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Consistent with the idea that an entrepreneurial economy is better at wealth creation, an average urban resident in Zhejiang earned an asset income 3.4 times that of her counterpart in Jiangsu province.
We can speculate about why a stronger indigenous entrepreneurial economy is more efficient than a combination of statism and FDI. One reason could be that stronger indigenous entrepreneurship is associated with a larger local supply network, which expands local incomes more directly. In contrast, an FDI model relies heavily on export-processing that has low domestic value-added. The profits of this business model accrue to the foreign investors rather than to the local entrepreneurs.
According to a widely accepted view, the two countries started the decade of the 1990s at the same level of per capita GDP, but China ended the decade twice as rich as India. This latter view, based on GDP data adjusted for purchasing power parity supplied by the World Bank, has powerfully influenced the ways academics and analysts explained their respective growth experiences.
If it indeed is the case that China became richer than India only in the 1990s, then FDI inflows and heavy investments in infrastructure loom large in the explanation of why China surged ahead. If, however, China was already richer than India by the early 1990s, then it was the policy choices prior to the 1990s that mattered.
By the standards of wealth and value creation, the Indian economy, in fact, has some substantial strengths. Indians use less energy and fewer investment resources to generate growth. These attributes of Indian growth should be recognized because they offer a useful lesson to other poor countries.
Dwight Perkins (1986), the world's foremost authority on Chinese economic history, estimated China's GDP per capita in 1985 to be US$500. In the same year, India's GDP per capita was US$270.
The idea that China's success owes to its infrastructural investments and FDI is heavily rooted in observation of China of the 1990s. Once we consider the experience of the 1980s, an entirely different picture emerges.
FDI and infrastructural investments played a minor role in China's initial economic takeoff. The more factually accurate description of China's growth experience is that growth occurred first, and FDI and infrastructural investments followed, rather than the other way around.
FDI does not put a country on a high-growth trajectory, but once a country grows fast, FDI will come to the country regardless of its infrastructures.
A universal problem among developing countries is the low savings rate. It will be valuable to learn from India how to use limited resources efficiently. India is investing half of what China is investing and yet it is achieving a growth rate around 80 percent of the Chinese growth rate.
Despite the widespread belief that China is far more successful than India in the manufacturing industries, it is intriguing to note that, in fact, India has a higher manufacturing value-added per worker than China.
According to data in the World Development Indicators 2001, the value-added per worker in manufacturing was 2,885 dollars per year during the 1995–1999 period for China, but 3,118 dollars per year for India during the same period.
GDP is a flow measure, but a person's economic well-being is not just a function of his income but also of his assets – physical or financial – that are being accumulated.
A state-led economic model can build up output capacity very quickly but it does not lead to wealth creation.
One reason why India was consistently under-estimated by Western analysts is that the analysts focused only on those tangible and physical growth drivers, such as airports and roads. These hard infrastructures support growth, but so do soft infrastructures.
We have some fairly systematic evidence from a unique dataset – the World Business Environment Survey (WBES) – to assess the financing environment facing indigenous private businesses in China and India.
The Chinese score for financing difficulties, at 80.2 percent, is very close to those for Russia (79.5 percent), Romania (80.5 percent), Belarus (82.3 percent), Bulgaria (73.3 percent), and so forth.
2003 or so, these new private banks accounted for 12 percent of the total credit (Banerjee, Cole, and Duflo 2005). In contrast, as Sáez (2004) points out, “the presence of private banks in China is negligible.”
India is often criticized for being protective of its domestic industry, but in the financial sector, India opened itself to foreign competition far ahead of China. In 1998, the government permitted foreign investors to own 40 percent of stakes in Indian banks, doubling the foreign share prior to that time. In China today, foreign ownership is still capped at 20 percent.
In contrast, as is well known, very few indigenous private-sector firms could gain access to China's stock exchanges.
Unlike their Indian counterparts, some of the most famous Chinese technology firms, such as Lenovo and Huawei, are not listed on China's stock exchange.
China typically outranks India on the macroeconomic and overall benchmarks, but it is outranked by India on the microeconomic benchmarks. In the 2007–2008 GCI, China is ranked at No. 57 on the business competitiveness index (BCI) compared with India's No. 31.
In the long run, an economy grows and performs on the basis of its strong micro foundation. China scores high on the macroeconomic ranking in large part because the macroeconomic rankings are heavily weighted by GDP growth. To the extent that China's GDP growth is faster and to the extent that its GDP growth is heavily powered by the government-sponsored investments, it can score high on the macroeconomic ranking but low on the microeconomic ranking.
In the earlier versions of the GCI, China outranked India on both the macroeconomic and microeconomic rankings. In 1998, in terms of BCI, China was ranked at 42nd place compared with 44th for India. (This fact answers the skeptical view that the ranking differentials are due to the ways that the indicators are compiled.) Since 1998, India has steadily and quietly improved its microeconomic fundamentals.
The real reason why China did not collapse in 1989 was that its rural population was reasonably content in the 1980s.
The root of Chinese stability is its rural stability. The anti-rural bias of the policy model also entails significant economic implications: It slows down the pace and it alters the nature of China's transition to capitalism.
Regardless of one's views on the wisdom of the industrial policy approach of the South Korean government during that country's economic takeoff, the microeconomic foundation of that country was completely private. Most of the corporate entities in the Korean economy, such as Hyundai, Samsung, Kia, and LG, were privately owned.
Taiwan is another private-sector success story. According to Kuo, Ranis, and Fei (1981, pp. 80–81), 24 percent of loans were going to private enterprises in 1953 and this figure increased to 77 percent in 1979.
In 2002, the percentage of short-term loans to the private sector – defined here as all TVEs and agricultural and private-sector businesses – was 19 percent (People's Bank of China 2003).
The second difference with East Asia is the ownership composition of the investments. In East Asia, an overwhelming portion of investments took place in the private sector. In China, the opposite is the case. Take Korea as an example. It is true that the investment/GDP ratio rose from an annual average of 19.3 percent in the 1970s to about 32.3 percent in the second half of the 1980s, but the private sector led the way in this investment surge.
The strength of the indigenous private sector is really the essence of the East Asian model. According to Campos and Root (1996), East Asia did not invest at an inordinately high level as compared with Latin America. What distinguished the higher-performing East Asian economies was the high proportion of private investments.
Except for Singapore, FDI played an insignificant role in the extremely successful export production of the East Asian economies. In the mid-1970s, FIEs in Taiwan accounted for only 20 percent of Taiwan's manufactured exports.54 In China today, the ratio is more than 60 percent.
Li Kuoting, the father of Taiwan's economic miracle,
The East Asian miracle does not only refer to the fact that East Asia grew rapidly; during its period of growth, East Asia also had excellent social performance. In East Asia, the Gini coefficient was low at the start of the economic takeoff and remained low during the takeoff.
Park Chung-Hee, the leader who created Korea's economic miracle, exemplifies this combination of supreme power and deliberate self-constraint.
Land grabs, currently an endemic problem in China, were unheard of in East Asia.
But the same bureaucracy repeatedly reduced the incomes of those with the highest propensity to consume – China's rural poor. Between 1997 and 2002, the Chinese state lowered the official rural poverty line – which entitled the poorest people to very basic assistance – three times, matching perfectly in timing with the four salary raises for civil servants.
In Chapter 3, we saw that the per-day earnings in local non-farm activities dropped sharply in the 1990s (although the migrant per-day earnings increased). Many urban businesses refused to honor their wage contracts and they accumulated massive wage arrears to migrant workers.
According to Li Daokui, an economist at Tsinghua University, the labor share of GDP declined from 53 percent in 1990 to 48 percent in 2005. Li points out that China has one of the lowest labor shares of GDP in the world. Most countries vary between the 60 and 80 percent range.
Land grabs may have contributed to this adverse development for the Chinese working class. The first effect of land grabs was the uprooting of a large number of farmers. These farmers then flooded the labor market and further reduced the bargaining power of labor in a populous country struggling to create employment opportunities. Taxing rural China heavily – by charging school fees – was another factor.
The first microeconomic challenge is the deterioration of China's productivity performance.
The second microeconomic challenge has to do with what I call “a matching problem.” This is a situation in which the most innately competitive and capable firms are not matched with resources – broadly defined to include capital and legal support.
Since the late 1990s, China's GDP has grown at a double-digit rate every year, the highest growth during the reform era. But this rapid growth is deceptive. It is due in part to the fact that the state can mobilize a huge amount of resources very quickly and thus can invest a large quantity of capital within a very short period of time, whereas had there been investment spending by the private sector, this would have stretched over many years. The growth is thus more compressed as compared with investments by the private sector, but the quality is likely to be poorer.
The structural conditions for a financial crisis are abundantly present in China today. There is a weak financial system, an overvalued stock market, a deteriorating social foundation, and an underdeveloped indigenous corporate sector.
The experience of the East Asian economies in the 1980s and 1990s can provide some guidance. Japan, Korea, and Taiwan faced similar appreciation pressures but at a time when they were far richer than China is today. When Japan revalued its currency between 1985 and 1995, the Japanese corporate sector boasted Sony, Toyota, and Honda. These extremely capable and agile Japanese firms rolled out new products, upgraded their technology, and moved production offshore to digest the costs of the revaluation.
The experience of Japanese firms suggests that investing abroad was a critical component of the strategy to respond to the currency appreciation. In contrast, very few Chinese private-sector firms have set up operations overseas.
Private entrepreneurs, instead of focusing on business and product development, spend their time cultivating particularistic ties with the government and currying political favors. Rather than investing in technology and product quality, this is the focus of their competitive strategy. Valuable time, talents, and efforts are lost to rent-seeking activities.
the political report, Hu stresses the growth of household income ahead of GDP growth.
This meteoric rise in stock market valuations between 2005 and 2007 was not matched by any signs of improving microeconomic fundamentals, which may be one reason for its subsequent decline.
The Chinese state has defused many of the crisis situations in the past in large part because of its formidable ability to control information and prevent correlations of risks. In the 1990s, there were several episodes of bank runs. But, because the government imposed strict blockades of information, these bank runs were isolated and contained to the distressed regions.
