Is China’s economy in trouble, or is it a transformed economy?

For over a year, the media has focused on China’s economic woes. While aspects like China’s GDP, stock market and job market performance, which were undoubtedly underwhelming, were well discussed, the enhancements achieved in the manufacturing sector largely went unnoticed, at least for a time. However, the discussion has now changed. It is mostly about China’s export dominance despite the ongoing EU anti-subsidy investigation and the US 100% duty levy.

More importantly, China dominates in high-tech areas like drones, robotics, solar panels, electric vehicles (EVs), high-speed trains, 5G communications, bio-manufacturing, nano-manufacturing and additive manufacturing. It is currently reported to be focusing on a cluster of mutually reinforcing technologies centering around digital technologies, the Internet of Things, Artificial Intelligence and Quantum Computing.

Chinese spokespersons claim that China is actually helping to reduce global inflationary pressures in green transition sectors -- EVs, solar panels, wind turbines, trains, etc. Moreover, while in earlier years Chinese export successes were based on the performance of US and European-owned/controlled MNCs located in China, such that almost 60% of its exports were actually sales by these MNCs, this share has now halved, even as China’s export aggregates have substantially multiplied. The current-day export success stories owe almost entirely to Chinese companies.

It also now appears that the much-talked-about “steady fall in share of Chinese imports into the US” in the post-2018 period may be only superficial. A recent Brookings report, discussing Richard Baldwin’s study of trade in components and intermediate goods, suggests that China had initiated third-party assembly of final products from Chinese-supplied components in US-favoured centres like Mexico and Vietnam.

Incidentally, China is now India’s largest trade partner. Trade volumes have grown in recent years and have long crossed the $100-billion mark, the border hostilities notwithstanding. It is, for India, an ever- increasing import dependency relationship. Our exports to China are miniscule -- less than a fifth of our total trade. All this seems to validate Xi Jinping’s proclaimed intent of May 2020 to make the world economically ‘dependent’ on China (regardless of political relationships) to counter the Western countries’ announced intent of ‘re-shoring’, ‘near-shoring’ and ‘friend-shoring’ their supply chains.

Xi had called for creating a bifurcated economy – one half of it driven by domestic demand, capital and ideas, i.e., ‘Internal Circulation’, making China more self-reliant in terms of consumption, technology and regulation; the other half to be driven by ‘External Circulation’ with rest of the world, but in a way that would simultaneously increase the world’s dependence on China by increasing its export efficiencies.

The name given to this model was the ‘Dual Circulation’ economy. A favourite aphorism of Deng Xiaoping had been “Hide your strength, bide your time”, but with the announcement of the ‘Dual Circulation’ model, the gloves came off. In the months after Xi’s announcement, China initiated the required steps to restructure the economy. The resultant economic disruption was undoubtedly large, particularly in the much-fancied tech, fintech, and property sectors.

It is important to discuss factors that could have enabled this transformation. These capabilities were not created in a short three- or four-year period. The factors that contributed to this transformation are somewhat different from those discussed in my previous article ‘What really made China the Manufacturing superpower’ (The Prism, July 2023).

It is possible that the shift into high-tech came from Xi’s predecessor Hu Jintao’s call for the creation of an innovation-based ‘harmonious society’ and launch of a new investment support programme called ‘Government Guidance Funds’ (GGFs) in the early 2000s. These GGFs are funds established by central and local governments partnering with private capital to invest in State-identified priority sectors. There are reportedly more than 1,800 GGFs throughout China with an estimated target capital of 10.18 trillion Yuan ($1.5 trillion). While the progress of individual funds is still patchy -- only 26% GGFs met targeted capital -- and a lot of it may be wasteful, the aggregate practical impact has been huge. China annually spends almost 2.9 trillion Yuan ($420 billion, or 2.8% of GDP) on science and technology as against US federal funding for R&D, which was $157.8 billion in 2021.

Such large numbers are being generated because already from the 1980s, Deng’s reforms differentiated political governance from the practicalities of economic administration. The latter is now completely decentralised, even within provinces. Over 50% of the total national government expenditure is via local government expenditure. As a result, there’s a fierce inter-city and inter-province competition to do better than others. Also, China has created several hundred world-class cities, each with its own concept of high-quality educational institutions and industrial areas. The ‘playing fields’ available to attempt innovation are thus large and varied. Areas of failure/wastage do exist, but the aggregate impact is what matters.

How should India respond? There is nothing essentially wrong with our current industrial strategy -- except that by itself, it will not suffice. A handful of large-scale units may well come up. That will not suffice. Our import dependence will continue to rise unless we make effective ground-based efforts to improve our ecosystems. Should we continue with our long-cherished centralised economic governance model adapted in emulation of the Soviet Union? Or should we switch over to the more decentralised approach that China copied from the US/EU? Maybe we should debate this fundamental question at greater depth rather than endlessly re-running the much-hyped manufacturing vs services debates.