In the last part of his speech at the 2019 Global Investor Conference, Li Lu (Trades, Portfolio) discussed the growth drivers for the Chinese economy in the next two decades.
In order to understand these drivers, it is important to understand the framework of different stages of economic development that he referred to. Li used a macro-economics concept called the Lewis Turning Point. According to this concept, in the early stage of industrialization, the rural surplus labor force is constantly attracted to the urban industrial sectors. But when the industrial sector develops to a certain scale, the rural labor force is no longer in surplus condition. In other words, there is a shortage of rural labor force. This turning point is called Lewis Turning Point. This observation was first put forward by British economist W. Arthur Lewis in the 1950s.
In developed countries, before the Lewis Turning Point (i.e. in the early process of urban industrialization), the capitalists had absolute control of the market conditions. It was difficult for rural labors to have pricing power and bargaining power. Because there were a lot of surplus labor in rural areas, the companies would naturally take advantage of the rural people.
After the Lewis Turning Point comes the mature stage of economic development. During this stage of development, enterprises need to increase their investment in production equipment to improve output, meet the needs of employees, increase wages and improve working environments. During this period, because the labor force is in shortage, the economic development leads to the continuous rise of wage levels, and the rise of wage levels leads to the rise of consumption levels, savings and investments, forming a positive feedback loop. During this stage, almost everyone in the society enjoys the fruits of economic development. At the same time, a consumer society dominated by the middle class is formed, and the whole society enters the golden period of capitalist economic development.
Today's economy is a global one, so when the wage level rises to a certain level, it becomes more attractive for enterprises to move manufacturing out of developed nations and make investments in emerging economies to access their rural labor surplus. At this time, enterprises will begin to slowly transfer investments to developing countries, which will begin to enter their own industrialization processes. If this happens on a large scale, the domestic investment will be reduced, and the wage level of domestic workers, especially those with low skills, will stop rising or even start falling. At this stage, the economy is still developing, but the benefits of economic development are no longer as balanced for all social classes. Workers need to survive on their own, but those jobs with high technical capabilities such as science, technology, finance and international markets will have increasingly higher pay at the expense of the working class. The return of capital will also be very high for companies which have moved their production overseas. However, the overall wage level of the society will be stagnant and the domestic investment opportunities will be greatly reduced. Mr. Richard Koo, an American economist, called this stage a "catch-up" stage post the Lewis Turning Point.
Today's major western countries have slowly entered the third stage (the catch-up stage). Japan used to be an emerging economy but it also entered the catch-up stage in the 1990s. For China, although there's a debate on when exactly China crossed the Lewis Turning Point, there's no doubt that it has now crossed the Lewis Turning Point and has entered the mature stage of economic development in the past few years. Wage levels, consumption levels and investment levels have begun to show a trend of accelerated growth in recent years.
During different stages of economic development, the government's macro policies will play different roles. In the process of early industrialization, the government's fiscal policy will play a more important role. Government-led Investments in infrastructure, resources, export-related services and so on will help emerging countries quickly enter the state of industrialization. After entering the mature stage of post Lewis Turning Point, the domestic economic development mainly depends on domestic consumption. Private sector entrepreneurs at the forefront of the market can better react to the rapidly changing business opportunities in the market. At this time, further investment relying on fiscal policy begins to conflict with and compete for resources with private sector investment. During this period, monetary policy is more effective in terms of economic development.
For the developed world which has entered the catch-up stage, the private sector is reluctant to invest too much capital domestically because of the deterioration of the domestic investment environment and the reduction of investment opportunities. At this time, the government's fiscal policy becomes more important because excess fiscal spending can make up for the lack of investment in the private sector, excessive savings and insufficient consumption. On the contrary, monetary policy often fails at this stage.
However, due to inertia, policy makers often still rely on the successful experiences of the previous development stage when the economic development stage changes. For example, in many developed countries today, policy makers still mainly rely on monetary policies to stimulate the economy when the effectiveness of these policies is very poor. Today, the developed world, and especially Europe and Japan, are still experiencing low inflation rate and economic growth rate with zero interest rate and even negative interest rates.
Similarly, when China's economy entered the mature stage, the government still relied more on fiscal policy and less on monetary policy. In the past few years, private enterprises have been squeezed by various fiscal policies and state-owned enterprises to a certain extent. However, it is undeniable that China is still in the golden age of economic development and has a cost advantage over the developed world, while other emerging developing countries such as India have not yet formed a systematic competitive advantage. In the next few years, China's wage level, savings level, investment level and consumption level will continue to spiral up. They will still form a positive feedback loop and there will still be plenty of investment opportunities. If the government can use more macro monetary policies to support private enterprises in this stage, it will be of great benefit to the economic development at this stage.
Read more here:
- Li Lu Explains the Case for China - Part 5
- Li Lu Explains the Case for China - Part 4
- Li Lu Explains the Case for China - Part 3
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