December 14, 2011

Under Secretary Dr. Lael Brainard Says China must transition economy within ten years

Treasury Under Secretary Lael Brainard said China has less than a decade to overhaul its economy and safeguard long-term growth that goes beyond a boom based on cheap labor.

Prior testimony by Lael Brainard gave details on his views of the challenges that China's economy is facing.

China’s current headline growth rate may look enviable right now, but China will face daunting challenges in coming years. We have a tremendous stake in ensuring that China deals with those challenges in a way that fundamentally reorients its growth pattern through greater balance and fairer competition.

China has had remarkable success in lifting hundreds of millions of its citizens out of poverty. But it has come at some cost, including large-scale environmental degradation and an economy that spends much more on investment than goods and services for its people. Chinese leaders understand that, with per capita income of around one-tenth of that of the United States in 2011, and per capita household spending less than one-twentieth of that in the United States, the way China grew in the last two decades will not get them to the next stage of development. Instead, China will face what economists call the “middle income trap.”

In the face of overinvestment and rising wages, China will need to move up the value chain. But China’s weak protection and enforcement of intellectual property rights threaten to retard the development of Chinese innovation and Chinese brands.

And the adjustment process – whether to greater consumption-led growth, higher value services, or innovation-intensive activities – is hampered by China’s continued excessive reliance on administrative controls, such as credit quotas to maintain price stability and intervention to temper exchange rate adjustment, that are subject to political determinations and thus leave policy making behind the curve. These controls are reflected in a financial system that fails to offer Chinese households financial assets that keeps up with inflation, let alone economic growth, and starves China’s most innovative firms and sectors of capital, despite massive domestic savings, while also depriving foreign competitors of the opportunity to offer a full range of products and services. Relying more on market-based prices, such as exchange and interest rates that facilitate adjustment to changing conditions, would make China’s growth more resilient, and avoid an excessive build-up of foreign exchange reserves.

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