China’s Path to Consumer-Based Growth: Reorienting Investment and Enhancing Efficiency

Abstract

This paper proposes a possible framework for identifying excessive investment. Based on this method, it finds evidence that some types of investment are becoming excessive in China, particularly in inland provinces. In these regions, private consumption has on average become more dependent on investment (rather than vice versa) and the impact is relatively short-lived, necessitating ever higher levels of investment to maintain economic activity. By contrast, private consumption has become more self-sustaining in coastal provinces, in large part because investment here tends to benefit household incomes more than corporates. If existing trends continue, valuable resources could be wasted at a time when China's ability to finance investment is facing increasing constraints due to dwindling land, labor, and government resources and becoming more reliant on liquidity expansion, with attendant risks of financial instability and asset bubbles. Thus, investment should not be indiscriminately directed toward urbanization or industrialization of Western regions but shifted toward sectors with greater and more lasting spillovers to household income and consumption. In this context, investment in agriculture and services is found to be superior to that in manufacturing and real estate. Financial reform would facilitate such a reorientation, helping China to enhance capital efficiency and keep growth buoyant even as aggregate investment is lowered to sustainable levels. JEL Classification Numbers: E22, H4, O14, R11, R12

China's outward foreign direct investment and domestic investment: An industrial level analysis

“…The Chinese growth model relies heavily on the accumulation of domestic investment (Lee et al, 2013). Naturally, an important question relevant to policy makers is that of how China's domestic investment responds to this rising OFDI.…”

China’s High Rates of Investment and Path Towards Internal Rebalancing

“…For example, Lee et al (2013) found that investment in inland provinces is progressively becoming less efficient. Reflecting this, private consumption in these regions only benefited in the short run through the direct effect of higher wages and other income paid out during the investment phase.…”

Two Sides of the Same Coin? Rebalancing and Inclusive Growth in China

“…In addition, ample liquidity has facilitated investments in some noncoastal provinces that have become less efficient and wasteful, as elaborated in Lee, Syed, and Xueyan (2013b). This has the effect of generating relatively more profit for the corporate sector, with relatively temporary and limited spillover onto household incomes and thus consumption.…”

“…Thus, provinces with larger capital stock should have seen greater dividend of growth going to household income. Conversely, if liquidity is used for the purchase of assets only that did not translate into capital, then in those provinces income will tend to be lower as a greater share of growth dividend will have gone to the corporate sector (see Lee, Syed, and Xueyan, 2013b). This is the approach we adopt below.…”

“…A large share of this value added, however, went to the corporate sector as wages were suppressed by the strong influx of young workers into the labor market associated with China's demographics and the move of migrant workers into urban centers, where industries were concentrated. In addition, by favoring capital, China's investment induced growth model has tended to benefit the corporate sector more than workers, and thus less of the benefits of growth accrued to household income (Lee, Syed, and Xueyan, 2013b).…”