Will China Ever Become a Developed Country?

03/30/21 08:37AM EDT

Below is a complimentary Demography Unplugged research note written by Hedgeye Demography analyst Neil Howe. Click here to learn more and subscribe.

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A new book, Invisible China, argues that China’s ambitions will be stymied by its failure to invest in its rural population. While the government has poured resources into cities, 70% of the workforce remains unskilled. (The Economist)

NH: If you want to read just one good book about China's long-term economic prospects, read this one: Invisible China, by Scott Rozelle and Natalie Hell. Rozelle, at Stanford, has spent decades doing field research on education and child development in rural China.

No, the authors don't talk much about China's much-heralded (or much-feared) advances in infrastructure and technology--bullet trains, Shanghai skyscrapers, lunar shots, 5-G, digital cash, and 2025 industrial policy goals. They talk instead about something much more important to economic development over the long term: human capital.

The book by Rozelle and Hell makes two basic arguments. The first is to suggest that China is poorly situated to make the economic transition out of the so-called "middle-income trap." This concept of such a trap, first discussed in the mid-2000s, is by now familiar to all development economists.

While China has made extraordinary standard-of-living gains since the abject poverty of the Mao years, it remains squarely a middle-income country (sometimes defined as GDP per capita ranging from 5% to 45% of the US level).

In 2019, the World Bank pegged China's GDP per capita at 77th among the 186 economies of the world. At $16,800 per capita (PPP), China is a bit ahead of Libya and Bosnia-Herzegovina and a bit behind Suriname and Venezuela.

Why is the middle-income status so often a trap? Because not many economies have graduated from middle-income to high-income status over the post-World War II era. Of 101 middle-income economies in 1960, for example, only 14 had graduated to high-income status by 2008.

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Some of these are small countries that came across precious natural resources (Equatorial Guinea, Oman, Saudi Arabia).

Some are countries that jumped ahead by integrating their economies with much larger and more affluent neighbors (Greece, Portugal, Spain). China clearly cannot follow either of these paths.

There is a third path, the "East Asian tiger" path, which has been pioneered by five of China's own neighbors: Japan, South Korea, Taiwan, Hong Kong, and Singapore. And China has, in some ways, emulated their formula for success: smaller families, export-led growth, very high rates of physical capital formation, and long-term industrial strategizing.

But, the authors explain, China is not following its neighbors' path in one critical respect: human capital formation. All of the "tigers," without exception, invested energetically in quality universal K-12 education long before they entered the high-income club.

As a result, when the moment came, they were all ready for the transition from low-skill manufacturing and assembly jobs to higher value-added service and design careers.

China is nowhere near ready for this transition. As a result, it risks leaving much of its workforce unemployed or underemployed (or scurrying back to the "informal" sector) as rising wage levels push more of the unskilled assembly work to lower-wage economies like Vietnam, Thailand, Bangladesh, and Indonesia. This is the essence of the middle-income trap. And it has stopped other large economies--for example, Mexico, Brazil, and Turkey--that were themselves once touted as ready for the transition upwards.

I've written about these human-capital deficiencies at greater length elsewhere. (See "Chinese Workers' Lack of Education is a Big Hurdle in Lifting Economy.") In 2015, only 30% of China's workforce had at least a high-school education; and only 12.5% had a college education.

Not only are these numbers way behind the high-income average (where the high-school attainment share is about 80%), it is even behind the middle-income average (36%). Among young adults (age 25-34), the share of high-school graduates is higher (35%). But it is higher as well among other EM economies--including Indonesia, Mexico, Turkey, Columbia, and South Africa.

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Rozelle and Hell acknowledge that, since the early 2000s, China has invested prodigious resources into trying to catch up educationally. Since 2010, the state has raised "mandatory" educational attendance throughout China from 9th grade to 12th grade.

And somewhere between 20% and 30% of 18-to-22 year-olds are now attending some sort of college-level institution. (In the US, about 50% of young adults now earn a post-secondary degree.) These are significant accomplishments.

Yet the authors caution that there is less here than meets the eye. Most importantly, these recent improvements, dramatic as they are, will take decades to raise average educational attainment throughout the workforce to levels on par with other rising middle-income economies that made the transition.

Indeed, this "force-fed growth" of education in China has led to a severe shortage in older teachers and professors capable of providing quality instruction to such a vastly expanded flow of new students. In most of today's liberal democracies, such expansion could unfold over several generations. After a very late start, China is trying to make it happen all in one generation.

More importantly, the authors point out, nearly all of the truly impressive educational advances have occurred in the 36% of the population who are urban citizens. Very little has occurred in the 64% of who are rural citizens. And due to differential fertility (higher in the country than in the cities), this rural population is projected to account for roughly 75% of China's future children.

Why is rural China not benefitting? Mostly because the rural expansion in high schools consists of so-called "vocational schools." They are supposed to be based on the German model, but as the authors explain (after extensive field visits to these schools) they bear little resemblance.

German vocational schools retain a rigorous focus on academic achievement along with some introduction to on-the-job problem solving. Most Chinese vocation schools are academically worthless, imparting no measurable educational improvement beyond grade eight. Many of the schools simply rent the kids out to local industries. Some schools exist only on paper; their managers may be receiving provincial funds, but both the parents and the children regard them as a waste of time.

This is where the book begins to move on to the authors' second major argument (the book's subtitle is "How the Urban-Rural Divide Threatens China's Rise"), which is how China's development is stalled by this large and growing urban-rural gap. In effect, while the new educational push is raising urban China to an achievement level approaching many high-income countries, most of rural China remains a premodern backwater.

Even before high school, academic achievement levels in rural schools lag two or three years behind those of urban schools. And behind this lagging achievement lies shockingly poor nutrition and health care and a complete absence of social services to parents.

After detailed surveys, the authors estimate that 27% of rural kids in elementary school suffer from anemia, 33% from intestinal worm infections, and 20% for uncorrected myopia--a share that rises to half when they reach their teens. (See "China Focuses on Solving Myopia Epidemic.") Many toddlers are swaddled for most of the day, a practice that went out of favor in rural Europe in the 18th century.

Since the market-liberalizing reforms of Deng Xiaoping in the 1980s, a large share of this rural population (today, over 300 million) ends up working in the cities. But due to the notorious "hukou" registration system, workers born in rural areas are never eligible for the educational and health benefits available to urban citizens, either for themselves or their children, no matter how long they work there.

"Hukou" thus constitutes something close to a caste system in China, relegating the majority of Chinese to second-class status at birth. The stubborn persistence of the urban-rural development gap may rest on this deeply entrenched system of social and cultural differences.

Every couple of years, it seems, the CCP announces another bold new effort to "invest" in China's rural western provinces. But somehow these investments never seem to close the divide.

Once upon a time, Mao Zedong and the Long March generation led a revolution to liberate China's toiling peasant masses from the exploitation of privileged mandarins living in provincial capitals. Yet today that urban-rural gap seems larger than ever. The CCP, growing sensitive on this issue as it is on so many others, has allegedly decreed that reporters and academics may no longer mention the phrase "middle-income trap." 

Rozelle and Hell are not China bashers. They are impressed by China's dramatic pace of overall economic development. They are deeply sympathetic to the plight of the rural villagers with whom they have spent so much time. And they sincerely hope that China overcomes this challenge.

On the other hand, they are realistic enough to point out that we have never seen an economy advance with human capital development indicators stuck at such low levels. And they imply that this lag is due to a fundamental class divide that may itself require (shall I use the word?) revolutionary change.

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