Challenge of Reform: Moving from a Command Economy to a Global Market Ren Mu Challenge of Reform: Moving from a Command Economy to a Global Market Ren Mu George Bush School, Texas A&M University Nov 30, 2007 China Today K-12 Teacher Workshop College Station, Texas

2 Introduction  China’s growth performance is impressive over the past 25 years. - Average annual GDP growth was 9.6% in the period. - GDP reached US$2.25 trillion in 2005, and China became the fourth largest economy in the world.  China is sill a struggling developing country GDP per capita is $1,700, compared to $40,000 for the U.S. - 8% of China’s total population was in absolute poverty in  Dual transition and two types of challenges - the transition from a socialist command economy to a market economy, and the challenges of market transition - the transformation from a rural to an urban society in the industrialization process, and the challenges of development

3 Outline  Understanding the last twenty-five years - - three phases in China’s economic reform - - major institution changes: decentralization, rural reforms, and experimentation and innovation with new enterprises - - successful evolutionary approach to the transition, in contrasts to less successful reforms elsewhere.  New challenges - - poverty and inequality - - ability to cope with external shocks - - environmental issues - - ……  Policy implications for the U.S.

Three phases in China’ economy reform

5 The first phase ( )  The agriculture reform  The agriculture reform: from commune production to household responsibility system - - bottom-up experiments and scaled-up by the government (in contrast to “legislate” approach) - - impacts on rural poverty

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7 The first phase ( ) (cont’)  Initial economic opening policy: the establishment of special economic zones first four SEZs (1979)

8 The first phase ( ) (cont’)  The establishment of special economic zones - foreign investment encouraged by lower tax rates, fewer regulations, duty-free imports of inputs - a strikingly visible signal of commitment to economic opening - test beds for domestic economic reform under dualistic system

9 The second phase (early 80s to mid 90s)  The fast development of rural industry: the township-village enterprises (TVEs) - TVEs increased rural incomes, and absorbed rural labor released from farms. - The entry of TVEs provided competition to state-run industrial enterprises. - TVEs played the catalytic role in transforming the economy from a command economy to a market economy

10 The second phase (early 80s to mid 90s) (cont’)  The development of rural industry and the township-village enterprises is another example of “build the road as one travels” In the June 13, 1987 People's Daily, Deng Xiaoping said: “Generally speaking, our rural reforms have proceeded very fast, and farmers have been enthusiastic. What took us completely by surprise was the development of township and rural industries. All sorts of small enterprises boomed in the countryside, as if a strange army had appeared suddenly from nowhere. This is not the achievement of our central government. Every year, township and village enterprises achieve 20% growth. This was not something I had thought about. Nor had the other comrades. It surprised us.” [Quoted in: Becker, Jasper The Chinese. New York: Free Press. p. 68]

11 The second phase (early 80s to mid 90s) (cont’)  More opening to foreign trade and capital more SEZs (1984 and later)

12 The third phase (mid 90s to present)  Transforming corporate governance in the state sector

13 The third phase (mid 90s to present):  Deeper opening to the global economy Source: Naughton (2007)

Summary of China’s achievement and its approach to transition

15 Source: Naughton (2007) Summary of China’s achievement: sustained economic growth

16 Summary of China’s achievement: progress against poverty Poverty In China (1981 – 2001) Source: Ravallion and Chen (2006)

17 Economic reforms in China: an evolutionary approach to the transition  Step-by-step progress - Is this approach too “gradual” or “slow”?  Build the road as one travels - Is the process of following fixed blueprint better?  Climb the mountain by a Zigzag path - Should the reform path be more linear?

More challenges ahead

19 Poverty remains a challenge

20 Where are the poor?– Sectoral and geographic characteristics of poor people Source: Stern (2001)

21 Poverty and inequality Poverty reduction is related to a focus on income growth, but it requires more than that. Bringing greater opportunity to lagging areas and excluded groups is crucial for poverty reduction in China and remains a challenge.

22 Increasing inequality Source: Naughton (2007)

23 How to make economic growth more inclusive?  Raising agricultural productivity  Creating more job opportunities  Expanding educational opportunity  Establishing an well-functioning social safety net, in particular pension system

24 High growth rate of international trade

25 More reliance on export

26 Potential external risks facing Chinese economy  Sudden stop or reversal of capital inflows - This phenomenon has been associated with a large number of emerging market crises - How serious it could be to Chinese economy?  Plunge in the value of the US dollar - relative depreciation of RMB? - slowdown in us demand?  Collapse of external demand from the US  U.S. trade sanctions

27 Environmental issues  Degradation of farm land is a substantial cause of the reduction of farm land.  High energy consumption along with industrial development in general has major implications for the environment. - Air pollution - Water pollution - Costs of pollution (World Bank 1997)  Broad impact of pollution and global warming

28 Implications for Unites States Policy  China will be on the regular agenda of American trade negotiators. - Probably no revaluation of RMB could solve the U.S. trade deficit. - Negotiation of property rights is in the interest of both, but may involve tension.  The environmental situation require government action, and the US has the widest economic and technological discretion to help.  Whether or not continued rapid growth in China is itself in America’s interests? ---YES