Growing Beyond the Low-Cost Advantage. Yiping Huang

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       Growing beyond the Low-Cost Advantage

       How the People’s Republic of China can Avoid the Middle-Income Trap

      Juzhong Zhuang

      Paul Vandenberg

      Yiping Huang

      October 2012

      © 2012 Asian Development Bank

      All rights reserved. Published in 2012.

      Printed in the Philippines.

      ISBN 978-92-9092-882-9 (Print), 978-92-9092-883-6 (PDF)

      Publication Stock No. RPT125023

      Cataloging-In-Publication Data

      Zhuang, Juzhong, Paul Vandenberg, and Yiping Huang

      Growing beyond the low-cost advantage: how the People’s Republic of China can avoid the middle-income trap. Mandaluyong City, Philippines: Asian Development Bank, 2011.

      1. People’s Republic of China 2. Middle-income trap 3. Structural reform 4. Inclusive growth

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       Foreword

      Some 20 years ago, we began referring to the rapid development of a small group of economies as the “Asian miracle.” What these economies had in common were not only very high rates of sustained growth, but underpinning that growth, rapid increases in labor productivity and the import, adoption, use and development of technologically sophisticated processes for generating high-value goods and services. These economies—Hong Kong, China; Japan; the Republic of Korea; Singapore; and Taipei,China—moved to global standards and did so while maintaining macroeconomic, political and social stability, and generating decent, higher wage employment for their people. In contrast, in Latin America the experience since the 1970s has been very different. Macroeconomic, fiscal and financial imbalances, combined with high inequality, significantly constrained innovation, growth, and improvements in social welfare. Many economies in that region have remained in the middle-income stage of development for decades and have become mired in what is now commonly known as “the middle-income trap.”

      The economic progress of the Chinese economy since the reform process began in the late 1970s can no doubt also be labeled a “miracle.” Three decades of 10% annual growth is a miracle by any definition. We might also say, however, that it is a miracle-in-progress. The People’s Republic of China (PRC) remains a middle-income country, its productivity gaps with advanced countries remain wide, and technological capabilities are evolving. In addition, the pattern of development has generated significant imbalances, along with high inequality. How the PRC can continue its robust growth, resolve these problems, and avoid the middle-income trap of slowing technological progress, amid rising wages, is the central question that this timely study seeks to address.

      This report is the result of close collaboration between the Economics and Research Department of the Asian Development Bank and the China Center for Economic Research (CCER) at Peking University. Bringing the expertise from the two organizations together, along with other experts at institutions in the PRC and globally, has generated much interesting and thought-provoking analysis. It has resulted in this concise, distilled synthesis report of research, thinking and ideas about the challenges facing the PRC and policy options it may consider. It is my hope that the issues raised and policy options proposed will stimulate further debate and promote policy innovations that can assist the PRC in charting a course for further progress now and in the years ahead.

      Changyong Rhee

      Chief Economist

      Asian Development Bank

       Preface

      The Chinese economy is not easy to decipher, with its complex mix of market activity and government control, developed coastal cities and backward interior areas, world class technology in some industries and lower level productivity in many others. This mix is no doubt due to the fact that the economy continues to undergo a rapid transformation from traditional to modern, from rural to urban, from plan to market, and from domestic to global.

      As challenging as it is to understand the current economy, even more challenging—and interesting—is the nature of the Chinese growth process. In the research for this report, we sought to understand the basis for the past success of the People’s Republic of China (PRC) and then questioned whether the same factors will continue to be the basis for success in the years and decades ahead. Past success in the PRC has been due to a confluence of factors, including a low-cost advantage especially in labor that has fueled exports and domestic as well as foreign investment. However, this cost advantage is eroding and is likely to contribute much less to competitiveness in the future. Instead, to sustain growth through and beyond the (upper) middle-income phase, the PRC will need to rely more on productivity improvements through innovation and upgrading. The transition “from low cost to high value” is a key imperative for the economy.

      What makes this transition particularly challenging is the fact that the PRC’s reform process is still far from complete, and, compounded by rapid growth in the past 3 decades, this has generated significant economic imbalances, coupled with rising inequality. These deep issues are becoming more apparent and could stifle economic progress in the years ahead. The Chinese growth machine has also created pressures on energy, water resources and the environment that require attention.

      We have attempted to weave these various factors, trends and issues into what we hope is a compelling look at the PRC and its prospects for the future.

      Juzhong Zhuang

      Deputy Chief Economist, Economics and Research Department, ADB

      Paul Vandenberg

      Senior Economist, Economics and Research Department, ADB

      Yiping Huang

      Professor, China Center for Economic Research, National School of Development, Peking University, PRC

       Acknowledgments

      This report is part of a study on Sustaining and