No.

1

2013
China’s Great Convergence and Beyond
Kjetil Storesletten and Fabrizio Zilibotti

Abstract

China is today one of the world’s most powerful nations. China’s population of 1.36 billion exceeds that of industrialized democratic nations, and the country is today the world’s second largest economy and the largest exporter.1 However, until the late 1970s, China was a very poor and closed country, with an income per capita of just above 4% of the US level (Figure 1), and poorer than low-income countries such as India and Nigeria (Figure 2). The process of economic reform, which started in the 1980s and accelerated in the 1990s, catapulted China into a trajectory of stellar growth. Over the first decade of the 21st century, China’s GDP per capita grew at an annual 9.5% rate. Today, China’s GDP per capita is more than twice as high as India’s, and about four times as large as Nigeria’s today. Its development is comparable to that of Brazil, a country with an income about 3.5 larger than China in the late 1970s.

China is today one of the world’s most powerful nations. China’s population of 1.36 billion exceeds that of industrialized democratic nations, and the country is today the world’s second largest economy and the largest exporter.1 However, until the late 1970s, China was a very poor and closed country, with an income per capita of just above 4% of the US level (Figure 1), and poorer than low-income countries such as India and Nigeria (Figure 2). The process of economic reform, which started in the 1980s and accelerated in the 1990s, catapulted China into a trajectory of stellar growth. Over the first decade of the 21st century, China’s GDP per capita grew at an annual 9.5% rate. Today, China’s GDP per capita is more than twice as high as India’s, and about four times as large as Nigeria’s today. Its development is comparable to that of Brazil, a country with an income about 3.5 larger than China in the late 1970s.

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The one-child policy may have increased savings since it reduced the number of children who can potentially provide old-age transfers when parents retire.

Historical background

Imperial China

Between 1000 and 1500 AD, China was the most technologically advanced region worldwide. Prosperity stretched from the Song period (960 – 1279) to the commercial development under the Ming dynasty (1368 – 1644), when sea explorations led Chinese traders all the way to the coasts of Africa. During this period China introduced many important inventions that would become known in Europe only a few centuries later. The so-called four great inventions – printing, gunpowder, paper making and the compass – were only some of the major innovations introduced during the Song period (or even earlier). Under that same dynasty, the central administration started issuing paper money, again well ahead of Europe. As long-distance trade with Europe developed in the 16th century, China exported technology-intensive goods in exchange for silver and primary commodities. The demographic evolution kept pace with the general prosperity: by 1100 the Chinese population rose to over 100 million, reaching 160 million at the time of the Ming dynasty.

After the Ming splendor, power was seized by the Qing dynasty (1644 to 1912 AD) – native of Manchuria. It took the new rulers about four decades to conquer the whole country and to crush the Ming resistance. The conflict plunged the country into a severe economic downturn. Yet, China recovered, and by the end of the 17th century the economy was flourishing again. The living standards in the richest Chinese city – Beijing – were already below those of London and Amsterdam in the 18th century, but were still comparable to those in cities such as Leipzig and Milan.

The great divergence between China and Europe started in the 19th century. Hostile to Western influence, the imperial government imposed heavy barriers to the commercial relationships with Europe. The ensuing conflict with the Western colonial powers led to a sequence of wars ending in military defeats for China (e.g., the Opium Wars of 1839 – 1842 and 1856 – 1860). In turn, these undermined severely the legitimacy of the imperial government. Unrest erupted, most notably the Taiping Rebellion, an outright civil war, which brought the Manchurian rulers to confront surging Han nationalism between 1851 and 1864.5 The revolt ended in bloodshed. Between 20 and 30 million people are estimated to have died as the army repressed the revolt with the help of the French and English armies.

The landmark economic event was the British industrial revolution. China benefitted, as did Britain, from important technological improvements in agriculture. The control of river floods caused a surge in food production, which in turn induced a demographic boom: between 1680 and 1820, the population tripled. However, unlike in the West, progress in agriculture did not pave the way to industrialization and urbanization. In Britain these improvements preluded the breakdown of the Malthusian equilibrium. Fertility started to decline and income per capita to grow. China, in contrast, remained a rural country, with a stagnating income per capita.

The Republic and the People’s Republic of China

The divergence accelerated when Chinese political institutions collapsed in the early 20th century. A revolution in 1911 led to the proclamation of the republic under the presidency of Sun Yat-sen. However, the new state was weak and precipitated into a period of wars and anarchy.

In 1949, after the end of the Sino-Japanese war, the communist uprising, and the defeat of Chiang Kai-shek’s nationalistic forces, the People’s Republic of China (PRC) was founded under the leadership of Mao Zedong, chairman of the Chinese Communist Party (CCP thereafter). The PRC was a vastly impoverished country, dominated by traditional subsistence activities. From 1951 and onward, industry and agriculture were collectivized. Dissatisfied with the slow speed of progress, Mao launched in 1956 the “Hundred Flowers Campaign” inviting intellectuals and ordinary people to voice their open criticism of the Party’s policies and bureaucracy. This window for open debate was soon closed, and replaced by the call for a “Great Leap Forward”, an ambitious (and improvised) plan intended to turn the People’s Republic into a modern industrial collectivized country. Its implementation contributed to the ensuing famine that killed about 30 million people.6 After an ephemeral reform-oriented stage under the aegis of Liu Shaoqi and Deng Xiaoping (1962 – 1964) a new wave of radicalism erupted with the start of the “Cultural Revolution”, which was supposed to cleanse the society of capitalism and traditional Chinese values. During this tormented period, Liu Shaoqi was jailed and died in prison, while Deng Xiaoping fell into disgrace.

After Mao’s death in 1976 and the liquidation of the “Gang of Four” – a group of leftist party officials, including Mao’s wife – Deng Xiaoping became the de-facto leader of the Communist Party. He quickly repudiated the Cultural Revolution, and in 1978 launched a program of pragmatic economic reforms whose primary goal was to increase the persistent low productivity in agriculture.

Imperial China

Between 1000 and 1500 AD, China was the most technologically advanced region worldwide. Prosperity stretched from the Song period (960 – 1279) to the commercial development under the Ming dynasty (1368 – 1644), when sea explorations led Chinese traders all the way to the coasts of Africa. During this period China introduced many important inventions that would become known in Europe only a few centuries later. The so-called four great inventions – printing, gunpowder, paper making and the compass – were only some of the major innovations introduced during the Song period (or even earlier). Under that same dynasty, the central administration started issuing paper money, again well ahead of Europe. As long-distance trade with Europe developed in the 16th century, China exported technology-intensive goods in exchange for silver and primary commodities. The demographic evolution kept pace with the general prosperity: by 1100 the Chinese population rose to over 100 million, reaching 160 million at the time of the Ming dynasty.

After the Ming splendor, power was seized by the Qing dynasty (1644 to 1912 AD) – native of Manchuria. It took the new rulers about four decades to conquer the whole country and to crush the Ming resistance. The conflict plunged the country into a severe economic downturn. Yet, China recovered, and by the end of the 17th century the economy was flourishing again. The living standards in the richest Chinese city – Beijing – were already below those of London and Amsterdam in the 18th century, but were still comparable to those in cities such as Leipzig and Milan.

Conclusions

In this paper, we have reviewed some of the central issues in the recent economic development of China. We emphasize, with the aid of a model, the transitional nature of China’s growth process over the last three decades. China now faces a dilemma: the scope for growth driven by reallocation is diminishing, making future growth more dependent on local innovation and human capital. Due to its large investments in R&D and education, China is likely to get a soft landing. While growth may slow down, we see no indication that China will get stuck in a middle-income trap. Still, the current model of state capitalism relies on important distortions. It is an open question whether the political elite has the incentives to overcome such inefficiencies and complete the reform process (e.g., a further reduction of the state’s role in economic activity), as this may trigger an increase in the demand for political changes. In the future, fostering social cohesion and averting environmental disasters will be critical policy issues.

In this paper, we have reviewed some of the central issues in the recent economic development of China. We emphasize, with the aid of a model, the transitional nature of China’s growth process over the last three decades. China now faces a dilemma: the scope for growth driven by reallocation is diminishing, making future growth more dependent on local innovation and human capital. Due to its large investments in R&D and education, China is likely to get a soft landing. While growth may slow down, we see no indication that China will get stuck in a middle-income trap. Still, the current model of state capitalism relies on important distortions. It is an open question whether the political elite has the incentives to overcome such inefficiencies and complete the reform process (e.g., a further reduction of the state’s role in economic activity), as this may trigger an increase in the demand for political changes. In the future, fostering social cohesion and averting environmental disasters will be critical policy issues.

Authors

Professor of Macroeconomics, University of Oslo
Prof. Kjetil Storesletten

Kjetil Storesletten is Professor of Economics at the University of Oslo. His research focuses on heterogeneity in macroeconomics and development, in particular the impact of risk on economic allocations and the economic transformation of China. In 2013, he was awarded the Sun Yefang prize by the Chinese Academy of Social Sciences (with Song and Zilibotti).

Former Scientific Director and Deputy Director of the UBS International Center of Economics in Society
Prof. Fabrizio Zilibotti

Fabrizio Zilibotti is the Tuntex Professor of International and Development Economics at Yale University. He was Professor of Macroeconomics and Political Economy at the Department of Economics at the University of Zurich and both Scientific Director and Deputy Director of the UBS International Center of Economics in Society. He is the President of the European Economic Association and co-editor at Econometrica. His research interests include economic growth and development, political economy, macro-economics, financial economics, and the Chinese economy.

Professor of Macroeconomics, University of Oslo
Prof. Kjetil Storesletten

Kjetil Storesletten is Professor of Economics at the University of Oslo. His research focuses on heterogeneity in macroeconomics and development, in particular the impact of risk on economic allocations and the economic transformation of China. In 2013, he was awarded the Sun Yefang prize by the Chinese Academy of Social Sciences (with Song and Zilibotti).

Former Scientific Director and Deputy Director of the UBS International Center of Economics in Society
Prof. Fabrizio Zilibotti

Fabrizio Zilibotti is the Tuntex Professor of International and Development Economics at Yale University. He was Professor of Macroeconomics and Political Economy at the Department of Economics at the University of Zurich and both Scientific Director and Deputy Director of the UBS International Center of Economics in Society. He is the President of the European Economic Association and co-editor at Econometrica. His research interests include economic growth and development, political economy, macro-economics, financial economics, and the Chinese economy.