News Story

June 9, 2014

Charting China's Course


China has been the world’s most populous country for centuries, but after several decades of rapid economic growth, China has become something much more significant: a global heavyweight with a massive environmental footprint. Today, China is the world’s second-largest economy, after the United States, and the world’s number one exporter, manufacturer, and energy consumer.
   This dramatic transformation increased China’s gross domestic product tenfold over 30 years, lifting more than 500 million people out of crushing poverty. But wealth came at a price. Choking urban smog, arid farmland and undrinkable water have become widely-publicized hallmarks of the country’s dizzying economic growth. In 2006, China’s greenhouse gas emissions surpassed those of the United States, and are roughly 50 percent higher than U.S. emissions today (although the average American’s carbon footprint is still roughly twice as big as that of a Chinese citizen).
   Chinese leaders have pledged to fight pollution and shift to a more sustainable path, but that effort is just one aspect of a broader challenge. To become a stable and prosperous society, experts widely agree that China needs to develop a more market-based economy, foster innovation and competition, and address pressing social problems, including rising inequality and an aging work force. But China also needs to develop an economic growth strategy that is sustainable—one that is not based on heavy government spending, wasteful overuse of resources, or a skewed distribution of wealth.
   To explore linkages between China’s environmental challenges and its broader economic policies, the Harvard University Center for the Environment (HUCE), together with the Harvard China Project, an interdisciplinary research project based in Harvard’s School of Engineering and Applied Sciences, launched a new lecture series in the spring of 2014, “China 2035: Energy, Climate, and Development.” “China today has about one-seventh of the world’s population, uses more coal than the rest of the world combined, and produces about 30 percent of the world’s greenhouse gas emissions… It’s impossible to think about the future of the global environment without thinking about China,” says HUCE Director Daniel Schrag.
      The first three speakers in the China 2035 series brought perspectives from the worlds of academia, international organizations, and politics: Michael Spence, a Nobel laureate in economics and former dean of Harvard’s Faculty of Arts and Sciences; Robert Zoellick, former president of the World Bank; and Kevin Rudd, former prime minister of Australia and current senior fellow at the Harvard Kennedy School (HKS). Michael McElroy, Butler professor of environmental studies, former HUCE director, and chair of the Harvard China Project noted, “Harvard University has long been a center for research on all aspects of China, including its history, culture, politics, and geopolitical role. We hope that these lectures will not only bring experts to Harvard to consider China’s future choices—they will also bring Harvard faculty together from across the University for wide-ranging discussions of their own research.”

Success, at a Cost
China’s economic transformation began when Deng Xiaoping assumed leadership in 1978, two years after the death of Mao Zedong. Mao’s major attempts at transformative change—the Great Leap Forward (1958-60) and the Cultural Revolution (1966-76)—had ravaged China’s economy, leaving the nation impoverished and demoralized. Under Deng, Chinese leaders embraced a different goal: reforming the economy to stimulate growth and opening up to global trade, while preserving the Communist Party’s tight control on political power. The introduction of market-oriented reforms in agriculture, special economic zones to encourage foreign direct investment, and currency reform combined to help make China a manufacturing powerhouse, shipping textiles, electronics, toys, appliances, and other products worldwide. From 1978 through 2010, China’s economy grew at an average rate of nearly 10 percent annually, compared to typical rates of two or three percent in wealthy nations. In 2010, China surpassed Japan as the world’s second-largest economy, with a gross domestic product of nearly $5 trillion.
   These shifts triggered a wave of urbanization. Millions of workers moved from the countryside to urban areas in search of manufacturing and construction jobs. In 1978, no city in China had more than 10 million people, and only two had more than five million. By 2010, six cities had populations over 10 million, and ten more had populations larger than five million.
   Now China faces another dramatic transition. Developing countries can sustain high economic growth by spending heavily at home, as China’s government has done over the past several decades to build up high-priority sectors like energy and manufacturing. But eventually this approach yields diminishing returns. “High investment and exports have been the engines of growth, but this model has run its course,” said economist Michael Spence in the inaugural China 2035 lecture.
   Pollution and resource scarcity are also stressing the economy. Major cities, especially in industrialized northern China, often are swathed in dense smog, caused mainly by emissions from coal and oil combustion. Water supplies in many Chinese cities are heavily polluted, and a 2014 Chinese government study concluded that one-fifth of China’s farmland is contaminated with cadmium, nickel, arsenic and other toxic materials.
   These environmental problems directly threaten China’s economic development and political stability. The Ministry of Environmental Protection estimated that in 2010 pollution cost the nation about $230 billion, equal to 3.5 percent of its gross domestic product. “It’s a crucial issue for Chinese leaders,” says Anthony Saich, Daewoo professor of international affairs and director of the Ash Center for Democratic Governance and Innovation at the Harvard Kennedy School. “Many of China’s problems affect particular communities, but environmental degradation affects everyone, whether they are rich or poor, urban or rural. And it’s a clear outcome of China’s development strategy.”
   Chinese citizens are becoming increasingly outspoken about environmental hazards. Riots have broken out in recent years over wastewater discharges, heavily-polluting factories, and incinerators.    
   The government has responded to some concerns. For example, it started releasing data on levels of fine particulate air pollution in major cities after activists obtained the same information from foreign sources—including the U.S. Embassy in Beijing—and called on their government to publish its data.
   “Public opinion does play a role, and the leadership is trying to respond to people’s concerns,” says Saich.

Transition or Trap?
China has reached a stage in its development that economists call the middle-income transition. Low-income countries have advantages that enable them to grow quickly when they start to develop. They have abundant low-cost labor, which makes their products competitive, and can sell their goods into vast global markets. And they can import knowledge and technology from abroad rather than developing industries and skilled work forces from scratch.  
   But as nations reach middle-income levels, these advantages fade and growth slows. As workers move from farming to industry, wages rise and the country’s goods become less competitive abroad.    
   To sustain growth, countries need to develop a prosperous consumer class at home that will generate economic demand. They also need to innovate instead of depending on imported technology and knowledge, and develop higher-value goods and services.
   Countries that fail to evolve get stuck at this level, a pattern that some experts call the middle-income trap. To maintain growth, China will have to make far-reaching changes in many areas. China 2030, a 2013 report produced jointly by experts from the World Bank and China, outlines changes required to put China on a stable growth path. They include: economic reforms to support a more market-based economy; policies to promote innovation; incentives and regulations to spur green development; policies to reduce social and economic inequality; and fiscal reforms to ensure that government has enough resources.“These reforms affect every industry in China,” says Dale Jorgenson, Morris university professor at the Harvard Kennedy School. “I think that China will be successful, but it will be very challenging.”
   One question is how China will manage urbanization. In March 2014, the Chinese government released a $6.8 trillion plan for increasing the fraction of the population living in cities from 54 percent today to 60 percent by 2020. The plan acknowledged that urban growth had been poorly managed, generating congestion and sprawl, and called for better planning and investments in mass transportation and affordable housing. “By far the most important reforms are those that involve integrating the urban and rural population, which will require considerably more than two decades as China continues to urbanize,” says Jorgenson. “Most economic growth will be concentrated in urban areas, which will require continued infrastructure investments on a massive scale.”
   William Kirby, Spangler Family professor of business administration and Chang professor of China studies at Harvard Business School, is skeptical of promises to make urbanization more people-centered. “Urbanization has happened without a lot of central planning until now, and it has worked reasonably well up to a point, although the large numbers of migrant workers living around cities are second-class citizens without access to schools or health care,” Kirby says. “The idea that China will now move even more people to cities in a planned way terrifies me.”
   “This is a government whose most catastrophic moves have been large-scale social engineering projects,” Kirby observes. “If you look at what happened to the millions of people dislocated by the Three Gorges Dam project, it doesn’t make you confident.”

Barriers to Change
Many of the structural changes on China’s agenda will affect its energy and environmental profile directly or indirectly. For example, the Chinese economy distorts the prices of energy and natural resources—subsidies make fossil fuels, electricity and water artificially cheap, so they are overused. And their prices do not reflect social and environmental costs associated with using them, such as widespread illnesses caused by air pollution. “China needs to move toward a market-based allocation of coal, oil, and natural gas, as well as electricity,” says Jorgenson.
   Another priority is reforming and restructuring state-owned enterprises (SOEs), large firms controlled by the central government or by local or regional governments. SOEs are a pillar of China’s socialist system. Many are protected against competition and receive preferential access to capital and raw materials. Even so, they are much less productive than private businesses. They also retain a large share of their profits, although the central government announced at a plenum meeting late last year that the largest SOEs would increase their contributions to China’s developing social security system over the next several years.
   Many of China’s heaviest polluters are SOEs, including large oil, coal, electricity, cement, mining and steel companies. Since these enterprises produce to meet quotas and are shielded from competition, they have little motive to modernize their processes. “All incentives over the past 25 years have pushed toward an economy that is heavily energy-dependent and inefficient,” says Kirby. “And state-owned industries have a lot of influence over government decision-making.”
   In April, the Chinese legislature revised the nation’s environmental protection law to increase fines and penalties for polluting companies, and for local officials who tolerate heavy polluters. This step followed on Prime Minister Li Keqiang’s pledge in March to “declare war” on pollution. But it remains to be seen how stringently the new law will be applied.
   “Enforcing environmental law is an ongoing challenge—indeed, it’s a growing issue in some parts of the country,” says William Alford, Stimson professor of law. “So long as local environmental protection bureaus and local courts depend financially and in other respects on local government—which in turn may rely for tax revenue and employment on powerful local industries that pollute—it is hard to foresee stronger enforcement.” With respect to state-owned enterprises, Alford says, “I don’t foresee a radical improvement unless Chinese authorities demonstrate by action that they value a cleaner environment as much as they value revenue generation.”
   One area in which the government has pushed SOEs toward cleaner technology is renewable energy. To meet its enormous electricity needs, China has invested heavily in solar, wind, and hydropower. Today renewables generate about 8 percent of China’s electric power, and the government wants to increase their share to 15 percent by 2020. In 2012 and 2013, China invested more money in renewable energy than any other nation worldwide.
   “China’s five major state-owned power companies all have institutes focusing on clean energy, and they’re trying to develop expertise,” says Chris Nielsen, executive director of the Harvard China Project (for more on the China Project, see related story on p. 8). “They’re acquiring assets worldwide. For example, the Three Gorges Company has bought into a major Portuguese utility with large renewable capacities, not only in Europe but also in the U.S. Globalization is probably helping some of these companies diversify and figure out how to build more grid capacity.”
   But top-down mandates have their limits. China has more installed wind generating capacity than any other nation—more than 91 gigawatts (GW) as of 2013, followed by the United States (61 GW), Germany (35 GW), and Spain (23 GW). As recently as 2010, however, up to one-third of Chinese turbines were not connected to local power grids. “They built a lot of wind power in a short period because companies were given capacity targets, so they went crazy and developed faster than the grid, which reflects the way that the government mandates changes,” says Nielsen.
   Today most of those turbines are linked up, but the swift scaling up of the wind industry poses other challenges. The grid has to be managed to accommodate a growing share of intermittent power. And in winter, clean and effectively costless wind power sometimes has to be curtailed because coal-fired plants must operate to provide heat to buildings, as well as electricity.

Green Prospects
China’s green plans extend far beyond wind power. The 12th Five Year Plan, which runs from 2011 through 2015, set ambitious targets for reducing energy consumption in absolute terms and per unit of gross domestic product, cutting emissions of major air pollutants, using water more efficiently and increasing forest cover.    
   And as former Australian prime minister Kevin Rudd noted in his China 2035 lecture, China is currently preparing carbon intensity targets for the 13th Five Year Plan, which will set policy guidelines through 2020. “Now… is the time,” urged Rudd, “for both political leaders and policy leaders in the climate change policy space to engage our Chinese friends.”
   Henry Lee, senior lecturer and Jaidah Family director of the Environment and Natural Resources Program at the Harvard Kennedy School, agrees with Rudd on timing and is leading an initiative to analyze the interaction of environmental and energy policies in China along with scholars from Tsinghua University and officials from Chinese government agencies. In Lee’s view, Chinese leaders are serious about reducing the nation’s greenhouse gas emissions. “They are much more sensitive to this issue than they were five years ago. I expect that their next five-year plan will include a comparatively strong climate policy,” says Lee.
   Maintaining high employment is an overriding goal for China’s leaders, so environmental reforms could lose momentum if they are perceived to be slowing economic growth. But Lee does not believe the current government is worried about this scenario yet. “I think they feel that they can resolve their environmental problems and continue growing,” he says. “They also know there’s a global market for green technologies. They see South Korea and Japan doing well in it, and they would like to be competitive too.”
   As China continues to urbanize, insights from the fields of green building and sustainable planning could make its new cities more livable. “Urban growth in China has put enormous pressure on natural resources and energy supplies, especially if you consider impacts from the construction industry as well as from building design,” says Ali Malkawi, professor of architectural technology and founding director of the newly-created Harvard Center for Green Buildings and Cities at the Graduate School of Design. “The sheer number of buildings that will be constructed in the next several decades makes China an important focus” for green design and planning.
   China has a few hundred buildings, mainly in large cities, that have been certified green by several rating systems, including some that are not designed for China. “There are a few showcase projects, but you don’t see the basic concepts being applied widely,” says Malkawi. And some early projects that were intended to be models failed or were never built. But in Malkawi’s view, Chinese leaders are serious about making cities more sustainable.
   “They are looking at European and U.S. experiences with urban development and transportation, and are thinking about how to make systems like mass transport adequate for the coming decades,” according to Malkawi. As an example of what China is capable of accomplishing, he points to the nation’s high-speed rail system, which started running just six years ago and now carries more passengers than Chinese domestic airlines. “As new cities are being designed and built in China, a great opportunity is presented to create new models in the area of green buildings and cities that has the potential to improve upon current practices around the world,” says Malkawi.
   The methods that Chinese leaders use to promote green development will be as important as the goals they set. Economist Jorgenson is encouraged that the current five-year plan discusses the possibility of pricing carbon and introducing taxes on pollution and natural resource use. In a recent article, Jorgenson and Chinese coauthors contend that China could use a carbon tax as an effective tool to reduce both greenhouse gas emissions and conventional air pollutants. If tax revenues were “recycled” back into the economy to reduce existing tax rates, the carbon tax would only reduce economic growth slightly, and this effect would be more than offset by the health benefits of reducing air pollution.
   Adopting carbon taxes and other market-based pricing mechanisms would be a major shift for Chinese authorities, who rely mainly on command-and-control measures to regulate the economy. But many observers say that Chinese leaders are willing to experiment to achieve high-priority goals. “Chinese authorities are much more open than many other societies are to saying, ‘How does this work elsewhere?’” said former World Bank president Robert Zoellick in his China 2035 lecture.  That may reflect an authoritarian government’s ability to impose policies from above, but it also echoes Deng Xiaoping’s pragmatic approach. Invoking a Chinese saying, Deng called the reforms that he launched without a blueprint “crossing a river by feeling the stones.”
   “The entire world is struggling with the question of how you make the switch from carbon-rich fuels to something carbon-free,” says McElroy. “But one of the most important questions for the planet is: What choices will China make?"

By Jennifer Weeks
This article originally appeared in the Environment@Harvard newsletter, Volume 6 Issue 1.

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