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Andrew Curry writes: At the start of 2012, The Futures Company published China’s Challenges, on three of the biggest problems facing the country as it started the transition from an investment-led economy to a consumer-led economy. They were: quality and quality control; logistics; and sustainability and environmental issues. These all remain significant issues for China and the new leadership that took over at the end of 2012, but they have evolved in the past two years.

Quality

The issue of quality has expanded significantly under the new Politburo to include corruption, both within the Party and within business elites: the two are closely connected in China. Four of GSK’s Chinese executives face corruption charges, with bribes and gifts endemic to the health system and potentially an obstacle to reform. Managers at Chinese Railways have been convicted, one defendant getting a death sentence that was later commuted. This is part of a drive by President Xi Jinping to reduce corruption more widely in China, especially among officials.

While some commentary suggests that this is a short-run effect of the transition to the new government, the life sentence given to the former Chongqing city boss Bo Xilai for corruption suggests that this is more than window-dressing. It is also possible that it reflects China’s current stage of economic development. Typically, countries become more concerned about corruption, and the lack of fairness involved, once its middle classes reach a critical mass within society as a whole.

A second quality-related issue, counterfeiting, has become more significant since China’s Challenges was published. In 2013, according to one report, officials “seized more than 9,000 tons of fake and shoddy products in 2013, solving 55,000 cases worth 172.9 billion Chinese yuan ($28.58 billion)”. Although the Chinese authorities have stepped up action against counterfeiting, counterfeiters are moving to different parts of the country and also increasingly using the internet. Counterfeit goods are found in every sector; globally, 75% of the world’s counterfeit goods come from China.

Logistics

After online meltdowns in 2010 on China’s Singles Day – a recent Chinese tradition that has become the biggest shopping day in the world – Jack Ma, who runs China’s biggest online retailer, Alibaba, turned his attention to the company’s logistics and back office systems. As we report in China’s Challenges, he has an ambition target to be able to deliver to any city in China within eight hours. While that is still a few years away, Singles Day has boomed. In 2013, Alibaba alone saw online sales of 35 billion yuan ($5.75bln), up from 19 billion in 2012. By way of reference, online Cyber Monday sales in the US last year clocked in at $2.3 billion.

Sustainability and Environmental Issues

This remains one of the most challenging problems facing China, whether measured by air quality, water quality or the quality of agricultural land. 90% of the country’s grasslands are degraded, and the dustbowl in northern China is worsening, despite large scale intervention attempts. Water constraints – China has 20% of the world population and 7% of its freshwater) may well choke China’s continuing growth as new cities compete for water with agricultural and industry. Its industry remains far less energy efficient than those in Europe and north America, which in turn leads to widespread air pollution. There are countervailing factors. It has the largest solar power industry in the world, and an emerging environmental movement, but this is a large-scale long-term problem.

The economic transition

The Future Perspective did not cover directly the prospects for the Chinese economy, beyond assuming that the transition to a consumer-led economy was essential for its continuing growth. Reviewing this briefly here, the current growth rate of 7% represents a slowdown (if the figure is reliable) but is enough to double the size of the economy every decade. While the last three decades tell us that it’s unwise to bet against China fixing its problems, there are some big questions.

One is about the effectiveness of the transition to a consumer economy, which needs significant institutional change if it is to work. This leads to a second question, of whether China’s market institutions are robust enough and trusted enough to support such a transition; this is almost certainly one factor behind the anti-corruption drive. An important issue in this is openness: despite its huge internal market there will be doubts about how effectively China can modernize or innovate while it shuts off its internet from the world. The cost of managing its “Golden Shield” is said to be $1.6 billion to date.

A third question is about the cost of unwinding or writing off stranded assets, whether they are ghost cities or the government’s cotton mountain, bought at prices well about the world market. There are also questions about the overall levels of Chinese debt, and whether a combination of asset bubbles, shadow finance, and bad debts throughout the country’s banking system could prompt a financial crisis. Finally, there are signs that the “Chimerica” system, under which Chinese savings bought American debt, and Americans then bought Chinese goods, is coming to an end.

As Robert Gottliebsen argued recently in Australia’s Business Spectator:

China does not want to fund further US deficits and the US wants to reduce its deficits. And so the US-China model that has dominated the world is changing and Chinese consumers must be stimulated to replace the Americans. … The Chinese leadership understands this but changing the model will not be easy, particularly as the population is ageing. Japan tried a similar switch and failed.

The image at the top of the post is from Wikimedia, and is used with thanks under their Creative Commons licence.

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