China’s Economic Crisis, Alexander Chen ‘23

Recent decades have been characterized by the slowly declining influence of the United States and the long-anticipated rise of China to superpower status. China’s rapid economic growth since the enactment of market-oriented reforms in 1978 has lifted more than 850 million Chinese out of extreme poverty, built an enormous export-oriented economy, and driven average Chinese incomes up (World Bank). Yet recent drops in GDP (Gross Domestic Product) growth point towards a slowing export sector and an unfavorable geopolitical situation (World Bank). Rising wages and a severe demographic crisis are putting immense pressure on China’s export-oriented economy, which relies heavily on cheap labor. External pressures are also mounting on China’s economy; now more than ever, the West sees China’s growth as a threat. The Chinese export economy suffers from renewed hostility, trade wars, and even suspicion over the COVID-19 pandemic’s origin. All of these discouraging factors beg the question: what can China do about its economy? The reality is that the country has only one option: to place emphasis on domestic consumption and to shrink the export industries. This would transition the country’s economy closer to those of wealthy importers, such as the United States. However, increasing domestic consumption necessitates a stronger, wealthier middle class and more support for businesses; it requires freer financial institutions. Lastly, China needs a cutting-edge innovation sector that can compete with other global producers. Yet China’s authoritarian system, which suffers from wasteful government spending, corrupt elite interests, and impediments to technological growth, will most likely prevent all endeavors from transitioning to a domestic consumption economy.

China’s economic model is extremely unique. The term that describes China best, ‘state capitalism,’ appears to be an oxymoron. The authoritarian central government coexists with a thriving market economy, a combination that appears to possess the best of two worlds: capitalist productivity and authoritarian supervision. Instead of following the Western liberal model, China believes that it has carved a new path to success. Furthermore, the country markets its state capitalism as a viable and attractive alternative to democratic capitalism. The only proof China needs is its existence: it is one of the world’s largest economies, and its sphere of influence grows as each day passes. The Chinese Communist Party, or the CCP, has virtually complete control of the Chinese government. The CCP maintains its legitimacy by ensuring economic growth, which placates the Chinese population to some extent. Therefore, one of the CCP’s highest priorities is to continue economic growth and to avoid stagnation. However, in recent years China’s economy has experienced a notable slowdown. China’s GDP growth had averaged about 10 percent for many decades; in past years, annual GDP growth has slowed from a peak of 14 percent in 2004 to a low of just 6 percent in 2019 (World Bank).

This significant drop can be attributed to the now outdated export model on which China built its fortune.Three reasons stand out for why the Chinese export sector is in decline: an incoming demographic crisis, rising wages, and external hostility. The availability of cheap labor in China decreases every year due to negative demographic trends that have plagued the country since the notorious ‘One-Child Policy.’ The policy limited the number of children a couple could legally have to just one. Even after Beijing reversed the policy in late 2015, many families chose not to have a second child due to economic concerns, and rising prices around the country have left swaths of Chinese couples behind. The country’s overall birth rate declined dramatically after the enactment of the one-child policy, and the current Chinese fertility rate in 2020 is approximately 1.69 children per woman. Experts predict that annual Chinese population growth will continue to decline in the next few decades to the point that there soon will not be enough workers to support the aging population (Myers et al.). Also, China’s economic boom has rapidly increased worker wages, and as a consequence, many companies are outsourcing to cheaper locations such as Sri Lanka. Finally, more countries in the U.S.-led coalition are taking a harder stance on China. Notably, the ongoing trade war with the U.S. adds the extra burden of tariffs on imported Chinese goods. The only remedy to a declining export economy is to transition to an economy driven by internal consumption and innovation. Recognizing the necessity of this transition, the CCP has recently unveiled a new ‘dual circulation’ economic strategy which is part of the party’s 14th Five-Year-Plan. The plan emphasizes the transition to a domestic consumption economy aimed to boost the growing middle class of roughly 400 million Chinese. More concretely, the CCP wants to lessen dependence on imports and raise per-capita GDP to match moderately developed countries such as South Korea or Israel. The plan also highlights domestic technological development as an important objective (Sutter et al.). However, the feasibility of this strategy should be called into question. Given the political environment and authoritarianism prevalent in China, the plan’s ambitious goals to transition the economy will most likely never come to fruition.

To transition to a domestic consumption economy, the CCP must emphasize domestic growth by allocating resources towards productive businesses and beneficial developments. However, the inefficient authoritarian nature of the CCP and its stateowned enterprises (SOEs) could impede any effort to transition. Effective resource allocation is not one of the CCP’s strengths; the party has a long record of wasteful expenditures. Although the CCP has attempted to stimulate domestic consumption and productivity by increasing internal spending, much of that spending has been wasted on useless infrastructure and clunky SOEs rather than private enterprises and the middle class (Fisher).Structural overinvestment plagues Chinese housing and infrastructure developments. Most ghost towns formed when people moved out, but China’s ghost

cities formed when no one moved in. A nationwide study in 2017 based on the China Household Finance Survey found that approximately 22.4 percent of homes in China are unoccupied; in comparison, the U.S. home vacancy rate in the same year was just 12.7 percent (Blazyte). Regional airports and highways are also underutilized, and many Chinese provinces that borrowed huge sums of money to pay for these projects are now in severe debt (Buckley). We can look towards China’s fragile real estate bubble as a partial explanation for the high vacancy rate; government-led property developers in China believe that the demand will keep going up, which will certainly not be true once the bubble bursts. The government-driven housing bubble severely hurts the average Chinese consumer. Recently, economists at Moody’s Analytics pointed out that Chinese disposable income has grown at about 10 percent annually for the past six years while household debt has grown at about double the rate, and much of that debt is related to housing. The low disposable income suggests that even if Beijing transitioned China to a domestic consumption economy, consumers would not have enough to spend. China’s excessive infrastructure construction vastly increases debt every year; Chris Buckley from the New York Times writes that “the cost-benefit ratio of each new mile of asphalt drops sharply.” Even worse, Oxford professor Atif Ansar examined 65 Chinese highway and rail projects in a study and found that less than a third were productive (Buckley). Most of these projects are supervised on the local level, meaning that local officials have the largest stake in infrastructure. Why would officials take the risk to fund projects that are not worth their price tag? Three reasons stand out. First, officials can receive millions of dollars in various benefits for giving out contracts to certain companies, also known as bribery. They get away undetected because China possesses neither a financial disclosure system nor an effective anti-corruption practice (W. Chen). Second, officials can receive career benefits for building large projects, even if the projects are not economical. Third, government backing ensures that the construction companies and the local government will not default nor go bankrupt even when they are deeply in debt (Buckley). Simple economics shows us that supplying a service does not ensure demand. Rather than boost the middle class and businesses, the CCP wastes money on largely useless infrastructure, proving its incompetence in transitioning to a domestic consumption economy. The CCP also controls Chinese SOEs, which are a distinctive part of the Chinese economy (Guluzade). Although SOEs have brought many jobs to the country, they are undoubtedly inefficient. SOEs, by definition, are led by the CCP, and their top priority is to serve the party. This means that they have to operate under special policy burdens, which can lead to contradicting objectives, hiring of redundant workers, and other wasteful consequences. Even worse, SOEs have a ‘soft budget,’ meaning that the government will bail them out through fiscal subsidies and tax cuts (Asia Dialogue). Because of this

financial security, they lose the drive to become ‘leaner and meaner’that private sector companies possess. Also, banks tend to loan to SOEs more often than private companies because SOEs have government backing; this pushes the balance in favor of state control rather than private control, creating an unfair playing ground. The data shows that SOEs are much less productive than their private counterparts. They account for a huge portion of non-financial corporate debt and are heavily reliant on government funding (Asia Dialogue). Studies comparing thousands of firms have repeatedly shown that SOEs are, on average, less profitable than private companies (Thi et al.). Even though the CCP has attempted to reform SOEs, Chinese SOE reforms are widely regarded as unsuccessful, and in some cases, completely failing (Asia Dialogue). Finally, the interests of the elite may be the greatest obstacle that the CCP faces to transition to a domestic consumption economy. In China, the line between officialdom and business interests is practically nonexistent. Many corrupt government officials have earned their private fortunes through political positions and powerful SOEs. These officials tend to be regional party members that greatly benefit from SOEs and the export economy.Also, because local officials have a certain degree of autonomy from Beijing, they can diverge from the national policy if they think it is in their interest to do so. This means that the Chinese officialdom could easily resist changes that harm their interests. A new domestic market driven by middle-class consumers would require a transfer of wealth from SOEs and the elite to the middle class, and Beijing would certainly face tremendous opposition if it attempts to transition to a domestic consumption economy (Fisher).

Without a doubt, technology forms the backbone of productivity growth. Robust innovation drives countries forward and boosts production. For China to transition to a domestic consumer economy, it needs to become a global leader in technology and nurture a thriving education and innovation environment. The CCP has tried to encourage technological growth, yet fundamental issues with authoritarianism and inefficient fund allocation continue to stifle the Chinese technology sector. The first impediment lies with the infamous Chinese Great Firewall. Named the ‘Golden Shield,’this massive government firewall not only restricts dissent but also Chinese researchers’access to outside information. The firewall blocks sites commonly found in the U.S., such as YouTube, Facebook, Twitter, and Gmail (vpnMentor). Important web resources such as Google Scholar are also blocked. The result is that Chinese researchers and scholars are not able to easily access foreign research, which could otherwise aid them greatly. In addition, the Golden Shield, as an anonymous Chinese astronomer said, makes “international collaboration difficult and damages the reputation and competitiveness of Chinese science institutes” (Normile).

Secondly, China’s patent incentive system requires extensive reform. The country claims the title of most new patents annually, but in 2018, Bloomberg reported that according to JZMC Patent and Trademark data, about 91 percent of five-year-old Chinese patents produced in 2013 were discarded by 2018 (WIPO). The Bloomberg article goes on to note two key points. First, U.S. patents are still of considerably better quality than their Chinese counterparts; because the CCP rewards innovation based on patent filings, many research institutions choose to create useless patents to appear highly productive so that they can receive funding. The second point, as stated in the article, is that “the high disposal rates mean China still has a long way to go till it becomes the technologically sophisticated nation it aspires to be” (L. Chen). To compensate for the lack of internal innovation, the CCP heavily utilizes technology theft. However, an increasingly hostile international environment suggests that it will not be able to sustain this theft nor easily acquire foreign technology for long. FBI Director Christopher Wray recently stated that the bureau currently had about 1,000 open investigations of technology theft related to China (Wray). Although the CCP claims to be pushing for technological autonomy, it continues to leech technology from other nations. For example, the CCP’s Thousand Talents Program entices top scientists and engineers in numerous Western countries with lucrative financial incentives. In return, many participants inappropriately share their research and technology with Chinese entities, costing affected enterprises and organizations billions of dollars (Wray). However, recent U.S. crackdowns on suspected technology theft and restrictions on student/scholar visas point towards a future where China won’t be able to sustain technological growth by stealing other nations’ ideas. The CCP wants to turn China into a technological powerhouse capable of competing with cutting-edge, developed nations. However, the productive and independent technology ecosystem necessary to achieve this goal requires foundational changes in the current Chinese technology regime at the legal and societal levels. Wired Magazine’s Geremie Barme and Sang Ye observed that “the technology China needs to build the most powerful country on Earth in the 21st century threatens to undermine the institutions that rule the nation” (Barme et al.). Without a thriving, independent technology sector, China’s path to a domestic consumption economy will remain unclear.

In short, a massive ideological contradiction impedes the CCP’s ability to transition China to a domestic consumption economy. The CCP is an authoritarian entity that maintains order and stability with top-down control, unlike liberal democracies that are open to criticism and bottom-up change. The government needs to provide more resources to true innovators and the private sector, but SOEs and inefficient fund distribution block the path. It must provide more power to the growing middle class to create domestic growth, but then the reluctant party and its ruling elite would have to lessen some of their power.

The heart of the contradiction lies in the very nature of China’s government. It is simply impossible for the CCP to build and reform the institutions needed to transition its economy while placating party officials and maintaining its dominion over the Chinese people. Finally, although China’s troublesome transition is a critical issue, the CCP faces an even greater threat to its continued reign: the people of China appear to have recognized the CCP’s unequal and oppressive nature. Social unrest cases in China have become more frequent every year since the 1990s, but the CCP continues to employ a ruthless combination of stringent online censorship, heavy surveillance, and police repression to stop activism and discontent at its source (Slaten). Accounts of Chinese human rights activists ‘disappearing’ have startled both the international community and everyday Chinese citizens. Ever since the economic reforms four decades prior, inequality has skyrocketed and will likely get worse. If the CCP cannot transition China’s economy and continues supporting the wealthy elite over the common people, then severe social instability is certain to follow. And as scholars of history know, the collapse of a society often begins with its people.

Alexander Chen ‘23 Scholastic American Voices Winner To read the full essay with works cited page, visit the National Scholastics Art and Writing Awards website.