China: Behind the Miracle

By Sumita Dawra

Some years ago the Chinese painted a canvas for themselves, and made all its colours come true. National income multiplied rapidly over thirty years, and millions of lives in the country improved, as China shot dizzyingly to the second slot in world economy.

As growth now slows in China, the world waits for the giant to stumble. The never-say-die Chinese are however busy transforming their economy yet again - in surprising and significant ways - poised to catapult themselves to the next stage of development. The change is slow, seemingly imperceptible, but relentless, unmistakable and innovative….

China: Behind the Miracle reveals the many dimensions of the country's growth phenomenon. The book focuses on telling a simple tale of the Chinese economy, sharing extraordinary models of growth and economic change, while helping the reader develop an insight into critical issues.

• Language: English
• Publisher: Bloomsbury Publishing
• Release date: Sep 19, 2016
• ISBN: 9789386141941

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Introduction

China: Behind the Miracle

One morning in June 2014, as I was on my way to Tsinghua University in Beijing to attend a conference on world peace, I asked the two journalists sitting with me in the car: ‘Looking back over the last few years of your stay in China, what is the one media story you would pick that would most appropriately define contemporary China?’ ‘I would pick the story on China’s real estate,’ said the younger of the two, ‘because no other country’s economy is entwined as much with real estate as it is here in China.’ ‘How can you say that?’ I countered. ‘After all, it was the housing crisis in the US that led to a national economic crisis, not to mention the global financial meltdown in 2008.’ ‘Yes, but what I see here is a bigger involvement with the real estate market. People who can afford have invested heavily into the sector, purchasing multiple houses. What is the real market value of these properties is unknown, and the activity is like what happens in a casino,’ he explained his viewpoint.

I did some quick thinking and recollected having read consistent reports over the past three years on how the property market was a critical driving force for the Chinese economy. Infrastructure investments and real estate had contributed significantly to China’s expansion in the last decade. Recent analysis of the slowdown in China held declining real estate activity responsible for sluggish fixed-asset investments, leading to lower growth rates in the country. Property sector related bank credit in China was estimated at 20 per cent of the total banking portfolio¹, while industries like steel, cement, and electrical appliances were also closely correlated with health of the real estate activity in the country. I had to acknowledge that in reply to my query, my journalist friend had picked up an all-important economic issue, indeed.

Now turning to the other journalist, I asked him for his pick of the most defining Chinese economic moment in his near five years of stay. ‘I would say the story of China becoming the second largest economy in the world is the one that really struck me. When China declared its GDP data in 2011, which showed they had overtaken Japan, it took everyone by surprise and showed that China had truly arrived.’ I remember this story well, as it had burst into the media in February 2011, the very month I had arrived in China on my posting. It had also then been prognosticated that in another ten years, China’s economy would be almost as big as that of the US.²

Sitting in the back seat of the car, I smiled to myself, and reflected on how my two journalist friends had done a fine job of selecting their one most-defining story on China. None of them seemed to ask me for my most defining story, and I was thankful for that, for there would be so many of them popping in my mind based on my travels, conversations and readings. Some of these stories pertained to how the Chinese macroeconomic data at times seemed bewildering and mysterious, especially when it was growth related. It was no surprise then to read articles like, ‘China GDP Release Guide: What to Watch for Beyond the Headlines.’³

Even after a stay of over three years in China, I was still constantly in the process of verifying the accuracy of my various interpretations of the Chinese growth-data jigsaw. The story, oft quoted in media reports, was how in 2007, much before he was the Chinese Premier, Li Keqiang allegedly remarked on his preference for data on real parameters like electricity consumption, volume of rail freight and loan disbursements, rather than man-made statistics to get a realistic idea of economic growth.⁴ Subsequently, these parameters, nicknamed as the ‘Keqiang Index’ by The Economist, became the measure for capturing the true health of China’s economy. Much later, in September 2014, at the World Economic Forum in Tianjin, Premier

Li remarked, ‘When observing the Chinese economy one should not just focus on its short-term performance or the performance of a particular sector, rather one should look at the overall trend, the bigger picture and the total score.’⁵ This actually summed up the experience of each one of us, as we endeavoured to get a sense of the Chinese economy – be well informed and aware of the developments in all areas of the economy, so that the whole picture was more than just a sum of its parts.

I recall at that time, interacting with the two media people, I had felt safe adding, ‘You know what I find fascinating about economic stories on China is that none of them are actually incorrect, and they all seem to have some point to make. It is important how you read between the lines and understand the story – how you join the dots.’ ‘Oh, you mean none of the stories are actually correct,’ joked the younger one, leaving me at a loss for words.

That one facetious comment brought the three of us face to face with what we already knew. It was challenging to understand China, and a bit muddling, too, when it came to building a realistic macroeconomic picture of the country. Contradictory media reports did little to give a clear view on the state of the economy or which way it was headed. Most of us seemed to have imbibed the wisdom of reading news items, analytical stories and official press releases as ‘clues in a maze’, as pointers for ‘joining the dots’ more meaningfully. It was precisely this continuous attempt to understand the economy that made the journey through China all the more exciting.

Is China approaching a Lehman moment?

Much of the analytical work on the health of the Chinese economy seems to be divided among the ‘believers’ and the ‘skeptics’. On the one hand are those who firmly believe that China could be an engine for global growth with its high, consistent demand for imports, hundreds of billions of dollars worth projections for outward-bound investments, and exciting growth in tourism that has already clocked almost a 100 million annual international trips. On the other hand are those who see the country approaching ‘a Lehman moment’ on account of state-driven credit-flow, resulting in a ‘credit bubble’ – vulnerability in the real estate sector, and burgeoning local government debt burden. Objectively seen, all the write-ups seem to have a point to make, thereby making it a challenge to assess the real situation.

To illustrate this further, in April 2011, an American economist nicknamed by the media as ‘Dr Doom’ wrote an article titled ‘China’s bad growth bet’. He predicted a sharp slowdown for the Chinese economy after 2013 on account of over investments, non-performing assets and lack of meaningful domestic reforms, among other reasons.⁶ Later in December of the same year, appeared a more bullish article in the New York Times titled, ‘Will China stumble? Don’t bet on it,’ that highlighted China’s extraordinary economic abilities that would help the country adapt.⁷ Despite reports on rising labour costs, weakening activity in manufacturing and real estate sectors, a slow pace of reforms and so on, the writer pointed out how a rise in labour productivity, and an increasing proportion of value addition in the manufacturing processes were actually helping China overcome its image as an ‘assembler’ of products. Ironically, even the government intervention in the currency market had actually turned out well for the country, as the article pointed out.

As time passed, one would expect a clearer picture to emerge. However, strangely two years down the line, the contradictory headlines continued. An article in January 2014 titled, ‘Three Reasons Why China’s Growth Will Slow’, convincingly listed difficulties of capital misallocation in the economy, the uphill task of achieving transition of an investment-driven economic model to a consumer-driven one, besides the inevitable challenge of growing fast on a presently larger economic base. These reasons would lead to an inevitable slowdown of the Chinese economy, it argued.⁸ Close on the heels of this write up, I read an excellent analysis quoting the regional head of the International Monetary Fund (IMF) on ‘Three reasons not to worry about a crisis in China.’ The article

highlighted a manageable Chinese debt scenario (both domestic and foreign), was reassuring in the facts and figures it quoted, and suggested that the government in China had control over the slowdown. ⁹ So the headlines went on, with China inspiring many a story on the state of its economy, on a daily basis, leaving one to sift the grain from the chaff and making sense of what was really happening in the country.

Similar was the situation recently in August 2015, when a stock market crash in China followed the biggest one day decline in last 20 years in the value of the Chinese currency (RMB) – and was accompanied by the biggest contraction in manufacturing sector Purchasing Managers Index (PMI) since 2008, as well. Doomsday reports of a ‘Chinese meltdown’ dominated sections of the media, while, at the same time, The Economist (August 29, 2015) asserted that China was not in a crisis. Furthermore, it reported that even at the lowest growth estimates of 5 percent in 2015, China would still contribute more to world output than it did while growing at 14 percent in 2007!

Why does the world need a thriving China?

Nothing exemplifies how China impacts the world more than the ‘series of unfortunate events’ in August 2015. As Chinese stock markets crashed on August 24, 2015 – dubbed ‘Black Monday’ by the Chinese state Xinhua TV – it created mayhem in global markets. Fears of a ‘faster-than-expected’ slowdown in the Chinese economy unnerved the world, causing a rout in equity markets across the globe, and culminating in worldwide losses estimated by one source at about USD 5 trillion since earlier during the same month. The equity markets had not seen such a bloodbath in the last four years and more. Not to mention losses in the emerging-market currencies and world commodities market.

Even as the world sits up to notice and speculate on the health of the Chinese economy, this may not be the biggest story out of China

yet. Analysts point out to bigger potential threats to the growth of the Chinese economy emerging out of a fragile property market, the credit bubble or from heavy local government debts, to name a few. With almost 20 percent of total banking assets tied to real estate in China, for instance, a collapse of the over-invested property market could spell a bigger disaster for both China and the world economy. On the other hand, Chinese stock markets that just rocked the world reportedly involve a mere 1 percent of the total banking assets.

While in China, I realized how important a calibrated view on the economy was for the rest of the world. The question though was where to calibrate it. For an objective opinion, one would need to talk to others similarly focused on understanding the economic issues of the second largest economy of the world, listen to expert opinions and understand how the sum of the parts added up, why the government was saying what it was, travel extensively and observe well in order to understand the ground reality. One had to bring coherence to the inputs one’s world was assailed with on a daily basis. For anyone interested in knowing China’s economy well, the challenge thus remained on meaningfully joining the dots emerging from seemingly unrelated stories on the economy. For a world shaken by the 2008 economic crisis, with recovery rates still weak and uncertain in most parts of the developed world and financial systems vulnerable, the importance of understanding the nature of China’s over USD 10 trillion economy has become critical.¹⁰ ‘The world needs a thriving Chinese economy, and China needs a thriving world economy,’ remarked Christine Lagarde, Managing Director of the IMF during a lecture delivered at Fudan University in Shanghai, in March 2015, even as she described the global economy as one that ‘continues to be weighed down by low growth, high debt, and high unemployment.’¹¹

At the same time, and more importantly perhaps, is the need for both the developed and the developing world to understand the Chinese success story. What explains the growth miracle of the most populous developing nation in the world – one that has economically transformed itself through unprecedented growth rates over the shortest period by any nation in world history? By 2014

the country’s Gross Domestic Product (GDP) had crossed USD 10 trillion, making it the second nation in the world to achieve this feat (the US having achieved it in the year 2000).¹² Per capita income of the Chinese people had climbed from a mere USD 190 in 1980 to a high level of USD 6,629 in 2013, thereby reducing the gap with the US per capita income, from roughly 1/54 to about 1/8 over the same period. It is even more surprising to note that the Chinese are today the biggest spenders in the global luxury market, with sales from mainland China, Hong Kong and Macau accounting for a fourth of the global sales in 2012, overtaking the US which accounted for a fifth of the sales.¹³

After the figure of ninety-seven million trips by Chinese international travellers in 2013, hit the news,¹⁴ the Chinese tourist became an attractive commodity, and many foreign diplomatic missions in Beijing suddenly started using Youku (China’s YouTube) to upload tourism promotion films of their respective countries! Even more surprising is the nature and geographical spread of Chinese investments globally, ranging from investments in companies in the United Kingdom and European nations to ports in Greece, Belgium, Nigeria, Pakistan, Sri Lanka and Singapore, to name a few.¹⁵ Investments from China include interests in oil and gas in Canada,¹⁶ mining and gas in Australia (with investments in agriculture, real estate and energy fast catching up, too).¹⁷ Chinese companies are fast becoming important employers of Americans in the United States, with investments in energy, telecom, IT, electronics, home appliances, logistics, consumer goods, real estate and so on.¹⁸ In the African continent, Chinese investments in mining, manufacturing, construction, financing are well documented.¹⁹ Chinese direct investments overseas were reported at USD 621.5 billion at the end of March 2014,²⁰ by the country’s State Administration of Foreign Exchange (SAFE). The Economist Intelligence Unit (EIU) expects that by 2017 China would become a net investor in the world, as Foreign Direct Investment (FDI) outflows are fast catching up with inflows to the country.²¹ This last bit of news underlines the reversal of fortunes of the country compared to the situation in

1978 when it invited FDI inflows from the rest of the world to help it grow and develop.

These are signs of how significant China has become to the world economy, and also how far it has come from being the image of a country with cheap labour as its most defining force, while developing on the back of FDI inflows. As China’s foreign exchange reserves touch an unprecedented USD 4 trillion,²² and foreign trade deficits dominate trade with most nations, economies in both the developed and developing worlds are understandably keen on developing strategies to attract Chinese investments, despite the fierce domestic debates that often accompany it.

It is important to understand China

Many of us still think China is a place where millions contribute cheap labour and manufacture goods that flood the world markets. This is, however, just a small part of the story today, as the dragon transforms itself in a surprising and significant manner with intriguing intricacies many of us may not be familiar with at all. As discussed, more and more number of global employers, purchasers of real estate and investors seeking joint ventures in the developed world, are none other than Chinese nationals. China has become an integral part of lives all over the world, much beyond simply the ‘made in China’ goods entering our homes. With Chinese growth rates driving world markets, and Chinese tourists boosting global tourism and the luxury goods markets, it suddenly becomes more important than ever to understand China better. Most of us read an article in a magazine or a newspaper and form our opinions about the country. Yet, China intrigues most of us, and we remain curious about the country and its people, about the miracle of its economic and developmental transformation, about the tremendous growth story of China and its likely future path.

There are fascinating facets to an understanding of the world’s most populous nation. By one projection made in April 2014, China would overtake the United States in terms of the nominal size of its economy by the year 2030. However, there was a surprise in Purchasing Power Parity (PPP)* terms. China was likely to overtake the economy of the United States by the end of 2014 itself! Lo and behold, come December 2014, and the IMF data for the world economy revealed China accounted for 16.5 per cent of the global economy in real purchasing power terms, compared to 16.3 per cent of the US! ²³ China’s GDP (PPP) was USD 17.63 trillion in 2014, as estimated by the Central Intelligence Agency (CIA) in The World Factbook, vis-à-vis that of the United States at USD 17.46 trillion for the same year.

What did this mean? Had China really become an economic superpower, ahead of the United States? It is not so simple, though. Many point out to the greater living standards of the average American people, far ahead of the Chinese. To take the simple criterion of the United Nations (UN) Human Development Index (HDI) that measures human well-being in terms of life expectancy, literacy, quality of life and so on, it is seen that while the US has a very high human development ranking of 30 (in 2014), China is still at a rank of 91 in the same year. As one expert in the field put it, ‘The day China surpasses the US remains in the future.’ It has been estimated that if China grew at an average annual growth rate of 5 percent, it would take another twelve years before it could overtake America in terms of the size of the economy at market exchange rates, assuming no significant change in exchange rates.²⁴

Thus, despite the extraordinary economic event of China overtaking the American GDP in PPP terms, the country with its billion-plus population still has a per capita GDP many times below that of the US. Chinese Premier Li Keqiang in his speech at the World Economic Forum in Davos in January 2015 had stated

that China is still a developing nation, with the growth gear shifting from high speed to medium-to-high speed. However, at the same time, it is clear that China will not remain a developing country with huge marginalized population for long, either. Where exactly is China on the development continuum, and what are the economic challenges that the country faces as it grows and develops, are some of the important questions that intrigue the minds of developmental economists and the general world population.

How does China propose to sustain growth?

The world fears a slowing China that could have an abrupt fall in its growth rates. This would adversely impact the economies of many other countries, particularly those dependent on China for a large part of their commodity markets – iron ore and coal, for instance. At the same time, a part of the world also fears a stronger China that could take over their economic decision-making power, which may impact their economies adversely. What is the truth, what is happening and what is a realistic picture of China’s future growth and development? To understand these aspects, one has to look inside the country and understand the reality of the nation and its people. China may be facing problems in terms of a slowing growth rate, rising wages, shrinking work force, a surplus in its real estate inventory, diminishing marginal returns on incremental investments, a continued dependence on both fixed-asset investments and manufacturing exports necessary for sustaining its growth momentum, even as alternative growth engines are yet to take over. However, there is also the other side to be considered, namely, how the Dragon is creating answers for many of these problems, providing solutions to varied economic challenges in slow measured steps, many of which often miss popular perception of the country.

Having rapidly risen in the last thirty years, Chinese economy is now in the throes of modifying its ‘investment-heavy, export-driven’ economic model that may have largely outlived its course.

To fully comprehend what is happening in this context and what are the priorities of the Chinese government, it is important to spend a reasonable amount of time in China – discussing with fellow observers these changes and observing these happenings as a part of day-today professional life. The present book is based on my observations, understanding, discussions and readings on China, relating to how the country achieved miraculous growth and development in such a short time – what did China do right economically, and what are its plans to correct its economic drawbacks in order to continue its transition to an economic superpower.

The book addresses relevant economic questions pertaining to not only the past and present, but also the strategic model the country is evolving to sustain its growth and development in the long run. Some aspects of this model are fascinating to understand, whether in the form of investment strategies used by the China Development Bank (CDB), dubbed by one set of experts as ‘the world’s super bank’ or those being evolved through the new Silk Route or the Asian Infrastructure Investment Bank (AIIB) or even the BRICS Bank. The book also aims to share details of China’s development experience with the rest of the world, particularly the developing world, to learn from.

In an attempt to give a different view of China and add to existing perspectives of the country, this book focuses on telling the simple tale of the country’s economy from a developmental perspective, as understood during the years 2011–15. My endeavour is to share this story as a developmental functionary, focusing on aspects that tell the amazing ways in which China is today transforming itself economically, yet once more. Many of these aspects are unfamiliar to most Indians and the rest of the world, who still adopt traditional perspectives on China, missing out on how sophisticated developmental processes have become within the country. China is not only transforming its economic model through regional transformational strategies within the country and physical connectivity with neighbouring countries, but also through strategic investment ties with the rest of the world. At the same time, it has not let go of the old model of heavy investments in big-ticket projects and of manufacturing goods for export markets. What exactly is the country doing as