Tue, Apr 02, 2002 page8

• China must stick to reform plans

  • By Tao I-fen 陶儀芬
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  With Beijing having entered the WTO and opening its domestic markets, a debate has arisen in Taiwan and abroad about the prospects for China's economy.

  First, China's WTO entry and the opening of its markets will inevitably have a serious impact on state-owned enterprises, agriculture and the financial industry, all of which were protected under the planned economy. If the inevitable bankruptcies and unemployment that are sure to follow are not handled well, major social turmoil will result.

  Second, China is creating an enormous "black hole" in the coastal regions, attracting capital from around the world with cheap land and labor, the rich potential of its domestic markets and its relatively stable currency and political environment.

  Since skilled labor is abundant on the coast at every level, these areas -- from Dalian, Qingdao, Beijing and Tianjin to Suzhou, Shanghai, Ningbo and Xiamen, and stretching on to Shenzhen, Guangzhou and Hainan -- constitute the world's largest manufacturing base. From semiconductors to toys, anything can be manufactured there, causing China's neighbors -- including Japan, South Korea, Taiwan, Southeast Asian countries and India -- to feel the threat of competition and the hollowing-out effect as their own industries move to China.

  These two issues are in sharp contrast to one another. One is hopelessly riddled with problems, a picture of failure and destitution, a country that will collapse under further pressure. The other has unlimited potential and is full of hope. Anyone who fails to participate quickly in the opening up will likely see the opportunity snatched away by others.

  However, these mutually contradictory and conflicting pictures both accurately describe certain aspects of China's economy. The reason they can coexist lies in China's special path of economic reform. Unlike other socialist countries that chose "shock therapy," China has reformed in gradual steps over the past 20-plus years.

  The special characteristic of this strategy is that it preserves the nucleus of a socialist planned economy while relaxing restrictions to let elements outside of the planned economy develop. These elements are intended to gradually replace the nucleus of the planned economy and become the impetus for development. Thus, long-term observers of China's economy have discovered that on the micro level -- observing the foreign-funded enterprises, the development of private enterprise, the ambition of urban youth to develop upward and outward and the consumption power of the broad middle class in the coastal cities -- one can get the sense that China is full of hope.

  But on the macro level -- observing that state-owned banks have bad loans several times their capitalization; the central government's fiscal deficit shows double digit growth; production is as good as waste and embezzlement is rampant in state-owned industries; enormous social insurance funds have long since been misappropriated for unknown uses and the government's fiscal stimulus measures over many years have been unable to spur private investment and consumption -- one feels extremely apprehensive about China's economy.

  Stated simply, what they are observing is private enterprise, the power of which is just being liberated, coming smack up against the state-owned economy, which has never been reformed. Both are important components of China's economy today. Optimists believe the flourishing of private enterprise will ultimately replace the state-owned industries and complete the transformation of the economy. Pessimists believe the state-owned industries will ultimately drag down China's banking system, the government's finances and ultimately the entire Chinese economy.

  The World Bank estimates that WTO entry will increase Chinese economic growth by 2 percent per year until 2005. But all policies of opening markets to free competition share a common drawback -- they will create a situation in which the strong get stronger and the weak get weaker.

  WTO entry will naturally cause private enterprise to develop even more quickly and accelerate the decline of the state-owned sector. Industries employing large numbers of people -- the food, car and chemical manufacturing industries -- will be impacted most deeply. Moreover, the financial industry, which has long been burdened by the ineffective reforms of state-owned enterprises, will also face serious challenges.

  Chinese economists believe that the three to five years after WTO entry are key. Further growth may take place if China's leaders make good use of the coming years. This will require the leadership to accelerate structural reform, guide those who lose their jobs into new professions and initiate fiscal policies to divert growth into a social safety net to protect the large numbers of unemployed workers.

  In addition, Being will need to deal with local protectionism, balance discrepancies in regional development, encourage private enterprise in order to build a nationwide market and spur domestic demand to replace exports and foreign investment as the impetus for economic growth.

  Given these initiatives, China should be able to maintain growth similar to that demonstrated by Taiwan and South Korea in the 1960s and 1970s -- for approximately the next 20 years.

  Conversely, if the government continues to let the state sector play a social-welfare role by supporting a large number of workers and allows bureaucrats to continue to embezzle state capital on all sorts of pretexts, then state-owned enterprises will become real black holes for investment capital. The banks will be dragged down; the government's finances will follow; and finally China's entire economy will collapse.

  In recent years, China has used deficit spending to stimulate domestic demand, causing the budget deficit to rise to 15 percent of GDP. If we add on government guaranteed bonds issued by state-run banks and bonds issued by asset-management companies established to sell off the banks' bad loans, then this number increases dramatically to 40 percent. If we further factor in pension funds and the increasing bad loans at the banks, then within three to five years the budget deficit will easily exceed 100 percent of GDP.

  For a government with an annual revenue measuring just 15 percent of GDP, just the interest on this kind of debt is far in excess of what it can sustain. When the time comes, the debt will inevitably give rise to a fiscal crisis for the government.

  During the course of China's economic transformation, opening up to the outside world has always helped let off steam. Whether or not this positive effect will continue depends entirely upon the Chinese government's determination for reform.

  Tao Yi-fen is an assistant research fellow in the Institute of International Relations at National Chengchi University.

  Translated by Ethan Harkness

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