china strikes back

The State Strikes Back, by Nicholas Lardy A cogent guide to China’s economic slowdown and the marginalisation of the private sector Lardy’s analysis implies that President Xi Jinping understands free markets well enough to perceive the threat they could pose to the Communist party’s rule © Getty Share on Twitter (opens new window) Share on Facebook (opens new window) Share on LinkedIn (opens new window) Share Article saved in My FT.Saved Review by Gabriel Wildau JANUARY 28 2019Print this page9 That China’s economy is slowing is common knowledge. Yet there is substantial disagreement over why. Some see it as the result of implacable forces such as demographic change, the end of urbanisation, and limited space for further “catch-up” growth. Others blame the Communist party’s flagging commitment to reform. Disentangling these factors is an important task for those who seek to understand China’s economy. Nicholas Lardy’s book reflects the meticulous research and methodical analysis that has established his reputation as a leading observer of China. But where his earlier works set the agenda for discussing issues such as deregulation of China’s interest and exchange rates, this one is slightly behind the curve. Lardy’s 2014 book, Markets over Mao, chronicled the growing role of privately owned companies in China and the benefits they delivered to the economy. The central thesis of this oneis almost the exact opposite: that the current growth slowdown is not inevitable but rather a consequence of a lack of market-oriented economic reform — and a resurgence in the state’s role in resource allocation. Lardy would probably respond that his analysis has altered in response to a change in the facts on the ground. Fair enough. The trends described in this book were not clearly visible in macroeconomic data available when he was researching the previous one. This blind spot also partly reflects the limitations of Lardy’s top-down methodology, which relies on macroeconomic data rather than the testimony of business owners, investors or policymakers. Lardy himself argues that “since 2012 . . . this picture of private, market-driven growth has given way to a resurgence of the role of the state in resource allocation, and a shrinking role for the market and private firms.” Some analysts predate this shift to 2008. The stimulus plan that Beijing launched in response to the global financial crisis — though it included heavy lending to private as well as state-owned companies — was a key turning point. It financed a surge in unproductive, debt-fuelled investment most characteristic of state groups. Some argue that reform peaked under President Jiang Zemin and premier Zhu Rongji, who left office in 2003 after shrinking the state sector, re-capitalising the banking system, and ushering China into the World Trade Organization. While their successors, Hu Jintao and Wen Jiabao, presided over another decade of strong growth, they accomplished little besides reaping dividends from their predecessors’ wise policies. If this book is not as path-breaking as its predecessors, it remains a cogent guide to current problems. Lardy argues convincingly that the widening productivity gap between state-owned enterprises and private groups, combined with the growing role of SOEs in total investment, seriously hinders growth. There is also some optimism. China’s gross domestic product grew by 6.6 per cent in 2018, the slowest annual pace since 1990. But Lardy believes that “expanded reform would likely boost growth from the recent range of 6-7 per cent to an average of 8 per cent or possibly slightly more”. This view distinguishes him from those who say the rapid build-up of debt since the global financial crisis means China is due a financial crisis or “lost decade” of economic stagnation. Lardy is more astute than other analysts in understanding why reform has stalled. The conventional view of China’s political economy is that the Communist party has struck an implicit bargain with the public, by which it delivers economic growth in exchange for public acceptance of authoritarian rule. But Lardy argues that the main obstacle to implementing economic reform is the leadership’s view that “while state-owned firms may be a drag on China’s economic growth, they are essential to maintaining the position and control” of the party. In other words, growth is no longer the top priority. This viewpoint might discourage advocates of democracy and free markets, but at least it avoids the tired clichés. A typical formulation is that President Xi Jinping “doesn’t get” the benefits of free markets. Lardy’s analysis implies the opposite: Mr Xi understands free markets well enough to perceive the threat they could pose to the Communist party’s rule.