China Can’t Evade the Iron Laws of Economics
Xi shifts to ‘high quality’ from ‘high speed’ growth. He will preside over a new phase of failure.
By John Lee
Chinese President Xi Jinping during the Third Plenum meeting in Beijing, July 18. PHOTO: XIE HUANCHI/ASSOCIATED PRESSXi Jinping seeks “high quality” rather than “high speed” growth, he told the Chinese Communist Party’s Third Plenum, held last week to decide the country’s economic policy over the next five years.
Some observers say this is simply rationalizing the Chinese economy’s problems—enormous government and corporate debt, an inflated property sector, and disappointing growth in private and household consumption—which have gotten worse under Mr. Xi’s watch.
Others counter that Mr. Xi is doing the right thing by focusing on high-tech sectors such as semiconductors, artificial intelligence, aeronautics and renewables to underpin a high-quality growth model.
Perhaps Mr. Xi is trying to make a virtue out of necessity.
Up to now, China has relied on a “high debt, high leverage, high turnover” model that created rapid growth based on enormous levels of fixed investment in infrastructure and housing.
That system is flaming out.
But rather than adroitly managing an intentional slowdown to usher in a new era of sustainable growth, Mr. Xi is presiding over the next phase of Chinese economic waste, market distortion and failure.
To give Mr. Xi his due, rapid economic expansion isn’t always an indicator of national economic health.
Doubling down on the discredited fixed-investment approach would make matters worse.
Beijing’s new “high-quality growth” model is based on stimulating domestic consumption through rising wages and growing household incomes.
The theory is that the government can achieve this by supporting handpicked firms in high-tech and green sectors that will improve the quality of China’s economy.
Although that reasoning is seductive, the Chinese political economy is too flawed for it to work.
China’s earlier approach to solar panels is instructive.
In the previous decade, Chinese entities with the support of the government and lending institutions bought international solar companies and invited leading foreign firms to establish operations in China.
At great expense, and even before Mr. Xi’s era, the Chinese strategy to bolster a given sector has been to acquire, develop or steal world-class technology and capabilities, support the creation of entire supply chains inside the country, eliminate overseas competition, and subsequently dominate domestic and global markets.
Mr. Xi seeks to apply this approach to technologically important and advanced sectors as part of his high-quality-growth mantra.
The problem is that there is no escaping the iron laws of economics.
The massive assistance that the government provided to Chinese firms on solar led to a predictable oversupply of panels domestically and in global markets.
Even as global demand fell, Chinese companies ramped up production of panels to remain in business, and this was possible only due to even more subsidies worth billions of dollars.
China did achieve its objective of dominating the global solar-panel industry.
But applying this state-led approach to an ever-expanding list of advanced and green sectors will only worsen the problems of overcapacity, indebtedness and inefficiency that Mr. Xi is seeking to alleviate.
Another contradiction of economics looms for Mr. Xi’s best-laid plans.
The only way China can achieve sustainable growth is by rapidly increasing private consumption, which has been persistently below 40% of gross domestic product.
That makes it one of the lowest among major economies.
Wages are the major source of disposable income for Chinese households.
Beijing is trying to upend classical trade economics by achieving rising wages for all while also dominating exports of high-tech and high-value products and services.
This goes against China’s own experience, in which it became an exporting superpower thanks to lower-cost inputs than those of its competitors.
If Mr. Xi really wanted to supercharge growth in productivity, wages and household income, he could do it through the systematic transfer of economic access and opportunity away from state-owned firms and nominated national champions toward the much more efficient and innovative private sector.
But this would foster a powerful independent business class and undermine Beijing’s greater goal of further centralizing power and economic activity under his command.
Finally, there is a broader problem that weighs on Mr. Xi’s ambition.
He openly criticizes predecessors for ideological laxness and impurity and for leaving China vulnerable to domestic and external threats.
He insists that letting individuals and firms choose their paths will lead to national distraction and decay.
As the argument goes, China can achieve national rejuvenation, including the conquest of Taiwan, only if the country is preparing for the struggle ahead.
But Mr. Xi’s tightening grip on the economy is making China brittler.
Rather than overcoming flaws in the Chinese political economy, Mr. Xi is exacerbating them.
He is also deepening the resentment felt in America and other major economies against Chinese predatory and distortive policies.
This means that an ever more vulnerable China will face an ever more hostile environment of its own making.
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