Econ­o­mist eyes China’s trans­for­ma­tion

China Daily (Canada) - - ACROSSAMERICA - By CHEN WEIHUA in Wash­ing­ton chen­wei­hua@chi­nadai­lyusa.com

Ni­cholas Lardy, one of the lead­ing economists on China in the United States, has been very ex­cited about the economic re­form plans rolled out at the Third Plenum of the 18th Cen­tral Com­mit­tee of the Com­mu­nist Party of China last Novem­ber.

The Third Plenum has promised to give mar­ket forces a big­ger say in the econ­omy and also laid out an agenda for fi­nan­cial re­forms.

“I think the blue­print is ex­cel­lent. The ques­tion is im­ple­men­ta­tion,” said Lardy, a se­nior fel­low at the Peter­son In­sti­tute for In­ter­na­tional Eco­nom­ics based in Wash­ing­ton.

Lardy warned that if re­forms are not im­ple­mented, and credits con­tinue to ex­pand and the level of in­vest­ment still ac­cel­er­ates over the next three to four years, then the out­come could be very dif­fer­ent.

“Then there is a high pos­si­bil­ity of a hard land­ing and much slower growth,” he said.

Lardy has seen pos­i­tive signs. He said China’s econ­omy is mov­ing in the right di­rec­tion, with pri­vate con­sump­tion in GDP ris­ing in each of the last three years, al­beit grad­u­ally, cur­rent ac­count sur­plus go­ing down from 10 per­cent in 2007 to 2 per­cent now, and a ser­vice sec­tor grow­ing more rapidly than GDP for the first time in a long while.

Em­ploy­ment growth has also been strong de­spite a slow­down of GDP growth. And con­trary to what many be­lieve, Lardy ar­gued that slower growth can also gen­er­ate many jobs, since much of the ser­vice sec­tor is quite la­bor in­ten­sive.

Lardy be­lieves rapid growth of wages and em­ploy­ment in China will cre­ate more fa­vor­able con­di­tions for con­sump­tion. Set­ting pri­or­i­ties

While prais­ing the Third Plenum blue­print, Lardy pointed out that it was not very good on set­ting pri­or­i­ties, such as what should be done first.

“I am very big on in­ter­est rate lib­er­al­iza­tion be­cause I think it’s key to a lot of the other things. I am very big on re­duc­ing the power of mo­nop­o­lized sec­tors to al­low the en­try of pri­vate busi­nesses,” he said.

In his view, if the lib­er­al­iza­tion of in­ter­est rates takes place, the de­posit rates and lend­ing rates will go up, and that will bring down the rate of in­vest­ment.

High in­ter­est rates will also lead to more lend­ing to the pri­vate sec­tor, ac­cord­ing to Lardy, cit­ing the ex­am­ple that the re­turn on in­vest­ment in the pri­vate manufacturing sec­tor is 15 per­cent com­pared with only 5 per­cent for State firms.

While Lardy does not be­lieve the re­forms can and should be done overnight since a sud­den rise of in­ter­est rate, for ex­am­ple, could cause a lot of com­pa­nies with debt to go bank­rupt.

“What you need to do is to get on a path where in­ter­est rates are ris­ing,” he said. That will send a sig­nal to com­pa­nies that the cost of cap­i­tal is go­ing up and they need to get to a level of be­ing ef­fi­cient and sus­tain­able.

“I think China has been in a low-in­ter­est en­vi­ron­ment for a long time,” Lardy said.

Lardy be­lieves it’s a mis­take for China to pro­tect the mo­nop­o­lies of State com­pa­nies that are not very ef­fi­cient, cit­ing fig­ures in his up­com­ing book Mar­ket­sOverMao:TheRiseof Pri­vateBusi­ness­inChina, to be re­leased this Septem­ber.

Even on the mo­nop­oly side, Lardy said progress has al­ready been made in oil and gas and tele­com sec­tors, but less so on the fi­nan­cial sec­tor. And China’s lead­ers have fully re­al­ized the need to bring down the credit growth and growth rate of in­vest­ment.

“That’s what my read­ing of what the Third Plenum is re­ally shoot­ing for, to get more ef­fi­ciency, and mak­ing the mar­ket a more de­ci­sive fac­tor in al­lo­cat­ing

re­sources,” he said. Suc­cess­ful re­forms

As one of the few US economists who have stud­ied the Chi­nese econ­omy since the 1960s, Lardy de­scribed China’s re­form since 1978 as “wildly suc­cess­ful”. The econ­omy is 25 times big­ger to­day than it was in 1978 in real terms.

“I am not talk­ing about PPP (pur­chas­ing power par­ity) or any­thing like that,” he said. “So the growth has been un­prece­dented.”

Lardy ex­pressed his dis­ap­point­ment that re­forms in the past decade had slowed down quite a bit and there was a restora­tion of state in the econ­omy.

How­ever, his up­com­ing book ar­gues to the con­trary of what many be­lieve to be an ex­pan­sion of the state sec­tor and shrink­age of the pri­vate sec­tor in the Chi­nese econ­omy.

“I think there is a very amaz­ing amount of bad anal­y­sis of China,” said Lardy, pick­ing up a pink clip­ping of a re­cent Fi­nan­cial Times ar­ti­cle, which ar­gues the Chi­nese state is still dom­i­nat­ing ev­ery­thing.

Ac­cord­ing to Lardy’s book, share of out­put by state-owned com­pa­nies has dropped from 80 per­cent in 1978 to roughly 25 per­cent. And that in­cludes the util­i­ties, which are ei­ther highly reg­u­lated or state-owned in most coun­tries. In China’s manufacturing sec­tor, the sta­te­owned firms ac­count for only 20 per­cent.

Lardy de­scribed state cap­i­tal­ism, a pop­u­lar term for China in the Western news me­dia, as a mis­nomer. “I don’t think that ev­i­dence re­ally sup­ports that,” he said.

In Lardy’s views, China did try state cap­i­tal­ism, but it failed, and the ar­eas where China had suc­ceeded are where mar­ket forces were the strong­est.

The econ­o­mist be­lieves even se­nior US of­fi­cials, such as Trea­sury Sec­re­tary Jack Lew and US Trade Rep­re­sen­ta­tive Michael Fro­man may not get a whole pic­ture of the re­al­ity be­cause the in­for­ma­tion they re­ceive is of­ten bi­ased.

Lardy has talked to both Lew and Fro­man, but he ad­mit­ted that they don’t buy what he said. “Be­cause all they talked to are firms having difficulties in China. And those difficulties are con­cen­trated in ser­vices, where the state still has com­plete con­trol,” Lardy said.

“So they are the ones who go to USTR (US Trade Rep­re­sen­ta­tive) and said we need this lib­er­al­iza­tion, but in manufacturing,

• they don’t get any com­plaints. Manufacturing is pretty wide open,” he said. Early in­ter­est in China

A pro­lific writer on the Chi­nese econ­omy, Lardy’s of­fice book­shelf con­tains some of the ma­jor books he has au­thored since the 1970s when he re­searched China’s fis­cal sys­tem of the 1950s for his PhD dis­ser­ta­tion and many of the least pop­u­lar books on China, the year­books on Chi­nese eco­nom­ics and fi­nance in the past 26 years.

How­ever, the econ­o­mist got in­ter­ested in China way be­fore he stud­ied Chi­nese econ­omy in the 1960s as an un­der­grad­u­ate stu­dent in the Univer­sity of Wis­con­sin at Madi­son.

Lardy’s fa­ther, Henry Lardy, was a dis­tin­guished bio­chemist there un­til he passed away four years ago at the age of 92, having trained 64 grad­u­ate stu­dents, men­tored 110 post­doc­toral fel­lows and pub­lished more than 500 pa­pers.

Lardy said he de­vel­oped a small in­ter­est in China as a child in the 1950s when his fa­ther had some grad­u­ate stu­dents from Tai­wan and he heard them talk­ing about the cri­sis over Que­moy and Matsu (Jin­men and Mazu Is­lands) in the Tai­wan Straits. He also heard peo­ple talk­ing that John F. Kennedy would rec­og­nize China in the early 1960s.

“So I heard about China and I be­came in­ter­ested in China very ca­su­ally,” Lardy re­called.

While Lardy en­rolled as an eco­nom­ics ma­jor at the Univer­sity of Wis­con­sin, he also started to learn Chi­nese, which he said was “be­cause of his in­ter­est in China”.

The Chi­nese lan­guage class had mostly stu­dents who were Chi­nese Amer­i­cans whose par­ents wanted them to learn the lan­guage, and there were few Cau­casians.

“So at that time, I de­cided to com­bine eco­nom­ics with my in­ter­est in China,” he said.

When he be­came a grad­u­ate stu­dent at the Univer­sity of Michi­gan, he took more Chi­nese lan­guage classes.

Alexan­der Eck­stein, a lead­ing econ­o­mist on Chi­nese econ­omy at that time, was teach­ing at Michi­gan.

Re­al­iz­ing that it was im­pos­si­ble to go to China at the time, Lardy spent much time in the Li­brary of Congress go­ing through var­i­ous pro­vin­cial pa­pers from China in his re­search for his PhD pa­per on China’s fis­cal rev­enue sharing between the cen­tral and lo­cal gov­ern­ments. It later be­came his first book.

“There was a wide­spread the­sis at that time that China was ex­tremely de­cen­tral­ized in fis­cal terms. Es­sen­tially I showed that was not quite true,” he said of his first book.

Lardy taught at the eco­nom­ics depart­ment of Yale Univer­sity soon af­ter he fin­ished his PhD in 1975. In 1978, he de­cided to go to Hong Kong to study Chi­nese at the Chi­nese Univer­sity in Hong Kong and do re­search on Chi­nese agri­cul­ture. That be­came his sec­ond ma­jor book pub­lished in 1983.

In that book, Lardy looked into not just agri­cul­tural pro­duc­tion, but also how agri­cul­ture sup­ported the na­tional economic growth, through the trans­fer of re­sources.

Un­like his first book which was about the trans­fer of re­sources ge­o­graph­i­cally between prov­inces through the cen­tral gov­ern­ment, the sec­ond book was about the trans­fer of re­sources from agri­cul­ture to in­dus­try.

He found that in Mao Ze­dong’s time, the pol­icy was un­fa­vor­able to agri­cul­ture, cit­ing the prices farm­ers re­ceived in the pro­cure­ment sys­tem.

“So it was in­dus­tri­al­iza­tion based on ex­ploita­tion of agri­cul­ture,” Lardy said.

But he said that changed greatly af­ter 1978 when farm­ers got a much bet­ter deal. First trip

Lardy, how­ever, might not re­al­ize that his first visit to China would be to­tally ac­ci­den­tal. His wife, Bar­bara, who hap­pened to know some­one in the Hong Kong Fam­ily Plan­ning As­so­ci­a­tion which was lead­ing a fam­ily plan­ning del­e­ga­tion to the Chi­nese main­land in 1978, had al­ready signed up for the trip. Five days be­fore de­par­ture, some­one dropped out and when his wife was asked if she knew some­body who wanted to go, she im­me­di­ately said, “Yes, my hus­band.”

Go­ing on the heav­ily healthori­ented trip with mostly doc­tors was not re­ally Lardy’s cup of tea, but he said it was in­ter­est­ing since he had never been to China, a place he now trav­els to sev­eral times a year.

He ad­mit­ted that he never thought he would be able to go to China when he stud­ied the Chi­nese econ­omy in the 1960s. “Ob­vi­ously I didn’t an­tic­i­pate there would be this big open­ing up in the late 1970s,” he said.

Af­ter teach­ing at the Univer­sity of Wash­ing­ton for 12 years, Lardy moved to the Brook­ings In­sti­tu­tion in 1995, first as a visi­tor. But he said he liked be­ing in Wash­ing­ton and his fam­ily liked it too.

Lardy re­signed from the Univer­sity of Wash­ing­ton to join the Brook­ings, where he wrote an­other two ma­jor books, one on China’s fi­nan­cial re­form, known in its Chi­nese ver­sion as China’s un­fin­ished economic re­form and the other on China’s en­try into the World Trade Or­ga­ni­za­tion (WTO).

Sit­ting in his well-lit of­fice with a big win­dow at the Peter­son In­sti­tute, Lardy can see his old of­fice at the Brook­ings across the street.

He agreed that study­ing the Chi­nese econ­omy was quite lonely in the early years and “you have to be very in­ter­ested your­self”.

When there were more peo­ple in China, Lardy said they talked among them­selves. “But now ev­ery­body is in­ter­ested in China be­cause China af­fects ev­ery­thing, glob­ally,” he said.

“Even peo­ple who have never been to China and don’t know any­thing about China, they wanted to know more, they wanted to learn as much as they can, be­cause the in­flu­ence China has had on the global econ­omy, com­modi­ties and ev­ery­thing else,” he said.

“That has been a huge trans­for­ma­tion,” said Lardy, who has been sought af­ter as a speaker on the Chi­nese econ­omy by a nu­mer­ous busi­ness groups, com­pa­nies and con­fer­ences.

CHEN WEIHUA / CHINA DAILY

Ni­cholas Lardy, a se­nior fel­low at the Peter­son In­sti­tute for In­ter­na­tional Eco­nom­ics, talks to China Daily in his of­fice.

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