Making Sense of China’s Muddled Economic Policy
By: Dylan Shepard
“Chinese Communist Party (CCP) general secretary Xi Jinping addresses Chinese and foreign journalists at the Great Hall of the People” via China News Service is licensed under CC BY 3.0
From an outside perspective, China’s current economic policies appear to make little sense. On the one hand, China dispatches its envoys overseas to reassure multinationals and foreign governments that China is open for business after two years of zero-covid lockdowns (Landler and Bradsher 2023). On the other hand, numerous reports have emerged of continued invasive Chinese probes into foreign businesses operating within the country and other punitive measures against its own domestic firms based on seemingly either ideological or national security justifications (Leahy et al. 2023a; The Economist 2023). So which is it?
Is Xi Jinping seeking to continue his “common prosperity” crackdown on private enterprise or does he wish to divert from his often maligned leftist economic agenda to rescue his country from its recent malaise and anemic growth? Although perfectly reading Xi’s mindscape proves impossible, the recent preponderance of both pro-market and anti-market economic policies coming out of Zhongnanhai reflects a senior Chinese leadership that is deeply ambivalent about its policy direction.
In many ways the Chinese government appears to be of two minds on this issue. While some of their actions reflect a genuine attempt to improve China’s dour economic outlook through revitalizing China’s private sector, the simultaneous holdover of many aspects of Xi’s radical “common prosperity” agenda reveal both contrasting responsibilities and incentive structures for the communist regime. This is because in order to maintain the legitimacy of the party, the government is tasked with managing a delicate dual mandate: satisfy the business interests within the party with high growth rates while at the same time appeasing their historical grassroots among the rural poor and employees of the state that rely upon the government for financial support.
The dilemma for Beijing is that to advance the interests of one of these groups frequently worsens the condition of the other. In practice, this simple contradiction has proven an immense headache for the Chinese government and threatens to derail the success of Xi Jinping’s third term in office.
Historical Context: A Jaunt Through CCP Economic History
In the violent tumult of Mao Zedong’s nearly three decades in power, the vestiges of the wealthy elite and landed gentry from the Republican era were largely wiped out in a series of party orchestrated land reform and class struggle campaigns (Rossabi 2014, 382-385). Much of this was guided under Mao’s vision of 共同富裕, or common prosperity, which posited that wealth needed to be distributed equally — even if that meant holding back the economic development of one region or group in order to achieve the equitable development of all (Dunford 2022).
As Mao’s ideas fell out of favor during reform and opening up in the 1980s, they gave way to Deng Xiaoping’s corollary of allowing those in geographically fortuitous positions — such as those more closely linked to international supply chains on the eastern seaboard — to achieve prosperity first (先富论) before the more remote rural interior would catch up (Zhou 2007, 8). This was part of Deng’s broader “ladder-step transition theory” (梯度推移理论) which aimed for the prosperity seen on the coasts to eventually radiate outward, creating a ladder of economic growth for China’s poorer provinces to climb up (Lim and Horesh 2016).
Consequently, these policies led to growing inequality as different areas of China developed at different rates. On the coasts, poverty undoubtedly persisted for many, but the dynamism of their liberalized economies also heralded the rise of a nascent middle class and a growing number of self-made millionaires. This dynamism contrasted with the continued stagnation of interior China, which primarily relied upon agriculture and state owned industries as major sources of employment — neither of which offered many opportunities for capital accumulation.
Responding to this changing economic landscape, Jiang Zemin’s “Three Represents” (三个代表) policy exemplified the Communist Party’s full transition from the class-based dogma of the Mao era into a new more inclusive mass membership party (Goldkorn 2021, 198). In July of 2001, the “Three Represents” was codified in the CCP constitution at the 17th Party Congress which stated that the party must “represent the interests of the overwhelming majority of the people,” including the growing number of Chinese entrepreneurs and capitalists primarily situated on the coasts (Atwill and Atwill 2021, 349-350).
In doing this, however, the CCP had unwittingly created its dual mandate catch-22. On the one hand, Jiang’s expansion of the party successfully integrated China’s commercial class — an interest group that is primarily benefited by enhancing China’s economic competitiveness on the world stage, thus desiring further deregulation and liberalization. At the same time, however, the Communist Party still had to represent the interests of its traditional grassroots among the People's Liberation Army, industrial workers, and the rural peasantry which benefit tremendously from state patronage. This tension between obligations for the party quickly created a conflict of interest.
As pointed out in George Washington University professor Bruce Dickson’s 2016 book, The Dictator's Dilemma, although the early economic reforms of the Deng era represented a “reform without losers,” Jiang’s further liberalizations often came at the expense for many of the groups that comprised the CCP’s traditional base of support (Lau et al. 2000, 120-143). For example, as a result of Jiang’s reforms of China’s state owned enterprises (SOEs) during the latter half of the 1990s, tens of millions of workers were laid off or forced into early retirement as a result of privatizations that were necessary to improve the productivity and efficiency of China’s macroeconomy (Dickson 2016, 222-224; Rossabi 2014, 400).
Although most authoritarian regimes rarely trouble themselves with the plights of the poor, instead focusing on securing critical support among the ruling elites, Dickson illustrates how the Chinese leadership has historically behaved differently in this respect. He claims the Chinese leadership is driven principally by a paranoia of mass popular unrest mobilizing into revolution rather than from fear of interior party plot (Dickson 2016, 11-12). Dickson may be downplaying the CCP’s fear of internal coup — the lessons from Bo Xilai, Lin Biao, the Gang of Four, and Hua Guofeng prove otherwise — but he demonstrates beyond reasonable doubt that the leadership cares deeply about ameliorating discontent among the masses, on top of traditional totalitarian regime preoccupations (Rossabi 2014, 389-390; Torigian 2022). The administration of Jiang Zemin’s successor, Hu Jintao, is perhaps the perfect exemplification of this point.
Although Hu Jintao’s policy salience from Jiang Zemin is frequently over emphasized in the discourse of the so-called “lost decade” of his rule, efforts to reduce the urban-rural divide undoubtedly took up a precedence in the Hu-Wen era to a degree not seen previously in his predecessor (Howell and Duckett 2018; Rossabi 2014, 400). Under his government, unpopular tax levies against farmers were abandoned, labor rights and rural healthcare was expanded, and Hu’s occasionally dubbed “new deal” industrial policy invested significantly in creating job opportunities in the remote interior while simultaneously increasing its linkages to critical supply chains through massive infrastructure projects (Howell and Duckett 2018; Lam 2002; Cheng 2003, 339-342). Officially, this policy in Beijing was known as the “construction of a new socialist countryside” (社会主义新农村建设) which came to define the policy legacy of the Hu-Wen era (Howell and Duckett 2018).
In doing this, however, Hu made sure to strike a careful balance between advancing the welfare of China’s rural poor while also maintaining the country’s export-driven economic growth. After all, Hu’s welfare and public works programs proved expensive, requiring ever larger revenues for the state that were predicated upon rising tax receipts from a burgeoning middle class and China’s further integration into global markets (Howell and Duckett 2018). It was in this backdrop of Hu’s managed balance of interests between China’s nouveau riche and the CCP’s grassroots that Xi Jinping would assume power in 2013, bringing a new outlook on how to deal with the party’s dual mandate dilemma.
For much of his first two terms, however, Xi had yet to formulate a coherent strategy to address the issue. Although there were many continuities with Hu on social welfare policy, Xi Jinping initially wavered on his commitment to reform China’s unequal household registration scheme known as hukou (户口) with his paltry 2014 reforms that continued to frustrate those living in rural areas due to restrictions on employment and access to public services (The Economist 2022). At the same time, Xi largely continued the principle of reform and opening up (改革开放) which saw a further increase of inequality within the country despite his growing public admonishments of “excessive incomes” (Xi 2021a, 170). It would not be until 2021 when Xi Jinping would fully roll out his philosophy to address the CCP’s disparate incentive structures. To his dismay, it has largely only exacerbated the CCP’s legitimacy crisis through disrupting Hu’s delicate balancing act of appeasing both sides.
Common Prosperity’s Failed Attempt to Address the Dual Mandate Dilemma
On August 17th, 2021, Xi Jinping delivered a landmark speech at the 10th meeting of the Commission for Financial and Economic Affairs that would form the blueprint of his emerging common prosperity doctrine and his attempt to address the dual mandate dilemma. Acknowledging the structural threat posed by rising inequality to the party’s legitimacy, he told the commission that the pursuit of common prosperity was necessary in order to “... strengthen the foundations of our party’s long-term governance” (Xi 2021a, 164).
To achieve common prosperity, Xi outlined six headline strategies, each of which have come into force in some form at the policy implementation level.
Pursue more balanced, coordinated, and inclusive development.
Enlarge the middle-income group.
Promote equitable access to basic public services.
Adopt rigorous measures to regulate and adjust high incomes.
Promote common cultural prosperity.
Promote common rural prosperity.
Although some of these measures appear to be an anathema to a market economy, Xi makes clear he has no intention of returning to the command and control system of Chairman Mao. Rather than abolishing the private sector entirely, Xi aims to harness capital as a tool to achieve the CCP’s social welfare objective of reducing economic inequality.
Wei Lingling, chief China correspondent at the Wall Street Journal, described this mixed economy posture as creating “... a state in which the party does more to steer flows of money, sets tighter parameters for entrepreneurs and investors and their ability to make profits, and exercises even more control over the economy than now” (2021). In other words, the private sector would continue to exist, albeit under increased supervision and management by the central government.
To achieve common prosperity, Xi has emphasized how he is mobilizing “... the whole Party, the entire nation, and all sectors of society to join the war against poverty” (Xi 2021b, 156). With respect to the private sector, this frequently involves public-private partnerships such as the “10,000 enterprises helping 10,000 villages” (万企兴万村) scheme which aimed at supporting rural revitalization through poverty alleviation and economic stimulation (Xi 2021b, 156; Xu and Bo 2022).
Although these “partnerships” may be popular among the CCP’s core base of support, participation is hardly voluntary or beneficial for private industry, despite Xi’s claims to the contrary (Xi 2021b, 156). After all, a brief examination of the immense pressures faced by domestic Chinese firms proves otherwise. In an attempt to further distort business behavior to government directives, Zhongnanhai has undertaken a dual pronged approach of quashing epicenters of independent private power and replacing them with smaller, more decentralized enterprises that are directed by pro-CCP executives. In practice, this is observed at the policy implementation level in the government’s recent antitrust and regulatory drive along with the creation of “golden shares” which are Chinese state-owned equity shares that allow the CCP to elect special board members in large corporations that have effective veto power on any firm decision that goes against government policy (McMorrow et al. 2023a). For example, Alibaba, one of China’s biggest business success stories, was fined a $2.8 billion antitrust levy, has a government backed board member through a “golden share,” and is set to be split up into six smaller firms (Fu 2023; McMorrow et al. 2023a; Leahy et al. 2023b).
In doing this, Xi Jinping may have believed he had finally struck the right balance in the dual mandate dilemma. On the one hand, he was actively supporting the party’s grassroots through tackling the urban-rural divide via mass state intervention. As a compromise to the capitalists, he would also allow the party’s allies in private industry to be able to continue to grow and prosper in so far as they did so in a socially beneficial way. A critical line in Xi’s August 2021 speech exemplifies this point. “We should encourage part of the population to prosper first and urge these people to guide and help the rest on their way to a better life” (Xi 2021a, 166). Xi is not disagreeing with Deng’s mantra of “let some prosper first,” but rather is delivering on the promise for rural provinces to catch-up via the iron fist of state power (Zhou 2007, 8).
Unfortunately for Xi, while his initiatives may have made sound social policy, they have proven hardly economical. Despite growing demand, the government’s abolishment of for-profit tutoring for middle and elementary school students to reduce educational inequalities is projected to erase $75 billion in annual revenues for a private tutoring industry which once raked in $100 billion a year (Mitchell et al. 2021). Moreover, China’s socially driven restrictions on gaming for under-18s contributed to Tencent reporting its first ever revenue decline in the company’s nearly 25 year history. Since pre-pandemic, the ten largest Chinese tech firms have lost $300 billion in valuation while their U.S.-based counterparts have gained $5 trillion (McMorrow et al. 2023b).
Although one might think these measures may only negatively impact isolated firms, they have immense ripple effects on the broader macroeconomy. Despite China’s young people being the most educated generation in the country’s history, many graduates with advanced degrees have found difficulty finding jobs in industries such as tech and education which were directly impacted by common prosperity (Yu and Leahy 2023). Currently, 16-24 year olds face an unprecedented 20.4% unemployment rate which was less than half that figure just five years earlier (Goldman Sachs 2023).
Although there are undoubtedly a number of additional externalities and structural forces at play in China’s recent economic underperformance that go beyond common prosperity, it is clear that the redistributive agenda has not helped China’s competitiveness on the world stage. Instead of reducing burdensome barriers for businesses like in the 1990s, Chinese firms have experienced greater regulatory oversight from Beijing in a myriad of realms such as antitrust, data security, corporate governance, and social impact. Thus, just as how SOE liberalization under Jiang had worsened the economic condition of the party’s grassroots, policies that explicitly advanced the interests of the CCP’s traditional base of support also wound up working against the interests of entrepreneurs and capitalists.
In essence, the Chinese leadership wanted firms to facilitate more balanced, equitable growth. This required the government to wield greater control over the private sector in order to bend firm behavior. In restricting business agency, however, they inadvertently hindered their global competitiveness, harming the interests of their shareholders. Xi Jinping may have succeeded in strong arming firms to support his common prosperity agenda, but in doing so he had wreaked tremendous harm on the Chinese economy, revealing the ultimate catch-22 of modern Chinese politics. In prioritizing the interests of the party’s grassroots, he had undeniably worsened the condition of the CCP’s capitalist constituency.
Epilogue: Common Prosperity Tactical Retreat or U-Turn?
Starting in 2022, but accelerating in 2023, a growing number of China commentators in major newspapers began to speculate on if the government had abandoned most of its common prosperity agenda (Xie 2022; Sharma 2023). Both the charges against Didi and Alibaba were eventually settled (albeit with a major financial penalty), regulations relaxed on private firms such as New Oriental, and the once hallmark “three red lines” policy against speculative real estate investment was virtually abandoned as the People’s Bank of China (PBoC) resumed its rescue plan of China’s flagging real estate sector (Chiang 2023; White et al. 2022; Hale and Leng 2022). Today, Chinese Foreign Minister Qin Gang and Premier Li Qiang are attempting to rebuild China’s damaged business reputation overseas by assuring worried investors that China is “open for business” (Landler and Bradsher 2023). Recently, as the renminbi approaches currency deflation, the PBoC even announced plans to reduce interest rates in order to pump liquidity in the Chinese economy to spur lending and business investment (Hale and Lockett 2023).
Although these actions do reflect genuine attempts to revitalize China’s private sector as well as pay more attention to the interests of the business wing of the CCP, the fundamental conflict of interests between the party’s conflicting constituent groups remains unchanged. Xi himself said in his August 2021 speech that common prosperity would be a long-term project (Xi 2021a, 165). Given that many aspects associated with the initiative such as “golden shares” have remained intact, it appears unlikely to be over (McMorrow et al. 2023a). Likewise, the headache of balancing the CCP’s disparate interest groups has only become more perilous, threatening a state of policy paralysis as Zhongnanhai weighs out the benefits of a full out stimulus intervention in the economy (Hale et al. 2023). The stakes for error are immense.
If China becomes too lenient on real estate developers or inequality only worsens, for example, it could lead to even more public acrimony and discontent. If it continues populist campaigns against major firms or resumes stringent regulations on developers, however, it also risks massive capital outflows or at worst the meltdown of China’s entire financial system. Given Professor Dickson’s insight on the Chinese leadership’s paranoia of popular unrest, neither option is very appealing (Dickson 2016, 11-12). Xi will likely attempt to walk the tightrope of placating both sides, but he is operating with less legroom than his predecessor, Hu Jintao, had.
Ultimately, Chinese leaders are faced with many of the same problems as modern central banks. Whereas the latter have a dual mandate to ensure price stability and maximum employment, the Chinese Communist Party must respond to the interests of both their backers in big business and their traditional grassroots among the rural poor and employees of the state. Like central banks, however, attempting to achieve one of these objectives often undermines the success of the other. Some economists suggest that central bankers should pick a lane — perhaps concentrating on their initial function of managing the money supply. For political or economic viability, perhaps the CCP will be forced to do the same.
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