Chinese Economic Policy

by

Linda Yueh

• LAST REVIEWED: 21 March 2024
• LAST MODIFIED: 21 June 2024
• DOI: 10.1093/obo/9780199756223-0225

Introduction

China’s economic policy has been transformed during the reform period that began in 1979 when the world’s most populous nation adopted market-oriented reforms. As compared with the centrally planned period from 1949 to 1978 when economic policy was dictated by the plan that promulgated the targets of the command economy, economic policy is now dictated by a variety of instruments that would be familiar in most countries. These include monetary and fiscal policy, financial regulation, growth policies, and reforms of the exchange rate. But, as with all reforms in China, the transition from central planning to a market economy is gradual and makes for a complex set of policies that govern an economy that still has a segment of state-ownership and controls on its external sector, including a currency that is still yet to be fully convertible and tradable. Most of the major policies have been geared toward economic growth. And China has been remarkably successful in transitioning from central planning while also contending with the challenges of economic development. The initial impetus for adopting market-oriented reforms in the late 1970s was to address the inefficiencies of central planning and introduce incentives to produce more efficiently. These included the gradual but eventual privatization of many of the state-owned enterprises and the promotion of the nonstate sector, especially private industries in rural areas as well as urban locales. These reforms also changed the labor market in providing incentives to foster innovation. They included not only economic, but also legal and institutional reforms to help raise growth. After three decades of rapid development, China has lifted itself from being one of the poorest countries in the world to its second-largest economy, one that has achieved middle-income status. But, to overcome the so-called middle-income country trap, in which countries begin to slow down considerably after reaching upper-middle-income level, China will need to adopt further reforms to raise productivity in trying to join the ranks of rich countries. It is a feat that only a dozen or so countries have managed in the post–World War II period. China’s growth has been aided by integration into the global economy, so reforms of its external sector have played a significant role in its policy regime.

Economic Growth

China has been a remarkably successful economy since its adoption of market-oriented reforms. Real growth in gross domestic product (GDP) has averaged over 9 and a half percent per annum since 1979. China has propelled itself to become the world’s second-largest economy within that time. Concomitantly, it is a developing country with a per capita GDP that exceeded only US $1,000 in the 2000s. China’s economic growth policies must be viewed within the context of its status as a transition economy that is also a developing country. China has been in transition for decades from a centrally planned economy, which had followed Soviet-style heavy industrialization for a time, toward becoming a more market-based economy. China adopted its reforms incrementally during this period. By so doing, it has phased market forces into an administered economy but without a fundamental ownership transformation into a wholly privately owned system. China’s partial reform strategy has been characterized by institutional innovations and regional experimentation. Output grew rapidly in the early 1980s, leading to the observation that China’s growth began in the countryside. When these measures were seen to be successful, China introduced further reform into urban areas in 1984. The “experiments” with market processes in the countryside gave the authorities confidence to do so since overall stability was maintained while economic activity was increased. Managers in state-owned enterprises were granted more autonomy and allowed to retain a portion of profits through an institutional innovation known as the Contract Responsibility System. Wage reform introduced a performance element into pay. Stability is viewed as essential in maintaining a “dual track” transition. In allowing enterprises to sell part of their output at market prices, the authorities must be able to control the sale of goods to the administered part of the market in order to implement a partial liberalization strategy. At the same time, China has sustained a degree of decentralization that has permitted experiments to take place so that market-oriented reforms could be introduced without affecting the economy as a whole. This approach has enabled the authorities to adapt to changing circumstances rather than follow a prescribed plan of reform. China’s gradualist transition has been characterized by an ability to inject market-oriented incentives across a myriad of sectors in the economy without wholesale privatization; rather, it was achieved through numerous “institutional innovations” that enabled economic growth but did not result in macroeconomic instability, such as a rise in unemployment, which is often experienced in transition economies. However, China’s continuing growth faces numerous challenges, including contending with a need to innovate, high levels of pollution and an aging demography.

• Borensztein, Eduardo, and Jonathan D. Ostry. “Accounting for China’s Growth Performance.” The American Economic Review 86.2 (1996): 224–228.

  One of the earlier papers that decomposes the factors (labor, capital, etc.) that have contributed to China’s growth and calibrates total factor productivity before and after reforms.

• Jefferson, Gary H., Albert G. Z. Hu, and Jian Su. “The Sources and Sustainability of China’s Economic Growth.” Brookings Papers on Economic Activity, 2006, No. 2. Washington, DC: Brookings Institution, 2006.

  An article that examines the evidence around regional productivity growth and the prospects of China catching up to the United States. It concludes that coastal areas are already some way toward producing at American levels of output per worker.

• Knight, John Yang Yao, and Linda Yueh. “Economic Growth in China: Productivity and Policy.” Oxford Bulletin of Economics and Statistics 73.6 (2011): 719–721.

  DOI: 10.1111/j.1468-0084.2011.00679.x

  This brief introduction summarizes the key policies that have driven growth and productivity since market-oriented reforms were adopted in 1979.

• Li, Hongbin, Prashant Loyalka, Scott Rozelle, and Binzhen Wu. “Human Capital and China’s Future Growth.” Journal of Economic Perspectives 31.1 (2017): 25–47.

  DOI: 10.1257/jep.31.1.25

  Assess China’s growth prospects through its accumulation of human capital.

• Prasad, Eswar S., and Raghuram G. Rajan. “Modernizing China’s Growth Paradigm.” The American Economic Review 96.2 (2006): 331–336.

  DOI: 10.1257/000282806777212170

  As China becomes more of a market-oriented economy, its growth model will need to be overhauled. In particular, a gradual transition approach poses risks to growth as do legacy problems from central planning.

• Song, Zheng, Kjetil Storesletten, and Fabrizio Zilibotti. “Growing Like China.” The American Economic Review 101.1 (2011): 196–233.

  DOI: 10.1257/aer.101.1.196

  A model of growth that captures the peculiarities of China’s experience. In particular, the paper explains why overall productivity is low in China despite the high growth rate, which has to do with micro-level misallocations of capital that have preserved state-owned enterprises.

• Wei, Shang-Jin, Zhuan Xie, and Xiaobo Zhang. “From ‘Made in China’ to ‘Innovated in China’: Necessity, Prospect, and Challenges.” Journal of Economic Perspectives 31.1 (2017): 49–70.

  DOI: 10.1257/jep.31.1.49

  Focuses on the role of innovation policies in furthering China’s growth prospects.

• Young, Alwyn. “Gold into Base Metals: Productivity Growth in the People’s Republic of China during the Reform Period.” Journal of Political Economy 111.6 (2003): 1220–1261.

  DOI: 10.1086/378532

  A detailed examination of the evidence in this paper reveals that reforms have raised productivity largely in the agricultural, and not the nonagricultural, sector, which casts doubt on the strong growth experience of China.

• Yueh, Linda. China’s Growth: The Making of an Economic Superpower. Oxford: Oxford University Press, 2013.

  DOI: 10.1093/acprof:oso/9780199205783.001.0001

  A detailed examination of the evidence of economic growth. The author breaks down China’s growth drivers into its components, including capital accumulation, human capital, technological progress, and one-off factors such as structural change related to privatization.