Long Term Remains A Chinese Puzzle

The Age

Tuesday November 11, 2008

John Garnaut

CHINA'S outsized fiscal rescue package is good news for the short-term health of the world economy.

The longer-term question is whether China's boardroom-style leadership can seize the opportunity to move towards a more sustainable economic model, or whether it will choose the path of least resistance and make China's existing imbalances worse.

The State Council's 10-point rescue plan provides ample room to go either way.

One reason the world economy is in trouble is that Chinese economic policies, including the undervalued yuan, have artificially depressed the price of Chinese exports and contributed to a global savings glut, creating the conditions in which households in other countries

could borrow and consume themselves into the trouble they are currently in.

The State Council's stimulus will help tilt China's economy away from exports and towards domestic demand, although announcements so far do not deal with the underlying distortions, and could make them worse if exporters are given new value-added tax rebates.

The more pressing risk for China, and therefore the rest of the world, is that the new spending will only exacerbate China's over-reliance on investment and construction and thereby increase the risk of a more traumatic adjustment down the track.

China's economy is far more responsive to market signals than it was 10 years ago.

But that doesn't mean the Government has stepped out

of the way. To the contrary, government departments, local governments and state-controlled enterprises are fiercely competing to expand their bureaucratic fiefdoms.

The result is that the nation's resources are channelled towards capital-intensive and high-polluting projects at the expense of private entrepreneurs, workers and consumers. This means schools are built without competent teachers, machines are built to build more machines, the well-connected get richer at the expense of the poor, cities benefit over rural areas and urban planning is shambolic - contradicting the "harmonious society" ambitions of President Hu Jintao and Premier Wen Jiabao.

A senior researcher at the State Council's Development Research Centre, Zhang Yongsheng, articulated the challenge on www.eastasiaforum.org last night. "There is no need to worry about China's growth, but there is need to worry about the quality of growth," he wrote.

"High-quality growth can only be achieved in a well-functioning market. A priority is to get rid of the practical barriers to private investment entering into the monopolistic sectors, mainly service sectors. Now is an opportune time to push further with much-needed market-oriented reforms sufficient to ensure China's high growth in the future."

This stimulus package will soak up millions of unemployed workers but it is too early to say whether China has only postponed the account for another day.

© 2008 The Age

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