Chinese perma-growth at risk as Leninists tighten Politburo grip

By Ambrose Evans-Pritchard

Last updated: November 15th, 2012

As expected, hardliners have won the power-struggle at the top of China's Communist Party, or at least they have won the latest round judging by the line-up of the Politburo's Standing Committee this morning.

This is beginning to look like a shocker for the world economy, with big implications for global growth, trade, oil and commodity demand, investment flows, etc.

Two key reformers were shut out of the seven-man Standing Committee: Guangzhou party chief Wang Yang and the head of the national party organisation Li Yuanchao.

Wang Qishan – the torchbearer of economic modernisationdid make it onto the committee but will be in charge of fighting graft, not fighting dinosaurs.

The North-Korea trained Zhang Dejiang – a champion of the state-owned behemoths – has risen further to prominence.

There is a growing risk – though only a risk – that China will hit the "invisible glass ceiling" that lies in wait for catch-up economies that rely too long on cheap labour and imported know-how, failing to make the crucial switch to a different kind of model before it is too late.
It is not easy to make the leap to self-sustaining growth on the creative frontier. No country has achieved it with a fully authoritarian system.

The outcome of the 18th Party Congress – the biggest change in Communist cadres since the Revolution in 1949, with 70pc of top jobs up for grabs – has shortened the odds that China will make the change in time. One starts to see the grim prospect that the country could grow old before it gets rich, which is not good for the world.

The main thrust of this orthodox revival in Beijing is of course political, not economic. China's leadership have watched the Soviet collapse, the revolutions of central Asia, and now the Arab Spring, and they don't like what they see. The press will be kept on a tight leash. Dissent will be checked.

Every member of the Standing Committee lived through the Cultural Revolution. Incoming president Xi Jinping spent seven years of his youth banished to labour duty in a remote Shaanxi village, much of it living in a cave. These are fresh wounds. We can all understand why the Communist Party dares not throw the country open to volatile forces. Stability is precious too.

The triumph of hardliners – and it is only a partial triumph – does not automatically preclude China from jumping to the next economic level. Yet there are surely implications if the party now clings to Leninist Capitalism, choosing not to follow Korea, Taiwan, Singapore towards a much more open system.

Mark Williams from Capital Economics says the glass is still half-full.

This is not the Standing Committee that reformers might have hoped for but neither should it be a cause for despair. Most senior officials in China now seem to agree on the need for economic policy reform.

Let us hope so, but this does not look to me like a leadership ready to jettison Deng Xiaoping's growth model – the export-led, mercantilist, top-down model of the last 30 years, nurtured behind a protective currency wall.

This Politburo is unlikely to heed the advice of the World Bank and China's Development Research Centre, which have together called for a second economic revolution to lift per capita income to levels in the West.

Incoming premier Li Keqiang vowed "unwavering support" for the findings of these two bodies earlier this year, but it is far from clear that he will be able to deliver on his plans. He will be hemmed in by Leninists, those most known for having championed state-owned giants (SOEs) in their own regions to drive development and fund patronage.

This is not good news. The World Bank/DRC report – the Bible of China's reformers – said the SOEs are the essence of the problem. A quarter lose money; their productivity growth-rate is two-thirds less than that of private firms; they gobble up available credit, forcing the private sector to go to the dark side at great risk.

I have written about this before but just to recap, the report said:

"China has reached another turning
point in its development path when a second strategic, and no less fundamental, shift is called for."

"The forces supporting China’s continued rapid progress are gradually fading. The government’s dominance in key sectors, while earlier an advantage, is in the future likely to act as a constraint on creativity," it said.

"The role of the private sector is critical because innovation at the technology frontier is quite different in nature from catching up technologically. It is not something that can be achieved through government planning."

The World Bank's pitch is that China is not doomed to fall into the "middle income trap". The decisions it makes over the next five years or so will decide the outcome either way.

But the line-up as the Standing Committee walked onto the dais this morning should be a cold douche for BRICs romantics and believers in Confucian perma-growth in the West. Will these men really get a grip on a credit-driven economy that has become ever more unbalanced – with investment reaching a world record 49pc of GDP, and consumption falling from a very low 48pc to just 36pc over the last twelve years?

The danger for China – and the for rest of us hoping that China will pull our economies out of their post-bubble swamp – is that the US Conference Board will be proved right with its dire warnings this week.

The Board said China's growth will fall to 5.5pc through the middle of this decade as the ageing crunch hits, and then fall to 3.7pc from 2019-2025. The compoud effects of this would be enormous.

All those predictions that China would vault into the stratosphere by the middle of the centuryleaving America in the dust – would come to be seen as charmingly naive.

So we watch, nervously, waiting for further clues. China has everything to play for, and everything to lose.

November 15, 2012 7:19 pm
China: The thin red line
New leaders face social and economic change that threatens the system in which they thrived
Chinese Leaders©EPA
New guard: the seven members of the Communist party’s Politburo Standing Committee

The faces of the seven ageing men in dark suits were new, but the script they followed as they walked stiffly on to the stage in the Great Hall of the People was little changed from that of their predecessors a decade earlier.
China’s new leader, Xi Jinping, introduced the newly minted members of the Communist party’s Politburo Standing Committee in turn, they bowed and applauded each other and then, after a short speech by Mr Xi, filed out to begin governing the world’s most populous nation.
The rituals of the Communist party have barely changed in the past 10 years and its leaders are still chosen behind closed doors by a tiny clique of party elders.
But the country it reigns over has been transformed since the last leadership transition and the challenges it faces in perpetuating its rule are mounting. Mr Xi acknowledged as much in Beijing yesterday during an address that was unusually plain-spoken and bereft of communist jargon.

“Our party faces many severe challenges and there are many pressing problems within the party that need to be resolved,” Mr Xi said. “We must make every effort to solve these problems; the whole party must stay on full alert.”
If the seven new leaders needed any evidence that, offstage, the world had changed around them over the past decade, it came in the form of Weibo, China’s equivalent of Twitter. Puncturing the fusty decorum of the politburo, cheeky commentators mocked the party elite over their speaking styles and accused them of being an hour late because they were getting their make-up done.
China’s new leaders rose to power when uncomfortable facts could be reliably kept out of public view, as happened with outbreaks of Sars and Aids. But their fossilised political apparatus will struggle to contend with a more critical and confrontational public discourse. This was illustrated last year when comments on Weibo from witnesses of a high-speed rail crash forced China’s authorities into direct action. This would not have been possible a decade ago.

Passing the flower

In fact, public defiance is increasing. Sun Liping, a professor from the elite Tsinghua University who is said to have supervised Mr Xi’s doctorate, estimates there were more than 180,000 public demonstrations in 2010, compared with an official estimate of about 40,000 in 2002.
The response from the previous administration was to ramp up the budget for domestic security and “stability maintenance” – and to crack down on anyone who was seen as threatening the status quo.
“I would characterise the last five years, and especially since 2009, as a period of authoritarian stagnation in which all political, social and economic reforms were stillborn,” says David Shambaugh, director of the China Policy Programme at George Washington University. “I’m afraid we’re going to get more of that under Xi.”
The outgoing administration of President Hu Jintao and Premier Wen Jiabao can rightfully claim to have presided over one of the most flourishing periods in Chinese history: a decade of double-digit growth and a corresponding rise in China’s global standing. China’s gross domestic product is almost five times larger than it was 10 years ago and it has gone from being the world’s sixth-largest economy to the second-largest.
Over the same period, the country’s foreign exchange reserves jumped from $287bn to $3.3tn, the number of Chinese tourists travelling abroad each year increased from less than 17m to more than 70m and the length of the national highway network more than doubled.
But the most common assessment from Chinese policy makers, intellectuals and officials is that Mr Hu and Mr Wen presided over a “lost decade” during which they reaped the benefits of smart decisions made by their predecessors but failed to outline or implement a viable vision for the future. The Chinese quip that they engaged in “jigu chuanhua” – literallybeating the drum and passing the flower” – a traditional Chinese game like pass the parcel or musical chairs.
“During their 10 years in power, Hu and Wen relied entirely on the fruits of the investment and development of the previous 13 years [before they took over in 2002],” says Ma Xiaolin, a prominent political commentator and founder of an online discussion forum. “But now in the Xi [Jinping] era, if the leadership cannot solve the major problems, such as serious corruption and problems in the judiciary, then they will definitely not be able to maintain social or political stability.”

Losing steam

China’s quarterly year-on-year growth rate has dropped from 12 per cent at the start of 2010 to about 7.5 per cent now and the country is on track to register its slowest full-year growth since 1999.

With the growth model running out of steam, the country’s new leaders do not have the luxury of an economic boom like that enjoyed by their predecessors.
“We’ve seen very quick growth for almost 30 years but now we have come to a crossroads,” says Mao Yushi, an influential liberal economist.
“The [outgoing] administration didn’t push reforms, the force of earlier reforms has been used up and we see mounting problems stemming from the political dictatorship.”
Mr Hu came into office with a promise to narrow a widening gap between rich and poor and shift to a more environmentally and economically sustainable growth model.
The government did make some progress in building a rudimentary social welfare system. Chinese growth is now less reliant on exports but environmental degradation is a source of serious social unrest. Inequality has worsened considerably.
The demographic dividend that has fuelled China’s double-digit growth for decades with a seemingly endless stream of cheap, pliant labour is now coming to an end.
During Mr Xi’s first five-year term, the Chinese labour force is forecast to peak and start shrinking. Over the longer term, the average age of the Chinese populace will rise rapidly, thanks largely to the one-child policy.
At the same time, a huge boom in investment, the bulk of which went into the export sector and property, is increasingly unsustainable, according to Beijing’s own estimates.
The party is intent on shifting China’s growth model away from exports and investment towards domestic consumer demand. Mr Xi is likely to make this a focus of his economic policy.
This will mean placing a continued emphasis on expanding the country’s woefully inadequate social services and a slew of policies aimed at boosting the country’s weak service industries. It will also involve taking on powerful constituents in the state sector, where the Hu administration oversaw a resurgence that is popularly referred to as “guojin mintui”, or “the state advances and the private sector recedes”.
“If you look at the next 10 to 15 years, China has huge potential to grow and huge scope to increase its GDP,” says Mr Mao.
“But we still have too many state-owned enterprises and monopoly industries controlled by the state; these are very inefficient and are limiting the growth potential.”
The private sector in China has been the main driver of growth and the biggest creator of jobs since the country began to dabble with capitalism in the early 1980s.
Many Chinese economists agree with Mr Mao that the state companies must be reined in for growth to continue.
This will be a key problem for Mr Xi and will test his willingness to tackle entrenched vested interests that oppose economic and political reforms.
“I’m dubious that the new government will be able to do much on state-owned enterprise reform or any other major reforms,” says Prof Shambaugh. “Even if they really want to reform they will find themselves blocked by four groups of very powerful institutional interests – the state enterprises themselves, the military, the apparatchiks and the state security apparatus.”
Many Chinese and international analysts say the increased power of these entrenched groups has caused stagnation, which in turn is aggravating some classic symptoms of late-regime dynastic decline in China.
One of these signs is factionalism at the top of the party, evidence for which came this year with the downfall of former political high-flyer Bo Xilai.
Mr Bo is awaiting trial on charges related to corruption and his wife’s murder of British businessman Neil Heywood last November. Until March he was seen as a frontrunner to ascend into the Politburo Standing Committee at this week’s Communist party congress.
Accurate figures are hard to find but the outflow of capital and wealthy, well-educated people from China appears to be gathering pace, while rampant corruption pervades every level of government.

Mr Xi and his incoming team will have to implement a much more active policy agenda than their predecessors if the party is to avoid the fate of other authoritarian regimes that failed to keep ahead of societal demands for change.
The party’s ability to meet those demands is hampered because of the rise of the internet – and in particular microblogs such as Weibo – which spread information much faster than the government can censor it.
The number of internet users in China has increased from less than 60m in 2002, when Mr Hu came to power, to well over 500m today.
This presents an enormous challenge to a party that desperately wants to promote high-tech innovation and modernity but has always maintained an iron grip on all forms of public expression, from fine art and theatre to newspapers and television.
“The general public is using the internet in a creative way to gather information, communicate with each other and also to mobilise,” says Guo Weiqing, a professor of politics at Sun Yat-sen University.
Marxist orthodoxy

In this era of more free-flowing information, state ideology, based on “Marxism-Leninism”, “Mao Zedong Thought” and a porridge of less coherent theories such as Mr Hu’sScientific Outlook on Development”, rings hollow and is widely ridiculed, even within the party ranks.
Mr Xi has presented himself as an orthodox Marxist but most political analysts believe he will need to reposition himself, and the party, to present a vision of the future that more people can relate to.

Another worrying sign for the party is the rise of an assertive military that does not appear to be under the full control of the civilian leadership.
This has enormous implications for the rest of the world, in particular China’s increasingly wary neighbours who have seen Beijing’s official military budget expand from Rmb171bn in 2002 to Rmb603bn last year.
“From South Korea and Japan, along the entire first island chain, and westwards to India, China is increasingly seen as an antagonist and potential adversary,” say Derek Scissors and Dean Cheng of The Heritage Foundation, a US think-tank.
Chinese experts say Mr Hu’s biggest foreign-policy achievement was reducing tensions with Taiwan, the self-ruled island nation that Beijing claims as its sovereign territory.

But a ratcheting up of rhetoric and aggressive action over territory in the South China Sea and East China Sea some of it rich in fish stocks and energy reserves – have left Beijing with precious little goodwill from the rest of the region.
“When Hu Jintao took over [in 2002] China didn’t need to look to Russia or elsewhere to make friends because relations with its neighbours were quite good but now relations are really terrible,” says Shi Yinhong, director of the Center for American studies at Renmin University. “A military conflict is still a very remote possibility but for the past 40 years I’ve never heard so many people [in China] talking seriously about going to war.”
Some analysts hope Mr Xi’s status as the “princelingson of a revolutionary commander and founding member of the Communist party will allow him to bring the military to heel and present a foreign-policy agenda that is less abrasive.
But others question whether that is something he really wants.
Chinese leaders tend to think of the US as a paper tiger and believe if they show they’re tough on their neighbours and on Washington then that will force everyone to back down,” says Andrew Nathan, a professor of Chinese politics at Columbia University and co-author of “China’s New Rulers”.
“On foreign policy I expect Xi to continue a policy of promoting a more assertive China on the world stage,” he adds.
Forging harmony
Most analysts believe the biggest difference between Mr Xi and his predecessor will be one of style rather than substance.
Mr Xi is less scripted and more confident than Mr Hu and his affable style allows him to build consensus in the fractious world of elite Chinese politics.
He spoke frankly yesterday, highlighted corruption while barely mentioning socialism or any other orthodox ideological phrases.
But his ability, or even his desire, to push much-needed economic and political reforms remains completely untested, and most pundits are quite pessimistic.
“It’s silly to expect China’s new leaders to come up with a reformist blueprint that will be anything other than a reactive attempt to stay on top of demands from below,” says Perry Link, emeritus professor of East Asia studies at Princeton University. “There is no reason at all to think that Xi is going to be the Gorbachev of China.”
Copyright The Financial Times Limited 2012.