No Single, Perfect Package for Chinese Reform

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Ho Ming Lam's picture

The new Chinese leadership, led by president Xi Jinping, unveiled a series of extensive reform at the Third Plenary Meeting held last November. The reform represents a shift in the economic growth model as the current government attempts to balance the fruits of economic success fairly among the population, while attaining sustainable growth under higher degrees of market influence. Journalists around the world regard the shift as a “fine-tuning” of economic policy that strives to eliminate the negative side-effect of past economic successes.

The current reform demonstrates Xi’s courage in improvising Deng Xiaoping’s principle of achieving economic growth through opening up the market. While president Xi endorses the important role of market economy through the proposal for setting up a new free-trade zone in Shanghai and restructuring the state-owned enterprises, Xi reinforces the necessities of having sustainable growth and greater degrees of income equality. These reinforcements became the spotlight of the plenary meeting, led by the announcements for loosening birth control (the so-called one child policy) and adopting land reforms in rural areas. Other key areas addressed in the Third Plenary meeting include anti-corruption campaign, judicial reforms as well as the establishment of the State Security Council. These areas will serve to provide a leveled playing ground for further economic growth and reforms to take place.

The Third Plenary Meeting reforms set up various idealistic goals and directions for the central (and local) government to follow, yet does not include specific details about when and how policies will be implemented. The characteristic gives rise to uncertainties about the actual feasibility of projects. In fact, given the complexity of Chinese society and the country’s huge involvement in international trade, there are several internal and external obstacles facing the implementation of reform which we will be discussing in this essay.

The land reform is a breakthrough and an innovation designed by Xi’s government in order to protect peasants’ farming rights and narrow the income gap between the rural and urban. The reform experiments a change to the communist’s initial pursuit that all arable land should be publicly owned by government, by allowing market transactions of rural construction land. Currently, the 300 million peasants in China only have land rights (rights for cultivation) of their farmland under a lease by local government. In recent years the system sparked public outcry as local governments sold farmlands to land developers without the consensus of peasants. Incidents such as the Wukan protect in December 2011 demonstrated the public ownership’s ineffectiveness in protecting peasant’s farming rights, and hence prompted the reform.

The land reform will be faced with obstacles as it will be faced with strong opposition from local governments. Besides, the reform will also decrease the initiatives for the development of land. Under the current land ownership system, as in Wukan’s case, local governments (of villages) sell the land to land developers for construction purposes. After receiving huge sum for the sale, local governments will then use part of the revenue for constructing relevant infrastructures such as road, electricity and telecom to support the development. As the reform takes place, the major gains from the sale of farmland will be transferred to peasants. Local government’s benefit from the gains will be eliminated and hence cannot finance local infrastructure investments. Without infrastructure, developers lose interest in land acquisition, and eventually peasants cannot enjoy the fruits of such market transaction.

The implementation of land reform will also be challenged by the lack of pricing system for the sale of land. As the government intends to control the size of arable land at 135 million hectares to ensure sustainable food supply, the reform only allows “rural construction land”, a single class of farmland, to be transacted freely in the market. It is estimated that only 5-6% of peasants are eligible for transaction under the scheme, hence the reform’s effects in narrowing urban-rural income gap would be substantially weakened. More importantly, rural construction land consists of small portions of farmland scattered across the country. Large land developers are unable (and unwilling) to develop these scattered, tiny pieces of farmland. The low competition in transactions impedes the effective pricing of land, which in turn make the current land reform less feasible at this stage.

The implementation of plenary meeting reforms also faces the challenges from the departure of manufacturing sector. Despite the reform suggests the stable transition of China from low-cost-manufacturer based to a country that has its own brands, and rely more on high-end production, the reform is still based on the assumption that Chinese economy would still be based on low-cost manufacturing and exports. The loosening of one-child policy, for example, is meant to help deal with the potential decrease in labor supply for labor-intensive manufacturing.

Yet, the departure pace of the manufacturing sector is faster than the communist party expected. The HSBC PMI index, an indicator for manufacturing activity in China, has been hovering slightly below 50 (50 represent zero growth) over the past two years. Firms such as Lacoste and Coach are considering reducing their Chinese production by 40-50% in the next two years. On the contrary, foreign direct investment in Thailand and Indonesia rose 63% and 27% respectively last year, signaling a significant shift in low-cost production from China to neighboring countries. The change is due to increasing wage level in China, especially around Pearl River Delta, and the improvements in labors’ rights and welfare. At the same time, the continuous appreciation of Renminbi value reduces the competitiveness of China’s export, intensifying the process.

While the exclusion of low-cost manufacturing is part of the target of the reform, the faster-than-expected pace will potentially not meet with the building of national brands and high-end productions. For example, it took Japan nearly 20 years to complete the process by the 1980s. As low-cost manufacturing depart, the Chinese economic growth will suffer setbacks in short to medium term. More importantly, the eventual excess supply of labor (and to a lesser extent, due to loosening birth control) will disrupt the income growth among both urban and rural population. This will potentially impede the process of the shift to a domestic-consumption economy.

The migration of Chinese millionaires is another matter of concern, when considering the implementation of reforms. According to a report published by Hurun Research Institute, among China’s 60000 rich with assets over $100 million (RMB), at least 64% of them are considering migrating overseas with another 14% already migrated or in the process of migration. In British Colombia alone, the 45000 mainlanders have combined wealth not less than $90 billion (HKD). The majority of these migrations are investment migration, which signals a potential for a substantial series of capital outflow.

Most migrants migrate because of their feeling of insecurity from corruption charges and potential economic bubbles. Most millionaires in China rely on connections with local officials, and in the recent anti-corruption campaign, they become the easy victims of corruption charges and the targets of the public. Some millionaires claim that the government’s control of the property market has led to a drop in property prices by 5% in 2013, initiating them to seek for better opportunities overseas.

The migration of Chinese rich entrepreneurs reflects a dilemma in the Third Plenary reform: there is no perfect reform solution. The fine-tuning of Chinese economy and society will give rise to negative side-effects on entrepreneurs’ confidence. Despite the reform further opens up the market for foreign direct investments, local entrepreneurs remain great sources of investment (about 65%) and government revenue. In the future, these millionaires will continue to play a crucial role in the supporting the announced tax reform, which consists of the issue of bonds for infrastructure construction. Their migration certainly put the implementation of these financing projects in question. On the other hand, the trend may also pose hesitations to government in executing anti-corruption and other necessary policies, slowing the process for certain parts of the reform.

The Plenary Meeting reforms do serve as a representation of President Xi and his officials’ foresight in dealing with extensive social-economic issues within the country. Unfortunately, there is simply no single reform package that can meet all targets. Obstacles above, and many others, will be great resistances to the implementations of the reforms. In fact, Chinese government acknowledges the complexity behind the plan, and hence they launch each reform through small-scale experimentation to evaluate its feasibility and benefits. An example would include the Shanghai Free Trade zone. We believe Chinese government is in good moves here in comprehending the full picture of the economy in seeking out the modified solution for the widespread reform.