Transformation From Investment-Led Growth To Consumption-Led Growth Strategy In Chinese Economy

Background and the Need for Change

Describe about consumption-Led growth strategy of China?

China is the nation which was able to transform its economy from an isolated nation to a nation that is opened to the world on a global basis. The famous Chinese revolutionist Deng Xiaping took initiatives to improve the trade relations between China and all other nations. It is then that the relevance of foreign trade was felt by the country. Deng Xiaping, also helped the economy of China by attracting relevant foreign investors. The interest of the foreign investors in the economy of China was the advantage of low cost production that dwelled within China. Thus, this step by China enhanced the chances of the growth in the country which was export and investment led growth. The investment and export led growth was possible only with commitments made by the government to initiate capital investment and bring technological advancement. But it was not too late that China finally realized that the investment and export led growth strategy was unsustainable and the economy slowed down. The GDP of the country dropped to 7.5% and the share of consumption in the GDP of the China also declined. This led to a situation where the government of China decided to switch over the growth strategy from investment and growth based to consumption based growth. (Poon, 2014)

For the last two decades, China was dedicatedly investing in the infrastructure and capital formation which made the country the exporting house of the entire world. The growth in China is dependent on the production unit and factories of the other nations which are believed to be of low cost. The low cost benefit of China enables the congregation of a lot of nations in this country thereby attracting a lot of investments within the economy. (Xu, 2010) The increased in the economic growth of China uplifted the global position of China. The higher dependence of China on its export resulted in a situation of low wage which declined the consumption spending of the Chinese citizens. The GDP growth in China has declined and the share of consumption in the GDP is stands out to be just 35% as against the US economy which is about 70%.(Sector, 2015) This situation led to the introduction of a new sustainable strategy which will enhance growth. The reason of the low consumption share cannot wholly be attributed to the change in the industrial phase but also other several factors that affect the economy of China. The factors that led Chinese economy to swap towards a more sustainable and reliable growth strategy are the problems related to the capital equipments being underutilized, environmental sustainability issues, increasing inequality, migrat5ed labour forces being exploited, problems of unemployment and several other issues concerning the health of the Chinese economy. Many economists were of the opinion that the investment and export led growth is not sustainable in the long run and there should be a structural change in the growth strategy of China towards domestic market consumption expenditure. (Chi, 2012) Thus, I agree to decision taken by the government of Chinese to switch over to consumption led growth strategy.

Factors Contributing to Low Consumption

The share of the consumption spending being low in China, its effectiveness is increased by numerous structural factors. The reasons that are identified behind the decision of china to change from an investment growth to a consumption based growth are multidimensional. One of the main reasons is prevalence of underdevelopment in the capital market. Without the operation of effective capital and efficient allocation of capital, no growth can be initiated in the economy. If the capital market is underdeveloped then investment will not take place which caused a hindrance to the growth of China. The next factor that hinders the investment led growth is the availability of credit. Consumer credit is an important aspect that will enhance the consumption spending of the individuals but with the low availability of such credit, the people are not able to increase their consumption spending. Unemployment in this regard also plays a very crucial role. With rising unemployment, disposable income of the people will decrease and they would not be able to make purchases lowering the rate of consumption. Another way to explain the low consumption share is that China has witnessed a high savings rate directed towards the old age citizens and children for their education and also for precautionary reasons. (Du, Fang & Jin, 2014)  Thus, an immediate policy was required by the Chinese government to implement strategies which would reduce the savings rate, increase the household income and thereby expand the consumer spending. An emphasis must be made on the reforms that must be brought in the financial sector which eventually smoothed the capital operation within the economy. Hence, China took the decision to adopt the consumption oriented growth strategy in order to increase the consumption share in its GDP. (Fulin, 2012)

The benefits associated with the new transformed growth strategy are several. But the government of China took steps to decrease the rate of savings by extending easy and smooth availability and access to consumer credit, increased the expenditure of the government towards the development of the economy along with incorporation of social protection. (Campbell & Brown, 2007) Government also reformed the ‘HOKOU’ which is a social welfare scheme where fair distribution of education, healthcare services and generation of employment are included. This benefits the interest of the citizens and reduced the savings rate. The unemployed youths was shifted to the service sector which created employment and increased the disposable income, thereby increasing the consumer spending. The service sector in China is believed to offer high pay and since it is a labour intensive industry, labour force is absorbed on a huge scale. Another way to stimulate the consumption share is by reforming the financial sector by smooth availability of credit to the consumers as well as the SME which will eventually generate jobs and increase the consumer spending. The overall benefit that is acquired from the adoption of the consumption-led growth strategy is by maintaining a sustainable growth which is characterized to be long term and stable. (Lardy,n.d.)This can be explained by the Production Possibility Frontier (PPF).

Here X₁ and X₂ are two goods in the Chinese economy. Before growth, an individual was at the PPF₁ and was able to attain the point A which is the combination of X₁ & X₂ but could not attain the point B which is comprised of increased quantity of X₁ & X₂. Now as the Chinese Economy witnessed growth, the PPF shifted outward to PPF₂ which caused the individual now to attain the previously unattainable point B. Thus, it is clear that with growth the consumption spending has increased. (Arnold, 2001)

The cost associated with the new transformed consumption-led growth strategy is that it doubted the issues related to environmental sustainability. This is because with the development of the heavy scale industries like the iron and steel, manufacturing sector, cement tend to exert pressure on the natural resources and causes them to deplete. With the rapid urbanization and the advent of energy based industries the greenhouse gas emission also increased which adversely affect the lives of the human beings. Another drawback of this strategy is that China is no doubt the second largest economy among all other nations but in terms of average income it lags behind which aggravated the inequality in the country. With the adoption of consumption-led growth strategy, a serious threat is posed by the inefficient investment and the increase in the debt which can hinder the economic growth of the Chinese economy. (Lee, Syed & Xueyan, 2013)

References

Chi, F. (2012). Consumption-led growth. [Beijing?]: China Intercontinental Press.

Du, J., Fang, H., & Jin, X. (2014). The “growth-first strategy” and the imbalance between consumption and investment in China. China Economic Review, 31, 441-458. doi:10.1016/j.chieco.2014.09.002

Fulin, C. (2012). Consumption to lead growth_Publications_China Institute for Reform and Development(CIRD). Chinareform.org. Retrieved 18 March 2015, from https://www.chinareform.org/publications/reports/201202/t20120228_135281.htm

Lardy, N. China: Toward a Consumption-Driven Growth Path. SSRN Journal. doi:10.2139/ssrn.2126152

Lee, I., Syed, M., & Xueyan, L. (2013). China’s Path to Consumer-Based Growth: Reorienting Investment and Enhancing Efficiency. https://www.imf.org. Retrieved 18 March 2015, from https://www.imf.org/external/pubs/ft/wp/2013/wp1383.pdf

Poon, D. (2014). China’s Development Trajectory: A Strategic Opening for Industrial Policy in the South (1st ed.). UNCTAD. Retrieved from https://unctad.org/en/PublicationsLibrary/osgdp20144_en.pdf

Sector, E. (2015). China’s Shift to a Consumption-Driven Economy | Cornell Current.Cornellcurrent.com. Retrieved 18 March 2015, from https://www.cornellcurrent.com/2014/11/12/chinas-shift-to-a-consumption-driven-economy/

Xu, Y. (2010). China's Export-led Growth Strategy: An International Comparison. China & World Economy, 18(4), 18-33. doi:10.1111/j.1749-124x.2010.01202.x

Arnold, R. (2001). Economics. Cincinnati, Ohio: South-Western College Pub.

Campbell, H., & Brown, R. (2007). Benefit-cost analysis. Cambridge: Cambridge Univ. Press.