Hua Bin

Smart state planning plus ferocious market competition

In standard western economic textbooks, state planning and market competition are mutually exclusive. Thatcher and Reagan brought western capitalism into the neoliberal phase by claiming Government is not the answer. Government is the problem”, putting market fundamentalism on the altar. On the other side, Soviet central planning proved rigid and wasteful, leading to the eventual collapse of USSR.

Observing and learning from others’ development path, China went through three distinct economic models in the past 70+ years –

• 1949 – 1978, emulation of Soviet central planning phase, which provided the country a heavy industrial foundation but failed to deliver an adequate standard of living
• 1978 – 2012, free-wheeling laissez faire full-on capitalist phase, which saw rapid economic growth, rising standard of living but also wealth disparity, environmental degradation, and low value-added industrialization
• 2012 – now, mixed state planning and market competition phase, which is featured by state-led industrial upgrade programs, intense market-based competition, rapid improvement in industrial sophistication, and hopefully rise above middle-income trap to become the leading industrial powerhouse

The current model is antithetical to western mainstream economic theories but has led to clear success stories like the Made-in-China 2025 program (https://huabinoliver.substack.com/p/revisiting-made-in-china-2025-mic25).

I thought it would be interesting to discuss the features of this unique China model and the implications.

The two parts of this model – state planning and market competition – form an integrated approach to national economic development.

State planning incorporates these elements –

• Identify key industries to focus
• Set concrete and tangible targets (e.g. the 200+ goals set in MIC2025)
• Align policy support

The planning function is carried out by the China State Planning and Development Commission, which assembles the best minds in the government, academia, think tanks, and industries and goes through multi-year research, studies, and survey to understand and predict key technological trends and future market demand. Then they iterate and socialize the plans until there is broad buy-in.

Once top-line state planning priorities are set, central government empowers local governments to implement the policies. At the implementation level, fierce market competition becomes the norm.

Local governments compete with each other. Each local government is powerfully incentivized to create local tech and industrial champions as career advancements are typically tied in with achievements of national priorities.

Local governments will unleash suites of policy support measures to attract and help businesses succeed, including –

• Preferential tax
• Land use priority
• Preferential bank loans, even venture capital financing from government agencies (e.g. Shanghai and Shenzhen each has multi-billion dollar semiconductor funds)

Other policy support even extends to –

• Establish educational programs at universities to train and develop scientific and technical talents specifically for identified industries and technologies (e.g. AI, robotics, hypersonics, rare earth mining and refining, rail, ship building, etc.)
• Roll out talent acquisition programs to provide housing, allowances, and compensation equalization schemes to attract talents to move to their cities. Some governments even provide WeWork type of office facilities to startups for free.
• Invest in infrastructure upgrades including 5G coverage, EV charging stations, high speed rail, ports, bridges, etc. to enable smooth operation of large industrial enterprises.
• Invest in local parts and components supply chains that can be plugged into specific manufacturing sectors.
• Promote successful technical leaders and executives in critical industries into senior government positions (e.g. the head of AVIC, the leading aeronautic business in China, was promoted to become a provincial governor)

The central government went so far as to crack down on monopolistic consumer tech companies such as Alibaba and Tencent in 2019 as these companies were consuming too much financial and talent resources and preventing startups from emerging.

The main goal of the crackdown is to redirect resources (funding, talent) to more productive directions such as AI and hard tech.

As a result, in the key technological and industrial hubs across China, from Shanghai, Shenzhen, Wuhan, Chengdu to Hefei and Changsa, you will find hundreds of EV companies, solar energy companies, AI and robotics start ups, ship builders, and drone companies that are developing innovative technologies, building production capacity, and engage in intense competition for consumers.

In the competition, there are private businesses, state owned enterprises, and foreign companies as well. All have to compete for customers on price and quality and operate with razor thin margin. Innovation and cost efficiency are prized in the never-ending loop of hyper competition.

The Chinese industrial and technological ecosystem is often described by insiders as arena for gladiators”. In a survival of the fittest environment, the winners of such competitions emerge as world class champions.

The same model is replicated in industry after industry from EV, smart phones, solar energy, robotics, ship building, AI large language models, drones, chip making, and biopharmaceuticals.

Many people mistakenly assume the Chinese state planning model means the government picks the winners and losers. That cannot be further from the truth. State planners pick the priority industries, define the swim lane, provide policy incentives, and then market takes over to decide the winner.

In contrast, the US industrial policy is more guilty of government picking winners – just witness how both Biden and Trump surround themselves with senior executives of incumbent tech giants when they announce policies such as the Chips Act, Inflation Reduction Act, or the Stargate program. Almost by definition, the main beneficiaries of these industrial policies will be the companies in the room. Market competition doesn’t seem to play the same decisive rule as in China.

As China accelerates the third mixed-economy phase of its industrial development, we can expect to see more Chinese companies will innovate faster, scale in the largest single market in the world, and become world-class competitors in their industries. Profit margins will be kept low as competition will never rest. However, more consumer surplus will accrue to customers, leading to improvement of living standards for all.