China has transformed in our lifetime from an agrarian collective farmer-based economy to a world-beating digital and consumption-led powerhouse, driven by smartphone wallet shoppers.
This year marks the 40th anniversary of China’s economic reform and opening.
It is said a long journey begins with a single step – on December 18 1978, China espoused its ‘open-door’ policy declaring a ‘turning point’ in its economic management and trajectory.
Over the period, the character of the country’s economic management has evolved from being strictly centrally planned, export-oriented and state-led to one that is more market-led and based on domestic consumption.
China’s gross domestic product has achieved an average 10 per cent annual growth rate in the past 40 years – three times the rate in the United States over the same period.
Its GDP per capita increased from $US156 in 1978 to $US8,123 in 2016 – lifting more than 800 million people out of poverty.
GDP per capita in the US was $US57,638 in 2016 by comparison, indicating there is still growth ahead in the China story.
Today, China is the world’s largest economy on a ‘purchasing power parity basis’. It is the world’s largest manufacturer exporter and holder of foreign exchange reserves.
And China is actively aiming for a leadership role in globalisation and in combating climate change.
These impressive achievements are thanks to the perseverance and far-reaching changes in its economy and society.
China began addressing the imbalance in its economy by the ‘de-collectivisation’ of agriculture.
At that time, farming was the foundation of the national economy. This involved implementing the contract responsibility system in agriculture, by which farmers were able to retain a surplus over individual plots of land rather than farming for the collective.
The government established township and village enterprises (TVEs). This achieved remarkable results in increasing supplies of food and other consumer goods, which created a climate of dynamism and opportunity in the economy.
Rural reform set the foundation for China’s future economic growth and its entry to the global economic stage.
During the 1980s, it began to expand in international trade and allowed foreign direct investment (FDI) into the country. The most noticeable symbols were the four Special Economic Zones (SEZs), which were created in 1980 – in Shenzhen, Zhuhai, Xiamen and Shantou.
The SEZs were successful in attracting foreign capital, pioneering reform experiments and creating an export-oriented economy.
In 1991, China only attracted $US4.37 billion in FDI. From then, the absolute size and proportion of FDI into China rose significantly, reaching $US126 billion in 2016.
Thereafter, China gradually opened up coastal and border cities, major cities in the hinterland, and finally the rest of the country.
This has attracted labour-intensive manufacturing industries from advanced economies. Today, the SEZ model has evolved to a new breed of 11 Free Trade Zones across the country, which now act as ‘sandboxes’ for future reform on a national scale, in particular in services and innovation reform.
A key phase of reform sought to change the country’s economic system is improving the governance of State-Owned-Enterprises (SOEs), introducing a gradual liberalisation of prices and fiscal decentralisation and establishing a fully fledged modern banking system.
SOE reform aimed for the enlargement of enterprise autonomy, reducing government intervention, creating market institutions, opening up more industrial sectors to competition from private enterprises and converting the economy from an administratively driven, planned economy to a price-driven market economy.
The process of SOE reform is continuing. In addition, Beijing is continuing to streamline and modernise its state-owned sector and create conglomerates capable of competing globally.
The reforms have involved the restructuring of SOEs through reorganisations and mergers, reductions in excess capacity and the relocation of workers.
In order to fulfil its commitment to the World Trade Organisation to liberalise financial markets for foreign participation by the end of 2006, the Chinese government accelerated financial reforms at the end of 2003.
The reforms focused on the main areas of financial services – banking, securities and insurance. This included diversifying banks’ equity structures, enhancing banks’ corporate governance, introducing a prudential regulatory regime and transforming state-owned banks into joint-stock banks.
Key securities companies were restructured, while reforms in the insurance sector also progressed.
China has recognised the importance of a high-functioning financial system for improved allocation of resources within the economy.
The government has instituted a number of reforms in recent years. Bank deposits and lending rates have now been fully liberalised. Commercial banks can set these rates freely, though the People’s Bank of China still sets reference rates to guide banks. An explicit bank deposit insurance program has been in operation since May 2015.
Another key phase of reform is focusing on what is known as China’s Going Out policy.
Through a cautious and gradual approach over the past 40 years, authorities have been opening China’s capital account via tightly controlled programs such as QDII/QFII (Qualified Domestic Institutional Investor/Qualified Foreign Institutional Investor), and the recent Stock and Bond Connects to allow more foreign participation in China’s capital markets.
The country’s capital account is becoming increasingly open in de facto terms.
China now has the second largest equity market. From a total market capitalisation of $US513 billion in 2003, it has grown 17 times to $US8.7 trillion in October 2017. The country’s domestic bond market is now the third largest in the world.
Significant progress has already been made to internationalise the renminbi. Just over a decade ago, renminbi usage was largely confined to mainland China. Today, more than 10 per cent of China’s trade is settled in the currency.
Various cross-border schemes allow foreign investors to buy stocks and bonds in mainland China.
The renminbi’s role as a reserve currency is also gradually appearing. The currency was formally included in the International Monetary Fund’s Special Drawing Rights (SDR) basket on October 1 2016, joining the US dollar, the euro, the yen and the pound.
Foreign exchange reserves held in renminbi assets were $US85 billion in 2016 – 0.78 per cent of the total. The number of central banks investing in renminbi has jumped from three in 2013 to 45 in 2017.
In addition, the MSCI announced last year it would include Chinese A-shares in its Emerging Markets Index and the MSCI ACWI Index, beginning in June this year.
After four decades as primarily a recipient of foreign direct investment, China has emerged as a major FDI-originating country as well.
China’s Going Out policy was initiated in 1999, which has resulted in the country’s non-financial Outbound Direct Investment rocketing from less than $US1 billion in 2000 to $US170 billion in 2016.
Moreover, the country has taken the lead in creating multilateral banks and funds to support in its Belt and Road Initiative – the Asian Infrastructure Investment Bank, the New Development Bank and the Silk Road Fund, with hundreds of billions of dollars held among them.
These entities and funds will plug the gaps in Asian developing countries’ $US26 trillion infrastructure financing needs between 2016 and 2030.
China’s ‘reform and opening’ efforts have allowed it to enter an era of new economic growth, with consumption, innovation and green energy leading the way.
Changes are already taking place. Domestic demand has expanded steadily, with final consumption contributing 58.8 per cent of economic growth in 2017, nearly four percentage points higher than five years prior.
The added value of the service sector takes up 52 per cent of GDP, more than six percentage points higher than five years ago.
China also has become the global leading force in digital technology and innovation, driven by the country’s rising middle class and a young, free-spending and digitally connected new generation of consumers.
Last year, about 772 million people had access to internet in China, more than the population of Europe.
China has more e-commerce activity than any country in the world today. It accounts for 42 per cent of global e-commerce, boasts a third of the world’s most successful tech startups and conducts 11 times more mobile payments than the US.
But there are major challenges ahead.
Almost 40 years ago, China took a drastic step to tackle problems with its enormous population. Now the country is facing the challenge of coping with an ageing population.
This will create more demand on insurance, healthcare, medical and wealth management products, which need a diversified financial system. In addition, making the economy sustainable and green is critical, not only for the people and the environment, but also for a sustainable economy in the long term.
As a key driver of global trade and investment, China is positioning itself at the centre of Asia’s economic growth by increasing regional connectivity through its Belt and Road Initiative.
This will help turn Asia into the dominant global economic force, providing an estimated 52 per cent of global GDP by 2050.
As a result, China is expected overtake the US as the world largest consumer market and economy in every measure.
Peter Wong is deputy chairman and chief executive of Hong Kong and Shanghai Banking Corporation.