Looking Ahead to Third Plenum: Professor Liu Wei on Restoring Market

Renmin University Ex-President on Fiscal Reforms, Unified National Market Building, and Nurturing Market Demand

I had planned to take a short break on Friday, but the heavy rain in Beijing creates perfect weather for writing stuff. (probably I just can’t stop) So, I decided to bring a translation of an opinion piece written by Liu Wei. Named “Building a High-Level Socialist Market Economic System” (构建高水平的社会主义市场经济体制). I think it should be the last one before the Third Plenum starts on the 15th. Professor Liu is the former president of Renmin University of China and director of the Research Center for Socialist Political Economy with Chinese Characteristics at Renmin University of China. This piece was first published by National Governance Weekly and restacked by Tsinghua Financial Review.

Professor Liu Wei, source: The Paper

In short, Professor Liu believes that the problem lies in the lack of market forces. The restoration of market demand is the key to the economic upturn. Under a high-level socialist market economic system, macroeconomic regulation policies' starting point and foothold can focus on repairing the market and nurturing market forces.

To build a high-level socialist market economic system, efforts need to be made in the following aspects:

1. Unblocking key bottlenecks that restrict economic circulation and building a unified national market;

2. Achieving coordination between fiscal expenditure policies and fiscal revenue policies;

3. Further smoothing the market circulation mechanism and giving play to the effectiveness of monetary policy

4. Fully mobilizing the forces of various market entities and comprehensively restoring investment demand.

5. Nurturing and strengthening consumer demand.

Source: https://mp.weixin.qq.com/s/NUgC3fWO1UPbzqELP9YOUQ

The Significance of Macroeconomic Policies Lies in Repairing the Market

From a macroeconomic perspective, the current economic growth rate in our country is not satisfactory, and the achievement of macroeconomic indicators is not satisfactory enough. Not only the economic growth rate but also a series of macroeconomic indicators, such as the unemployment rate and inflation rate, have encountered some problems.

Under the background of the market playing a decisive role in resource allocation, the key reason for macroeconomic imbalances is market failure, and the market mechanism has been impacted, which can easily lead to problems in economic growth. Therefore, to overcome macroeconomic imbalances and avoid economic recession, and strengthen countercyclical adjustment of macroeconomic policies, the most critical thing is that macroeconomic policies and regulations need to play a role in repairing and restoring the market and then use market forces to overcome economic imbalances and drive economic growth.

Macroeconomic policies directly driving growth can play a certain role in alleviating the situation when the crisis is very severe and the impact is very profound. However, the fundamental equilibrium convergence of the economy is through the restoration of market forces. The true effectiveness of macroeconomic policies lies in the degree to which they can repair the market and restore market forces, rather than relying on macroeconomic policies to drive growth for a long time directly, let alone replacing the market with administrative means. It is to repair the market mechanism, improve market competition, and restore market forces through macroeconomic policies and various institutional measures.

Government regulation and a proactive government are indispensable. However, we need to have a scientific grasp of the form and status of the role of government regulation. In terms of approach, it is not about relying on the government's macroeconomic policies to directly drive the entire national economy to achieve balance but to target market defects and make targeted countercyclical adjustments effectively. Macroeconomic policies are to be implemented through the market to achieve regulatory effects rather than surpassing, negating, or replacing the market.

After several years of trials, China's economy faces some contradictions and problems in economic growth and various macroeconomic aspects, and the main reason is the lack of market forces. We have now taken a series of measures to restore and achieve an overall economic upturn. We have been able to achieve such results due to the effectiveness of the restoration and repair of market forces, which means that macroeconomic policies and policies to expand domestic demand have been effective. Therefore, it is not the government policies that directly drive economic growth but rather the policies that restore domestic demand, which stimulates domestic demand and drives economic growth.

The restoration of market demand is the key to the economic upturn and improvement

In 2022, China's economic growth rate was not high. Calculated at constant prices, the annual gross domestic product (GDP) increased by 3% compared to the previous year. Globally, China was one of the few major economies that achieved positive growth in 2022. However, from the perspective of our development history, 2022 was a year with a relatively low economic growth rate. We have discussed the reasons extensively. It cannot be said that China's macroeconomic policy efforts were insufficient in 2022, because in that year, our country's macroeconomic policy efforts, both fiscal and monetary policies, were quite strong. So why did this problem still occur? The reason is that due to objective limitations, there were issues with effective market demand. Although the macroeconomic regulation and control policies were strong, the market demand itself was still relatively insufficient, especially consumption, which has been the top driver of China's economic growth among the "three carriages" in the long run and has made the greatest contribution, was impacted. In 2022, a situation emerged—the total retail sales of consumer goods showed negative growth, down 0.2% year-on-year. In response, the state adopted some policies, especially direct government investment. In 2022, the national fixed asset investment (excluding rural households) increased by 5.1%, mainly due to the role of government power, including countercyclical adjustments such as investment by state-owned enterprises. This is also the institutional advantage of our socialist market economy, which has played a certain role in offsetting the negative growth of consumption. However, due to the overall market not yet recovering, the policy offsetting by the government and the state-owned economy had limited effects. Therefore, the economic growth rate in 2022 was still relatively low.

Now the economy is starting to recover. In 2023, China's GDP grew by 5.2%, ranking among the top of the world's major economies in terms of growth rate. The key reason for achieving this economic upturn and improvement is the restoration of market demand. In 2023, China's total retail sales of consumer goods increased by 7.2% compared to the previous year, surpassing 47 trillion yuan and ranking among the top globally. In 2023, the contribution rate of final consumption expenditure to economic growth reached 82.5%, driving economic growth by 4.3 percentage points. This is extremely important; the reason the economy was able to recover is that the final market demand began to recover.

Now the economy is on an upward trend, but macroeconomic growth still faces some problems. This year's government work report mentioned that "many new situations and problems have followed one after another," with the first being "the confluence of declining external demand and insufficient domestic demand." The meeting of the Political Bureau of the CPC Central Committee held on April 30 this year also emphasized the need to "actively expand domestic demand." In 2023, the total retail sales of consumer goods increased by 7.2% compared to the previous year: in the first half of the year, the total retail sales of consumer goods increased by 8.2% year-on-year, while in the second half, it was below 7%, resulting in an annual growth rate of 7.2%. In the first quarter of this year, the total retail sales of consumer goods increased by 4.7% year-on-year, exceeding 12 trillion yuan. The overall scale is not small, but the growth rate is not high enough. Promoting consumption growth is the first problem currently facing the economy.

Looking at our investment demand, in 2022, the national fixed asset investment grew by 5.1%, growing rapidly and offsetting some of the effects of reduced consumer demand. In 2023, the national fixed asset investment increased by 3.0% compared to the previous year, with the total amount exceeding 50 trillion yuan, ranking among the top in the world. A specific analysis of the fixed asset investment demand trends in the four quarters reveals that in the first quarter of 2023, the growth rate of fixed asset investment was 5.1%, the same as the full year of 2022. The growth rate from January to June was 3.8%, from January to September was 3.1%, and for the entire year from January to December, it was 3%. In the first quarter of this year, the national fixed asset investment increased by 4.5% year-on-year, exceeding the scale of 10 trillion yuan. This still reflects a problem, which is that the market's investment demand is not yet stable.

From the perspective of investment demand and consumption demand, the foundation for China's current economic upturn is not solid enough. Why is the foundation not solid? The primary and most direct reason is that the restoration of market demand is not satisfactory. Therefore, macroeconomic policies should pull the economy from an unbalanced state back to a normal state and develop healthily in a balanced direction. The starting point and foothold of the policies should focus on repairing market demand and restoring market forces.

Achieving high-quality development requires a high-level socialist market economic system

To achieve high-quality development, at the macro level, it needs to be balanced; at the micro level, it needs to be effective; structurally, it needs to be coordinated; in terms of development, it needs to be secure; and internationally, it needs to be open (i.e., high-level opening up). What institutional conditions are ultimately required for these five elements? A high-level socialist market economy system is needed to truly achieve the unity of high-quality development and high-level security.

From a macro perspective, high-quality development means stable and balanced development and economic growth. Under a high-level socialist market economy system, the starting point and foothold of macroeconomic regulation policies can better focus on repairing the market and nurturing market forces. In other words, the effectiveness of macroeconomic regulation policies largely depends on the support of a high-level socialist market economy system. The meeting of the Political Bureau of the CPC Central Committee held on April 30 decided to convene the Third Plenary Session of the 20th Central Committee in July this year, with a focus on further comprehensively deepening reforms as one of its main agendas. For further comprehensive deepening of reforms and building a high-level socialist market economy system, including the national governance system, a series of top-level policy designs will be proposed, which are highly anticipated by all sectors.

Unblock key bottlenecks restricting economic circulation and build a unified national market. Relying on the unified national market, we achieved a total retail sales of consumer goods of over 47 trillion yuan and an investment scale of over 50 trillion yuan last year. In the first quarter of this year, fixed asset investment exceeded 10 trillion yuan, and total retail sales of consumer goods exceeded 12 trillion yuan. Building a unified national market, unblocking key bottlenecks restricting economic circulation, and promoting the smooth flow of goods, factors, and resources in a wider range are key to building a high-level socialist market economy system. At the same time, a high-level socialist market economy system requires the improvement of various systems, including the improvement of the modern enterprise system with Chinese characteristics, the improvement of the market economy foundation system such as property rights protection, market access, fair competition, and social credit. These have all been deployed and required in the report of the 20th National Congress of the Communist Party of China. If these institutional aspects are not improved, a unified national market, a high-standard market system, and high-level competition cannot be achieved, and macroeconomic policies cannot fully mobilize market forces and truly cultivate effective market demand, and the effectiveness of macroeconomic policies will be compromised.

Achieve coordination between fiscal expenditure policy and fiscal revenue policy. Last year, the national general public budget revenue increased by 6.4% year-on-year, of which tax revenue increased by 8.7%. The annual GDP growth rate last year was 5.2%, and the fiscal revenue growth rate was higher than GDP. We have seen that fiscal policy has begun to adjust this year. In the first quarter of this year, the national general public budget revenue decreased by 2.3% year-on-year. After excluding the impact of special factors such as the high base caused by the deferred tax payment of small and micro enterprises in the same period last year and the tail reduction of some tax reduction policies introduced in the middle of last year, the comparable growth was about 2.2%, and the national tax revenue decreased by 4.9% year-on-year. This is a very important adjustment, which makes fiscal expenditure policy and fiscal revenue policy synchronized and consistent.

Further smooth the market circulation mechanism and give play to the effectiveness of monetary policy. Currently, some people are questioning the effectiveness of China's monetary policy. At the end of April this year, the balance of broad money (M2) was 301.19 trillion yuan, compared with 292.27 trillion yuan at the end of December 2023; at the end of April this year, the stock of social financing scale was 389.93 trillion yuan, compared with 378.09 trillion yuan at the end of 2023. We can see that the growth rate of M2 is very fast. Last year, the growth rate of broad money (M2) was 9.7%, and the growth rate of narrow money (M1) was 1.3%, which means that a lot of money was not spent but converted into fixed deposits. This situation has changed in the first quarter of this year, with the growth rate of broad money (M2) and the growth rate of the stock of social financing scale slowing down significantly to 8.3% and 8.7%, respectively, starting to play the dual functions of the total amount and structure of monetary policy tools, revitalizing the stock and improving efficiency. This means that there is still room for the development of market transmission mechanisms and the cultivation of market forces, and if the market is smooth, monetary policy can play an effective role.

Fully mobilize the forces of market players in all aspects and fully restore investment demand. Investment demand is also an important aspect of observing macroeconomic data. In 2023, fixed asset investment increased by 3.0% compared with the previous year, and investment in high-tech industries increased by 10.3% compared with the previous year, 7.3 percentage points higher than the growth rate of total fixed asset investment. This structure continues in the first quarter of this year: investment in high-tech manufacturing increased by 10.8% year-on-year, 6.3 percentage points higher than the growth rate of total fixed asset investment. Investment in high-tech industries is mostly large-scale investment with high investment density, and such data indicates that our investment structure is changing and the capital intensity and technological level are improving. From the perspective of market operation, the main investment entities of this type are the government and state-owned enterprises. In 2023, investment in fixed assets of state-holding enterprises increased by 6.4% compared with the previous year, and the growth rate of investment in fixed assets of state-holding enterprises in the first quarter of this year was 7.8%. In contrast, private investment increased by 0.5% in the first quarter of this year, which is an improvement but still not active enough. The socialist market economy system is based on public ownership as the mainstay. The "Decision" of the Third Plenary Session of the 18th Central Committee pointed out that "the basic economic system with public ownership as the mainstay and the common development of multiple forms of ownership is an important pillar of the socialist system with Chinese characteristics and the foundation of the socialist market economy system". While the state-owned economy can play a key role, it is also necessary to fully mobilize the forces of all market players to make economic development more dynamic and sustainable.

Cultivate and strengthen consumer demand. Weak consumption is also an important aspect affecting China's economy at present. Why is consumer demand insufficient? There are many reasons behind it. From the simplest perspective, it is the instability of income expectations. General Secretary Xi Jinping also emphasized at the Central Economic Work Conference held in December 2023 that efforts to expand domestic demand should "increase the income of urban and rural residents and expand the size of the middle-income group". Consumption is closely related to income. In 2023, the per capita disposable income of the national residents was 39,218 yuan, a nominal increase of 6.3% over the previous year and a real increase of 6.1% after deducting price factors; the median was 33,036 yuan, which was 84.2% of the average and increased by 5.3%, 0.1 percentage points higher than the GDP growth rate. The per capita disposable income of urban residents increased by 5.1% year-on-year in nominal terms and by 4.8% in real terms after deducting price factors, slower than the GDP growth rate; the per capita disposable income of rural residents increased by 7.7% year-on-year in nominal terms and by 7.6% in real terms after deducting price factors, faster than the GDP growth rate. This situation is worth in-depth analysis. Chinese rural resident households are not only simple consumers, but also farmers and producers. A large part of their income is not used for consumption. Therefore, to truly see whether consumption growth is synchronized with GDP growth, the key is to look at urban residents and see whether their income and consumption are synchronized with GDP. Therefore, the Central Economic Work Conference pointed out that "further promoting the recovery and improvement of the economy requires overcoming some difficulties and challenges, mainly insufficient effective demand, overcapacity in some industries, weak social expectations, and still many hidden risks, and there are bottlenecks in the domestic cycle", which is also based on this reason.

In summary, the current problems in China's economic recovery and improvement are still market demand at a deep level. To repair market demand, the most important thing is to improve the market mechanism, which requires the construction of a high-level socialist market economy system. The key to building a high-level socialist market economy system is to handle the relationship between the government and the market. Therefore, reform, especially economic reform, has become the key to improving the stability and sustainability of China's economic development. Comprehensively deepening reform is not only a "key move", but also a "winning strategy". The balanced and stable development of the macro economy has put forward a strong demand for comprehensively deepening reform in the new era, and we should meet this demand.