Understanding China’s Political Economy

As China grapples with enormous challenges – including an imploding property sector, unfavorable demographics, and slowing growth – doubts about the future of the world’s largest growth engine are intensifying. Add to that China’s geopolitical rise, together with deepening tensions with the United States, and the need to understand China’s political economy is becoming more urgent than ever.

A recent book by MIT’s Yasheng Huang – The Rise and Fall of the EAST: How Exams, Autocracy, Stability, and Technology Brought China Success, and Why They Might Lead to Its Decline – can help. Huang unpacks the “EAST” heuristic from the historical record of the last two and a half millennia, especially the last 40 years, to arrive at a clear conclusion: China must make radical changes if it is going to realize its full development potential.

Huang argues that the seeds of China’s decline were planted as far back as the sixth century, with the implementation of the stifling Keju civil-service examination system. In his view, this system provides an answer to the historian Joseph Needham’s “grand question”: Why did imperial China, with its profound scientific and technological advantages, fail to launch its own Industrial Revolution long before Europe did?

Before the Keju system was introduced, China was producing some of history’s most transformative inventions, such as gunpowder, the compass, and paper. But Huang’s empirical research suggests that Chinese creativity peaked between 220 and 581, during the rather chaotic Han-Sui Interregnum. “The first wave of technological stagnation in China,” Huang observes, “coincides with the end of China’s political fragmentation.”

The Rise and Fall of the EAST does seem to overstate some aspects of the historical record, in order to offer a “cleaner” narrative than might be warranted. For example, a dataset of prime ministerial resignations forms the basis of Huang’s conclusion that, with the introduction of Keju, checks and balances between emperors and their bureaucrats disappeared in favor of a “symbiotic relationship.” The result is an almost linear narrative of decline. But that is difficult to square with the Qing dynasty’s “industrious revolution,” during which China’s population more than doubled and its share of global GDP reached one-third.

Huang can also be extremely perceptive, however, such as when he challenges David Landes’s judgment that the state kills technological progress. Instead, Huang argues that “China’s early lead in technology was derived critically – and possibly exclusively – from the role of the state.” Quoting the Nobel laureate economist Douglass North, he writes: “If you want to realize the potential of modern technology, you cannot do it with the state, but you cannot do without [the state], either.”

But what kind of state? In Huang’s view, autocracy “has deep roots in China because of its near-immaculate design, absence of civil society, and deep-seated values and norms.” But China’s tendency toward “unitary rule,” he writes, is fundamentally cultural, with the “causal direction” of autocracy running “from culture to politics, not the other way around.”

Similarly, many modern Chinese scholars blame China’s waning fortunes in the nineteenth and twentieth centuries on conservative Confucian ideology, which lacked any spirit of discovery or impetus for risk-taking. Huang even suggests that, in times when Buddhists and Daoists represented a larger share of prominent historical figures, relative to Confucians, novel ideas were more likely to flourish.

But there are reasons to believe that China’s state structures and policy preferences are not just cultural in origin, but also – or perhaps rather – the result of deliberate institutional arrangements. For example, China’s business organizations are famously run by domineering laoban, or bosses. In any case, a narrow focus on China’s top-down structures can obscure the bottom-up nature of many aspects of Chinese political and economic life.

As Huang notes, the Chinese political economy is characterized not only by control, but also by autonomy. While China has benefited from state management, in the form of deliberate, top-down policies (exemplified by the government’s Five-Year Plans), private initiatives that are bottom-up and chaotic (such as entrepreneurial activity) have also proved vital to its development. Understanding the balance between control and autonomy is essential to any assessment of the challenges China faces, from unleashing “animal spirits” to implementing institutional reforms.

The Rise and Fall of the EAST also considers why China has so far managed to avoid what he calls “Tullock’s curse” – the instability or conflict caused by the bad and misaligned incentives that define autocratic successions. But it might have benefited from a deeper analysis of another phenomenon explored by the economist Gordon Tullock: rent-seeking.

Any country’s economic- and human-development trajectory is determined largely by whether the elites use their power to create or to extract value. Some degree of rent-seeking is probably unavoidable. One might dismiss the “robber barons” of nineteenth-century America as amoral, but the Rockefellers, Vanderbilts, Carnegies, and others played a pivotal role in making the US the world’s most prosperous country. Likewise, the tech monopolies created by the likes of Bill Gates and Mark Zuckerberg continue to exemplify American innovation.

Unfortunately, Huang’s account lacks a nuanced assessment of the relationship between rent-seeking and value creation. He might have noted that China’s “elite quality” is much higher than that of other countries with the same per-capita GDP. Instead, it is comparable to European Union countries with triple China’s per-capita GDP.

The fact is that sustainable value creation underpinned China’s double-digit growth rates for decades. Nonetheless, as Huang makes clear, the development strategy that propelled China’s rise over the last few decades has largely reached its limits. Now, China must harness its innovative potential and high-quality elites to spur its animal spirits and strengthen its institutions, all while pursuing greater liberalization.

Whatever comes next will be based on China’s unique traditional value system, which, as Huang emphasizes, has underpinned prosperity and innovation in the past. And it will reflect the grit – not rigidity – that lies at the core of China’s political economy.