China's Growth Slowdown Is Not Temporary

The campaign will certainly do nothing to weaken the state’s economic power. This means that competition among government officials will continue to be more important than market forces. Even if new performance evaluation criteria are introduced—as Secretary General Xi has recently suggested—hitting targets will still take precedence over economic rationality. Transitioning to productivity-led growth will be impossible under these circumstances.

Continued state sector dominance will also stifle consumer demand. The low share of consumption in Chinese GDP is not primarily the result of household “over-saving.” Rather, it is due to the fact that ordinary citizens have no real claim to the income of state-owned entities. In fact, state-sector profits derive largely from subsidies, the burden of which ultimately falls on households. As long as this is the case, the consumer can hardly be expected to “step up to the plate.”

China’s economic system, like the Soviet system on which it is based, is designed to channel national income into state-promoted investment. In the initial phases of economic development, this strategy can work because it is relatively easy for planning authorities to identify investment projects that make sense on a cost-benefit basis. Productivity growth is relatively unimportant and a case can be made for postponing consumption for the sake of rapid industrialization.

In China, this “big push” phase could be said to have ended in the late 1990s, when excess-capacity problems emerged in many sectors that had previously experienced excess demand. The country had reached a point at which, as then-premier Zhu Rongji told the National People’s Congress in 2001, “further development would be impossible without structural adjustment.”

Yet structural adjustment has proved elusive. As the Soviets discovered in the 1980s, a productivity renaissance cannot be brought about by fiat. Nor are government and state enterprise elites going to allow a significant reduction in the state’s share of the national income pie. As long as the economy is dominated by the state, switching to a new “mode of growth” is not a real possibility.

China is now facing a sustained deceleration. In the absence of any other driver, GDP growth is not going to pick up until investment recovers. But with the return on investment continuing to decline, such a recovery will prove to be short-lived. Before long, Beijing will once again have to take up the battle against corruption and inefficiency, pushing growth rates even lower in the process.