Publication Date

2006

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Working Paper 101

Abstract

China’s development model faces an external constraint that could cause an economic hard landing. China has become a global manufacturing powerhouse, and its size now renders its export-led growth strategy unsustainable. China relies on the U.S. market, but the scale of its exports is contributing to the massive U.S. trade deficit, creating financial fragility and undermining the U.S. manufacturing sector. These developments could stall the U.S. economy’s expansion, in turn triggering a global recession that will embrace China. This is the external constraint. These considerations suggest China should transition from export-led growth to domestic demand-led growth. This requires growing the economy’s demand side as well as its supply-side. To avoid stalling the U.S. economic expansion, which is critical to China’s growth, China should significantly revalue its currency as part of a generalized East Asian upward currency revaluation. Longer term, China should raise wages and improve income distribution. Under export-led growth, higher wages undermine employment. Under domestic demand-led growth, they support it. The challenge is to raise wages in an efficient decentralized manner. History shows that this requires independent democratic trade unions. However, such unions are currently unacceptable to Chinese political leadership. Creating a domestic demand-led growth regime therefore requires solving this political roadblock.

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Economics Commons

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