Ardently awaiting reform: The most important news story of 2013

From the NYT:

SHANGHAI “” In a major policy shift, the Chinese government is planning for private businesses and market forces to play a larger role in its economy, the world’s second-largest after that of the United States.

I believe it’s already the largest.

In a speech to party cadres containing some of the boldest pro-market rhetoric they have heard in more than a decade, the country’s new prime minister, Li Keqiang, said this month that the central government would reduce the state’s role in economic matters in the hope of unleashing the creative energies of the nation.

On Friday, the Chinese government also issued a set of policy proposals that appeared to be intended to show that Mr. Li and other leaders were serious about reducing government intervention in the marketplace and giving competition among private businesses a bigger role in investment decisions and setting prices. The overhauls, if successful, could also make China an even stronger competitor on the global stage by encouraging innovation and expanding the middle class.

Whether Beijing can restructure an economy that is thoroughly addicted to state credit and government directives is unclear. But analysts see such announcements as the strongest signs yet that top policy makers are very serious about revamping the nation’s growth model.

“This is radical stuff, really,” said Stephen Green, an economist at the British bank Standard Chartered and an expert on the Chinese economy. “People have talked about this for a long time, but now we’re getting a clearly spoken reform agenda from the top.”

The broad proposals, developed by the National Development and Reform Commission, an agency that steers many areas of economic and industrial policy, include expanding a tax on natural resources, taking gradual steps to liberalize bank interest rates and developing policies to “promote the effective entry of private capital into finance, energy, railways, telecommunications and other spheres,” according to a directive issued on the government’s Web site.

Foreign investors will be given more opportunities to invest in finance, logistics, health care and other sectors. “All of society is ardently awaiting new breakthroughs in reform,” the directive said.

For years, Western governments, banks and companies have complained that the China government has impeded foreign investment in banking and other service industries, despite promising to open up. The latest directive did not give details about what specific changes to foreign investment rules that policy makers in Beijing might have in mind.

China’s leaders are also promising to speed up efforts to liberalize interest rates and loosen foreign exchange controls, changes that are likely to reduce price distortions in the economy and allow the market to determine the value of the Chinese currency, the renminbi. On Friday, the central bank, the People’s Bank of China, issued a statement that repeated such vows.

Then comes the inevitable NYT “to be sure”:

The push does not signal the end of big government in China, experts say. The Communist Party is unlikely to abandon the state capitalist model, break up huge, state-run oligopolies or privatize major sectors of the economy that the party considers strategic, like banking, energy and telecommunications.

But one paragraph later they get back on message:

But analysts say a more market-oriented economy in which government has a smaller role in business outcomes could have far-reaching consequences for the global economy and bolster the prospects of foreign investors, multinational corporations operating in China and Chinese entrepreneurs.

Beijing seems to be pressing ahead because it has few alternatives. The economy has slowed this year because of fewer exports to Europe and the United States and slower investment growth. Rising labor costs and a strengthening currency have also reduced manufacturing competitiveness.

China’s leaders seem to believe that more government spending could worsen economic conditions and that the private sector needs to step in.

.  .  .

“Li Keqiang thinks like an economist,” said Barry J. Naughton, a professor of Chinese economy at the University of California, San Diego. “He wants the government to get out of the way. And although the growth outlook is getting worse, he says, ‘We don’t want to rely on stimulus; we want private-sector participation.’ This is what economists want.”

Behind Mr. Li and President Xi Jinping is a group of pro-market bureaucrats who seem to have gained in the leadership shuffle this year, including the central bank chief, Zhou Xiaochuan; Finance Minister Lou Jiwei; and Liu He, who is a vice chairman of the National Development and Reform Commission and director of the Office of the Central Leading Group on Financial and Economic Affairs, a body that advises party leaders on the economy. Mr. Liu is part of a team working on proposals for economic changes that could be announced in the autumn at a meeting of the Communist Party Central Committee.

The State Council, the Chinese cabinet, took action this month by releasing a list of administrative items that no longer need central government approval, part of an effort to delegate power and to ease the burden on business.

Beijing has also signaled that even though the economy is weakening, there is unlikely to be a major government stimulus package this year, like the one announced in late 2008, as the global financial crisis deepened. The central government worries, in part, about mounting local government debt and the possibility of a huge increase in nonperforming loans at state-owned banks.

My libertarian friends often wonder why I am so bullish on China.  It’s not because I think they have a good economic model—just the opposite.  Rather it is the fact that there has been a great deal of pro-market economic reform over the past three decades, and I fully expect the reform process to continue.  Don’t tell Noah Smith, but the Chinese government is actually rather pragmatic.

HT:  Tyler Cowen

Update:  Evan Soltas anticipated this move several months ago.  Excellent post.



20 Responses to “Ardently awaiting reform: The most important news story of 2013”

  1. Gravatar of AldreyM AldreyM
    24. May 2013 at 19:35

  2. Gravatar of AldreyM AldreyM
    24. May 2013 at 19:42

    China vs United States Government Expenditure as Percentage of GDP:

  3. Gravatar of AldreyM AldreyM
    24. May 2013 at 19:45

    Sorry, I hope this time works:

    China vs United States Government Expenditure as Percentage of GDP:–ZTM1bI4EHU/UaAzhudUSVI/AAAAAAAAADQ/U2mwwnLdyGY/s1600/Red+China+More+Free+Market+Than+US(1).jpg/

  4. Gravatar of Benjamin Cole Benjamin Cole
    24. May 2013 at 20:26

    I am a little surprised that Scott Sumner, Market Monetarist, does not mention China’s other important macroeconomic policy: A central bank that has a revealed preference for growth, not so much inflation-fighting.

    In 2012 the People’s Bank of China had a 4 percent inflation ceiling, and for 2013 they have it pegged at 3.5 percent. The bank recently noted it was below target, and would react with stimulus.

    For the last 20 years, the People’s Bank of China leaned towards growth—and for the last 20 years the Bank of Japan has leaned towards price stability.

    Sure, there are huge factors at play in the two economies. But it is The Tale of Two Nations.

    Remember the People’s Bank of China. And the BoJ.

    And who says that the 2 percent target of the U.S. Fed is the right one? Why not 3 percent? Suppose better growth is obtained at 3 percent inflation?

    (I prefer NGDP targeting, but as a close approximation, maybe 3 percent is okay).

  5. Gravatar of Ashok Rao Ashok Rao
    24. May 2013 at 22:38

    I guess the biggest reason to be bullish on China is they’ve sustained awesome growth *despite* a state-constrained model.

    That said, economic primacy requires not just high GDP, but control of the international monetary system as the US does with IMF. Until China fully democratizes and provides for an independent central bank, the Renminbi will not attain reserve status: liberalization or not.

    Of course, I don’t think confucianism will hold it back…

  6. Gravatar of Neal Neal
    25. May 2013 at 05:04

    If the Hoover Dam were breached, you would judge how long you expect the water to cascade based on the difference in height and whether you expect the government to repair the dam, not based on how fast water has been flowing. Likewise, here, one should base expectations of Chinese growth on the relative poverty of China as a whole, the differential between the rural population and the urban population, and whether one expects the Chinese government to erect barriers to the Chinese people.

  7. Gravatar of ssumner ssumner
    25. May 2013 at 05:45

    Aldrey, Yes, but recall that government spending as a share of GDP is not a good measure of how free market an economy is.

    Ben, Yes, they have pretty good monetary policy.

    Ashok, I don’t see how the IMF “controls” the international monetary system.

    Neal, That’s right.

  8. Gravatar of Patrick R. Sullivan Patrick R. Sullivan
    25. May 2013 at 07:16

    1.3 billion Chinamen can’t be wrong.

  9. Gravatar of Evan Soltas Evan Soltas
    25. May 2013 at 18:59

    Scott, You’ve been on this story too, but this post I did in April 2012 is looking more and more spot-on as the months go by:

  10. Gravatar of Rob Rob
    25. May 2013 at 19:08

    I am really not very surprised, the CCP likes being in power, and the CCP knows continued growth is a good way of keeping people generally contented(there have been interesting discussions of the CCP re-adoption the old Confucian justification for their absolute rule a la mandate from heaven). The CCP also tends to have a pretty good idea what actually works, despite what students are all made to learn in “politics” class. I don’t think most Chinese are happy when the hear the announcement of market reforms, but they tend to be happy with the results.
    They will continue to liberalize and grow, most of the major roadblocks(prominent anti reform members of the CCP)no longer present significant obstacles. Though eventually in the future they will get to the point where they have liberalized the economy so much they will also be forced to liberalize the political system.(though interestingly, many currently see the current path to power as being much more rigorous and producing better leaders than democracies, this is an opinion that is more likely of older rather than younger Chinese.)
    Also to be honest (this is not even slightly scientific) I think many members also genuinely want their country to be rich and powerful and their people to be happy (as long as they get to stay very very rich).
    One thing is certain though, the current government is not one who relies on ideology to dictate its behavior. (Yes I mean they are largely pragmatic)

  11. Gravatar of Jim Crow Jim Crow
    25. May 2013 at 22:43

    Evan, it might be cool if you did a follow up post like once a year tracking China’s reforms. Have they made any notable policy changes since last year?

  12. Gravatar of Ashok Rao Ashok Rao
    26. May 2013 at 00:29

    “Ashok, I don’t see how the IMF “controls” the international monetary system.”

    I meant IMF as a stand-in for general dollarization of the international monetary system.

    This doesn’t change my point, much. Various geopolitical factors will keep $ the reserve for a long time.

    And until China commits to significant political liberalization, I don’t think it will ever have even a regional reserve (increasing trade or not). It seems clear that a high amount of government-issued debt must be owned by a voting electorate, so default becomes politically an un-credible threat.

  13. Gravatar of Ashok Rao Ashok Rao
    26. May 2013 at 01:12

    Elections might not be important for long-term development and especially fiscal balance (j curve and all that).

    But I think we need to talk more about the monetary relevance of democratic institutions. China can liberalize its capital markets all they want, but I think a big reason markets have so much confidence in America… North Europe… is that voter’s pension funds will be burned if Congress dare default.

  14. Gravatar of John Papola John Papola
    26. May 2013 at 05:03

    China’s transition towards a more society-driven (aka “market driven”) economy and less politically-driven (“state-driven”) is THE great miracle of human progress of our generation.

    Earth will be so much more awesome in 20 years in large part as the result of the innovations yet to be unleashed by the billion Chinese minds working to create value empowered by more freedom.

    Now, if only the Malthusian eugenicists of the anti-human movement (Paul Ehrlich and his cadre) hadn’t worked so hard to induce China’s one-child policy. They might not have to worry as much about an inverting retiree-to-worker ratio. Thank god the Keynesians haven’t crushed the culture of saving in China (yet).

  15. Gravatar of ssumner ssumner
    26. May 2013 at 06:38

    Evan, That was an excellent post, I’ll add an update with a link.

    Rob, Good points.

    Ashok, Good point about how US politicians don’t want to destroy the value of US pension funds.

    I’m not convinced that the dollar’s role as a reserve currency matters as much as many people assume.

    John, Yup, it’s the big story. I also see signs that the one child policy will soon fade away. Thank God.

  16. Gravatar of John Papola John Papola
    26. May 2013 at 07:16

    Scott, the end of the one-child nightmare is amazing news. I hope you’re right.

  17. Gravatar of Ashok Rao Ashok Rao
    26. May 2013 at 13:55

    Scott you’re not “as convinced that the dollar’s role as a reserve currency matters as much as many people assume.”

    I’d agree that we have no exorbitant privilege. But does it not provide geopolitical clout, especially with oil demand rising so rapidly? It certainly serves a check on China which is so dependent on oil, and is getting more so.

  18. Gravatar of Rob Rob
    26. May 2013 at 22:50

    I can also confirm the one child policy like the hokou system will most likely be weakened and then slowly fade away in the coming ten or so years. The great firewall on the other hand shows no signs of stopping so far. China has a lot more growth left in it, anyone who thinks that is not the most likely outcome is simply not paying attention.

  19. Gravatar of ssumner ssumner
    27. May 2013 at 12:27

    John. Let’s hope so.

    Ashok, I just don’t see that effect as being important. Suppose China held British and German and Japanese bonds?

    Rob, I agree.

  20. Gravatar of Price Roads | a huge transportation problem no one knows about Price Roads | a huge transportation problem no one knows about
    31. July 2013 at 08:42

    […] compares entities without any weighting system for population. For example, Scott Sumner says that the most important news story of 2013 is China’s pro-market reform.  With China this is somewhat excusable as their language and […]

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