The Domestic Solution
| Author | Leslie Lipschitz/Céline Rochon/Geneviève Verdier |
| Position | Director of the IMF Institute/University Lecturer at the Said Business School, University of Oxford/Economist at the IMF Institute |
| Pages | 47-49 |
Page 47
Can China's growth be sustained through good-neighbor policies?
For economists and political scientists-as much as for tourists seeking adventure-China is intriguing. It is huge and enormously populous. It has a multilayered ancient culture and history. It has become fully engaged with the global economy in recent years, and the blistering growth of its output and exports has had a signifi - cant global impact. Moreover, the country is large enough for its policies to influence the rest of the world. China is achieving comparatively strong growth even during the current global economic crisis, but a massive drop in employment is prompting a profound reconsideration of policy options.
Recent research at the IMF (Lipschitz, Rochon, and Verdier, 2008) has sought to use a formal growth model to answer some general questions about the process of growth in developing countries and specific questions about the driving forces in the case of China.
* How is China's catching-up process different from the norm? Does its large and significantly underemployed labor force help or hinder its performance?
* Does the extraordinary competitiveness of China's industry reflect underlying structural characteristics or-at least in the past few years-a mercantilist beggar-thy-neighbor exchange rate policy?
* Why, despite a very high domestic saving rate, does China still have sizable inflows of foreign direct investment?
For any country, output (and thus income) is created by combining capital and labor to produce goods and services. But much depends on the institutional and technological environment within which these factors of production are combined. For many countries the transition from a controlled economy to a market economy has changed the institutional and technological setting and elicited sizable increases in the productivity of labor and capital. These productivity increases have raised returns on capital and encouraged investment, and thereby increased the productivity of labor and sustainable wages even further. Thus, an endogenous process of better institutions, improved technology, higher returns, increased investment, more employment, and higher incomes has resulted. Certainly, the reform and opening up of the Chinese economy since 1978 has been a development of this sort. Such a process, however, is transitional: at some point the institutional and technological environment will catch up with that in advanced economies and the era of easy growth gains will end, and thereafter growth will revert to a rate more similar to that in advanced economies.
One other part of this catching-up process is important: workers will be sucked out of the agrarian economy (as productivity there improves and labor mobility is increased) and into the high-growth (usually manufacturing) economy. Putting this "reserve army" of workers into higher-productivity jobs is a critical part of the high-growth catching-up process, especially in populous countries with large low-productivity agricultural sectors.
For China the stylized...
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