3 December 2022, NIICE Commentary 8424
Kyle Inan
China stands today as a stellar model that represents proof positive of the case for the strategic trade policy, even though the origins of its success are manifold. This paper explores several distinct strategies that China has pursued for the past three decades and examine the origins of those strategies to better understand the fundamental underpinnings of the Chinese industrial policy which has helped her become one of the largest exporters of labour-intensive manufactured goods in the world. But what is so unconventional about the Chinese development strategy is the manner in which they have been able to achieve their global integration.
How did China really do it?
Many attribute China’s phenomenal success in achieving rapid economic development and export performance to three distinct factors: i) to trade openness, ii) to the large pool of cheap labour and iii) to the strict reliance on the New Trade Theory. Although each of these factors has played a key role in shaping China’s economic growth and its export basket, we need much more than the story of free markets or the cliché story of cheap labour surpluses, to account for China’s economic boom.
Why and how did China end up with a much more sophisticated export basket compared to other countries?
Many economists have trouble explaining the “real” potent force for growth in China. As in most cases, the volume of exports is taken as the dominant factor over the average sophistication levels of exportable goods in determining rates of economic growth. This argument is flawed. Although volume is certainly an influential component in predicting growth, it is not the only instrument that explains it. In order to unfold the entire set of distinct policy strategies behind the Chinese miracle, we also need to look at the quality of exports rather than the quantity or the volume of exports.
The most crucial element that is often overlooked is the average level of sophistication of a given country’s exportable goods, referred to as the EXPY, and its relation to economic growth. There is a robust relationship between the initial levels of a country’s EXPY and the subsequent rate of economic growth experienced by that country. The productivity level of China’s exports, as measured by EXPY, has been going hand in hand with its GDP per capita. Meaning, whenever China doubled the productivity level of a certain exportable, it resulted in an increase in its overall per-capita GDP. In this regard, China’s growth rate would have been significantly lower if it chose to export goods with other countries at the same level of income exported. So, how did China really end up with a much more sophisticated basket of exportable? The answer lies within the “newly discovered” high- productivity sectors of the Chinese economy, as well as in the population density.
Well to be perfectly honest, “population density” is a variable that has a very powerful impact on Chinese growth. Largely because higher population rates of a density lead to higher levels of discovery and innovation. Since there is imperfect competition and barriers to investment in China, “high productivity “discoveries” naturally attract more emulation and the productivity of an economy’s tradable sector will tend to converge towards the productivity level of the most profitable activities. Specifically meaning that China has started pulling its resources away from low productivity sectors into higher productivity sectors in order to achieve a higher level of sophistication or EXPY in their basket of exportable. The idea behind this policy strategy, discussed by many experts globally, is to keep the exchange rates at relatively low levels against the US dollar in order to sell more goods at a much cheaper price abroad, make American exports to China more expensive, and also generate enormous trade surpluses, which in return cause higher unemployment rates in the US.
The Strategic Policy of Joint-Ventures
The final and well-justified criticism that the Chinese government receives pertains directly to the state imposition of preconditions targeted against foreign investors who wish to pursue businesses in the non-traditional sectors in China. Many believe that this is a strategic way to cause technology spill overs with the goal of enhancing domestic capabilities and for Chinese manufacturers to become more competitive in the global markets. This particular strategic policy was enacted by the Chinese government with the goal of ensuring that technology transfer would successfully take place and would serve as a medium for the creation of even stronger domestic producers.
In addition, China also required foreign investors to form joint ventures with its domestic firms (mostly-state owned), which were struggling to create innovative products in consumer electronics; such as mobile phones and computer hardware. The idea of protecting domestic markets came from attracting non-traditional-market-seeking investors who were interested in pursuing low-cost, high-profit businesses. Needless to say, inexpensive consumer electronics put together by Chinese workers are desirable for many of us for the fact that we would certainly not want to pay USD 400 more for a Toshiba laptop originally priced at USD 700 if we can purchase it for USD 300, regardless of where it was made, whether here in the US or in China; it would not affect our decision.
However, as consumers, when we buy these electronic goods, we do not take into account the fact that these products assembled by Chinese workers are generating a loss of 13,000 net jobs for every USD 1 billion increase in the US trade deficit. Our USD 226 billion deficit with China has meant shuttered factories, lost jobs, and devastated communities across America. This is a direct consequence of the New Trade Policy pursued by China against the US.
In conclusion, China has been able to successfully sustain its growth rates through the implementation of several distinct policy strategies which was the intended subject of this paper. As long as China continues to play the trade game with its own set of policy strategies while ignoring international rules and regulations, it will most likely be able to maintain its superior position as the biggest exporter of goods in the world markets. In my opinion, with its unparalleled population density, the abundance of cheap labor, and sound industrial policies, China will continue to have enough power and resources in the future to discover new areas of innovation with higher returns. Finally, most of the developed countries that have been able to successfully integrate into the global economy have done so by implementing free-trade policies; reducing barriers to trade; such as tariffs and quotas, eliminating bureaucratic red tape, allowing direct foreign investment, and implementing many other policies that would enhance market access. However, China has absolutely done none of these when measured by these guidelines. Therefore, China’s experience is not a simple story of export growth achieved through trade openness and free-market forces, but a stellar model of economic growth.
Kyle Inan is a Senior Geopolitical Analyst based in Washington DC.
