China economy

Has China really avoided the middle income trap?

Former Chinese finance minister Lou Jiwei says he no longer fears that China will face economic stagnation as it attempts to become a rich nation

PUBLISHED : Friday, 20 October, 2017, 4:34pm
UPDATED : Monday, 23 October, 2017, 3:35pm

Lou Jiwei, the former Chinese finance minister, sparked a debate two years ago saying China had a 50/50 chance of falling into the so-called middle income trap, a term used by the World Bank to refer to nations that get stuck at a middle level of economic development as they attempt to grow rich.

Lou, currently head of the National Council for Social Security Fund, now says he has changed his mind.

The ex-minister said on the sidelines of the Communist Party congress in Beijing that the introduction of government reforms in recent years meant China would now avoid the problem.

“I can speak with full confidence that after the sweeping reforms we’ve been carrying out since 2½ years ago, China is likely to become a high-income country in three to five years,” he said.

Lou’s change of heart comes as optimism is building up among Chinese decision makers, publicly at least, over the prospects for the world’s second largest economy.

One immediate goal is that China is likely to outperform its growth target of 6.5 per cent this year.

It is also on track to become a “moderately prosperous society” by 2020, doubling GDP from 2010 levels.

How China can avoid the middle-income trap

Lou, 66, an outspoken reform advocate, told a forum at Tsinghua University in Beijing two years ago that China had a “50/50 chance” of sliding into the middle-income trap in the next five to 10 years as China’s population was ageing more rapidly than almost any country in recent history and its labour force was starting to shrink.

Lou said that without reforms to remove obstacles hindering the free flow and allocation of land, labour and capital, China’s economic growth miracle might end.

The concept of the middle income trap was first put forward by the World Bank in a 2006 report on the development of East Asian economies. The theory states that in many middle-income economies, growth slows and nations are unable to generate further economic momentum and grow rich.

Japan and the four Asian tiger nations are among economies that have managed to attain high-income status. Most Latin American countries have fallen into the middle income trap.

However, Lou said on Thursday that advances in reforms in the past two years had convinced him to change his mind.

These include almost all provinces issuing policies to grant household residency to migrant workers and launching measures to address their housing, education and other basic needs.

To counter a contraction in foreign investment, Beijing has promised wider market access to foreign firms, including letting US credit rating agencies do businesses without Chinese partners and lifting the ceiling for foreign holdings in financial joint ventures.

It has also pledged to extend land use contracts for farmers for another 30 years after they expire in a bid to motivate farmers to invest in collectively owned land for a longer term.

However, Hu Xingdou, an economist at the Beijing Institute of Technology, said China still had to address huge problems to avoid the middle income trap and get the economy in shape to become a rich nation.

Hu said reforms had yet to crack deep-rooted problems including allowing private and foreign companies to compete fairly with state-owned enterprises. Migrant workers still faced discrimination and China’s millions of poor farmers also did not have the right to own their land, he said.

“I’m not as optimistic as Lou. It’s almost impossible for China to avoid the middle-income trap if there is no real breakthrough in key reforms, such as state-owned enterprise reform.”

Making state enterprises bigger and stronger, a goal pursued by the top leadership, was actually crowding out private and foreign investment, he said.

“Making SOEs stronger is at the price of distorting market mechanisms, thus making China unlikely to avoid sliding into a middle income trap,” he said.

China’s looming battle with the middle-income trap as growth falters at faster-than-expected rate

Economists at the banking and financial services firm Societe General noted in a report that there seemed to be “less emphasis on the role of the market” in the work report delivered by President Xi Jinping at the opening of the party congress on Wednesday which laid out a development blueprint for China into the middle of this century.

“It is quite clear the Chinese leadership has no intention of following the free-market model, but every intention of maintaining the party’s influence in critical areas of the economy,” the economists wrote.