China's economy is entering a period of slower growth and the government should heed the lessons of other countries

China's economy has enjoyed an annual growth of 10 percent over the past 30 years, but how long can such high-speed growth last?

According to studies by the Development Research Center of the State Council, China's growth pattern is similar to that of Germany, which experienced a slow down in the late 1960s, Japan, which experienced a slow down in the early 1970s, and South Korea, which experienced a slow down in the late 1990s. There are already signs emerging that China's growth rate will slow in the next few years.

First, infrastructure investment, the most important engine of growth, is declining as a proportion of total investment. In 2006, it was more than 30 percent, while it dropped to around 22 percent in 2011. As China's high growth rate is mainly driven by its huge investment in infrastructure, if infrastructure investment drops the growth rate will slow.

Second, in the last three years, the growth rate of the provinces and municipalities with good economic performance along the southeast coast, whose total GDP accounts for more than half of the national GDP, has lagged behind other regions.

Third, people are worried about potential risks in local governments' financing platforms and in the real estate market. To be more specific, people are concerned whether their investments in these areas will pay off. According to our research, the potential gains in these areas are not particularly great.

Taking all these signs into consideration, it seems the transition from high-speed growth to intermediate-speed growth may have already begun.

Although some may have a pessimistic view of this slow down, it is actually a normal pattern of economic growth.

However, some officials, especially those from local governments, believe the slowing down is a result of government policies, and that if we need to, we can introduce stimulus policies to speed up the growth rate. But this belief is incorrect. As the growth rate is already slowing, if we apply administrative means to speed up the growth rate, it may work for a short period but it will not last for long, and may even have severe unwanted consequences. For example, the government in Japan tried to stimulate its economy in the 1980s, but this led to asset bubbles and long-term economic recession. It is a lesson we should heed.

Our estimate for China's economic growth in the intermediate-speed period is around 6 to 7 percent, which the country has the potential to maintain for 10, 15 or even 20 years. During the transition period over the next two to three years we hope to see a stable annual growth rate of 8 to 9 percent.

How can China improve its industrial competitiveness during this transition period? Several issues should be highlighted. Compared to anytime in the past 30 years, there are more uncertainties now and therefore a greater likelihood that the government or corporations will make wrong decisions.

China's infrastructure construction and many important industries, such as cement and other building materials, are entering their historical peaks of demand and capacity. If we over-invest, it may cause problems. Meanwhile, some small and medium-sized enterprises in southeast China have experienced financing difficulties and great pressure from shrinking orders and a rapid rise in the costs of production, reflecting the decline in market space available when the growth rate slows.

We should prepare for this, as on entering a period of slower growth there will be a new industry pattern featuring a few large enterprises with substantial advantages in economies of scale, together with a horde of small and medium-sized enterprises with specialized advantages. The government should introduce policies during the process of adjustment that are in accord with market rules rather than arbitrarily arranging the enterprises.

The most important lesson that we have learned from the international financial crisis is the development of the virtual economy and the real economy may not be mutually beneficial.

The main reason why Western countries have not emerged from the crisis is that the real economy, including manufacturing, has no new growth point. China should learn from this lesson since manufacturing will still be the country's most competitive advantage in the global industrial system in future.

Although there is a great deal of emphasis on the service industry, we should also note that the segment of the service industry with the greatest potential is the producer service industry, such as research and development, logistics, finance, and information services. They are all aimed at improving the efficiency of manufacturers. Therefore, whether the producer service industry can develop well or not, will to a large degree depend on whether they can contribute to the development of manufacturing.

The article is based on a speech by the vice-president of the Development Research Center of the State Council at the Third China Economic Prospects Forum on Dec 25.

(China Daily 01/04/2012 page8)