AIIB Chief Economist Erik Berglof Photo: PROVIDED TO CSST

China has made spectacular progress in economic growth and poverty reduction in the past four decades.  

Leading the green transformation

It is encouraging to see that China is taking on the huge challenge of fundamentally changing its growth model. For example, China has pledged to be carbon neutral by 2060 as part of its new development path. China has started following the new development philosophy, which aims at the green transformation, incorporates sustainability, and emphasizes innovation, coordination, green, open and sharing. 

The new development philosophy resonates with the findings of the 2022 Asian Infrastructure Finance (AIF) report. In the 2022 AIF report, we point out that rather than pitting economic development against climate change mitigation and adaptation, the carbon neutral transition strengthens the arguments for traditional development efforts to build state capacity, foster private sector development and strengthen technology adoption. 

In fact, China has been a leader among emerging and developing economies in making concrete efforts on these fronts. China has deployed administrative policy instruments. It has revised the regulatory framework to tap more into private sector resources and innovative capacity. It has launched a number of initiatives to increase the role of market forces, particularly in the energy sector, and through the development of carbon markets. 

 Private firms have played an important role in infrastructure investment through public-private partnerships since 2014, particularly in environment-related sectors. China’s emission trading system (ETS) pilots in selective cities reduced carbon emissions through resource reallocation and imports of green equipment and the pilots did not adversely affect city-level economic activities.

Moving forward, a more coordinated policy mix is much needed to further strengthen state capacity, foster private sector development and strengthen innovation. 

In particular, green innovation is subject to double externalities. Market instruments, such as ETS, can mitigate the climate-related externalities but may not be sufficient to address the innovation externality. Government support, such as R&D subsidies, is justified in this context to support market instruments. China is now the second-largest energy R&D spender in absolute terms after the US. Market mechanisms are effective in reducing carbon emissions, but more measures need to be taken to achieve carbon neutrality 

Administrative policies, market mechanisms, and policy initiatives in different sectors, should reinforce each other. For example, to increase the effectiveness of the ETS, power sector reform needs to speed up to replace administrative dispatch with economic dispatch. Additionally, on top of renewable portfolio standards, more instruments are needed to integrate renewables better in the entire supply chain.

China continuing to add value to GVCs

High-quality economic growth has something to do with reforms of key production factors in economic growth: labor, capital, and technology. 

In terms of labor, fast urbanization in the past four decades have allowed vast majority of the workforce in China to enjoy its economic benefits. However, the gaps remain. In 2021, 65 percent of the population in China live in urban areas, still lower than Europe (75 percent), US (83 percent) and Japan (92 percent). Further urbanization will need to depend on easier mobility of the labor force to urban areas as well as improving infrastructure, including social infrastructure, in rural areas. This will require reforms across different policy areas.  

In terms of capital, foreign-owned enterprises have been bringing technological spillover effects to China and contribute directly to the production and export of high-technology products, accelerating the country’s integration into high-technology manufacturing global value chains (GVCs). Outward foreign direct investment (FDI) not only strengthens technological cooperation between China and other countries (e.g., investing in research and development) but also promotes specialization and efficiency by making full use of countries’ factor endowments and comparative advantages in various production tasks. Thus, China’s outward FDI helps countries more deeply integrate into GVCs. The GVC engagement of destination countries, especially local firms in upstream and downstream sectors of developing countries, is improved through diverse channels such as resource reallocation and knowledge spillovers, which may further strengthen China’s role in GVCs. 

As for natural capital and biodiversity, all economic actors need to invest much more in natural capital and biodiversity. The Chinese leadership has initiated several innovative projects in this space, and through its leadership during COP15 it has moved forward the global discussion. This is the next frontier and China has an opportunity to be a pathfinder.

As for technology, moving from imitation and adaptation to genuine innovation is key to escaping the middle-income trap. China is well under way in achieving this across many sectors of the economy. Keeping high economic growth in the coming years would be much tougher than the previous decades. Also, China faces more social and environmental constraints. Inclusion and sustainability need to be an integral part of China’s new growth model, which will rely on innovative policies as well as technological development.  

To achieve innovation-driven high-quality growth, close interaction with the rest of the world will still be key, as China’s past experiences have shown.  

Erik Berglof is a chief economist of the Asian Infrastructure Investment Bank (AIIB).

Edited by ZHAO YUAN