China Faces a Perilous TransitionThe trajectory of China’s growth and accomplishments over the past three decades is hard to ignore, and projections of continued growth seem, on the surface, to be safe assumptions. After all, in 2010, China’s manufacturing output, energy use, and car sales surpassed that of the U.S. In addition, for the past 20 years, its military spending grew, on average, 16 percent each year. Based on these and other statistics, the IMF has predicted that China will become the world’s largest economy in 2017.
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This possibility of China becoming the leading economic superpower in the world elicits different reactions from different people. To some, it’s a negative because China’s ascendance would mean the loss of America’s influence and power abroad. Others see it as a great business opportunity. Still others around the globe would welcome any change that would knock the U.S. down a peg or two.
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But a closer examination of the factors lining up in China reveals that growth anywhere near the pace of the past 20 years is far from certain.
First, the model that has delivered China’s success up to this point is starting to run out of steam. Because this model ties the country’s growth to exports, the global recession has inevitably caused an economic slowdown. The demographic and financial problems in Europe call into question the growth of consumption in major markets served by China. So, the only long-term answer has to be a shift to a consumer-based economy.
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As incomes have risen and a middle class has begun to emerge, there has indeed been a clamoring for consumer products in China. However, consumption is currently only 34 percent of GDP, down from 46 percent 10 years ago, and still dropping. Meanwhile, in the United States, consumption’s share of GDP is roughly 70 percent.
Instead, China’s fixed investment has grown faster than GDP; it now makes up 46 percent of GDP.
Without a rise in consumption, growth continues to be investment-led, and this is beginning to present serious problems. A key one is that there are simply not enough economically viable projects in which to invest. Consider the recent wave of fixed investment in real estate that has left China sitting on a gigantic property bubble that’s ready to deflate.
The Chinese government would prefer to see consumption take off in China, weaning the country from its reliance on exports and investment-led growth.
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But a smooth and quick transition to a consumer economy will be virtually impossible, because over the next several decades, China will be forced to deal with three additional major crises as they unfold.
The first crisis will be the country’s changing demographics. At this point, the negative effects can be managed but not avoided.
The root of the issue is a low and declining fertility rate, that is the average number of children women have in their lifetimes.1 In a short 30-year timeframe, this rate has dropped from 2.6 to 1.56.
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This decrease is significant because the previous, higher number was well above the rate needed to sustain China’s population, whereas the lower number is far below the sustaining rate.
The genesis of this drop in the fertility rate is China’s “one-child policy.” Reacting to this drop, the government has revised the policy, allowing, for example, married couples in which both spouses were raised in families without siblings to have more than one child together. Unfortunately, these types of small adjustments are not expected to have a significant impact, prompting the UN Population Division to project that China’s fertility rate will drop to 1.51 for the years 2015 through 2020. For comparison, consider that the U.S. fertility rate is 2.08 and rising.
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This decline in births will cause an actual reduction in China’s population, not just a drop in its growth rate. Even if fertility rates begin to recover, by 2050, China’s population will be reduced to 1.3 billion, down from 1.34 billion in 2010 ? and if there is no recovery, the population could slip under 1 billion by 2060.
But it’s not simply a drop in population that will raise this issue to the crisis level; it’s how the demographics will change as the population ages. The median age will rise, greatly accelerated by two factors: people living longer, and fewer children being born.
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The consequences will be both financial and social.
A significant segment of pensioners will require some means of support. Traditionally, children, especially sons, took care of parents and grandparents, but one of the results of the one-child policy is that each child is being called upon to be responsible for two parents and four grandparents. Since it will be unlikely that the younger generation will have the means to meet this obligation, most Chinese senior citizens will require some sort of social security pension. But already, the country has an unfunded pension liability that is roughly 150 percent of GDP, and nearly half of the pension funds are running deficits, leading some local governments to renege on payments.
Although all developing countries must contend with rising pension costs, China has unique factors that will help meet this challenge, as well as factors that will make dealing with this challenge more difficult. On the plus side, the country’s low tax rate offers room for future increases to help fund the rising costs. In addition, citizens currently have a low expectation of welfare benefits. On the downside, China is much poorer compared to other countries where populations are aging, and the shift toward an older demographic has been much more abrupt.
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Already China is having trouble supplying the demand for engineers and other technical professionals. Another impact of the country’s shifting demographics will be a decrease in the working-age share of the population. In fact, the workforce is expected to shrink 11 percent by 2050. As China’s pool of cheap labor peaks and begins to decline as early as 2013, so will its position as “manufacturer to the world.”
The second crisis China will face will involve environmental issues ? specifically pollution.2 The biggest contributor to pollution in China is its considerable investment in developing manufacturing and heavy industries. The result is a rapid growth in energy consumption, since it has a direct bearing on increasing output, which is one of the prime goals for China. Increased energy consumption produces an increase in harmful emissions, but since pollution is not a direct impediment to output in the short run, sustainability and pollution control are very low on the agenda. Consequently, as the economy grows, so does the harm to the global environment, along with its impact on the health of the Chinese people.
China’s third, and likely biggest, crisis involves its looming governance problems that will greatly reduce the country’s ability to effectively deal with the other crises we’ve discussed. It is apparent that the Chinese Communist Party is unprepared to deal with the emerging realities.
Since its last major crisis in 1989, the party seems superficially more entrenched in power than ever.
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- Its membership has grown to 80 million.
- Its command of the military secret police has remained unquestioned.
- Its ability to censor the Internet has grown far more sophisticated.
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However, peering beyond this facade reveals fundamental cracks, including:
- Disunity among the ruling elites
- Rising defiance of dissidents
- Mass riots, especially in rural regions
- Widespread corruption
History makes it clear that these characteristics are symptoms of a regime that is in decay and is quickly moving into a period of crisis.
In light of this trend, please consider the following forecasts:
First, the steady loss of cheap domestic labor will force China to look abroad to supplement its labor force.
By 2030, China will be a net importer of talent rather than an exporter. Already, the country has mapped out a timeline for when there will be shortages for specific job skills. As each shortage nears, the search outside the country will begin. As opposed to the U.S., where an open, multi-ethnic society has been able to absorb mass immigrations, China lacks the strong legal and political institutions that have made the melding in the U.S. possible. As a result, an influx of non-Chinese workers will create ethnic and cultural conflicts that have, for the most part, been absent in the country.
Second, ignoring China’s environmental issues today will create greater problems in the future.
China is shirking its environmental responsibility in order to keep its economic growth rate at the highest possible level. While other developed countries are paying the heightened price of meeting environmental mandates, China is gaining an additional pricing benefit by not adopting this cost. At some point, however, ignoring this issue will begin to hinder opportunities for growth, whether it’s from environmentally related health issues or a boycott of Chinese goods until environmental issues are addressed. As the prices of Chinese goods begin to rise globally due to rising labor costs, thus eliminating the country’s clear price advantage, concerns over environmental irresponsibility will begin to affect consumers’ decisions to buy goods originating in China.
Third, the Communist Party of China will cease to exist in its current form by 2030.
While this forecast flies in the face of conventional wisdom, it is surprisingly plausible. Consider the following three indicators:3
- First, in the industrialized world, no one-party autocratic regime has lasted longer than 74 years ? the lifespan of the Communist Party in the old Soviet Union. The Communist Party of China is now in its 62nd year of power.
- Second, no one-party system has remained viable in a non-oil-exporting country once per capita GDP reached $6,000 based on purchasing power parity. China recently reached a per capita GDP of $8,382.
- Third, China is witnessing the emergence of a “counter-elite segment” made up of talented and ambitious individuals who are frustrated that they are kept out of power by the very nature of one-party rule. Contributing to this segment are roughly 6 million of China’s 7 million new college graduates who are not admitted into the party each year. Without that party affiliation, economic opportunities are lessened, leaving this sizable and growing group feeling excluded and cheated by the system. Feelings of frustration towards the party will make this group a prime breeding ground for political opposition.
References List :
1. The Economist, April 21, 2012, "Chinas Achilles ?Heel." ⓒ Copyright 2012 by The Economist Newspaper Limited. All rights reserved. http://www.economist.com 2. International Journal of Global Energy Issues, 2012, Vol. 35, No. 5, "An Empirical Research on the Interactions of Chinas Energy Consumption, Pollution Emissions, and Economic Growth," by Xia Jianqing. ⓒ Copyright 2012 by Interscience Enterprises Ltd. All rights reserved. http://www.inderscience.com 3. The Wall Street Journal, May 3, 2012, "Chinas Communist Party Is Entering Its Most Perilous Phase," by Minxin Pei. ⓒ Copyright 2012 by Dow Jones & Company. All rights reserved. http://online.wsj.com
