Meanwhile, combined investment from Japan, South Korea and Taiwan plummeted 31 percent in the first half of this year, compared with a 6.5 percent decline last year.
These figures are only the early warnings of an emerging trend. In the long run, as labor shortages become acute, China will need to relinquish some low-end, labor-intensive manufacturing activities, which will translate into decelerating export performance and lower economic growth.
Aside from abandoning the "one-child" policy, China could avoid this outcome by climbing the value chain in manufacturing and services, as Hong Kong, Singapore, South Korea and Taiwan have done. However, for China to succeed, higher investment in research and development (R&D), together with a fundamental overhaul of the educational system, is essential.
According to OECD estimates, China's expenditure on R&D amounts to only 1.3 percent of GDP, compared with 3.2 percent in Japan and an average of 2.5 to 2.6 percent in South Korea, Taiwan and the US. Although the government recently announced that it intends to increase R&D spending to 2 percent of GDP by 2010, this remains below the OECD average of 2.2 percent.
As for China's backward educational system, the large number of university graduates is offset by their overall sub-standard quality. According to a recent survey by McKinsey, of the more than 3 million graduates churned out by China's universities and colleges every year, less than 10 percent are suitable for employment with international companies, owing to their deficiencies in practical training and poor English.
In view of these systemic weaknesses, China's ability to overcome its labor deficit by shifting to an economy driven by innovation and productivity remains dubious.
Friedrich Wu is a senior research associate at the National University of Singapore's East Asian Institute.
Copyright: Project Syndicate
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