China and India

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• The major sources of competition and growth.
• Agriculture and household responsibility system.
• Local leaders began dividing up the land among work
• Production quotas were subcontracted to these units
• They had to sell a set amount of produced goods to
  state officials at stipulated prices
• Anything produced above these quotas could be sold at
  higher prices to other buyers who sold in the free market
• Village leaders had the power to divide land and work
• Growth in agricultural production for the first few years
  following the reform was spectacular.
• Agriculture sector growth averaged 7.1 percent from
  1979 to 1984 compared with 2.7 percent from 1970 to
• This rapid growth fed into industrial growth.
• After 1985 agricultural growth slowed, although still
  strong at 4 percent.
• Industry grew at over 12 percent from 1985 to 1995.
• Town and village enterprises (TVEs) are a cooperative
  venture between the town and village authorities and
  local rural businessmen.
• The land, improvements, technology and labor force
  come from the local towns.
• In the beginning TVEs produced simple consumer goods
  to satisfy demand from farmers and the rural
• TVEs absorbed surplus rural as productivity in
  agriculture rose and helped to smooth out the seasonal
  work cycle in rural areas by providing off-season work.
• They also facilitated the development of local markets
  and contributed to the expansion of exports
• TVEs helped pave the way for the emergence of private
• Some TVEs were transformed into privately owned
• Government provided some incentives for the
  development of TVEs to local authorities.
• The interaction of TVEs and HRS resulted in rapid
  growth in the Chinese economy for a decade.
• The importance of the TVEs began to wane in the late
• Special economic zones (SEZs) started to grow in the
  early 1980s.
• They spread quickly throughout the south.
• 15 free trade zones, 32 state-level economic and
  development zones were opened as well as 53 industrial
  development zones.
• As a share of GNP international trade has increased
  rapidly. Imports are now 30 percent of GDP, up from 5
  percent in 1978.
• About half of Chinese exports are from foreign funded
  enterprises, primarily in the SEZs in the southern
• Foreign direct investment has grown from almost nothing
  in 1980 to over $50 billion annually in 2003.
• Rapid growth in exports has led to persistent trade
  surpluses and increased tensions with the US and the
• Trade surpluses and current account surpluses reached
  7 percent of GDP in 2005.
• Foreign reserves exceeded $1 trillion by the end of 2006
  up from $212 billion in 2001.
• Intellectual property protection has been a major source
  of contention between China and the United States and
  the EU.
• China is an especially big violator of software copyrights.
• Issues facing China.
• Demographic Transition and Aging.
• “late, long, few” policy replaced by one child policy after
• There has been a steady increase in the sex ratio, from
  1.06 in 1979 to 1.17 in 2001.
• There are many reasons – abortion, infanticide, hidden
  female births
• Sex ratios are also 1.12 to 1.20 in many other Asian
  countries, where male children are also preferred.
• Could be as a result of abortion as ultrasound tests for
  sex during pregnancy have become more widely
• Many issues relating to sex ratios
• These include mail order brides, more belligerent men
  who can’t find wives and growing desirability of girls as
  they become scarcer and more educated.
• Working age population will decline as one child policy
  works is way through the age distribution.
• As the population ages the ratio of working age to those
  over 60 will also decline from 8 in the 1950 to around 2
  by 2020.
• The rising dependency ratio may also undermine
  household savings and constrain future growth.
• LFR model doesn’t work well in China
• In many countries standards of living in urban areas
  could be two times that of rural residents.
• In China these differential are substantially higher, as
  much as 6 to one, once the higher volatility of rural
  incomes and the differences in social benefits are taken
  into account.
• The household registration system, Hukou, was installed
  as a regulation in 1958.
• It requires that all changes of residence have to be
  registered with both origin and destination governments
  and approved by both governments.
• Regulations have been somewhat relaxed in recent
• However from 1985 to 2005 the rate of rural to urban
  migration did not increase beyond 0.25 percent per
• Failure to obtain Hukou certification prevents rural
  migrants from obtaining any of the perquisites available
  to legitimate urban residents, including children’s
  education, housing and other social benefits.
• As a result they were forced to take jobs in the
  construction industry and provided temporary housing by
  their employer.
• Income inequality is reflected in rising Gini coefficient
  from between 28 to 30 to as much as 40 to 50 (or .28 to
  .30 and .4 to .5).
• Also income per capita has been diverging across
  provinces of China.
• This pattern is probably the result of restrictions on
• Hasn’t happened elsewhere in either developing
  countries or in developed countries.
• Could lead to greater social tensions in the future.
• The government is trying to develop the western
  provinces to address this problem.
• A second problem is the environment.
• We will speak more about this when we cover this
  general topic for the entire region.
• Industrial policy is another contentious area.
• Growth accounting shows that capital has been the
  driver of growth.
• GDP is growing at around 9 percent.
• Labor force grows at 1 percent and TFP at around 3.7.
• The rest, over 5 per cent is the result of capital
  accumulation and rising labor productivity.
• This has been fueled by mammouth increases in
  invesment of close to 40 percent of GDP.
• There is an obsession with investment in manufacturing
  and industry.
• SOEs are slowly being replaced by more efficient private
• Rapid industrial growth has resulted in very slow growth
  in services and a continued rapid fall in share of
• Consumption has now fallen to 45 percent of GDP while
  investment has risen to 45 percent.
• Forty years ago consumption was 60 percent and
  investment 20 percent.
• Capital intensive manufacturing continues to grow
  rapidly along with labor productivity.
• Many observers think a redirection to services is
  required along with more environmental management.
• This shift is already occurring in industries dominated by
  state owned enterprises (SOEs).
• The industrial sector has begun to lose jobs.
• However service sector growth is not sufficient to
  compensate for the loss of jobs in industry.
• There are still concerns about the inefficiency of SOEs
  and the need to retain inefficiency enterprises instead of
  laying off more workers in poorly managed and
  inefficient SOEs.
• Social policy is another area of concern.
• Educational and health spending are skewed to coastal
• Existing social security is also skewed to the rich living in
  these same coastal provinces.
• As fertility falls and life expectancy is extended social
  security safety nets need to be put in place for the rest of
  the population.
• SOEs used to provide such programs.
• They are being phased out as the power of SOEs has
  been eroded by private sector firms aided by FDI.
• The obsession with industrialization has extended to
  exports which have accelerated rapidly.
• Trade and current account surpluses have mushroomed.
• As a result exchange rate policy is an area of tension
  with the West.
• Foreign exchange reserves have reached more than a
  trillion dollars, from 140 billion a decade ago and no end
  in sight.
• Pressures to revalue the Yuan have mounted as exports
  rise faster than imports.
• SOEs inefficiency is another area of concern.
• Many SOEs are making losses and are
• Industrial output shares have shifted to
  collectives and foreign owned enterprises (see
  Table on next slide)
• Inefficient SOEs are being allowed to continue to
• They can not be allowed to close because of the
  impact on employment.
• Closures would put many out of work.
Industrial output 1980        2002
State owned      80           30

Collective       20           29

Foreign owned    0            34
• Financial sector reforms are needed.
• The financial sector services are dominated by
  four state banks.
• Lending favors SOEs.
• There is credit rationing to the private sector.
• Domestic firms have trouble getting credit.
• Much investment is funded by foreign
• Financial sector highly regulated and credit is
• Regulatory apparatus is weak and opaque.
• The social security burden previously borne by
  SOEs has been referred to previously.
• How to fund it remains a challenge as SOEs
  themselves are getting large subsidies.
• New financial assets have to be created as
  Chinese consumers gain more purchasing
• Credit cards are a potential area as well as new
  financial instruments and greater competition in
  the financial sector.
• Central government has been weakened by the
  growth of TVEs and power of local governments.
• As a result fiscal policy is not effective.
• Budgets tend to be procyclical rather than
• More foreign funded investment results from
  increasing tax revenues as the growth bubble
• Inflation is also becoming a problem.
• Gobalization issues are becoming more
• As China become a bigger player in the global
  arena its role in WTO and its compliance with
  WTO rules is being scrutinized.
• There have been recalls and investigations of
  copyright infringement.
• China playing a bigger role in regional trading
  arrangements (ASEAN + 3) and Asian trading
• Until 1990 India followed a pattern of economic
  development where there was
• government control and ownership,
• inward looking development policies
• limited emphasis on international trade.
• The so-called “license raj” (raj means regime in
  Hindi) stressed
• government controls and supervision of
• extensive monopoly power
• stable but comparatively slow overall growth
• As a response to a fiscal crisis that put India on
  the brink of international bankruptcy in 1990/91
• The government undertook a series of reforms
  in the early 1990s
• These resulted in a significant shift in policy
• toward international trade
• Competition
• Regulation
• Foreign investment
• These led to an acceleration in economic
• Looking at agriculture first
• During the Green Revolution (1966-76)
  agricultural output grew more rapidly than in any
  other period, yet still never reached an average
  of 3 percent per annum
• This is true even when the drought and poor
  weather years are dropped.
• Recall the growth in Chinese agriculture was
  never below 3 percent.
• Variations in rainfall in a monsoon climate is
  reinforced by the lack of irritation.
• Irrigation only covered 10 percent of cultivated
  area in the 1950s. Even now only 40 percent is
• In the green revolution most of the gains in
  yields came from land that was not irrigated –
  only 20 percent of gain from rice productivity
  increases came from irrigated land.
• Agriculture is still starved for infrastructure,
  extension, diversification and post harvest farm
• As we learned the rural sector still has high
  poverty rates.
• Industry share of       Country     Sector share of
                                      Industry – percent
  output in India is                  value added

  much smaller than in    China       66.3
  other countries – see   Korea       43.2
                          India       26.0
                          Indonesia   44.5
                          Philippines 33.2
                          Thailand    46.7
                          Vietnam     39.4
• Why?
• High risk and low expected returns from
  investment in industry.
• Entry and exit are difficult. Leads to low
  level of FDI and domestic investment.
• License raj and lack of competition.
• Labor mobility is limited – hard to fire.
• It is difficult to buy and sell land.
• Lack of openness to       Country    FDI as %   Trade as
  foreign competition.                 of GDP (   % of GDP
                                       1998)      (2004)
• High tariff barriers –    India
  average of 30%                       0.5        42
  compared with 15% in
  China and 10% in          China      5.0        65
• FDI and trade shares as   Malaysia   6.1        221
  percent of GDP are low
  compared to other
  countries – see table     Thailand   6.2        136

• Infrastructure bottlenecks
• Ports are expensive – puts India at a cost disadvantage
  relative to China, Indonesia, Korea and Thailand.
• Rail transport is antique although new highway
  connecting Delhi, Calcutta, Chennai (Madras) and
  Mumbia (Bombay) will help.
• Energy is expensive – underinvestment and unreliability
  resulted in many small inefficient plants.
• Energy costs are 3-3.5% of sales in India – 2.5@ in
  China and 2% in Indonesia and Thailand.
• Regulations and red tape take up time and cost
  money – more than twice as much as in China,
  Thailand and Indonesia.
• Customs clearance is slow and bribes required.
• Tax system is complicated and subject to
• Few incentives for innovation and improved
• Information technology and communications are
  freer and are booming.
• Financial sector is becoming more open.
• Still lots of controls by central bank.
• Caps on rural lending and banks have not
  moved there.
• Caps on deposit rates and extent of
  foreign banks (no local customers)
• Ceilings on interest rates and high reserve
  requirements which serve to tax the
  banking system.
• Investment climate better now despite all
  the regulations
• Private investment is nearly double the
  rate in the 1980s.
• Exports are still small as a share of GDP
  compared with China.
• There are export processing zones but
  they are small compared with China.
• Human resource development is lagging.
• Women’s education is low, particularly in the
  poorest states where nearly half the population
• More than 50 percent illiteracy for women and
  infant mortality over 70 per 1,000 births.
• Population growth also rapid in poorer states.
• Muslims and lower caste Hindus and tribal
  people suffer the most.
• Issues and challenges facing India
• Higher rates of growth can be attained – will
  require more investment in infrastructure.
• Rate of growth in industry has to increase too.
• Regulations have to be relaxed – labor markets,
  trade environment, regulation of industry.
• SEZs have to attract more FDI.
• Greater technology transfer and innovation
• Regional disparities in income and income
  distribution – address poverty in the poorest
• More resources spent on health and education
  in these states.
• Agricultural polices should stress water
  conservation and small scale irrigation, small
  scale enterprises, rural education, extension,
  crop diversification.
• More resources should be directed to the sector,
  particularly the poorest states.
• Industrial policies have been mentioned before
• More flexibility in labor markets
• Better exit and entry for business,
• More openness and greater stress on
  competition in foreign markets
• More FDI, greater connectivity for SEZs and
  more technology transfer.
• Better infrastructure to support industry including
  sites and services in SEZs.
• Extension of road network.
• More efficient ports.
• Rail network need more work as do airports.
• Stress should be on major cities and transport
  connection initially.
• Shift later on to secondary cities.
• More affordable and reliable power is essential
  for Indian industry to be competitive
• Industry opening up will have to change the mix
  of exports more toward large establishments
  producing manufactured goods.
• India is far behind China and hasn’t changed the
  mix of its exports!!!
• It still has the same share of world exports that it
  had 20 years ago!!
• Electrical machinery, appliances, paper and
  plastics and auto parts etc. are still on the list of
  industries that have to go to the government to
  fire workers.
Share of World
Commodity      78/81    78/81   98/00   98/00
               China    India   China   India
Textiles      9.1       7.0     29.3    7.7

Leather and   1.5       8.7     14.3    8.0

Manufacture   1.1       0.3     18.1    0.3
• Financial sector policies have to be relaxed and
  financial repression policies scrapped.
• These include directed credits to specific
  sectors, restrictions on foreign banks, interest
  rate ceilings and high reserve requirements.
• Financial intermediaries other than banks should
  be allowed to operated more freely.
• These include savings and loans, insurance
  companies and investment banks.
• There are a number of environmental issues that
  we will discuss next week.
• Population policies should work to control
  population growth which will be highest in the
  poorest states (40 % of population and 55 % of
  population growth by 2015).
• There has to be greater concentration on girls
  education to do this. See table on next page
     Women’s LFPR by Caste as percent of labor force
Employment Scheduled   Scheduled   Other      Others
           tribes      Castes      backward
Inactive    17         20          24         32

Employed    25         24          14         8

Self        31         16          22         16
Extra       26         39          39         43
• In India women drop out of the labor force if
  family income is high enough to sustain their
  lifestyle without working.
• Working for women does not appear as a
  superior good. It is an inferior good – consume
  less as income rise.
• Therefore emphasis should be on women’s
  education so they can make choices that will
  lower infant mortality and fertility.
• Also need to enforce child labor laws.
            India and China
• China’s industrial growth outstrips India.
• SEZs are the key.
• FDI plus domestic investment.
• Shift from metals to machinery, vehicles and
  electrical machinery.
• Refer to table on next page.
• Focus of exports even more dramatic.
• SITC codes 75-77 went from 5.5% to 35 % of
  total exports between mid 1980s and 2001-04
                India and China
Category % of      1970      1997
total manufactured
Metals             16.8      7.6

Machinery and     14.2       17.5
Electrical        4.7        13.2
Other             3.0        4.5
             India and China
• Foreign sector is main driver of growth
  contributing 2/3 of increase in growth.
• Compare this with India.
• Industry provided almost no growth impetus.
• Exports are not dynamic and there is no
  underlying strategy for growth.
• Textiles and minerals are still the main exports.
• Manufactured goods are only 5 % of total
             India and China
• What about the future?
• China will keep it up – growing rapidly.
• Environmental problems could slow it down.
• India has the potential to pick up growth.
• Infrastructure, labor market and industrial policy
  are still bottlenecks.
• It is possible for industry to match IT dynamism.
• Don’t put your money on it.
             India and China
• International trade competition between China
  and India is unlikely to accelerate.
• China is firmly established in manufactured
  exports and unlikely to compete in international
• India will continue with IT and may start to
  compete at low end of manufacturing.
• If policy environment improves could challenge
  in exports for higher tech products.
             India and China
• Poverty and income distribution.
• China has challenge with income distribution
  and disparities between coast and interior.
• Government is addressing by developing
  infrastructure inland.
• This will take time.
• India has challenge of discrimination and
  poverty of tribes and castes.
• Income distribution also deteriorating in India.
             India and China
$1 per day     India      China
percent in
1990           46.6       31.5

2000/2002      34.7       12.7
             India and China
• Financial sector performance
• Both have repressed financial sectors.
• Heavy government control of ownership, interest
  rates, directed credit, nonperforming loans.
• Both countries need further liberalization of this
• Need to introduce more competition and reduce
  government regulations.
• Allow foreign banks and financial instutions.
           India and China
• Environmental issues will become more
  important for both countries.
• Coal and pollution already a problem.
• More pressure from the west to clean up.
• India’s reliance on biomass should fall,
  replaced by commercial energy.
• Water pollution and air pollution in cities
  also a problem.
           India and China
• Global warming and acid rain will create
  more tensions with neighbors and
  developed countries.
• Health problems arising from air pollution
  will accelerate.
• Carbon emissions from India and China
  will exceed rest of world soon.

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