The Blog of Changes - Duncan Freeman

China’s leadership transition will mark a new stage in the development of the Chinese economy. The economy will be one of its key policy problems facing the new Chinese Communist Party Secretary General Xi Jinping and his colleagues. Rebalancing of the economy and creating a new development model was for many years the declared aim of the previous leadership, although they never managed to achieve their goal. The new leadership has indicated that they will pursue the same goal, perhaps with greater urgency.

But the new leadership is faced with a slowing economy amid dire global prospects. Traditionally, investment has been the tool used to stimulate growth, but relying on investment runs counter to the stated goal of rebalancing. What happens to investment will be a fundamental indicator of their willingness to act on their words.

The past record of the political economy of investment in China provides some interesting precedents. The chart shows the annual change in fixed asset investment over the past 30 years. The investment cycles broadly match the political leadership cycles. In each political cycle initially low fixed assets investment growth rates have been increased rapidly once the leadership is well-established, only for the increase to be subsequently reversed.

Chart 1: China Fixed Asset Investment Change (%) Year-on-Year and Leadership Generation


The Hu Jintao-Wen Jiabao leadership which came to office in 2002 presided over a rapid increase in investment growth rates which were sustained at about 25% a year throughout their period in power. The growth rate declined moderately after the initial boost, only to be interrupted by the stimulus measures which were adopted in response to the crisis which spread from the US and then Europe after 2007. In the period since the crisis stimulus, investment growth rates have once again declined.

The preceding leadership of Jiang Zemin and Li Peng followed a similar pattern, although far more extreme in its contours. The context was not the same. The Jiang Zemin-Li Peng leadership came to power in the immediate wake of June 4, 1989. This was a moment not only of political but also economic crisis. The economic context was that the China’s economy had been placed tight constraints, Chun Yun’s famous “birdcage”, in order to restore order following the high growth, and very high inflation which had been a feature of the Chinese economy in the late 1980s, and which was a key factor in the protests which erupted in 1989. The huge surge in investment under Jiang and Li occurred after Deng Xiaoping’s famous “southern tour” in 1992 threw off the shackles. The high growth in investment did not last long, and at the end of the decade it had been reduced drastically. By the late 1990s China, rather than over investing, was arguably under investing. It was this that the leadership of Hu and Wen sought to correct by once again raising investment rapidly as a way to achieve their economic and also political goals, and marking their leadership off from their predecessors.

Further back in time, the early reform period under the leadership of Deng Xiaoping, mediated through Hu Yaobang and Zhao Ziyang, had its own investment surge. (The leadership generations used here are simplified, since Hu Yaobang lost his position as Party Secretary General in 1987 and Li Peng became Premier the following year. Li was succeeded as Premier by Zhu Rongji in 1998.) The reform period under Deng emerged out the effort to reverse the economic decline of the later years of Chairman Mao by his immediate successor Hua Guofeng. Hua’s Soviet-style programme of investment in heavy industry was a complete failure and threw the economy into deep crisis, providing the immediate backdrop to reform efforts in the late 1970s. The early reforms focused on the rural household responsibility system and raising agricultural prices, but later in the 1980s investment began increasing rapidly. In the crisis of the late 1980s investment was drastically cut and actually declined in 1989.

Investment has been key to economic growth in China, but it does not flow in a constant stream. Different leaders have had to face different economic circumstances, but each leadership generation has used investment as a key policy tool. The previous generations of the reform period over the past 30 years engineered significant increases in the growth rate of fixed asset investment, only for this to subsequently decline. The leadership of Hu and Wen was remarkable not for the fact that they raised investment growth, but that they sustained it over a long period with only a moderate variations. Contrary to what is widely believed, even the surge in investment Hu and Wen rushed into in response to the crisis was moderate compared to earlier peaks in the 1980s and 1990s, and avoided the wild economic swings engendered by their predecessors.

The new leadership of Xi Jinping and Li Keqiang realize, if the policy statements of the 18th Chinese Communist Party Congress last week are anything to go by, that the economic model must change even the face of slower growth. Their recognition that China must find a new growth model suggests that this time round the cycle will not be the same. The absence of a new surge in fixed asset investment growth rates in the first year or two of the leadership of Xi Jinping and Li Keqiang will be a sign that the new leaders have have broken the pattern and that this political and economic cycle is different.

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