Fifty years ago, some parents in the U.S. tried to reprimand their children by saying: “eat your food, there are starving children in China.”
But that was a long time ago. Like the asteroid that wiped out the dinosaurs millions of years ago, China’s economic growth is changing the world. An undeveloped country, suffering from famine, became an economic superpower that took over the world’s production in less than fifty years. China keeps growing faster than any other big country ever has.
Well, three crucial factors have attributed to China’s economic miracle: a gigantic population, production efficiency, and intensity and capital, in other words, its total factor productivity (TFP). A country’s GDP per capita is that country’s GDP divided by its population. It’s an indicator of economic performance relative to size. Since China’s economic reforms in 1978, its annual GDP per capita growth rate has been steady at around 9%, given that the World Bank already deems a 2% GDP per capita growth rate to be excellent. Here’s why.
Industrialization meets one billion workers: China’s massive population proved to be a gift from the Gods. Before China’s infamous One-Child Policy in 1979, China had an incredibly high birth rate. This eventually led to China’s working-age population (15-64 years old) reaching one billion by 2014. This seemingly infinite labor force was a perfect match for industrialization.
For the first stage of any pre-industrial economy, you need to focus on agriculture. This is low-skilled labor but very intensive. China properly followed the Asian Capital Development model by moving on to manufacturing. It requires more skill but is still incredibly labor-intensive. China’s massive workforce moved from the fields to the factories.
Fortunately for China, its workers’ skills, also referred to as human capital, have evolved at the same pace as its development phases giving it a competitive edge in transitioning into the technology and services sector.
Human capital investment skyrockets in China: In the early 1990s, demand for skilled employees skyrocketed as foreign investments increased. Smartly enough China invested in a population’s skills and education uplifting the worker’s ability, making them able to produce more advanced products. The rising wages were accompanied by rising profits which hardly affected labor costs per unit. It’s a situation where everyone benefits and it drives the economy forward.
They say imitation is the highest form of flattery: Trying to find something that isn’t made in China can be surprisingly difficult nowadays. So how did China radically take over production like that? The Chinese manufacturing service was propelled by the “copycat” culture. During the early 2000s, China quickly established itself as the world’s production house by simply imitating well-known brands. Developed countries took advantage of that and started to outsource production to China. This is how technical knowledge flowed into the country.
The apprentice soon became the master. With the newly acquired knowledge, China was able to make more sophisticated and higher-end products and technology. Chinese manufacturers quickly became modern, innovative, high-tech companies. The expression “Give a man a fish, he’ll eat for a day. Teach a man to fish, he’ll be fed forever” is certainly fitting for China’s manufacturing sector.
Share knowledge or don’t operate: Forcing foreign companies to share their technology if they wish to operate in China is very normal. If they comply, their regulatory approval process will go much smoother. In 2009, Japan’s Kawasaki Heavy Industries was assigned to build a high-speed railroad system in China. Local Chinese governments pushed the Japanese to teach their core technologies to Chinese engineers. Not long after, Chinese companies used those same technologies to land railway projects across the globe. This eliminated Kawasaki’s competitive advantage.
In a similar fashion, China forced foreign automotive companies operating in China to give up crucial knowledge to Chinese companies working on renewable energy vehicles. Beijing hopes to become the center of the electric car industry.
Technology is the win: Like a chameleon changes color, China’s economy constantly changes too. Nowadays, investments are no longer used to scale up, but to support high-tech. China’s new technology produces fewer units but yields higher profits. This move into the technology sector requires less labor and is expected to keep the economy going. New industries like e-commerce with Alibaba, medical equipment, electronics and mobile payment with Tencent are all on the rise.
China’s transition into technology becomes apparent when you take a look at the country’s enormous expenses on research and development (R&D). China spent a mindboggling US$160.6 billion on R&D in 2012. That’s the second-highest R&D spending in the world and it accounts for one-fifth of the world’s total spending on R&D.
China managed to transform into a true science and technology (S&T) center which was its plan. It aimed for an economy propelled by innovation in the future and China is realizing this extremely fast.
Capital is key: The capital was also an important factor in sustaining China’s growth. China gladly accepted about US$170 million in foreign direct investments. The majority of those investments went into the manufacturing and services sectors.
Besides FDIs, debt also drives the Chinese economy and it piled up debt to invest in commercial companies. Between 2008 and 2014, China’s credit kept rising, which generated profit and growth.
China’s great rebalancing act: During the financial crisis of 2008, China pledged about $580 billion, to stimulate its economy to avoid the recession. The funds represented 20% of China’s annual economic output. It went toward low-rent housing, infrastructure in rural areas, and construction of roads, railways, and airports. It also increased tax deductions for machinery and raised both subsidies and grain prices for farmers, as well as allowances for low-income urban dwellers. Its central bank also dropped interest rates three times in two months and eliminated loan quotas for banks to increase small business lending. The massive stimulus program fueled economic growth mostly through massive investment projects, which triggered concerns that the country could have been building up asset bubbles, overinvestment and excess capacity in some industries. China exited the financial crisis in good shape, with GDP growing above 9%, low inflation, and a sound fiscal position.
China Deliberately Slows Its Growth: In August 2018, China’s spending on fixed assets such as factory machinery and public works slowed to its lowest point in 20 years and the economic growth rate slowed to 6.7%. Part of that was a deliberate strategy to head off an economic bubble before it burst.
Before 2013, China enjoyed 30 years of double-digit growth because government spending was the driving force that fueled it. It also mandated that its banks provide low-interest rates in return for protection of the strategic industry and created business investment in capital goods. It also led to inflation, a real estate asset bubble and growth in public debt. The government’s emphasis on job creation left little funding for social welfare programs. As a result, the Chinese population was forced to save for retirement. They didn’t spend, strangling domestic demand. Without robust consumer spending, China was forced to rely on exports to fuel growth. So China deliberately took steps backward to push high the demand graph.
Predicted impact of coronavirus: There were hopes that 2020 would prove to be a period of rapid growth but coronavirus makes that unlikely. Most industries in China shut down over the two weeks around the lunar new year and they haven’t operated back yet and small and medium-sized businesses, which operate on short-term contracts, small financial and physical reserves, are known to be in deep trouble.
Wuhan, a city of about 11 million people and center of the outbreak, is a large industrial center, a regional hub, an important cog in the automotive industry and a magnet for foreign firms. It is the third-largest education and scientific base in China, with two top-10 universities. Importantly, investors hoping for a decisive rebound once the outbreak is contained are likely to be disappointed. China’s central bank has begun to pump extra funds into the economy to maintain borrowing while the virus takes hold, mainly to boost business investment, but these cheap and plentiful funds are mainly used to keep zombie companies from going bust. Oil prices have come under pressure too, amid anticipation of a slowdown in global demand, as did other raw materials.
China’s growth rate could drop two percentage points this quarter and on that scale could mean $62 billion in lost growth. The knock-on effects of the virus and China’s dramatic response are daily making themselves felt, from disrupted air travel to rattled supply chains and plummeting commodity prices that are dampening growth prospects. However, the full economic fallout depends on how well China can ultimately contain the outbreak and on whether they return to work—especially for migrant laborers, who make up a substantial part of China’s manufacturing workforce—can be managed smoothly.