The problem facing commentators on the Chinese economy is a lack of clear narrative and the rest of the world needs to understand the story believes economist Patrick Chovanec.

Chovanec was speaking at Sydney University’s China Studies Centre last night on how the Chinese economy is shifting from being export lead to relying on domestic consumption, a process that isn’t without challenges.

“There’s a kind of schizophrenia about the Chinese economy,” says Chovanec who describes how the news swings from extremes of all good news to dire warnings. This, he believes, is because of a lack of understanding of the processes underpinning the country’s changing position.

Comparisons with Japan

China’s growth has been underpinned by export lead growth model which is a very good way for a poor country to become rich quickly but reaches limits when the exporters’ markets become saturated and the buyer countries can no longer buy.

This was the dilemma Japan hit in the 1990s and Chovanec sees similarities which happened at an earlier stage of China’s economic development because of its far greater size.

In another respect is the cost of labour which sees the country in the same position as Japan in the 1960s where where manufacturing started moving to Taiwan, South Korea and Hong Kong due to high Japanese wages.

The problem of soaring labour rates is covered by Peter Cai in today’s China Spectator which includes this chart showing how selected emerging economies wages compare.

Cai points out manufacturing is already shifting out of China with Vietnam being a favourite destination.

This has already had an impact on companies’ decisions to manufacture items in China. In 2000, China made 40 per cent of all Nike shoes, while Vietnam made 13 per cent. Fast-forward to 2013, and China’s production share was 30 per cent, Vietnam’s increased to 42 per cent.

Vietnam however has its own problems and Cai sees China having advantages in having superior infrastructure, integrated supply chains, and a better educated workforce that will slow relocations.

Building productivity

Chovanec is more optimistic about the Chinese economy seeing bringing sectors like agriculture and medicine up to Western standards of productivity as potential growth areas for China.

“Having worked in China for many years, I see a lot of productivity gains across the Chinese economy.”

Many of the earlier productivity gains were low hanging fruit – labour was cheap making it easy to improve productivity. As workers become higher paid, that low hanging fruit is gone with reforms harder to implement along with many more affluent interests who would be losers in a rebalanced economy.

Among the losers in the transition from today’s economy would be property developers and export focused manufacturers while winners would be retailers and service industries.

The switch to consumption

In his view, China is capable of making the transition: “The most precious global commodity is domestic demand,” Chovanec says. “China has that cushion to invest in the face of fall in consumption, that doesn’t have to mean a fall in Chinese living standards.”

For the rest of the world the question Chovanec believes has to be asked is what will that consumption led Chinese economy look like and what does it mean for those with a stake in China?

“Other countries are going to be winners and losers from China’s rebalancing. You have to think about what you want to be.”

Australia has a particularly difficult problem in the face of a rebalanced China, Chovanec believes.

“The problem for Australia is that the country has been the supplier to China’s investment boom. If China’s investment boom comes to an end then Australia no longer has no market.”

Optimistism and the future

Despite the challenges Chovanec is optimistic about China. “My experience in going to China in 1986 is that the Chinese government and Communist Party deserve a lot of credit for getting out of the way.”

The success of China’s economy over the last thirty years has been driven from the grass roots; “this was a bottom up process, not a top down model.” Chovanec says.

Unlike many of the populist writers on China, not to mention more hysterical politicians and commentators, Chovanec provides a nuanced view on the underlying dynamics and the evolution of the Chineses economy.

That we need to consider a world where the Chinese economy is very different is an important message and one that policy makers and business people need to think very carefully about.