Undercover Economist

How China boomed by trial and error

What is the secret of China’s success? While the US, Europe and Japan have been struggling, China’s economy has doubled in size in real terms every seven to eight years for the past three decades.

Part of the answer is simply that if a poor country gets its act together, it has the potential to grow much faster than a rich one. China was wretchedly poor in 1980 – poorer than Afghanistan or Chad, with half the per capita income of Niger or Ghana. It is far from wealthy today, with per capita income of about $10 a day. (No westerner would envy the income of a rural Chinese peasant.) And so the potential to catch up remains large, with China’s economic clout a matter of population rather than wealth.

And yet it is impossible to dismiss China’s economic achievement so easily. So what is the recipe for growth? If I was forced to sum it up in one phrase, I’d say “trial and error”.

After Deng Xiaoping took power in the late 1970s, local experiments were tolerated, and if they worked, they were allowed to spread. The “household responsibility system”, which gave rural farmers the right to profit if they were able to generate extra crops, was used in 1 per cent of collectives in 1979 and was almost universal by 1983, largely as a result of benign neglect from Beijing.

Nor did Deng’s industrial reforms demolish the planned economy. If corporate managers could produce more than the central plan required, and if they could find a market for the surplus, they were allowed to do so. The brilliance of this idea was that it provided all the traditional free-market incentives for efficient producers to grow and find new markets – and yet the parallel market did not undermine the central plan. This itself was “frozen” in 1985, and slowly became irrelevant as the economy around it grew.

Another experiment was the establishment of special economic zones. These areas were designed to encourage foreign investment and industrial development, without requiring the entire economy to be thrown open to market forces.

The contrast with China’s earlier Maoist system could scarcely be greater. During the “Great Leap Forward” Mao personally redesigned China’s system of agriculture. Everyone had to implement Mao’s insane schemes at once, and any suggestion that his ideas were failing was ruthlessly suppressed. Tens of millions of people starved.

The Soviet Union boasted a number of failures that were less dramatic but similar in spirit. Stalin and Khrushchev demanded vast projects, and if others offered suggestions for improvement, they did so at risk of their lives. Disastrous policies could therefore last for many years.

China is far from being a free-market economy, but the Chinese system has long shared an important characteristic with more market-oriented counterparts: it has encouraged a pragmatic and diverse set of economic experiments. That is what markets themselves do when they are working well.

In his book, The Truth About Markets, John Kay says that markets offer “disciplined pluralism”. This disciplined pluralism is an important component of almost any system that solves complex problems. The term could describe biological evolution – “survival of the fittest” – and should be worn as a badge of pride by our scientific institutions. It also sums up China’s experimental approach to economic reform. (By contrast, Wall Street’s plunge into structured mortgage-backed products between 2004 and 2007 lacked both discipline and pluralism.)

Deng Xiaoping described economic reform as “crossing the river by feeling for stones”. The waters of economic change are swift-running, and perhaps China will lose its footing. But I suspect that if China does slip, it will do so because it runs into a problem that it cannot solve step by careful step.

Also published at ft.com.