Monday, January 12, 2009

What Really Caused China’s Success?

In November of last year, China announced a massive stimulus plan in response to its current economic crisis. While smaller in nominal value than the U.S. TARP package, it is huge relative to the size of China’s economy. The conventional economic wisdom heralds China for it’s blended economic policies which combine strong government spending with private enterprise. From the New York Times article cited above:

State-driven investment projects of this kind have been a major impetus to Chinese growth throughout the 30 years of market-oriented reforms, a strong legacy of central planning.

News of the stimulus was received generally well, given this perspective, and certainly it adds to the general momentum in favor of such Keynesian measures. But is the perspective, that mixed economies function better than more pure forms of capitalism, correct?

A recent article I ran across challenges this thesis with hard research on China’s development. The article is “Private Ownership: the Real Source of China’s Economic Miracle” by MIT Sloan School of Management Associate Professor, Yashen Huang, and it appeared in this last month’s McKinsey Quarterly. It summarizes the thesis of his book, Capitalism with Chinese Characteristics: Entrepreneurship and the State. [Note: I have not read the book, but plan to in the next year. My observations are taken from the article. “Capitalism with Chinese characteristics” is the Chinese government’s somewhat nationalistic description of their system, couched in a “we’re going to do it out own way” tone.]

What stands out as a credit to the author is that he has analyzed economic data on China’s 30 year journey toward a market economy in order to tease out the factors contributing to China’s phenomenal growth. China is a complex case and it surely has experienced phenomenal economic growth. Understanding the true causes of this growth is critical because it is such a compelling growth story. According to the author, the popular thinking is wrong.

The received wisdom on the country’s economic miracle – it was a triumph of technocracy, in which the Communist Party engineered a gradual transition to the market by relying on state-controlled businesses – gets all the important details wrong. This standard account holds that entrepreneurship, private-property rights, financial liberalization, and political reform played only a small role. Yet my research, based on a detailed analysis of the Chinese governments’ survey data and government documents at the central and local levels, indicates that property rights and private entrepreneurship provided the dominant stimulus for high growth and lower levels of poverty.

The real mystery of China’s miracle isn’t how the economy grew, but how Western experts got the growth story so wrong.

The author backs up his thesis with hard research, looking at the issue from several different perspectives. He shows that China’s growth was fueled in the more rural coastal areas, and that private enterprises dominated the mix, grew at a faster rate, and generated the bulk of economic growth. In a second example he compares to nominally similar provinces, Zhejang and Jiangsu, who used very different mechanisms to fuel their growth. Jiangsu province “courted foreign investment and benefitted significantly from public-works spending. However, Zhejang province relied on private growth mechanisms. The difference in outcomes tells the tale. Starting out as a poorer province, Zhejang eventually caught up with and surpassed Jiangsu over a 20-year period. Today it leads on every significant economic measure. Zhejang’s asset base is more productive and its residents enjoy a higher standard of living.

In another example he examines rural policy vs. the more interventionist policies in large cities, showing that their change in living standard is far greater in those rural regions where privatization measures were stronger and government stimulus spending was lower. Contrasting rural municipality of Wenzhou with metropolitan Shanghai, the author notes:

Today, Wenzhou is China’s most dynamic municipality, teeming with businesses that dominate European garment markets. By contrast, Shanghai, once home to China’s earliest industrialists, is now oddly bereft of native entrepreneurs.

Wenzhou’s transformation resulted almost entirely from free-market policies. As early as 1982, officials there were experimenting with private lending, liberalized interest rates, cross-regional competition by savings and loan organizations, and lending to private-sector companies. The Wenzhou government also worked to protect the property rights of private entrepreneurs and to make the municipality friendly to business in many other ways.

Bold mind. Here we see not mixed economic policies, but laissez faire policies, with government performing it’s proper function, protecting property rights. And the contrast is clear. Capitalism with Chinese characteristics is simply another name for the mixed economy, and when the analysis is done, laissez faire capitalism is the winner.

We need more analysis like this to understand the phenomena, and to break the myths that reign today, especially in this time where government intervention is seen as the solution to our financial woes.


Galileo Blogs said...

Interesting analysis of China's success. Commentators typically attribute the government as the cause of China's success, when it was only the partial dismantling of Communist control over the economy in the 1980s that marked the beginning of China's upward climb.

The article and book you cite provide the detailed evidence of this occurring *within* China where decentralized government resulted in differing levels of intervention and different rates of consequent economic growth.

It is a lesson that America needs to heed as our government introduces *more* control and intervention in our economy.

Doug said...

Great post Kendall!