Preparing the Ground

• Author: David A. Lipton

Preparing the Ground Finance & Development, March 2016, Vol. 53, No. 1

David A. Lipton

China’s quest for sustainable growth calls for bold fiscal reforms

Three and a half decades into arguably the most successful development story of the modern era, China finds itself at a critical juncture. It must shift from a nearly exhausted investment-driven and export-reliant growth model—with rising macroeconomic and financial risks and unsustainable environmental costs—to a new path of more domestic consumption–based, more inclusive, and greener growth.

The dominant role of China’s government in the economy means that the management of its finances—fiscal policy—is both a foundation of its past success and the root of future challenges. Fiscal policy reforms are needed to safeguard past achievements and prepare the ground for sustained improvements in the future.

Strategic reform goalsThe goals of these strategic reforms are fourfold:

Balance the budget—Slow the accumulation of debt that would eventually burden government budgets and taxpayers, while being mindful of fiscal policy’s role in preventing a sharp slowdown in growth;

Get prices right—Deal with the negative impact of resource use, especially energy, and eliminate subsidies that favor state-owned enterprises over the private sector;

Ensure the efficient use of state assets and their proceeds by hardening the budget constraints of local governments and state-owned enterprises; and

Help the economy rebalance from excessive saving and inefficient investment to higher household income and consumption and lower but more productive private investment, especially in the still-underdeveloped service sector.

Implementing this agenda would help safeguard macroeconomic stability, strengthen the government’s role as a prudent and efficient steward of public resources, and foster much-needed structural change in the economy—in other words, help secure more balanced, more equal, and more environment-friendly growth—for the benefit of China, the region, and the global economy.

China’s development record over the past 35 years has been nothing short of astonishing, with the economy growing at about 10 percent a year. Real per capita income has more than quadrupled since 1980, to about $7,600 in 2014, placing China in the ranks of lower-middle-income countries and lifting more than 600 million people out of poverty, according to the World Bank’s World Development Indicators. And China is now the largest...