The recent cash crunch in China's interbank lending market has only exposed the fundamental problem of its economic distortions. For policymakers who are still dithering over whether to pursue restructuring or growth, here is the answer: there can be no growth without restructuring.
This liquidity squeeze that came out of the blue was no mere problem in the financial sector; it is rooted in problems in China's real economy. An unbalanced, unco-ordinated and unsustainable real economy is the reason large amounts of cash are needed to keep it afloat, with much of it invested in unproductive sectors such as property and financial products that fund local governments.
Over the past five to 10 years, China has relied on a development model that uses high debt to finance growth. But that no longer works.
It must now target the problems of excess capacity and overly high debt, and encourage the development of private enterprise. More importantly, policies must take into account the global outlook.
Excess capacity is the biggest stumbling block to growth right now. Though the problem affects many economies hit by the financial crisis, in China, it is compounded by the years of undue government intervention in the economy and stalled reform in the markets for land, labour and other factors of production. Furthermore, industrial policies in the past were made with little regard to global demand.
The government must work with the market to deal with excess capacity. The market's self-regulating ability enables it to set the right prices and weed out weaker competition - all of which would be sound preparation for Chinese companies going global.
China must boost its domestic consumption to drive economic growth. But while the excess capacity that arises from cyclical fluctuations could and should be absorbed by the domestic markets, China must also think global; government and business should work together to develop an international market for Chinese goods and services.
Such an exercise should prompt the government to review its industrial policies and improve the transparency of its decision-making. Companies that are in good shape should be encouraged to go global, while those that are not ready for international competition should be held back.
China's continuing reliance on exports to drive growth has created problems, such as a high level of foreign exchange and trade spats with other economies. No doubt exports remain a key engine of growth, but China should expand the parameters of its trade and make investment a key component. This goes beyond investing in an infrastructure project. Too many state-owned companies go overseas today to build roads and ports, but these projects create few lasting jobs and other benefits; China must heed the lessons they teach.
By contrast, Japanese businesses have truly "gone out" to build an industrial corridor on the international stage that aids the long-term development of its economy. China can learn from this.
Next, China must deleverage as part of its economic restructuring - as many major economies have had to do in the wake of the global financial crisis. However, the pace of deleveraging can vary widely. Asset prices in America tumbled mostly in one year from 2008. Meanwhile, the price correction in Japan has already taken two, three decades, and that in Europe already five years or so.
In China, the correction has yet to start. Clearly, the fewer distortions in an economy, the faster the market can recover and adjust. The longer China persists in sustaining an ultimately unsustainable model of development, the more painful the fall will be when a correction becomes inevitable. So, rather than have a correction forced on them, China's policymakers should initiate a managed process of deleveraging to bring risks down.
As the level of debt decreases, China must at the same time promote equity investment to raise funds for companies. The lack of equity financing is a common problem among companies. Insurance companies, social security funds, foreign exchange savings and private savings are all sources that could be tapped to meet the demand for capital.
The promotion of private enterprise must lie at the heart of China's economic restructuring. This is why the government must review its administrative controls on businesses, lower corporate taxes and encourage entrepreneurship. The recent decision to promote private enterprise in the financial sector is a step in the right direction.
We must be prepared to endure the pain that will come with economic restructuring, especially at this time when the pace of growth is slowing and the calls for a stimulus grow ever louder. But to give in to such demands is to retread an old path that leads nowhere.
Policymakers must be determined to bear the responsibility to do the right thing.
This article is provided by Caixin Media, and the Chinese version of it was first published in Century Weekly magazine. www.caixin.com