China's economic growth proves the Solow model

By Hua Min
0 Comment(s)Print E-mail, September 12, 2013
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Why must China maintain high economic growth? Firstly, countries with growing populations must have economic growth, otherwise they fall into the Malthusian trap. If economic growth stops, there would be a slump in asset prices and China's economy would suffer a hard landing.

These two constraints determine that China must maintain its rapid economic development. But many economists and policy makers are planning to slow down the economy. Such a plan is a strategic error.

When a country has a deficit, it loses its macroeconomic stability. Today, Japan is considered one of the most hopeless countries in the world. Its budgetary deficits and government debt is 250 percent of its GDP. Generations of Japanese will have to contribute to paying off this government debt.

We have millions of college students graduating each year. Without a booming economy, the job market would falter. High unemployment would lead to instability. The decline in fiscal revenue will affect economic stability, thus undermining social harmony.

Why is China's economy slowing down? Since 1979, China's economy has followed the Solow growth model. With 300 million migrant workers and 3 trillion U.S. dollars of foreign capital, the Chinese government released productive forces and optimized resource allocation. By 2004, the government at the time said that the economy was overheating and made adjustments. Problems have arisen, such as diminishing returns, the expanding urban-rural gap, and the export-driven economy.

There are three important solutions to these problems.

We must stimulate domestic demand. However, wage increases will either lead to inflation or recession. Therefore, the stimulus plan must be based on the improvement of labor quality and productivity.

The problem of diminishing returns should be solved by developing education. What modern enterprises need are disciplined, well-trained workers, while the rural areas can provide only undisciplined and poorly-skilled laborers. The market is unable to resolve the conflict. It is the government who should work out programs to train these laborers.

Do we still need to develop foreign trade? The three best periods in China's economic history came when it was engaging in active trade with the outside world. Trade correlates positively with economic growth, therefore, we must encourage trade. We should comply with the WTO rules and open up our markets. More liberalized trade will help China and its trade partners.

The government should not take place of the market, which is by far the most effective means of allocating resources. There is no doubt that the market economic system is flawed. What the government should do is to overcome the defects. When the economy is at a low ebb, the problem of how to prop it up is a test for the Chinese government.

Hua Min is director of the Institute of World Economy, School of Economics, Fudan University.

This article was translated by Li Huiru. Its original unabridged version was published in Chinese.

Opinion articles reflect the views of their authors, not necessarily those of

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