The Origins of China's Economic Transition

In the early 1950s China adopted a Stalinist development strategy and transferred a vast amount of farm surplus into investment in state-owned heavy industry. This created a typical dual economy with heavy industry on one side and agriculture, with its huge surplus of labor, on the other, and in between a vacuum: a lack of the development of light industry. Around 1980, the state increased the price it paid for farm products, causing the farm surplus to flow from the state to peasants. This brought both capital and investment goods to the countryside, with its surplus labor, and induced a quick expansion in rural industrialization which filled the development gap caused by the underinvestment in light industry. Hence it was this reverse flow of the farm surplus that launched China's economic takeoff by changing the unbalanced economic structure to a balanced one. The essence of the reverse flow was that the source of investment (33 percent of the GDP in the pre-reform era) was largely redistributed by the same system that had transferred the farm surplus from peasants to the state. This shows that the model for China's economic reform involved macroeconomic changes in which pre-reform resources were redistributed by the planned system, pace Lin et al. (1994), who have tried to rewrite history by emphasizing supposed microeconomic changes in which new resources were allocated by the market system to the labor-intensive sector. It also shows that development in China began with abandoning the Stalinist strategy when the majority of China's population was still rural. Thus, its economic transition could begin with a rapid expansion of rural industrialization. This did not happen in the Eastern European countries because when they abandoned the Stalinist strategy the majority of their population was already urban and industrialized.