Made in China 2025: Modernizing Chinese Industry

While the chances of industrial strategy backfiring are high, it could possibly lead to a more prosperous economy if implemented carefully.

Talk of China’s powerful economy generally evokes images of expansive manufacturing operations, producing everything from inexpensive plastic toys to high-tech consumer electronics. In recent years, the Chinese state has sought to modernize its manufacturing might in order to maintain high economic growth and its status as a leading global power. China’s vision for the future of its economy was formally expressed in a strategic plan for industrial modernization revealed by Premier Li Keqiang in 2015. It is worth investigating what this plan seeks to accomplish, as well as the consequences, intended or not, it might entail for the Chinese economy.

The plan, officially termed “Made in China 2025”, recommends that Chinese manufacturing–especially in high valued-added industries such as robotics, biopharma, and new-energy vehicles–emphasize innovation and sustainability. An important component of the plan advocates for China’s existing development finance institutions to increase loans and services to Chinese manufacturing firms in these key sectors. Though the Chinese state would therefore retain an important role in the financing of its industry, the plan also recommends strengthening intellectual property rights in order to bolster innovation.

“Made in China 2025” is largely inspired from Germany’s “Industrie 4.0” strategy, implemented in 2003, which sought to modernize German manufacturing and industry for it to thrive in the current wave of automation. While German industrial strategy is firmly in line with the ordoliberal economic thinking that is characteristic of the postwar German economy, the Chinese approach to industrial policy is much more hands-on, allowing for the state to have a more active role in guiding industry.

Industrial policy in general has a mixed record of success. It has, however, led to advantageous results in certain cases, especially when it comes to comprehensively modernizing an economy. Justin Lin, former World Bank Chief Economist, asserted in a 2011 paper that “the historical record indicates that, in all successful economies, the state has always played an important role in facilitating structural change”.

Harvard economist Dani Rodrik explains that the success of China’s manufacturing industry stems in large part from the Chinese state’s industrial strategy. Specific policies like export incentives allowed Chinese manufacturing to compete on a global scale, and local-content requirements led to burgeoning domestic supplier industries. He also ascribes much of the success of freer economies, like Chile or the US, to industrial policy: both countries developed some of their most successful industries (grapes and salmon for Chile, the internet for the US) with the help of government-funded R&D efforts.

While industrial policy has sometimes resulted in added prosperity for national economies, it has significant drawbacks and can often produce unintended negative consequences. Economists have long critiqued the idea that governments could effectively “pick winners” through industrial policy. This aversion to bureaucrats favoring certain industries has existed among economists since the advent of classical economics: Adam Smith’s diatribe against “[statesmen] who should attempt to direct private people in what manner they ought to employ their capitals” represents one of the earliest instances of this sentiment.

Beyond this issue, industry policy often fails to attain its purported goals due to political capture: industrial policy being unduly used to benefit powerful political interests, rather than bring about structural economic change. This was the case in Ben Ali’s Tunisia, where the firms in which he and his family had a stake represented a “disproportionate share of aggregate employment, output and profits, especially in sectors subject to authorization and restrictions on [foreign direct investment].” Corruption of this kind could likely arise under China’s industrial strategy, despite the country’s recent anti-corruption efforts that were implemented so as to curb graft at the lower levels of government.

Another impetus for implementing a modernizing industrial strategy is the existence of so-called “zombie firms” in China: inefficient firms that have been kept alive by government support. These zombie firms are an unintended result of past industrial policy, and there are no guarantees a similar issue would not reoccur with “Made in China 2025”.

Economist Dani Rodrik explains how Chinese industrial strategy led to the success of its manufacturing industry, allowing for the growth of cities like Shenzhen, global manufacturing hub.

“Made in China 2025” was also sharply critiqued by the EU Chamber of Commerce in China as undermining fair competition, because it would significantly increase the differential in investment flows between Europe and China. The business group’s report, published in March 2017, claims this “imbalance is politically unsustainable and underlines the lack of reciprocity in bilateral investment relations”. The group believes that “Made in China 2025” is essentially a “large-scale import substitution plan aimed at nationalising key industries, or at least severely curtailing the position of foreign business in them”.

Miao Wei, Minister of Industry and Information Technology, replied to the business group’s concerns about “Made in China 2025” giving an unfair advantage to domestic firms saying “the strategy and its related policies are applicable to all businesses in China, be them [sic] domestic or foreign”. As for the plan essentially being a “large-scale import substitution plan”, Minister Wei answered that the plan merely seeks to fulfill domestic demand for high-tech goods while Western export bans to China for these goods are still in place.

While the chances of industrial strategy backfiring are high and even though the Chinese state risks committing itself to bad investments and damaging its relationships with its trade partners, the “Made in China 2025” initiative could lead to a more prosperous economy if implemented carefully. It is difficult to decisively state at this point whether this plan would be beneficial or not for China. Facing an economic slowdown, “Made in China 2025” is but one of the many ways the country is attempting to prevent economic regression and “premature deindustrialization” in order to ultimately retain its place as one of the world’s most dynamic economies and foremost powers.

Edited by Kathryn Schmidt