15. Economic Continuity The Traditional Chinese Economy (1127-1911) The beginning of industrialization (1912-1949) War and civil war (1937-1949) Big Push industrialization (1949-1978)

16. The Traditional Economy (1127-1911) High-productivity traditional agriculture Selected seed varieties Organic fertilizer Irrigation Intensive application of human labor Commercialized countryside Small-scale, �Bottom-Heavy� Economy Competitive markets Sophisticated institutions

17. Bottom-heavy Economy Household-based economy: Agriculture and nonagriculture are based on small-scale rural households. In many cases the production chain consists of separate specialized households connected by markets (e.g. the production of silk cloth) Accumulation of capital into large enterprises was difficult Prevent wealth to be too obvious to potential predators or officials.

18. Competitive Markets Highly competitive markets (numerous suppliers, easy entry, frequent exit) for most products Coal and iron Textiles Tea Competitive markets for land and labor Substantial social mobility

19. Sophisticated Institutions Widespread use of paper money Familiarity of large formal organizations Clan or lineage organizations Advanced commercial procedures Contracts Middlemen Legal and customary institutions Traditional banks help transfer funds

20. Crisis of the Traditional Economy Structural deficiency Lack of large producers Lack of strong government Consequences Lack of large-scale coordination Lack of standardization and reliable high quality (e.g. the failure of tea export industry) Failed response to the West and Japan

21. Food Crisis and Government Degeneration Food crisis Rapid population growth Shortage of land: by the end of the 18th century, all potential land (except for some of Manchuria) has been farmed. Technology advances stagnated. Impact on the Government Reserves of food in public granaries declined after 1790s. Large-scale irrigation networks deteriorated Reduced government size

22. Failed Response to the West and Japan China had export surplus before 1820s. Opium imports from Britain changed China to an import-surplus country, leading to net outflow of silver. Chinese attempts to stop opium import led to war with Britain in 1839. China lose (Hong Kong lost to Britain). Sino-Japanese War in 1895 Over 80 Treaty Ports (Shanghai especially) at the peak

23. Industrialization (1912-1937) The Qing dynasty collapsed in the 1911 Revolution. The Nationalist (Guomindang) Party unified the nation in 1927. Japan invaded China in 1937. The �Nanjing decade� (1927-1936) A national project surveying national resources National development plans drawn up Skilled individuals trained New technologies developed

24. Industry Modern factory production grew at 8-9% annually between 1912 and 1936. In 1933 modern factories produced 2% of GDP and employed a million workers (0.4% of labor force). Two patterns Treaty Port industrialization Manchurian industrialization

25. Treaty Port Industrialization Light, consumer-goods industries (the downstream end of value chain) Textiles (42%) Enclave industrialization was started by foreigners and grew under the impetus of foreign example and competition. By the 1930s, 78% of the value of factory output came from Chinese-owned firms.

26. Manchurian Industrialization Investment primarily by Japan In 1931, Japan established the puppet state of Manchukuo, effectively extending control to all of Manchuria. Focus on heavy industries and railroads Produce raw materials for Japanese domestic industries

28. Height

29. War and Civil War (1937-1949) By the end of the war, the majority of China�s industrial capacity (electric power, iron, and cement) was in Manchuria. By 1947 the Chinese government controlled 90% of iron and steel output, two-thirds of electricity, and 45% of cement output. Most major banks and transportation companies were government controlled. Inflation: If the Shanghai prewar price level is 100, the price level in 1948 was 660 million.

30. The Socialist Era (Big Push Industrialization) (1949-1978) Major deviation from the pre-1949 industrialization Against China�s traditional household-based economy. Develop a massive socialist industrial complex through direct government control Inward-directed strategy rather than the coastal enclave industrialization

31. Legacies of the pre-1949 Economy State-own firms (including the core of heavy industries) are transferred to the Communist Party government. The nucleus of a planning apparatus and many skilled officials are left to the post-1949 government. Relatively high human capital High literacy rates A small university system Skilled individuals trained abroad

32. The Big Bush Development Strategy High investment rate Around 25% in the beginning of 1950s and increased to 40% by 2004. As high as 43% during the GLF Most investment went to industry, especially heavy industry. Industrial output grew at an average annual rate of 11.5%. Industry�s share of total GDP climbed from 18% to 44%.

33. How was the Big Push Strategy Achieved? The �command economy� system

34. The �Command Economy� System The government directly control all large factories, transportation, communication, land, and farms. Planners assign production targets to firms and allocate resources and goods among different producers. Investments are made by the governments. Fiscal revenues mainly come from State-owned firms� profits. Prices do not reflect market demand and supply. Government can increase revenue by setting goods� prices (e.g. prices of labor and raw materials are set low and those of industrial goods are set high.)

35. Difference between the System of China and Soviet Union The core planning system in China was much less centralized and much less tightly controlled. Transportation and communication were less developed in China. The system in China allocates a maximum of 600 varieties of industrial product. The Soviet Union had allocated 60,000 separate commodities by 1970s. More authority could be exercised by those in the middle, typically local government officials.

36. Is 1949 a turning point for China�s growth? Is the economic conditions that existed before 1949 important for the development strategy after 1949? Probably. Would the Nationalists have taken the heavy-industry-priority strategy? Maybe not. Taiwan underwent rapid industrialization focusing on light manufacturing and export markets (table 3.1, pp.58).

37. More on the Socialist Era (1949-1978) 1949-1952: Economic discovery 1953-1966: Pre-Cultural Revolution 1956-1957: �Hundred Flowers� 1958-1960: The Great Leap Forward (GLF) 1967-1976: Cultural Revolution 1976-1978: Post-Cultural Revolution

38. Policy Instability during the Socialist Era Frequent sharp turns in policy, including economic policy (Figure 3.2, pp. 63) The policy instability could be due to the continuous competition for power by advocates in the Communist party of different policies (leftist vs. rightist). Policy swings like a pendulum from left to right and back again, driving and in turn be driven by economic developments.

39. Different Stages of the Socialist Era 1949-1952: Economic recovery 1953-1956: Twin peaks of the first Five-Year Plan 1956-1957: The �Hundred Flowers� 1958-1960: The Great Leap Forward 1961-1963: Crisis and readjustment 1964-1966: Launch of Third Front 1967-1969: The Cultural Revolution 1970: A new leap 1972-1976: Consolidation and drift

41. Economic Recovery (1949-1952) Targeting the Soviet economic model, with the help of Soviet. Korean war in 1950 (ended in 1953) Trade boycott against China Tight control of the budget and money supply brought inflation under control by the end of 1950. Radical land reform in the countryside Between 1950 and 1952, 42% of China�s arable land was redistributed, mostly in the south. By 1952 both industry and agriculture surpassed their highest prerevolutionary levels.

42. Twin Peaks (1953-1956) First Five-Year Plan (1953-1957) Peak one (1953): large-scale investment projects with the help of Soviet (machinery, technology, technicians) Peak two (1956): Transformation to public ownership was abruptly pushed through By the end of 1956, 98% of farm households had been enrolled in cooperatives or collectives; in 1954, 2%. Private ownership in cities was virtually extinguished during six months in 1955-1956.

43. Hundred Flowers (1956-1957) Hundred Flowers: A period of liberalism Programs of economic reform (e.g. the role of market, different forms of ownership) were openly discussed Rapid social mobility: farmers moved into the city and young people entered college Economy is more flexible and market responsive Virtually every sector of the economy was rehabilitated.

44. Great Leap Forward (1958-1960) Two fatal decisions The supply of labor and land was reduced for agriculture. The procurement of grain (the compulsory deliveries of food to the state) was increased. Through the end of 1961, about 25-30 million excess deaths occurred. In addition, another roughly 30 million births were postponed due to malnutrition and shortage.

45. Crisis and �Readjustment� (1961-1963) Investment was chopped back. Some 20 million workers were sent back to the countryside. Household-based production revived Bonuses and material incentives revived. Small factories were shut down by the thousands Recentralization Most basic necessities were rationed Importing food

46. Launch of the Third Front (1964-1966) The Third Front was a massive construction program focused on China inland provinces. The objective was to create an entire industrial base that would provide China with strategic independence.

47. The Cultural Revolution (1967-1969) The Cultural Revolution was not a particularly important event in the economic sense.

48. A New Leap in 1970 Investment on the Third Front intensified again. Decentralization Relative autarky: Economic links with the outside world and between different regions of China were minimized. Almost complete absence of material incentives (bonuses or piece rates) Market-driven labor mobility virtually ceased. Urban school-leavers were sent to the countryside, and the government directed manpower and resources to remote inland areas.

49. Consolidation and Drift (1972-1976) Demand and supply for agricultural outputs again became unbalanced (by a wide margin) by 1971. US-China relationship improved (Nixon visited China in 1972). Industrial equipment (e.g. fertilizer plants) was imported from the West by a large scale. Investment was cut back. Continuous fight between the leftist and rightist.

50. The End of Maoism and Leap Outward Mao died in September 1976. The Gang of Four (supporters of Mao) were put in prison shortly after the death of Mao. Focus of China went back to improving the economy. Leap outward (by the new leader Hua Guofeng): A 10-year plan to make a massive investment push (120 large-scale projects), based on the faulty assumption that China�s oil output and export was sufficient to finance the plan.

51. A Final Turning Point The December 1978 �Third Plenum (meeting of all members)� initiated a new era in the Chinese Economy and Chinese politics. A host of new policies were adopted (reform and opening) The command economy strategy gave way to more market-based strategy.

52. Why China Turned around in 1978 The heavy-industry-and-closed-economy strategy could not let China continue high growth rate Agricultural output can not keep pace with industrial growth. Unsatisfied people Suppressed consumption Lack of mobility Urban-rural gap Death of Mao in 1976

56. Economic Status by 1978 Still quite poor: per capita GDP of $674 (2000 price) Industrial sector accounts for 44% of GDP. Energy consumption intensity is several times that of other low-income countries. Only 18% of population lived in cities. Literacy and life expectancy were quite high.

59. Is China the only country that has been growing? No. Many other economies have been growing rapidly in the past decades. Other east Asian economies But China is the one that grow the fastest and for the longest period, in terms of GDP per capita. China: over 30 years of growth with high growth rates.

61. Why many underdeveloped economies have been growing rapidly (despite their drastically different institution)? Spillover of wealth from developed economies. Spillover of modern technology.

62. Why China has grown faster and for a longer period than other developing economies? This is the so-called �China Puzzle�. Key question: Is the rapid growth of China a long-term or short-term phenomenon? Long term: Driven by continuous improvement in technology (hard and soft) Short term: Due to one-shot reform Due to mean-reverting