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- [00:00]
A
Welcome to the lse. I'm Wouter Den Hahn. I'm a professor at LSE and director of the center for Macroeconomics who is hosting this event. So this is the first in a lecture series on important macroeconomic topics. So next month, Ethan Ilsetski is going to talk about fiscal policy during the crisis. And then mid March, I'm going to give a talk on whether everything you hear about macro is true or not. And then Kevin Sheedy in April is going to give a talk about unusual, unconventional monetary policies. But this evening, it's my pleasure to introduce my colleague, Kaeu Jin. So Kei Yu. Jin got her PhD from Harvard and only four years ago, in 2009. Five years ago. But she already has a very impressive CV. She has published an American Economic Review, which is our top journal. And she's published on very tough topics like why do capital flows not necessarily go to the countries that are most in need of capital? She's written in the Financial Times on whether the Europeans could learn something from Asian countries. She has worked or consulted at the IMF and the World bank and a bunch of investment banks. And so we're very privileged, sorry, privileged that K. Eugene is going to open the lecture series and she's going to talk about China's economic transformation, myths and realities. So she's going to talk for roughly 40 minutes. So after that you're going to get a chance to ask questions. Please turn off your mobile phone, but if you want a Twitter, then you can. And the hashtag is LSE Macro.
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B
Thank you. Perhaps one of the least understood economies in the world today is China. For the last 30 years, it's grown higher than, on average, 10% per year. It's lifted hundreds of millions of people out of poverty, and it has become the world's second largest economy. So people, the share of population living under about a dollar a day in 1982 was 85% of the whole population. By 2007, it's plummeted to already 13%. And while it has been considered an economic miracle, it's often seen as a slumbering giant about to wake up. And while people fear China's rise, people also fret about a China growth slowdown. The world has challenged China's economic policies, sometimes controversial, and their ramifications in the world, including exchange rate manipulations, capital controls, unintended government policies, and buying up Europe and the U.S. china has also flooded the world markets with cheap capital and cheap labor, exporting cheap goods around the world. And it has often been accused as providing the backdrop for the recent financial crisis by bringing massive amount of liquidity, lowering the global interest rate. So how do we see China in the global economy? The role it has played and the role it will continue to play in the future. But in order to understand that, we first must turn to China itself. And because China has garnered so much attention in the media, in the press, etc. There has also been a lot of myths and misunderstandings and misconceptions about China's economic structure. So in this lecture, the focus is going to try to be debunking some of these prevailing notions. So I want everyone in the audience to think about China not as a typical developing country. Now of course, it's adopted conventional development strategies. Urbanization, industrialization, globalization. These have been instrumental to jumpstart China's economic growth. It involved a massive transition out of agrarian societies. China also became the world's factory. Before, it produced only for a small, poor country, and now it can produce for the world utilizing its resources. Globalization aided the process. However, unlike other typical developing countries, there's something different about China. And one of the most powerful policy tools it has, and it will continue to have, is precisely reform. Reform is China's second revolution, said our great leader, Deng Xiaoping. It's probably to be precise, our only great revolution. But reform has been a powerful tool as we will see as an underlying source of growth. And it is kind of the answer to why and how China's growth can be sustained. So the magic word is reform when thinking about China's growth process. Because let's not forget the historical context. When China began its economic development in the late 1970s, it was a centrally planned economy and by definition distortion ridden. So the process of reform entailed gradual removals of distortions because unlike the ex Soviet bloc, it chose to adopt a gradualistic transition process towards the market economy. And there's still many distortions left going forward. There are many distortions yet to be removed. So China took a gradualistic approach. It started from the 1980s where the government said, well, let's try it out. So the experimentation started with special economic zones. In the early 1980s, there were only four of them. They received special industrial policies. They welcomed foreign capital, foreign trade. By mid-1980s, four became 14. By early 1990s, the coastal cities which were the special economic zones, expanded inland. And studies have found that introducing a special economic zone into a city has over time increased GDP per capita of that city by 20%. So the special economic zones worked in the 1990s reforms were characterized by a massive wave of privatization, in particular the privatization of state owned enterprises. So inefficient entities of the state owned enterprises were either driven out, restructured or completely shut down. They were privatized or they formed joint ventures with foreign companies. So as you will see, this kind of reform process of transition of reallocation of resources from inefficient areas to efficient areas, from state owned to private sector firms, was a major underlying source of growth. And of course, with China, you can experiment with anything. So in 1992, the Shanghai Stock market reopened for the first time. And Deng Xiaoping said, well, let's just give it a try, because if it doesn't work, we can always just shut it down. So with these successful experimentations, reform continued and deepened. By the mid-1990s, GDP growth has slowed down, has stagnated. What was the answer to that? Further reform. So the next wave of reforms in the 2000s were increasing globalization, trade liberalization, 2001, China joined the WTO. At the same time, we saw growth pick up, it rekindled growth. It led to concurrently massive amount of current surplus, current account surplus, trade surplus, fdi, foreign investment, and all of that. So reform, as you can see, what I'm trying to get at is that reform is a very powerful tool for the stimulus of growth. Unlike many other developing countries, the recent third plenum reform package that was announced in November highlights the need for continued reform. We're not done yet. There's still a lot more to do. And President Xi Jinping has basically put his legitimacy on the front line as to whether he can successfully implement these reforms. Reforms have been long delayed and they are at the forefront of the policies. And it is very important. If you read this carefully, there is a political undertone to his announcement of this, the reform package. It is the party, not the government, that is going to push the reforms. There is a political government divide because the next wave of reforms is going to continue to challenge state owned enterprises, opening them to competition, absorption by private sectors. So President Xi in the new reform process will meet a lot of difficulty. But if he were like Deng Xiaoping, which was able to steer away all these dissension and hindrance to the reform process, this will be successful, but the emphasis is still reform. Think about China. Its growth process is by nature wedded to the process of reform. This leads to the first myth I want to talk about, which is, is China's growth model investment driven, unbalanced and therefore unsustainable. To clarify this concept, you just think about output, which conceptually is determined by three productivity, capital, labor, the factors of production. So the popular notion is that China's growth is largely led by investment. Indeed, investment rates were very high in the 1990s, on average about 30%. And now it's over 40%. Proponents of a China growth slowdown, or proponents of kind of unwinding of the imbalance in the Chinese economy has in mind that diminishing returns, the curse of diminishing returns is going to set in. In other words, with additional uses of capital, capital become less efficient, less productive. So diminishing returns to capital will start to set in. And this is why so called China will slow down if it's really investment driven. But at the same time, there's a lot of evidence that there are still high returns to capital well above 20%, and it has been increasing since the 1990s. So how are we able to reconcile this fact with the popular conception that China's growth models is investment driven? Growing like China growing like China is different. Investment growth is by no means the primary nor the most important source of growth. In the last couple of decades, growth came a great deal from the reallocation of resources, of even existing resources, without even pertaining appealing to creation of new resources, existing resources in particular labor. So the reallocation of existing resources from low productivity areas to high productivity areas, from low productivity firms to high productivity firms, contributed substantially to the productivity growth. Now, there are two types of reallocation that have been most significant. The first of which is a rural urban kind of reallocation. In particular, the allocation, the reallocation of resources away from the agrarian economy. So the share of labor and agriculture at the end of the Maoist era was about 70% of the whole population, and by 2007 it dropped to 30%. But why would a rule will urban reallocation contribute to productivity growth? Well, the reason is that because of institutional restrictions in the late 1970s until the late 1970s, people were very much tied to their land and severely restricted in terms of the economic activities they are able to pursue. So there was an oversupply of labor in the agricultural sector and that lowered the return to labor in that sector. So transition of labor away from the oversupply labor, low return agriculture sector to the non agricultural sector contributed to growth. But even more important is another type of reallocation, which is the reallocation away from state owned enterprises to the private sectors. So in the non agricultural sectors, where the state owned enterprises comprised a large share of resources, it dropped from 52% of employment to only 13% over this period. And if you look at manufacturing firms, this is a share of private sector employment. These two are just basically measures of the same thing. This is a share of private sector employment in manufacturing. Even in 1998, it was about 10%. Quickly climbed over to 60% by 2010. This is part of this wave of privatization that we observed. So there has been a lot of reallocation away from state to private, and this has contributed to growth because state sectors are highly inefficient. If you look at the average productivity growth between 1978 and 2007, the state sector grew at 1.52%, in contrast to the private firms at 4.56%. So the reallocation of labor in particular from state to private sectors contributed to aggregate productivity growth. Also, rapid productivity growth in the private sectors helped absorb a lot of the labor that was transferred out of the agriculture Society and created 420 million jobs. Now, let's do a counterfactual exercise. Let's imagine that had the sector, private sector, not grown at all, then calculations say that GDP per capita would have been on average 3.79% lower annually of the 10% on average that have grown absent private sector productivity growth. And also, people have shown that the gains to this reallocation of resources would have been much higher had there not been such a severe misallocation of capital. So what I mean by this is, you know, we talked a lot about allocation of labor across sectors and across firms. But one of the constraining factors is that capital did not reallocate as swiftly and as efficiently as labor, because we know that state owned enterprises have access, cheap access to capital, and private firms were highly constrained in terms of acquiring that capital. So had these high productivity private firms been able to access capital, had the capital also been swiftly reallocated across sectors, then the gains would be much larger. And in absence of any new capital formation or investment investment, it's shown that gdp, you know, China would have grown just as fast if capital were able to reallocate efficiency efficiently. So this leads to the next big thing, the next big impetus to growth. Is China's growth over. The answer is absolutely not, because there's still significant misallocation of capital. An example is looking at the state share of investment in the non agricultural sectors. So the employment share by the end of 2000s were only 13% and its contribution to GDP is less than 30%, but its investment share is 53%. It has a much better Access to capital. This is evidenced by the fact that returns to capital, the blue line here is the returns to capital for the state non supreme for the non state firms is much higher than the returns to capital for the state firms. It's also evidenced by the high capital labor ratio of the state compared to the non state. So the returns to capital were particularly high because capital was not able to easily go into these private sectors. Firm credit constraint is still very much a big deal. So with the reallocation of capital plus the reallocation of labor, there is still much more growth to come. So the next big thing is winnowing distortions that better reallocate capital across sectors and across firms can lead to significant GDP growth. And in particular, studies have shown that catching up with US financial efficiency in terms of reducing this dispersion of returns to capital can lead to GDP increases of 60 to 100%. Eliminating differences in these returns can lead to productivity gains of 160 to 300%, which are massive numbers by the way. So removing distortions and better allocating capital can potentially be the next big source of growth. So this is just to summarize that if you think that China is only driven by investment and formation of new capital, think again. Because reallocating existing resources towards its more productive use has contributed a great deal to the growth. So this is components of GDP growth and the red bars are those of within sector reallocation led productivity. And that has been very important. And finally putting things into perspective, China is still very much a poor country in comparison. Okay, this is real GDP per capita PPP adjusted. In the early 80s it was about 5% of US GDP per capita. Now it's 20%. But in terms of a catch up, there's still ways to grow. By no means is China a rich country yet in terms of levels, it's still very poor. So the second puzzle or the second myth is China's high saving rate. So this is household saving rate for China in the late 80s it was about 5%. Very similar to the US and not far from the advanced economies. But over a matter of 20 years, household saving rate quickly climbed to almost 30%. Households are saving 30% of their disposable income. Contrast that to the profligate Americans and Europeans which have seen a rapid or a sustained decline in the household saving rate. Why is the high saving rate and the rising saving rate a puzzle? That Chinese households like to save a lot is not necessarily a puzzle. The puzzle really is why China's households are saving more and More over time. Over a period of rapid growth, the Chinese have experienced rapid income growth. They know the Chinese economy is growing. In principle, they should be even borrowing against their future income and therefore saving rate should fall. So why are they saving more and more? There has been a lot of. There have been a lot of attempts to try to explain this puzzle why Chinese save so much and save so more. But we have to think about the two tests that it has to meet or the two criteria that has to meet. First of all, why it's saving at such a high rate so the levels affect, and the second of all, why it's growing over time. Also, there's a bit of confusion about, you know, is corporate saving the main driver? Is it urban versus rural? These are important things. The biggest puzzle is really the household saving rate. The corporate savings have increased because of the greater profitability of corporations, but the corporate saving rate has not increased over time in China. It has actually fallen. And also corporate savings has kind of increased across the board, not just a Chinese phenomenon. So it's less of a puzzle. So household saving rate has been increasing and moreover, 75% of that increase in saving. Household saving comes from urban areas, not rural areas. So any account of why Chinese are saving so much has to fit these criteria. There is a lot of interest and therefore the popular wisdom have extended to many different kind of explanations. But they all meet some of these challenges. Some have appealed to culture. Chinese are potentially thrifty, but have they gotten thriftier over time? That is less likely. There is the notion that there's a lack of social safety net, so lack of Social Security system that bids people to save a lot. But if that were really the main explanation for household saving, then somehow Social Security have gotten worse over time to induce even greater saving uncertainty. During the transition process, where a lot of people were transitioning out of the state sectors into the private sectors losing their jobs have been considered to cause precautionary savings saving for Iranian Day. But has uncertainty gotten worse over time in the last 20 years? This is highly unlikely. These are the popular wisdoms and they are not met without challenges. But two of my favorite examples, or two, my favorite explanation has nothing to do with economics. Ironically enough, the first one is a gender imbalance. So there's a large difference between the birth of males to females. So by 2010 or 2008, for every 100 girls, there were roughly about 120 men, 2120 boys. So there's a large gender imbalance. And you might wonder why a sex imbalance could lead to changes in saving behavior. This is no country for young men. Marriage has just gotten ever so competitive. And for matters of matrimony, we can always turn to Jane Austen for an answer she lived to today. She would have certainly revised her opening statement in Pride and Prejudice and said that it is a universally acknowledged truth that every man in search of a wife must be in possession of a house and a car. And hence competitive saving motive. Not only do you want to save more in order to secure or raise your eligibility, your parents, your entire household are going to save on your behalf. One rural survey asked what are the primary reasons for saving motives in households? Marriage ranks among the top three. So this is the aggregate gender imbalance sex ratio and the aggregate private saving rate. And there's surprisingly, you know, a very clean correlation. But also across provinces where the local gender racial response higher, there's higher saving rate. We also know that households with boys save more than households with girls. So the competitive marriage saving motive has induced households to save on behalf of the sons. And even more so there's a spillover effect because of the competitive notion of that. But not to worry, this is unlikely going to be a sustainable reason for China's high saving rate because the Chinese men have found the solution. They have taken the concept of globalization quite literally, which entails importing whatever cannot be produced or cannot be produced cheaply. And this is applied to the procurement of. Now this is an ad for a Vietnamese wife. There's a package for $6,000. You can have the return tickets, meet the family applications for passports. And this one, which costs slightly more, has four guarantees of which one includes securing or bringing her home within three months, Purity, and last but not least, a one year warranty that she's not going to run away. So you might, you know. So the mail order brides have become a new solution to the competitive or the expenses entailed in the marriage process. You might laugh, but this is actually quite factual. In certain parts of Taiwan, with severe local gender imbalances, 50% of the men have imported wives. This is happening in Korea, Singapore and also is happening in China. So competitive saving motive for marriage is going to collapse. Now, second explanation, which also has nothing to do with economics per se, is one of China's most controversial policies, which is the one child policy. We are of the one child policy generation. That fertility controls have led to a rapid decrease in urban fertility rate to almost about just slightly over one by 1982. This is urban households, 98% of urban households who had children had only one child. So how does the one child policy change saving behavior or affect aggregate saving? One experiment is to look at twins, twins born under the one child policy and comparing them to households with only child. By the way, just to make it clear, you are allowed to keep your twin if you happen to have one under the one child policy. So we can do the experiment of contrasting the household saving behavior between an only child and a twin after the implementation of the one child policy. So on average, the only child families save about 8.5% more than the twin households. This is between 2002 and 2009. This is also true across income quintiles. There are large differences in the saving rate between one child families and two children families. Now, the first reason is not hard to fathom. Purely a reduction in expenditures can raise saving. But these expenditures are not to be ignored, because if you look at education expenditures, they can amount to 15% of total household expenditures per child. So while an only child may spend on average about 10% of household expenditure on education, a two children household will spend about 6, 17 or 18% of total household income on education. These expenditures are large. They include education, clothing, apparel, food, et cetera, et cetera. So the expenditure effect can contribute to a decline in the saving rate. But the second reason has to do more with institutional forces of the Chinese family structure, which is that parents relied on children to support them for old age. If you look at the evidence on this, these are for people who are 65 years and above. The main source of livelihood come from family support more than 56%. And on top of that, the expectations of family support is about 50% for those between 45 to 65 years old. So the more children you have, the more support you're going to get and it's more likely that you're going to be able to reside with one of them. This is such is the family institutional structure in China. So imagine that you had on average about three to four children before the implementation of fertility policies and now you're only allowed one. Well, you can surely expect a reduction in the total amount of transfers that you're going to get. So you have to incur additional saving in anticipation of that. So saving for your old age when there's a reduction in the number of children is another possible effect caused by the one child policy. Now, an interesting byproduct of the one child policy, however, is that despite the fact that they are spoiled little princes and little princesses, they are going to be highly educated. Because underlying this Notion is a quantity quality trade off. If we put it in the framework of thinking about these transfers, yes, surely you have fewer children, but you want to heavily invest in their education so they will have higher wages and be able to contribute more. Where's evidence for the conic inequality trade off? Well, this is the household. This is education expenditure per child for an only child and for a twin. Okay, you can see that during the mandatory stages of education, there were no real differences in terms of education expenditures spent on each children. But when it became discretionary at some point, at one point, the education expenditure received by an only child was twice as high as that of a twin. So this means that potentially there could be a human capital dividend. It is found that twins are 40% less likely to pursue higher education and they're also 40% less likely to pursue an academic institution, secondary academic institution, than only childs are. So there is an underlying quantity quality trade off. This leads to the projection of high labor productivity growth. Still going forward, some project at least 9% until 2020, 6.7% until 2030. Labor productivity is still very important because there's a possible popular notion that China might age before it reaches because of the demographic aging accelerated by the fertility policies. But labor force is expected to decline by maybe about 0.2%. But labor productivity growth also with this more educated, highly human capital driven, only child generation can potentially ease some of the the reduction in labor force. What imbalance? People think about China and think about imbalances. And the greatest imbalance that has been put forth has been this imbalance between consumption, saving and exports. China exports too much, consumes too little. This kind of imbalance is unsustainable. But perhaps the fundamental driver of this imbalance is an imbalance between governments and households. The two policies, unconventional and slightly controversial policies that have led to this great imbalance is what I call wage suppression and financial repression. So if you look at wages and manufacturing, they grew at on average about 7.6%. Compare compared to labor productivity growth in manufacturing, which was on average 17% between 1997 and 2008, and real GDP per capita growth, which was over 10%. So wage growth has really lagged behind. Wages were suppressed. That led to significant declines in the labor share, financial repression. You have to know that most of Chinese household savings go into bank deposits. But they were earning very, very low rates of deposit rate returns. So while inflation has been, there has been a pickup of inflation recently. So many, many years they were earning negative real returns on their saving. On average, they were earning about zero. So this kind of financial repression and wage suppression led to banks becoming more profitable. It is subsidizing corporations because of their cheap access to credit. And most of these corporations were state owned enterprises and hence a large transfer of wealth from households to government. This, in my view, is the biggest source of global imbalances, sorry, of imbalances, and is probably one of the main drivers for why China's consumption is so low. So when we think about China and the global economy and whether it can help with global imbalances by adjusting the exchange rate, well, let's search deeper for some fundamental sources of imbalances. Exchange rates itself might not be the answer. So finally, putting all this together, everything that I've said, all the myths I have talked about has an influence on the global economy by definition because China has now become a large open economy and everything it does will affect the world economy. So concurrently, while China has grown so fast and integrating the world economy since 1990, we have observed three remarkable trends in the global economy. The first is a saving divergence. I've shown you this. This is household savings, but also for private savings, where savings have gone up in China and saving rate has declined in the US and OECD economies, there has been a sustained decline in global interest rates over this period. And how much of that is driven by China? The massive kind of contribution of saving to the global economy, how much did that contribute to the decline in global interest rates is still indeed an open question. At the same time, over this period of fast growth in China and integration, there has been global imbalances. Despite the fact that investment rates have been so high in China, savings have been even higher, leading to a net capital outflow, a current account surplus that has increased over the last 10, 15 years. So China is exporting capital to the rest of the world, in contrast to the US which has been running a larger and larger current account deficit. So these macroeconomic facts in the global economy combined together, consider together how much of that is due to the incoming of China. We believe that there is quite a bit of story, the China story there. So looking into the future, if I were to put it above and beyond what we have said about reallocating capital, removing distortions, etc. Etc. Perhaps we can think about China as moving away from a cheap labor model to a cheap capital model. So if we think about historical analogies in a global economy, this is not the first time that a country rising, a rising country, has seen such large increases in current account surplus amassed. A great Amount of wealth. We've seen it during the first wave of globalization. This country has had run a large current account surplus, exporting capital to developing countries like in Latin America. It's the case for the US as well. For a long period of time, it has amassed massive amounts of external wealth, ran large current account surpluses. And In Japan, since 1960, it's run a current account surplus and never looked back. But the experience of these countries with their net external imbalances have been very different. The UK and the US globalized and utilizes golden opportunity of accumulating massive amount of wealth to internationalize, creating global capital markets, internationalizing their currency, in contrast to the experience of Japan, which was relatively closed, did not internationalize, leading to assets bottled inside. Now, which path is China going to take? I think that part of the recent reform package and the reform direction is very much about continuing to open up. Hence the experiment of the Shanghai Free Trade Zone, basically introducing Hong Kong into the mainland. Everything that Hong Kong can do, you can do in Shanghai. This is again part of the experiment. Experiment. So making Shanghai a global capital city so that Chinese citizens don't just have to put their savings into bank deposits or housing, but they can buy stocks of their favorite brands. Starbucks, Coca Cola, things like that. So internationalizing and moving towards a cheap capital model is potentially a direction to go. Reform is a continued process. Like I said in the beginning, it is going to be the source of political legitimacy for the new regime. Their political legitimacy rests not only on the design of a seemingly very comprehensive reform package, but also on its implementation. This is what we're going to see in the next 10 to 15 years. And the reform package has also emphasized a redistribution of wealth away from government back into households. It has been explicitly stated in the reform package. But let's not forget that one remaining challenge is intellectual property rights. Now, if China still wants to attract global capital and especially global technology, which is an important source of future growth, it has to respect intellectual property. Now, this is a golf course outside of Beijing which is a one to one replica of the Chateau Laffite in Bordeaux. And the name is the Jean Lafitte Chateau with a double F and double T. Now, now, by no means is this an exception because one of the wealthiest men, wealthiest businessmen in China, his home residence is an exact replica to the White House. So I think conceptually the Chinese have got to recognize that intellectual property is very important. In order to continue this highly desirable factor, which is technological growth and technological import from foreign countries, some things fundamentally has to change. But in the end, what am I most concerned about? If we think about the challenges that face China today, it's neither economic nor political. It is social. And it is not a social turmoil, an Arab Spring in China, a Jasmine revolution. No, it's rather social decay. Destruction of meritocracy, for one, which has been bedrock to the Chinese society for thousands of years, is admittedly one of the sustaining factors for thousands of years of feudalism, an erosion of Confucian values and the disruption of the social and family fabric. Now, many people in this audience will understand exactly what I mean, because we all know that corruption is at every stratum of society, not just of the government. To this I attribute three proximate factors, roughly, which is the lack of a legal constraint because the legal infrastructure is not very developed, nor religious restraint, nor moral responsibilities. So, with a slight abuse of terminology, in the use of William Butler Yeats, I will quote that I'm most afraid of a terrible beauty being born. Thank you very much.
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A
We would like to give you the opportunity to ask Ko some questions. To maximize the number of questions, please limit yourself to one question and try to be concise. And finally, wait till you get the microphone from one of the stewards. Who wants to start over there? Hello, my name is Elijan. I'm a student at King's College, War Studies. Thank you for this insightful presentation. I really enjoyed. But I have my doubts about the role of culture in economy because you relied on culture in explaining several phenomena. But don't you think that in the case of China, relying on culture can lead us to oversimplification of what is a complex phenomenon? Because there are numerous ethnic groups in China, particularly the Uyghurs of Turkic origin and they have distinct culture. So what do you think about this?
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B
I have to say I absolutely agree with you. Culture, I don't think is the primary explanation for much of China's growth and the puzzling phenomenon that we have seen because culture is a slow moving factor and that hasn't changed so much. So when I was explaining why Chinese saving rate is so high, I was actually deliberately trying to stay away from any appeal to culture as an explanation. So I think that because we observe change, rapid change, and culture hasn't changed that quickly, that I would tend to agree with you that we rather steer away from that explanation. Hence the study of economics. Now, of course, anthropologists would have other interesting ideas.
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A
Hello, I'm Spencer and I'm a Master's student of economics here. And I actually went to your class last year for international economics. So I have to say sorry, because I have really a tough question for you.
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B
It's welcome.
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A
Okay, so in your slides, what you're saying is that you're worrying about more of the social dimension of China's development rather than economic and the political. But I will say that while the social decay or social tumor are essentially by product of China's political institutions, and as what you're saying is that reform, reform, Reform is the key word for Chinese economy's growth. But I will say that right now, reform has been highly captured or manipulated or hijacked by interest groups in China. And they are very smart, they're using their understanding of political systems and they have a lot of political connections across the party, across the stable enterprises and across the ministry. So the question is, in order to have reform to be effective, we should not assume like a social planner that's going to do what the societies are doing the best. What happened is that what happened if there's a small segment of a society that they're trying to gain a larger share of the pie in the economy, and these are the interest groups and these are people are doing what exactly they're doing. So I wish to ask you this question that how would you comment on the political aspect of China's reform and how is that going to pose a challenge for its future dynamic? Thank you.
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B
Okay, to cut to the relevant part of this, I would say that the political government understands very well, like I was saying in the beginning, that its political legitimacy rests on the implementation of reforms, which has to be, you know, beneficial for everyone else, not just the elitist. So these politicians are highly competent, they understand this precise problem. So Xi Jinping sees himself almost as a new Deng Xiaoping trying to start this wave of reforms in order to sustain the next decades of political support. So now, of course there's always corruption, but I think if you look at the specific kind of explicit statements in the political reform, it is very much about giving more land property rights to the rural population so that they can borrow against their collateral. It's a lot about financial market improvements. It's a lot about developing financial markets so that small medium sized firms can have better access to capital. I think these are very explicit market oriented reforms and not necessarily and quite fair. You're right about the fact that it's going to see a lot of resistance from different vested interests. That's part of the challenge. But that depends ultimately on whether Xi Jinping is able to steer away like Deng Xiaoping, all this Dissension and resistance. Yes, go ahead.
- [48:27]
A
Hello, my name is Yan Wei and I'm a student here. And my question is people, People argue that China should transfer into consumption led growth rather than an investment growth mode. And do you think it is now? It is. Is it a right time for this transition, do you think? Or maybe later for this transition to happen?
- [48:50]
B
Well, I believe that, as I was saying in the presentation, that this kind of financial repression and wage suppression, this imbalance between governments and household, is ultimately something that has to change in order for households to want to consume more. Household income as a share of GDP has fallen rapidly in China and they're getting very low returns on their savings, potentially leading to higher savings rate because of a low interest income. If you can't diversify the assets in which Chinese people can save and only allow them to put into banks and property, then it's going to be a perennial problem. So I think the reform, if it is indeed successful in terms of building more opportunities for these households to raise wages and also raise their investment income, then I can see that potentially happening. But it should be underway if we believe the numbers from the one child policy. The recent reform process, you know, package is also about having more children, having two children. So likely that can reverse some of the high saving, you know, lower the saving rate and go towards a declining trend, if anything. Please.
- [50:02]
A
Hi, thank you for speaking with us.
- [50:03]
B
My name is Hong, I'm an MSc.
- [50:05]
A
Student here at LTLSE. I want to just observe that. Well, many people observed that since 2008, credit growth in China has far outstripped GDP of growth. The implication being that especially among corporates and local governments, the amount of debt has grown far in excess of their ability to service it. How do you see the situation developing?
- [50:31]
B
Oh, I completely agree. The whole shadow banking, the accumulation of local government debt is a cause of concern, although I don't think it's a cause for panic. The reason is that China still has massive amounts of liquidity in terms of the foreign reserves, in terms of the government held liquidity. And there's no question that if anything happens the government will step in to bail out the banks and to rescue the local government. So in that sense they don't have the considerations that the west necessarily has. And so I am concerned but not overly worried. And one must also draw to the fact that that China is a growing economy. So the level of debt to GDP ratio could potentially slightly be different from a country that has no growth or is stagnating. So I agree with you but I'm not overly concerned.
- [51:26]
A
You talk on your last slide of some of the consequences of continued growth internally for China. What do you think some of the consequences are geopolitically for the rest of the world, especially China's relationship with Japan, Russia, the U.S. yes.
- [51:40]
B
I mean, this is a, you know, challenging question, because anything I say would probably be seen as having a biased view. But I would say that of all the challenges I see, it's not what China is going to do to other countries, but whether, but rather what China is going to do to itself in terms of the social decay. Now, I bring us back back to history a little bit. China was many times conquested by peripheral areas they called barbarians, but they were militarily much more powerful. Ultimately, it was always absorbed culturally by the Chinese because of the cultural preeminence. And the Chinese have never really had a tradition of foreign aggression. Instead, they collected, you know, they institute kind of tribute systems with the Southeast Asian countries and peripheral areas to establish this kind of superiority. But in terms of, you know, militarily conquesting them, we don't see many, many, you know, instances. So to be very honest, if I I think tension with Japan is certainly a cause of concern. But if you were to ask me whether China is going to, you know, kind of exploit its its economic rise, China to be more militarily aggressive, I would say I don't think so. Yes. THERESA puska, agent, treasury well, basically, I found the fact that you said you don't really fear an Arab Spring in China quite fascinating, because I guess there's this economic argument that once growth slows, as we've seen in China recently, people become more aware of social circumstances. So how are they going to tackle that? Are they going to reform the political system, or do you see that happening? Right, absolutely. So when they see growth slowing down, that is a cause for concern for the government, which is exactly linking back to my initial argument, why they want to deepen reforms. And the Chinese people, if you have asked them, they've expected a series of reforms which have long been delayed in the last 10 years or so. And so the announcement of the reform package in really, really quite vast areas and quite deep has been a source of, you know, comfort to the people. Next thing is about implementation, if they're successfully going to be able to implement these reforms. And I think China's, you know, Communist Party at least, is safe for 10 years now. After that, no one, no one, no one knows. But it's important to realize that the government, the Communist Party is self evolving entity. People mistakenly think that it's still the same over the last, you know, the 20 years. It's changed a great deal, it's changed the circumstances. It is actually very, very flexible. So it will adapt to new environments. But I think the question of whether it will be substituted by something else is too early. Although that question might arrive after 10 years. Yes, Thank you. I'm a student here. I'm doing a degree in law. Studies. But I would like to ask you that I come from a country which is predominantly tribal and feudal. And when you talk of China, considering the vastness of the country though, you're looking at it as one nation, one country, but there's tremendous diversity. How does this impact the mindset of the people though? In your concluding points you do write that there are certain factors for which you say that, yes, there's a religious restraint or a moral responsibility. What about the mindset of the people in China? Is it safe, still tribal? Because if religion or moral values are not driving them, what is driving them? First, is it the tribal or feudal mindset? And as a consequence of this, the impact on the governance of the country? Are the values of the Communist Party driving the the future of the country? Or is that where the country is headed? Or that's the unification force, as perhaps Chairman Mao had tried to do? So is it still the path dependence coming into the future? The problem exactly that is there is no driving force, there's no spiritual driving force. That is precisely a problem. The spiritual void. Now, for the longest period of time, Communism substituted Confucian values and it was, you know, the kind of the spiritual salvation to many people. But now it's not the case and there's no religion. However, the government has recently tried to encourage the return of Buddhism and let also underground Christianity and all these forces surface because they understand that the spiritual void is much more dangerous. So if anything, it's the lack of that that is most cause of concern. But I do see a potential return in religion. But that's going to take a long time. Yes.
- [56:55]
A
Hi. So during your talk you stressed the central role of reforms. Now the question I find very interesting is what we can learn, what other countries may potentially learn from this experience of doing reforms. And it seems that you're also stressing the central role of the state in pushing those reforms. And you mentioned that the state is very capable. Now, how much do you think is due to this unique combination that the states for some reason has the incentives to actually generate economic activity and development? So Is there anything other countries can learn when they don't have these type of institutions set up?
- [57:32]
B
Tough questions, tough to extrapolate from one experience. But I certainly think in the beginning parts of development, especially like China, the centralization, the central government was critical. They jump started investment in infrastructure, they built cities, everything was much more efficient and fast. And to push through, also to push through reform package, you need a highly concentrated government. And so I think that centralization was important, especially in a country which needed to reform, to remove distortions, to keep that, steer that on track. You can't be fighting about what to do all the time. Yes.
- [58:21]
A
For about three to four years now, people have been talking about hard landing in China, but numbers have grown like clockwork. Every time industrial production, retail sales come out, they keep going at a constant pace. So if you look at reality on the ground, can any of these numbers be trusted? Second question is that the new Politburo seems to be more open to taking hard decisions, maybe engineering the slowdown so that some of the imbalances built over the years can be wound down. But as they try to engineer this slowdown, can we expect China to grow up 7%, say for the next five years as some of these imbalances are done away with?
- [58:57]
B
You pointed out an absolutely correct statement which is part of the growth slowdown, or even most of it is deliberate. It's the government intention to lower it to 7.5% approximately. If it wanted to grow faster, it could. But the government believes that there is an underlying potential imbalance, but more about, you know, resources being absorbed by inefficient, you know, parts of the economy. When growth is too fast, you tend to not drive out to the inefficient firm. So I think in that sense it is true. True. I think there's too much of a worry about statistics in China and Chinese government because ultimately the Chinese government also has to know what's going on and who are you lying to by fabricating these results all the time. But anyways, there are now multiple sources of data that you can back check. And so we've worked with multiple sources of household level data and cross checked and they seem pretty close. So I think intellectual honesty, if you will, is a trend going forward.
- [60:03]
A
Francesco Castelli from the lse. I was really interested in your comments about the risk to the spiritual well being of the population from this growth and development and this erosion of some of the traditional values. But isn't it the biggest threat to spiritual well being to have a model where there is A government on top which is extremely paternalistic and to whom we look up to for decisions about where to take the country, like little children who have to rely on the wisdom of the people at the top wouldn't be the surest solution to this spiritual void to allow people more say in who governs them, who decides which direction the country should go to.
- [60:59]
B
Tough question. Again, bringing back the historical significance which has always played a role in China. We've seen this a bit in the past because Confucian values were about what we call 100 flowers in bloom, meaning simultaneous, different diversity of opinions. But China has always had a centralized structure, even in its feudalist past. And this is what the people have reconciled with and have been used to. But the reason I emphasize meritocracy was that I think that was kind of the central reason why the feudalist society and this kind of structures were able to lack. Because despite the fact that it was a highly centralized system, it was through meritocracy that some of these key advisors were selected. And there are so many, many examples of people coming from very, very poor countries, poor families, very famous generals, advisors, etc, etc that rose to the top and became advisors. So I don't know, to be honest, whether Chinese would be able to say let's throw away this structure for thousands of years and let's just have a completely different one and see what happens. I don't know the answer to that question, but what I do know is that in the historical past, China has had prosperity, has had potentially more spiritual values even in highly centralized systems, and so far hundreds of millions of people have been lifted out of poverty. And to be absolutely honest, a lot of these Chinese people attribute that to the government.
- [62:44]
A
Doctor Jin, viewed from America, for example, China's regarded as a very obviously important commercial partner, but one that's not necessarily trusted. Huawei doesn't get access. You go to Washington, there's some fear of, of China there. Viewed from Europe, it's viewed as difficult to access, incredibly important to develop. But do you envisage a future where China could think about other countries in terms of allies? Do you think it could have a foreign policy that could be more meaningful than a commercial relationship? Or as a result of what you said, in terms of its potential, do you see it still somewhat inward looking and dealing with the rest of the world as part of a purely economic solution to its problems?
- [63:26]
B
Great. Thank you for your question. I absolutely think so. The problem is that China is on a very steep learning curve. It's never quite been forced to take a responsible international role until today. And it's learning very much how to deal with countries in Africa, with the US and Europe and other developing countries and emerging countries. So I think, you know, and also China has this intention to establish more relationships within the region but also forge a stronger relationship, especially with other emerging countries. But it is on the learning curve. I mean, the kind of horror stories that we tell about China going to Africa, what it's doing, part of it is just sheer ignorance, sheer lack of awareness of other people's customs and traditions. And this notion can be applied to the issue of diplomacy as well. China was a very nationalistic, inward looking country, has to accustom itself to the greater kind of international balance. But I think the Chinese learn very quickly. So I think it is very much in the future about establishing a more harmonious and more trustworthy international role. Yes, please.
- [64:39]
A
China's growth has been fantastic. Even if you take recent 7.5% growth is very good, but somehow the GDP growth is not translating into shareholder returns. Is it because of lack of good governance in the companies or is it some other, you know, some other factors that are causing that? Because if you take last 10 years, China markets have been stagnant, whereas GDP has been fantastic. You know, GDP growth has been fantastic.
- [65:10]
B
Sorry, I didn't get the first part. Which is compared to the returns to.
- [65:14]
A
Yeah, the shareholder. Why it is not translating into shareholder returns.
- [65:18]
B
Now that is a very good question and it's a question, you know, to which I cannot exactly answer. It is absolutely true that equity markets have performed extremely poorly compared to the GDP growth. And all I can say is that, you know, the equity markets are highly, you know, there's a lot of government intervention. So and also the particular, this is part of the financial lack of financial development in China. You know, every time you want to actually register on the stock market, it's not market determined. You have this registration process where it's hand approved by government officials. I mean, it is a very fascinating question. I'm not quite sure what's the ultimate reason why it hasn't translated into the listed stock performance. But you know, that's part of the reforms. Part of, part of this reform package is about, you know, improving the stock market and also liberalizing this registration process. So we'll see further there.
- [66:23]
A
Felipe Eleci Con thanks very much for your wonderful presentation. So you basically said that the growth in China is reform driven.
- [66:31]
B
So I was wondering if you saw.
- [66:33]
A
Also diminishing marginal returns to reform. I'm saying this Because I mean, it's very easy to fix huge misallocations such as from the urban tour, the world transformation. But once you get to the second generation reforms, don't you see that maybe running out of mileage? And I said so in comparison to other regions, like if you look at Latin America. So it's not like there weren't reforms, but it's like that these reforms weren't particularly successful in raising growth.
- [67:02]
B
Yes, excellent. Well, you know, reforms are not endless, but China is being propelled towards more of the production possibility frontier. By removing these distortions, I've highlighted a few reasons why I think that reforms have to continue. And there are a lot of inefficiencies, especially in the financial markets in particular. You know, we don't really even have a corporate bond market, for example, so there's quite a way to go. But it's definitely true that it's not going to be forever. But I think the fact that it's been transitioning out of a centrally planned economy makes it by definition very different from, you know, the reforms that are implemented in Latin America.
- [67:38]
A
One more question, one last one. Sorry. Dr. Chidi, thanks for that fascinating lecture. I see your slide is titled A Terrible Beauty Is Born. My question to you though is shouldn't it say a wonderful beauty is aging? And I deeply worry about the aging population in China and that China doesn't have the mechanisms in place to really look after what's going to be a medical and a support nightmare. What are your thoughts on that?
- [68:11]
B
I am, unlike popular conventional wisdom, less concerned about the demographic issues regarding aging. I think that during one generation, because of a one child policy, there has been a smaller share of the young people, but that is quickly reversing because of the two children policy. There's been a lot of Social Security reforms. And in particular, I think that what I was emphasizing is that should labor productivity still continue to grow, it can at least offset some of the potential reduction in the labor force. But you know, all that depends on its sustainability of growth, you know, in the next couple decades. But I think the aging population composition of that is going to be ameliorated by the fact that children are, you know, now we allow for two children and we can see, see some immediate effects of that in reversal. But I would say that it is, you know, it is slightly worrying. But I would emphasize again the factors that I have talked about in terms of human capital accumulation, in terms of these, you know, new children policies, to think that it might not be as bad as people think.
- [69:32]
A
Well, I'd like to thank you all for coming to the lse. And let us all thank Ku one more time for an insightful and fascinating it.