What happened to China’s economy?

Since Deng Xiaoping launched China’s economic reform in 1978, policymakers have generally managed to strike a dynamic balance between local government responsibility and innovation. Today, however, centralization is encouraging local officials to keep their heads down, which has serious implications for China’s growth prospects.

SHANGHAI – Last January, the Chinese government forecast that the country’s economy – which, at the time, was experiencing a strong rebound after the initial slowdown due to the pandemic – would grow 5.5% in 2022. But, for the second quarter Unfortunately, the accelerated spread of the Omicron variant of Covid-19 had forced the government to implement emergency confinement measures in its most economically dynamic cities, including Beijing, Guangzhou, Shanghai and Shenzhen.

The two-month lockdown in Shanghai, in particular, dealt a devastating blow to growth, as the entire Yangtze River Delta was effectively cut off from the global economy. It also rattled businesses and sapped investor confidence. Even if they still have faith in the long-term prospects of the Chinese economy, too many entrepreneurs and investors – both foreign and Chinese – have become more cautious than ever about doing business there, at least in the short term. The effects of this change will surely persist, even after economic activities – which have not recovered after more than three months since the lockdown was lifted – return to their previous level.

It seems that what has happened to the economy since March was avoidable. The fact is that, despite being implemented only to a limited extent, policy innovation at the local level helped Shanghai minimize the economic impact of the pandemic in the two years leading up to the March 2022 lockdown. Account, it is reasonable to consider the role that such innovation could play in mitigating the damage to businesses and the investment environment caused by lockdown measures linked to the pandemic.

Innovation at the local level is not incompatible with the implementation of the national policy framework against Covid-19; conversely, failure to adapt policies to local conditions can weaken their impact. However, to date, most local governments have not adopted innovative strategies to implement policies related to the pandemic and, in many cases, have implemented those policies much more aggressively than required. This is because local authorities fear the consequences of failure, which could include losing their jobs.

Of course, there are good reasons to hold government authorities accountable for their decisions, and China has long had mechanisms in place to do so. But the focus of responsibility in China has recently shifted to punishing wrongdoing rather than incentivizing authorities to do the right thing. And such a change has obviously been strengthened by expanding the mandate of local governments to include critical imperatives like managing financial risk and reducing pollution. When it comes to Covid-19, this has helped ensure that responses everywhere meet a high standard.

However, the lack of will on the part of local governments to innovate policies carries severe economic costs. Perhaps the most consequential effect of the recent lockdowns in China is to have exposed them.

Since April, after acknowledging the huge economic cost imposed by its pandemic control policy, the central government has introduced a series of policies aimed at easing financial restrictions on micro, small and medium-sized enterprises that have been affected by the measures. of containment of Covid-19, and this has served to restore supply in specific sectors, including automobiles, electronics and transport. But local governments are still implementing strict mobility control policies, which of course affect cross-border economic activities – crucial for the recovery of the economy – despite having received repeated instructions from the central government not to do so. The authorities prefer to sacrifice short-term economic performance than put their jobs at risk.

This represents a remarkable turn from the past. Since Deng Xiaoping launched his “open and reform” agenda in 1978, China has generally managed to strike a dynamic balance between local government responsibility and local political innovation, thus maximizing the benefits and minimizing the costs of both. Local governments have long been an important source of political innovation in China. While the central government drew the main policy roadmap, local governments were always encouraged and motivated to initiate policy innovation, experimentation and adaptation.

As local governments were empowered to adapt policies and programs to their context, policy shocks became less likely. This offset the shortcomings of China’s formal institutions and allayed private sector concerns about protecting property rights, access to markets, and infrastructure, thus helping to foster dynamism at all levels of the economy. Political innovation at the local level thus played an integral role in driving China’s “economic miracle”.

In recent years, however, such local innovation has become less and less frequent. This is in part because local authorities fear political fallout, and the central government’s tougher anti-corruption crackdown has exacerbated their anxiety. But the different behavior of local authorities may also reflect changes in their core incentives, caused by apparent efforts by China to move away from the decentralized system of the past.

This change will have far-reaching implications for China’s economic development. Unless China commits to implementing comprehensive structural reforms and building a more comprehensive market system, a move away from the regionally decentralized system of the past will expose the flaws in its economic system. These errors – which were mitigated at least in part by local government competition under a regionally decentralized system – will become obstacles to economic dynamism and sustained growth.

The author

Dean of the School of Economics at Fudan University, he is director of the China Center for Economic Studies, a Shanghai-based think tank.

Copyright: Project Syndicate, 1995 – 2022

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