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wp/10/284 transforming china insights from the japanese experience of the 1980s papa n diaye

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© 2010 international monetary fund wp/10/284 imf working paper asia and pacific department transforming china insights from the japanese experience of the 1980s prepared by papa n diaye1 authorized for distribution by nigel chalk december 2010 abstract this working paper should not be reported as representing the views of the imf the views expressed in this working paper are those of the authors and do not necessarily represent those of the imf or imf policy working papers describe research in progress by the authors and are published to elicit comments and to further debate china is poised on the brink of a transition to a service-based economy the japanese experience of the 1980s provides several insights about the way to manage such a transition and the downsides to avoid in particular japan offers useful insights on 1 the limits to an export-oriented growth strategy 2 the role of exchange rate macroeconomic policies and structural reforms in rebalancing the economy toward the nontradables sector and 3 the risks associated with financial liberalization the similarities between the chinese economy today and the japanese economy of the 1980s make these insights relevant for china however with the benefit of analyzing the japanese experience and given the important differences between the two economies china should be able to successfully rebalance its growth pattern while avoiding the downsides encountered by japan jel classification numbers e2 e4 f4 o4 keywords plaza accord asset bubble and growth rebalancing author s e-mail address pndiaye@imf.org i thank nigel chalk masato miyazaki ken kang and kiichi tokuoka for helpful comments and discussions on an earlier draft of the paper 1 dmsdr1s-4327825-v4-china 2010 oct working paper -transforming china-insights from the japanese experience of the 1980s.doc december 9 2010 2:06 pm

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2 contents page i introduction 3 ii the macroeconomic policy stance 4 iii currency realignment and its aftermath 5 iv financial liberalization 7 v economic outcomes 9 vi insights from the japanese experience 13 references 20

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3 i introduction this paper looks at the japanese experience of the 1980s and asks the following question what are the policies needed for china to transition to a high-productivity service-based economy while avoiding falling into years of stagnation and deflation the chinese economy today shares many similarities with the japanese economy of the 1980s like japan at that time china s growth strategy is export oriented and capital intensive the tradables sector plays a dominant role savings rates are high and the current account surplus is large like japan in the 1980s the chinese economy has achieved a remarkable transformation over the span of three decades to become the world s second largest economy this achievement reflects years of reform efforts to open up the chinese economy and make it more market oriented.2 but this policy of export-led growth is becoming harder to sustain given the economy s size and large presence in world markets.3 like japan in the 1980s china today faces considerable domestic and international pressure to rebalance its export-oriented economy toward a more consumption-based one with a greater share of growth coming from the nontradables sector the prospects for china of continuing export-dependent growth have become even dimmer recently as the global financial crisis has taken its toll on growth in advanced economies particularly the united states and the euro area china s major export markets prompting analysts to revise downward the medium-term prospects for demand emanating from these economies in the face of a weaker outlook in the demand for exports the chinese government has put in place a range of structural measures aimed at shifting the pattern of growth away from exports and investment toward private consumption these measures have been accompanied by supportive macroeconomic policies which like japan in the 1980s have fueled rapid increases in asset prices that many analysts now consider are becoming divorced from fundamentals.4 china s take-away from the japanese experience of the 1980s is that there are limits to an export-led growth strategy shifting toward a greater reliance on the services sector requires a combination of real effective exchange rate appreciation macroeconomic policies to support demand and structural reforms to develop the nontradables sector supportive macroeconomic policies can alleviate the short-term adverse impact of exchange rate appreciation on activity and employment in the tradable sector however if maintained for too long these same supportive macroeconomic policies can sow the seeds of future volatility inflating bubbles in asset markets for a comprehensive review of china s reforms see chow 2002 see guo and n diaye 2009a ahuja and others 2010 2 3 4

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4 such risks are compounded if this transition is being managed at the same time as the financial system is being liberalized a careful management of financial liberalization is warranted however the comparison with japan can only take us so far the chinese economy today differs in many ways from the japanese economy of the 1980s including in its stage of economic demographic and financial development as well as in the structure of the economy the political regime that governs it and the global environment many of these differences could actually serve to help china avoid the economic stagnation japan experienced and enable the economy to successfully rebalance its growth however achieving this rebalancing will require that a range of reforms are undertaken and that macroeconomic policies are skillfully implemented the need to move ahead with reforms has become more pressing because of the demographic pressures the country will likely face over the medium term policies will need to balance the need to support domestic demand with the risks of fueling imbalances in asset markets at the same time the government will need to ensure that the financial system is well regulated and supervised in order to avoid risks emerging on the balance sheets of banks households and corporates reforms will need to include leveling the playing field between the tradables and the nontradables sector further opening up the economy to foreign competition developing financial markets and increasing government spending on health and education.5 the remainder of the paper is organized as follows sections ii and iii discuss japan s macroeconomic policy stance and currency reform respectively during the 1980s section iv focuses on the financial liberalization measures japan introduced in the run-up to the asset price bubble section v presents an overview of the structural changes japan has undergone during its development process section vi draws the key insights for china from the japanese experience ii the macroeconomic policy stance japan entered the 1980s with large fiscal deficits a result of the government s attempts to regain the growth momentum stalled by the oil shocks of the 1970s output growth had slowed from about 8 percent on average during the first half of the 1970s to 4 percent during the second half growth remained at about that level in the first half of the 1980s on the back of strong net external demand strong net external demand helped offset weaknesses in domestic demand as fiscal consolidation proceeded apace with higher social security payments and expenditure control monetary policy was torn between the need to support demand and concerns that low interest rates could further weaken the yen relative to the dollar given large interest rate differentials with the united states although monetary conditions were not wholly supportive the monetary policy stance shifted from a tight stance needed to fight the inflationary consequences of the oil shocks to a looser stance aimed at supporting activity 5 blanchard and giavazzi 2005 barnett and brooks 2009 and n diaye zhang ,and zhang 2009

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5 1 japan general government balance percent of gdp 1 12 japan real gdp growth japan real money growth m2+cd 12 0 1979 -1 1980 1981 1982 1983 1984 1985 1986 1987 1988 0 10 10 -1 8 8 -2 -2 6 6 -3 -3 4 4 -4 -4 2 2 -5 -5 0 1979 1980 1981 1982 1983 1984 1985 1986 1987 1988 1989 1990 0 -6 -6 -2 -2 iii currency realignment and its aftermath abroad a slower growth momentum and persistent twin deficits in the u.s in the mid-1980s heightened pressures for protectionist measures.6 against the backdrop of increased trade tensions g5 member countries france germany japan the united kingdom and the united states adopted the plaza agreement on september 22 1985 the plaza meeting was prompted by a desire to achieve greater convergence in policies and performance among the g5 countries and to develop a more appropriate pattern of exchange rates given that external imbalances among major industrial countries were expected to remain large with a persistent current account deficit in the u.s and matching external surpluses in japan and to a lesser extent in germany the u.s committed to reducing its budget deficit japan committed to continuing fiscal consolidation while allowing local governments to invest more providing an environment conducive to private sector development and pursuing monetary policy in a flexible manner with due attention paid to the exchange rate measures to promote private sector development in japan included privatizing public enterprises further liberalizing financial markets enlarging the consumer and mortgage credit markets and providing better access to domestic markets in january 1985 following talks between president reagan and prime minister nakasone consultation committees comprising high-level officials from japan and the u.s were set up and market oriented sectorspecific consultations began in four sectors telecommunications forest products pharmaceuticals and medical equipment and electronics market-opening measures were then introduced in april 6

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6 following the plaza meeting and heavy coordinated intervention in foreign exchange markets the yen appreciated sharply against the u.s dollar by 20 percent between end1984 and end-1985 and by about 10 percent in the week following the plaza accord however for these foreign exchange 300 300 yen movements around plaza accord trends to continue it was necessary 280 280 to move ahead with other policy 260 260 commitments in subsequent weeks 240 240 japanese interest rates rose sharply 220 220 after a prolonged period of stability 200 200 this rise was prompted by 180 180 indications from the bank of japan 160 160 that it would not offset the 140 140 appreciation of the exchange rate 120 120 with a loosening of domestic 100 100 monetary conditions but would instead be encouraging interest rates to rise further as a result shortterm interest rates jumped by some 1½ percentage points and long-term interest rates rose by about 1 percentage point by the third week of november 1985 short-term rates had risen by a further 25 basis points however subsequent weaknesses in domestic demand prompted a loosening of the monetary stance thereafter 10/1/1985 12/1/1985 10/1/1986 on the fiscal side a stimulus package was announced on october 15 1985 to be implemented at the level of local governments and public enterprises whose operations were financed by the fiscal investment loan program and included liberalization of the conditions attached to loans provided by the housing loan corporation the measure was expected to generate additional loans of about 3 percent of private residential investment the 1986/87 budget provided new three-year tax credits for interest on housing loans of up to 1 percent for private loans these measures helped boost private consumption and residential investment but this was insufficient to offset the declining contribution to growth from net exports and falling off of business investment in manufacturing as a result growth slowed substantially falling from 6¼ percent in 1985 to 2¾ percent in 1986 employment in manufacturing declined moderately and disguised unemployment rose manufacturing profits fell by as much as 32 percent in the first half of 1986,7 with sharp declines in most industries especially in steel shipbuilding electronics and automobiles other sectors fared better however with a boom in construction and strong growth in services including wholesale and retail trade on the external front notwithstanding a turnaround in trade volumes in the direction of external adjustment the external current account surplus continued to widen owing mainly to a decline in oil prices many analysts considered the continued widening of the current account as transitory perhaps reflecting the j-curve effects of exchange rate changes 7 the government provided support to hard-hit small and medium-sized enterprises through subsidized loans under the conditions that those enterprises restructure to serve the domestic market 12/1/1986 11/1/1985 11/1/1986 1/1/1985 2/1/1985 3/1/1985 4/1/1985 5/1/1985 6/1/1985 7/1/1985 8/1/1985 9/1/1985 1/1/1986 2/1/1986 3/1/1986 4/1/1986 5/1/1986 6/1/1986 7/1/1986 8/1/1986 9/1/1986

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7 in the face of continued external imbalances and protectionist measures the g6 countries g5 plus canada concluded the louvre accord on february 22 1987 according to the terms of this agreement japan committed to implementing an extensive package of economic measures geared toward supporting domestic demand and facilitating the flow of resources to developing countries iv financial liberalization before the plaza accord japan s financial system was highly regulated and there were several barriers to foreign entry.8 interest rates were regulated with segmented markets and shielded from external influence through capital controls both domestic and external factors played a part in the liberalization of japan s financial system domestic factors included pressure from depositors who wanted higher returns on their savings the increased share of self-financed investment by cash-filled corporations which lowered the demand for bank credit and the deteriorating fiscal position there were also external pressures from the u.s where a wave of deregulation had allowed japanese investors to acquire significant holdings in u.s assets which together with the weak yen prompted calls for japan to open up its financial markets and make yen-denominated assets more attractive the deregulation of japan s financial system between 1980 and 1986 focused on expanding market access liberalizing deposit interest rates increasing the availability of financial instruments and removing of barriers between the operations of banking institutions and securities dealers major changes included i easing of the restrictions governing a variety of offshore yen transactions including the issuance of euro-yen bonds euro-yen lending to japanese residents and the issuance of euro-yen certificates of deposits cds ii easing for the restrictions on domestic banks issues of cds and iii loosening restrictions on some types of capital outflows box i other changes included the removal of restrictions on forward foreign exchange transactions banks spot conversion of foreign currencies into yen and on the sale of foreign cds and commercial paper in japan there were also various initiatives to increase the participation of foreign financial institutions in japan s capital markets the liberalization of capital inflows and outflows which had started in the 1970s and the growing internationalization of the yen resulted in substantial inflows of foreign capital into japan in the 1980s the main channels for these inflows were the foreign acquisition of yen-denominated securities in the japanese market and to a lesser extent the issuance of external bonds by japanese firms 8 see guttman 1987

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8 box i japan and china liberalization measures 1980 1981 1982 1983 1984 1984 1984 1984 1984 1984 1984 1984 1984 1985 1985 1985 1985 1985 1985 1986 1986 1987 introduction of national bond fund with minimum holding period of 6 months minimum holding period liberalized rules on issuance of yen-denominated securities by non residents removal of some restrictions on zero-coupon bonds minimum size of certifcates of deposits reduced from ¥500 million to ¥300 million ceiling on foreign government-guaranteed bonds increased by 50 percent credit rating required for yen borrowing lowerd to aa down from aaa easing restrictions on issuance of euroyen bonds removal of restrictions on foreign lending removal of exchange swaps controls non residents exempted from withholding tax on foreign currency government bonds liberalization of short-term euroyen loans to residents and issuance of euroyen certificates easing of restrictions on secondary market activities for banks collateralized loans for securities houses and brokerage licenses for bond future trading allowed minimum size of certifcates of deposits reduced to ¥100 million and maturity to one month removal of withholding tax on euroyen bonds for japanese residents pension funds and trust banking management by foreign banks allowed foreign firms trading on tokyo stock exchange liberalization of time deposit interest rates of more than ¥1 billion credit rating required for yen borrowing lowerd to a down from aa liberalization of time deposit interest rates of more than ¥300 million liberalization of time deposit interest rates of more than ¥100 million china liberalization of interest rates 1996 1997 1998­2004 1999 2000 2000 2003 2003 2004 2004 2004 abolished the upper limit on interbank lending rates liberalized repo rates gradually increased the upper limit on lending rates begun to gradually allow different institutions to negotiate rates on over rmb 30 million deposits with above 5-year maturity liberalized foreign currency lending rates liberalized foreign currency deposit rates for deposits over $3 million removed floor on foreign currency deposit rates liberalized deposit rates in pound franc swiss franc and canadian dollar liberalized all foreign currency deposit rates with maturity above 1 year removed ceiling on all lending rates except for urban and rural credit cooperatives which have a cap of 130 percent over reference rates removed floor on all deposit rates sources guttman 1987 and feyzioglu porter and tackats 2009

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9 3.5 3.5 liberalization of financial markets and japan deposit rates and certifcates of deposit before and after liberalization interest rates led the bank of japan to rely 3 3 more heavily on indirect instruments for 2.5 2.5 monetary policy rather than on direct 9 controls on money growth liberalization 2 2 also resulted in a significant decline in 1.5 1.5 deposit rates an increase in credit for use both in japan and abroad and a rapid rise in 1 1 the demand for money market certificates 0.5 0.5 this was at odds with the japanese deposit rate ordinary share of certificates of deposits in money stock authorities concerns that were expressed 0 0 1980 1981 1982 1983 1984 1985 1986 1987 1988 1989 prior to the liberalization of interest rates that deposit rates would increase lending rates would be stagnant and bank profits would be squeezed.10 liberalization also heavily influenced the portfolio choices of nonfinancial corporations by providing them with a much wider range of liquid instruments that were remunerated at market rates financial reform and liberalization led to a large buildup of liquid assets by corporations which in turn fueled broad money growth in 1985-86 mainly noticeable with the introduction of money market certificates mmcs and an increase in the availability of cds however following the liberalization of interest rates on large time deposits the growth of cds slowed relative to that of large time deposits v economic outcomes gdp convergence gdp per capita relative to the united states the liberalization of japan s financial system marked the culmination of years of reform and the end of the longest expansion period in japan s history 1955­82 during which per capita income caught up with that of the u.s and europe japan s per capita gdp increased 17-fold between 1955 and 1982 from 25 percent of u.s per capita gdp to over 75 percent 90 80 70 60 50 40 30 20 10 0 convergence process of per capita gdp ppp relative to united states 90 80 70 60 50 japan 55­82 china 79­2009 40 30 20 10 0 1 4 7 10 13 16 19 22 25 28 31 34 37 number of years of expansion 9 monetary policy s focus on money growth had followed the first oil shock and the bank of japan s increased emphasis on controlling inflation see imf staff report for the 1984 article iv consultation with japan following liberalization the authorities stressed the importance of improvements in the supervision of financial institutions and other aspects of the regulatory framework to ensure stability of the system in a liberalized environment they undertook a review of capital/asset and liquidity ratios and other prudential parameters and prepared legislation to strengthen and broaden the deposit insurance system 10

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10 japan s rapid catch-up was achieved through an effective use of abundant and cheap labor in the early stages of the country s development as well as intensive use of capital and strong productivity gains domestic investment accounted for over 30 percent of gdp throughout that rapid growth period supported by capital costs that were kept low through financial sector regulations.11 in addition the government s industrial policies in the early stages of development spurred investment in key manufacturing sectors such as steel shipbuilding and chemicals and targeted industries benefited from subsidized loans subsidies to exports import restrictions and generous allocations of foreign reserves which given the existing capital controls was critical for firms carrying out their expansion plans japanese corporations invested about 2 percent of gdp in r&d similar to u.s and german firms and acquired new technologies through joint ventures and special agreements the sectoral composition of investment shifted over time with changes in the structure of industry away from raw material processing toward high-technology fields this structural shift was largely the result of efforts initiated following the oil price shock in the mid-1970s and sustained by rapid technological advance toward industrial restructuring high savings rates japan s rapid capital accumulation was 50 50 gross national savings in percent of gdp financed by high domestic savings 45 45 reflecting primarily private savings particularly household savings rates gross 40 40 national savings rose from a little under 22 percent of gdp in 1950 to a peak of 35 35 about 40 percent in the early 1970s before 30 30 japan 1955-1987 falling to about 32 percent in 1982 several china 1980-2009 explanations for japan s high savings rates 25 25 during those years have been proposed 20 20 including cultural factors confucianism 1 4 7 10 13 16 19 22 25 28 31 an underdeveloped social security system a generous bonus system for workers various tax incentives substantial down payments associated with high housing and land prices life cycle and bequest motives see horioka 12 600 1988 and ito 1992 however empirical current account balance 500 studies have shown that these factors alone 10 japan 1955-1987 percent of gdp china 1980-2009 percent of gdp cannot account for the high savings rate 8 400 japan 1955-1987 $billions rhs china 1980-2009 $billions rhs hayashi 1986 6 300 source weo database external surplus japan s large savings were not exported to the rest of the world until around the early 1980s when japan s current account soared reaching about 4 percent of gdp by 11 4 2 0 1 -2 -4 -6 4 7 10 13 16 19 22 25 28 31 200 100 0 -100 -200 -300 see ando and auerbach 1988a 1988b for a comparison of the cost of capital in the u.s and japan.

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11 1986 the rise in the current account was caused in part by the strength of the u.s dollar against major currencies particularly the yen between 1978 and 1984 the yen depreciated against the u.s dollar by about 20 percent from 195 ¥ at end-1978 to around 251 ¥ at end-1984 this depreciation reflected better growth prospects abroad which encouraged japanese corporations to adopt a relatively more outward-looking investment strategy the desire to increase on-site production in order to avoid trade frictions and protectionist actions against japanese-manufactured exports in other industrial countries increases in loans by japanese parent companies to their foreign subsidiaries because of relatively higher interest rates prevailing in overseas markets the growing demand by various nations for japan s industrial cooperation and incentives offered by the governments of host countries which increased the profitability of investment in production facilities abroad the shift toward services 80 80 the years of rapid growth and share of employment in primary industry in percent index beginning period=1 development in japan were accompanied 70 70 by shifts in the dominant sector of the 60 60 economy moving from agriculture to 50 50 manufacturing and then from 40 40 manufacturing to services from 1955 to 30 30 the early 1980s the share of employment in agriculture fell from just under 20 20 japan 1955­1987 40 percent to less than 10 percent 10 10 china 1979­2007 manufacturing employment peaked at 0 0 slightly over 35 percent in the mid-1970s 1 3 5 7 9 11 13 15 17 19 21 23 25 27 29 31 33 while employment in the service sector 70.0 240.0 share of employment in tertiary industry rose steadily reaching slightly under in percent index beginning period=1 60.0 210.0 japan 1955­1987 60 percent in the 1980s the shift toward china 1979­2007 services was accompanied by an 180.0 50.0 japan reer rhs china reer rhs appreciation of the yen in real effective 150.0 40.0 terms however structural reforms were 120.0 needed to support and maintain this shift 30.0 90.0 toward the service sector and consolidate 20.0 60.0 its gains accordingly in may 1986 the 10.0 government proposed measures the 30.0 maekawa report to promote a domestic 0.0 0.0 1 3 5 7 9 11 13 15 17 19 21 23 25 27 29 31 33 demand-led growth strategy key measures included trade and financial liberalization deregulation and administrative reform reduced restrictions on land use increased consumer spending supported by cuts in the income tax and early implementation of a five-day work week however implementation of many of the recommendations from the maekawa report was delayed in part owing to stiff opposition from japan s corporate sector.

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12 changes in the industrial cost structure as the japanese economy transitioned toward a service-based economy income rose and by the early 1980s japan was no longer a cheap labor economy rising labor costs across all sectors together with an appreciating yen prompted less competitive manufacturing firms to relocate abroad the yen appreciated in real effective terms by about 140 percent from the first quarter of 1964 to the fourth quarter of 1987 about 3¾ percent a year of which 40 percentage points occurred during 1985­87 when the plaza and louvre accords were signed inflation differentials played an important role in the real effective appreciation of the yen during japan s years of structural change particularly the inflation that followed the two oil shocks of the 1970s inflation rose to about 25 percent in 1974 remaining relatively high during the second half of the 1970s and spiked again in 1980 from the effects of the second oil shock subsequently the bank of japan s tight policy stance and improved productivity in the manufacturing sector helped keep inflation under control 30 cpi inflation percent japan cpi inflation 1955-1987 china cpi inflation 1980-2009 180 unit labor cost 2000=100 160 140 25 20 120 japan total economy 1955-1987 15 100 80 japan manufacturing 1955-1987 china manufacturing 1980-2009 10 60 5 40 20 0 1 -5 4 7 10 13 16 19 22 25 28 0 1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20 21 22 23 24 25 26 27 28 29 30 31 32 33 34 urbanization and demographics 70 changes to japan s occupational and urbanization rate percent of population in urban areas industrial structure were reflected in the 60 urbanization of the japanese economy demographic changes may also have driven 50 the urbanization process as the demand for 40 services typically increase with an ageing 30 population these demographic pressures 20 are less acute in china today but they certainly are on the horizon united nations 10 japan 1955-1987 china 1980-2008 population projections show a doubling of 0 china s elderly dependency rate by 2025 1 3 5 7 9 11 13 15 17 19 21 23 25 27 this trend will likely have a negative effect on growth and could complicate the reallocation of labor from the tradables to the nontradables sector source united nations world urbanization prospects 70 60 50 40 30 20 10 0 29 31 33

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13 the differences between the occupational structure of the japanese economy in the 1980s and the chinese economy today mirror the stage of urbanization of the two economies in the early 1980s japan s urbanization was at a far more advanced stage than that of china today in fact urbanization in china today is at the level of japan s at the onset of its longest expansion period disparities between rural and urban areas are more pronounced in china than they were in japan in the 1980s for china the gini coefficient expanded to about 50 percent in 2008 from 30 percent in 1980 but in japan it stayed within 35­40 percent from 1960 to the mid-1980s 18 16 14 12 10 8 6 4 2 0 1 4 7 10 13 16 19 22 25 28 31 source world development indicator database old-age dependency ratio 18 16 14 12 10 40 8 30 30 20 10 0 6 4 2 0 20 10 0 40 70 60 50 china old-age dependency ratio 70 60 50 japan 1955-1987 china 1980-2008 1950 1955 1960 1965 1970 1975 1980 1985 1990 1995 2000 2005 2010 2015 2020 2025 2030 2035 2040 2045 vi insights from the japanese experience looking back at the development process of japan and of china one finds many similarities particularly in the savings and investment patterns the level of china s investment most of which is concentrated in the manufacturing sector has been comparable to that of japan in the 1970s during the first 20 years of the convergence process but has surpassed it in recent years supported by various cost advantages including a low cost of capital and utilities pollution energy land as well as tax incentives and an undervalued currency and a large pool of savings china today has an even higher rate of national savings than japan in the 1980s with most savings stemming from the private sector the reasons for these high savings rate are believed to be similar to the ones mentioned above for japan especially those relating to lack of social safety nets and low level of public spending on education.12 china s savings exceeded investment earlier during its development process than japan occurring in an external environment marked by a great appetite for foreign financing with the u.s running unprecedentedly high and persistent deficits and by an undervalued renminbi there are also similarities in the industrial transformation of the two economies with the transfer of china s labor to the service sector following a similar trend as in japan but with 12 see barnett and brooks 2009 2050

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14 far more challenging initial conditions from 1979 to 2007 the share of employment in the primary sector fell from 70 percent to 40 percent while that of the service sector rose from 10 percent to about 30 percent unlike in japan however the shift of labor to the service sector was accompanied by a real effective depreciation of the renminbi and declining unit labor costs until the mid-2000s a trend that has been reversed since then the fall in unit labor costs before the mid-2000s may have been related to the state-owned enterprises reform of the late 1990 which led to a layoff of over 40 million workers in terms of outcome like japan china s development has been remarkable china s economy grew at an average 10 percent annually with per capita gdp over 26 times higher in 2009 than it was in 1980 the date that marked the beginning of china s reforms so far 500 million people have been lifted out of poverty and an estimated 380 million jobs have been created since 1978 however although china has now become the second largest economy in the world behind the u.s it is 18 18 market share in selected economies since growth take off still a developing economy with a per 16 16 japan 1955­2009 capita gdp less than one-tenth that of the china 1979­2009 14 u.s and much smaller than that of japan in 14 12 12 the 1980s thus china has considerable 10 10 room to grow provided that the right policies are put in place to enable a timely 8 8 and orderly transition to a domestic 6 6 demand-led economy however china s 4 4 presence in global markets today is now 2 2 larger than japan s were at its peak this is 0 0 fueling protectionist pressure from several 1 4 7 10 13 16 19 22 25 28 31 34 37 40 43 46 49 52 55 trading partners particularly the u.s where legislation giving secretary of commerce the ability to treat undervalued exchange rate as an export subsidy has recently been proposed the pressure on china to appreciate the renminbi and rebalance its economy away from exports and investment toward private consumption today resembles japan s situation in the mid 1980s although external imbalances are much larger and more persistent than they were then over the past four years multilateral and bilateral discussions between large current account surplus and deficit countries china japan the u.s the euro area and saudi arabia have led to commitments to reduce global imbalances through a shared strategy that includes structural reforms to increase domestic demand exchange rate flexibility and fiscal consolidation depending on countries external position.13 notwithstanding these commitments little progress was made until the global financial crisis highlighted the urgency of resolving global imbalances china for its part has introduced a set of measures over the past five years to reform its pension and health care system that go some way toward see for example summary on multilateral consultation discussion at http www.imf.org/external/np/pp/2007/eng/062907.pdf 13

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