Wednesday, 27 November 2013

China’s blurry plan for market reform

China held its eagerly anticipated Third Plenum earlier this month, a closed-door meeting of the country’s top party leaders, to compile a reform package with the goal of avoiding the risk of an outright hard landing as its economy moves into a new phase of growth. The meeting set the year of 2020 as the date when many of the expected breakthroughs charted in the major reform areas can be expected to be achieved.

That date is a long way off, but the reform package itself is broad and will require time anyway. 11 key policies were enacted during planning sessions according to a white paper, but few details were provided in the communiqué.

So far they include: a new role for market-driven resource allocation, SOE restructuring, fiscal reform, integrated rural-urban development, greater democratic consultation, judiciary reform, a brief nod to President Xi Jinping’s anti-corruption campaign, social media and internet management, a new State Security Committee, environmental protection, and the creation of a group to coordinate these reforms.

These are the Chinese Communist Party’s (CCP) - and more importantly President Xi Jinping’s - set of plans to guide their policymaking over the next decade. Their current economic model, and to a great extent their social and political model, is quickly reaching its effective limits and it is time for a change. But there remain serious ideological obstacles and potentially whole structural upheavals waiting just around the corner, so just how the party intends to put their reforms into practice is the question they cannot ignore for much longer.

Two aspects immediately jump out about the new proposed direction. First, the language around the public and private sectors suggest the two are declared equal, but the contradictory statement in the communiqué that the reforms must “bring about the leading role of the public-owned economy” points to some unfinished hierarchical disputes at the highest levels in Beijing.

Second, it is an encouraging sign that the party plans a move to let the market play a larger role in resource allocation. China’s inefficient and uncompetitive public sector is already stunting the country’s economic development. If the Communist Party is to prevent economic stagnation it will need to create a wealthy middle class and a buzzing private sector. To achieve this, ending the monopoly status enjoyed by state-owned enterprises will be important.

For a very long time, their standard growth model has been high-volume manufacturing of low-margin products. Chinese central planning artificially subsidised both efficient and inefficient businesses associated with such goods. This created excess capacity, large-scale employment, and rising wages – all good things for the ruling party. But declining profitability over the past few years and rising global competitiveness offered far cheaper low-margin goods from other developing countries. To fix this, rule-bound markets are increasingly being seen as the right path for China’s economy, and Beijing says it wants to extract itself from the top-down administrative approach which has served it so successfully over the past 33 years. However their actions indicate they may not be comfortable loosening the reins just yet.

Perhaps the communiqué revealed so few details because the scope of China’s desperately needed economic changes is so overwhelmingly large. Letting the market become more involved, or at least indicating a motivation to open the doors a bit more, doesn’t immediately answer the question of how comfortable Beijing will be to let the natural market cycles of boom and bust equalise the Chinese economy.

Left to the natural forces, many inefficient Chinese businesses will simply bow to global and domestic competitive pressures, potentially sending thousands of semi-skilled people onto the streets in search of ever-rarer jobs.

There is little doubt that China’s leaders recognise a need for some kind of change. The party is saying all the right things, but the real test will be the implementation. The emerging ideological tug of war in Beijing might be enough to keep the party ahead of the expected changes their policy pronouncements and their shifting global position will create. But the general feeling from the Third Plenum is that this will be a struggle.

The meeting was not about westernising the Chinese economic model. It was all about reshaping the association between the CCP, the fluttering economy, and the Chinese people while ensuring the legitimacy and centrality of the ruling party. In this contest, the self-preservation of the CCP will always take priority. Much of that legitimacy rests on the promise of continued employment for everybody and a steadily rising income level. Let the assured jobs fall away while the economy adjusts to a new market-centred path and Beijing can expect social instability, which it greatly fears. Real changes will take much longer to implement in a system as complex as China’s, and 2020 might not be far enough away.

Market forces are strong and Darwinian, so the exact meaning of “market involvement” and how it will fit into the unique Chinese framework without upsetting too many elites either will be the trick. Ultimately the party will need to find a way balance a contradictory desire to both increase market forces in the economy and bolster centralised control. And that’s going to be tough.

It appears the best thing the party can do for the foreseeable future is try to keep the weak and dying businesses alive for as long as it can while espousing a rhetorical commitment to reform. Unfortunately it looks like the party will sit on its hands and keep the existing model in place until there really is no other option but to change its entrenched ways.

This looks distinctly like a contradiction and disconnect between political and economic policies. The Third Plenum can only be considered a success if its reforms lead to more precise changes in the future to invigorate China’s governmental and economic system. If not, China faces a grim period of economic stagnation and social instability.

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