Xi’s Dual Circulation Strategy: Can it succeed?

//Xi’s Dual Circulation Strategy: Can it succeed?

Xi’s Dual Circulation Strategy: Can it succeed?

Xi Jinping – Photo credit: GovernmentZA © (Flickr)

By George Magnus | 14 September 2020

Two things we know that China’s leaders take very seriously are the use of technocratic slogans to focus attention on party-state priorities, and the implications of the rupture in relations with the United States and other advanced economies. Xi Jinping’s allusion to ‘dual circulation strategy’ (DCS) back in May can be seen as the latest initiative designed to address both. China watchers are endeavouring to understand more clearly what this strategy is at an important time.

 

DCS is first and foremost a strategy for Chinese decoupling and the continued advance of power. Some leaders refer to decoupling as ‘self-reliance’. It will be discussed at the next Politburo meeting in October, and shape the 14th Five Year Plan to be finalised in coming months and implemented in 2021.  It also dovetails with other well known initiatives such as the Digital Silk Road shaper of the Belt and Road Initiative, the China Standards 2035 strategy expected soon to set out how China wants to set global standards for modern technologies, and the next iteration of the now barely mentioned Made in China 2025 industrial strategy.

 

So, what is DCS? Is it something genuinely new, or as some maintain, new oil in old lamps? And either way, how should we judge if it will work?

 

By emphasising twin objectives, DCS is a feint echo of Mao’s (disastrous) ‘walking on two legs’ strategy for the simultaneous development of agriculture and heavy industry. In the modern version, though, it is more about domestic and foreign income and production flows. Xi  is demanding that China continues its commitment to global integration and exports –  international  circulation – but now also with an emphasis on domestic production for home consumption – internal circulation.

 

In a sense, DCS looks like a rehash of rebalancing, first discussed over a decade ago under Hu Jintao and Wen Jiabao, when leaders emphasised the need to shift the structure of Chinese economic growth and development away from investment and exports towards one that was more consumer- and services-oriented. And you can see why the government might want to re-emphasise this. The share of private consumption in GDP reached a nadir of 34.6 per cent in 2010, and while it rose to a little over 39 per cent by 2016-2018, it dropped back to 38.8 per cent in 2019, and has probably slipped further in 2020 because of the pandemic. Regardless, these levels are far off the 45 per cent mark that obtained at the start of the 2000s.

 

It is fair to point out that the principal architect of DCS, Vice Premier Liu He, was also the driver of so-called ‘supply side structural reform’, which has been the mainstay of Chinese economic policy for the last 5 years, as well as the strategy from 2017 to de-risk the financial system. His presence and influence alone should give us reason to take the articulation of DCS seriously.

 

Implementation, though, is another matter, to which the chequered outcomes of supply side reform testifies.  There is some evidence that overcapacity in heavy industry has fallen back to a degree, and the virulence of egregious financial risk taking has been clamped, but most of what China has to show for little rebalancing progress over the last years is a high and rising debt burden. Household debt now, for example, as a share of disposable income, has continued to rise relentlessly and is higher than in the US, where the ratio has been sliding for a decade or so.

US President Donald J. Trump and Chinese Vice Premier Liu He signing the U.S. China Phase One Trade Agreement | 15 Jan 2020 – Photo credit: The White House (Flickr)

There is a sense, though, in which the new emphasis on domestic output for domestic consumption is new, and that is in the context of Chinese decoupling.

 

This was of no concern in the 2000s, but since the Sino-US so-called trade war kicked off in 2018, it has become increasingly significant. China now recognises that it faces an increasingly fractious global environment that didn’t exist before, and that doesn’t look like it is going to change any time soon. Sino-US relations look to have crossed a Rubicon, as they have or might in the cases of Australia, Europe, India, Japan, and several other important countries. Even around the Belt and Road, the ‘common destiny’ of mankind is looking rather more transactional, if not downright shaky.

 

These new international relations metrics impinge directly on China’s capacity for both technological and innovation  development – China spends more on imports of semiconductors, for example, than it does on crude oil – and its exploitation of a now a much more restrained operating environment foreign trade and commerce. It retains a high dependency on the US and on US and other foreign firms for goods, technologies, know-how and best practice as it tries to evolve its own companies, sectors, and brands. It is easy to see, therefore, why China should want to try and keep its international exposure to foreign trade and to firms doing business in China on an even keel – it has a lot to lose if not – while strengthening its ability to manufacture and produce at home, and lower or end its technology, energy and agricultural dependencies on the US and other ‘hostile forces’. Self-reliance is, after all, the goal of Made in China, made all the more trenchant for China by international developments that occurred only long after the ink was dry.

 

In the end though, while DCS may yield microeconomic results to the extent that regulations, industrial policy  and targets can be effective, its success relies on just the same macroeconomics as rebalancing.

 

While the DCS slogan certainly calls for change, the key question is the framing and scale of the policy agenda required to make it happen. This is altogether a more complex demand, and suggests a commitment to measures and strategies that are most likely a bridge too far for Xi Jinping’s China. The President’s commitment to the primacy of the party and state enterprises in the country, economy and society – north, south, east and west – is unshakeable, and enshrined in the party and state constitutions.

 

To lift the consumption share of GDP, China needs to lift the share of wages and salaries in the economy;  lower income inequality, which is reportedly higher in China than in most other major countries;  and to discourage high levels of household savings, for example, by expanding the social safety net, not least by making it more generous and extending it fully to the 270 million or so migrant workers, many of whom lack the urban household registration status (hukou) that makes them eligible for full access to publicly funded education, housing healthcare and welfare.

 

It follows that these challenges, which are essentially about a wide-ranging programme of income and wealth distribution from the state to the private sector, call for a Leninist state focused on production targets and trickle-down effects to transform itself into a more liberal state focused on extensive institutional change and market-oriented rules and governance.

 

As well as being an intensely political issue, it is also a systemic issue, as Michael Pettis and Matt Klein argue in their recent acclaimed book Trade Wars Are Class Wars. China’s low share of consumption in GDP is in large measure the other side of the coin on which China’s export prowess is printed.  Put another way, China (and other mercantilist nations) didn’t become the world’s export giant and principal hub because someone thought it was a good idea or set a challenging goal. They helped but it happened because workers in the export sector receive a relatively low share of the value they produce. Consequently, boosting consumption, or internal circulation, depends on policies that would raise wages and benefits for workers but in ways that would compromise international circulation, that is, lower export competitiveness and capacity. The dual circulation strategy is in effect incompatible. We know this also from national accounting principles too:  if China succeeds in boosting consumption materially, that is it lowers savings relative to investment, then China’s external surplus must necessarily deteriorate, subtracting from growth.

 

And so…

 

Even if these contradictions and issues are recognised, it would still require leaders to articulate and implement an extensive and durable agenda of genuine structural reform, in which wealth and income allocations to workers rose significantly, implicitly a shift in political power too that is not going to happen.

 

Nevertheless, this is not to say that economic and industrial policy won’t change. There is no doubt that China’s leaders are giving serious thought to the turbulence in the global system, and how China might profit from it. The question is how far the decoupling or self-reliance drive in China will go, and which of the international and internal circulation factions will prevail.

 

The former, which include more liberal thinkers, the central bank and finance establishment, will probably not want China to lose its focus on trade, and reform and opening up, hoping that these will be the better way of keeping up the pressure to engage in difficult reforms that will ultimately benefit China domestically. The latter almost certainly see a much more urgent political and national security agenda to accelerate China’s decoupling from and lessen its dependence on the United States, taking advantage of Washington’s current political and economic divisions and distractions.

 

There is more to DCS than meets the eye. It is new in that it seeks to define an economic strategy for China for a new and more fractious international environment. Yet, it presents the Chinese government with familiar economic challenges and contradictions, and a major political transformation that is not consistent with Xi Jinping Thought. There will be much more DCS rhetoric in coming months. We should monitor it closely, and continue to assess what is possible to accomplish, and, more importantly, systemically, what isn’t.

George Magnus is a Research Associate at the SOAS China Institute and at the China Centre, Oxford University. He is the author of Red Flags: Why Xi Jinping’s China is in Jeopardy (Yale University Press, 2018).

The views expressed on this blog are those of the author(s) and are not necessarily those of the SOAS China Institute..

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