Deep shifts needed to spur new economic growth

BEIJING, March 22 -- The challenges facing China as it battles to reduce the growing income gap and fight corruption are well documented.

On the opening day of this year's NPC, Premier Wen Jiabao tackled both of these issues head-on, highlighting their interdependence and importance in China's ongoing development.

The government promised to do more to ensure China's increasing wealth made it into the pockets of ordinary citizens, not just a small elite.

Clearly, the issue of corruption is closely related to this, as it tends to divert wealth into the hands of powerful individuals, stifle new business evolution, and hinder the implementation of welfare and economic reforms.

The income gap in China is widening at an alarming rate. The nation's Gini coefficient, the most widely accepted mechanism for measuring social inequality, has risen with increasing velocity since 1985.

Despite being set to become the world's second biggest economy, China's per capita income ranking fell last year to 135th place worldwide.

However, effectively reducing the income gap requires not just the elimination of corruption or the introduction of a few new policies. It is dependent on wholesale structural change.

Take the employee rights. Since 1978, China has benefitted on a national level from having limited employee rights, which gave it the flexibility to mobilize the workforce quickly and cheaply as supply and demand fluctuated. This was ideal for an economic model based on low-skilled labor working in export-facing manufacturing industries.

However, employee rights ensure individuals get paid a fair rate, rather than profits just being hoarded by unscrupulous businessmen. They can also promote professional development, which increases lifetime earning potential.

For China to move to a modern, knowledge economy with a fair distribution of wealth, the State must offer better protection to its workforce and create the conditions for professional development in order to increase upward social mobility. But this is not the only area in which major structural changes are needed.

Another well-documented problem is the educational system, which still relies too heavily on rote learning and deprives graduates of the skills and capabilities necessary to land stable, well-paid jobs.

From a structural point of view, however, perhaps the two biggest obstacles to the distribution of wealth in China's current system are the bloated power and influence of State-owned enterprises (SOEs) in the domestic economy, and the poor standards of corporate governance.

The first issue, the power of SOEs, was highlighted on March 12 at the NPC by Chi Fulin, executive director of the China Institute of Reform and Development. Chi pointed out that SOEs account for 8 percent of China's jobs, but generate over 51 percent of the country's total profits. Profitable big businesses are clearly desirable; however, it must be balanced with robust small and medium-sized enterprises (SMEs).

SMEs have long been seen as a crucial means of wealth redistribution as they promote grass-roots economic growth and entrepreneurship, thereby increasing competition and diversity within industries.

The absence of a strong SME tier in China's economy can be partially attributed to the second major obstacle mentioned above: poor levels of corporate governance.

Inconsistent application of the rule of law means that start-up businesses are severely handicapped in an economy where the major players have not only greater financial resources, but also enjoy close connections to government officials.

Similarly, the monopolistic tendencies of the SOEs mean that even successful new businesses find it hard to gain access to resources, particularly credit, or increase their market share.

The established Chinese banking system, for instance, rarely lends to SMEs.

As a result, pawnshop chains have begun providing extensive loan services to SMEs, providing much needed but poorly regulated credit.

These are just a handful of the many structural aspects which currently prohibit wealth distribution. Outdated rural land laws and an underdeveloped service sector are also deficiencies which need to be rectified to let the economy grow unhindered.

For these reasons, while the government's acknowledgement of the undesirability of China's sky-rocketing inequality is an encouraging sign, it must make bold and sweeping changes if it truly wishes to overcome this issue.

Eliminating corruption is only the first step in the government's bid to make China a fairer society, not a complete solution.