China's Economic Miracle: What Caused It?

In 1981, 88 percent of the Chinese people lived in severe poverty; now, that number is less than 1%. How did this happen?

Never before in history has such a large number of individuals climbed from abject poverty to the middle class in such a short period of time. China's evolution demonstrates that increased economic growth benefits the great majority of people, even if it is accompanied by rising inequality. Inequality has grown in China, but no one wants to return to Mao's era, when the Chinese were more equal but, above all, poorer.

With the exception of the United States, China today has more billionaires than any other country in the world; Beijing now has more billionaires than New York. This demonstrates the anticapitalist "zero-sum thinking" fallacy, which asserts that the affluent are only wealthy because they have stolen something from the poor. Hundreds of millions of Chinese citizens are significantly better off now, not because of the large number of millionaires and billionaires, but because Deng Xiaoping embraced the phrase "Let some get rich first" following Mao's death.

In his 2020 book Ideas for China’s Future, the Chinese economist Weiying Zhang writes that Deng Xiaoping is referred to as the “architect” of reform in China. “However, Deng Xiaoping understood that economic and social reforms are different from constructing buildings. They cannot be built according to predesigned blueprints. Instead a ‘cross the river by feeling the stones’ approach must be taken.”

Zhang claims that Deng implemented reform by trial and error. Nothing important – neither pricing reforms, labor market reforms, tax reforms, or foreign trade reforms – was simply decreed. Deng was continually experimenting with novel ideas in certain regions or industries (e.g., special economic zones). If his changes were successful on a lesser scale, they were scaled up; if they were not, they were abandoned. Much of China's success was due to "bottom-up" efforts that were supported as an alternative to central leadership decisions. "Deng Xiaoping knew what he didn't know!" says Zhang of Deng's decisive abilities.

Deng was correct in prioritizing economic growth, as the following facts demonstrate: The areas in China that have seen the biggest poverty reduction in recent decades are also the provinces that have seen the fastest economic growth. Zhang, unquestionably the most knowledgeable economist in China, denies the assumption that China's amazing achievement is due to the government's large participation. This misunderstanding is common in the West, but it is becoming more common in China, where some officials and academics feel that the country's success is due to a specific Chinese model. “The advocates of the China model are wrong because they mistake ‘in spite of’ for ‘because of.’ China has grown fast not because of, but in spite of the unlimited government and the large inefficient state sector.”

In fact, “marketization” and “privatization” are the driving forces behind China’s tremendous economic growth. Zhang analyzed data from different regions across China and concluded that “the more the market-oriented reform a province had implemented, the higher economic growth it had achieved, and laggards in marketization reform are also laggards in economic growth.” The areas where market-oriented reforms had been implemented most consistently, i.e. Guangdong, Zhejiang, Fujian and Jiangsu, were also those that had delivered the greatest economic growth.

Here, and this is a key insight, “the best measure of reform progress is the changes in marketization scores in the concerned periods, rather than the absolute scores for a particular year.” The growth rate is greatest where private companies play the decisive role. Zhang’s data prove it: “The provinces whose economies are more ‘privatized’ are likely to grow faster. It is non-state sectors, rather than the state sector, that have driven the high growth.”

The reform process in China over the past decades has never been uniform, never just in one direction. There were phases in which market forces quickly became stronger, but there were also phases in which the role of the state was reasserted. Even if over the longer term the main tendency was “state-out-and-private-in” (guo tui min jin), there were also periods and regions in which there was a backward trend, i.e., “state-in-and-private-out” (guo jin min tui). Zhang examines the different growth rates in the “state-out-and-private-in” regions and the “state-in-and-private-out” regions. Again, the results are clear: economic output grew significantly faster in the “state-out-and-private-in” regions. As Zhang explains, this proves “that China’s rapid growth of the past four decades has been driven by the power of the market and the non-state sectors, rather than the power of the government and the state-sector as claimed by the China model theorists.”

The level of innovation is critical to the Chinese economy's future development. An examination of industry R&D intensity, patents granted per capita, and the percentage of new product sales in total industrial revenue reveals that all of these essential metrics for innovation are positively correlated with the degree of marketization.

When I met Weiying Zhang in Beijing he stressed the major danger of misunderstanding the reasons for China’s growth, not only for China, but also for the West. If people in the West mistakenly conclude that China’s economic success is founded on some unique “third way” between capitalism and socialism, also known as “state capitalism,” Zhang worries that they will draw the wrong conclusions for their own relations with China. In Ideas for China’s Future, Zhang uses a very apt metaphor: “Imagine seeing a person without an arm running very fast. If you conclude that his speed comes from missing an arm, then you naturally will call on others to saw off an arm. That would be a disaster … Economists must not confuse ‘in spite of’ with ‘because of.’”

Advocates of a strong state in Europe and the United States want everyone to believe that China’s economic success confirms that economic growth is inextricably linked with a strong state. The analyses of Weiying Zhang prove that exactly the opposite is true. Are the Chinese themselves forgetting the roots of their success? Over the past four decades, there has been a constant struggle between two economic ideologies – the socialist against the capitalist. Sometimes the free market’s supporters have gained the upper hand, at other times it has been the supporters of the state. This struggle continues, and its outcome will determine China’s future. The way China deals with its recent real estate crisis will provide an indication of whether China – like Europe and the United States – follows the path of state interventionism or is courageous enough to implement market-based alternatives. Developments in recent years tend to indicate that in China (as everywhere else in the world today) faith in the state is stronger than faith in market forces. In the short term this may alleviate the latest dramatic crises, but in the long term it will create even greater problems.

China has risen rapidly despite, not because of, its enormous inefficient public sector and unrestricted government.

This article was originally published by the Institute of Economic Affairs.

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